The return of premium life insurance is an example of yet another variation on the many life insurance policies.
You can think of it as hybrid insurance. However, there are some nuances for which to be aware, especially as they relate to your long-term investment strategy. The last thing you want to do is begin one, and not finish the contract.
First, What Is Term Life Insurance?
Term life insurance is temporary insurance that lasts for a predetermined period. Its term can range from 1 to 30 years, depending on the type or variation. It is one of the most common forms of life insurance. Its overriding advantage is its price. It is a simple death benefit coverage without the bells and whistles of other ones like whole or universal life insurance.
In addition to cost, term life insurance is an attractive option because of the flexibility it offers. You choose the term.
If you want different options, you can choose one of its variations like an annual renewable or decreasing term policy. It offers the security of a guaranteed payout as long as you pay your premiums. Your insurer cannot cancel it for any other reason.
Definition of Return of Premium Life Insurance
One ironic drawback to term life insurance is the fact it may not pay out simply because there is no claim against it. You outlive your policy term, and that’s it. It differs from whole life insurance which will cover you until you pass. Because of its nature, some may feel that it is a wasteful investment, especially among young, healthy individuals.
You’ll find this insurance as a standalone product or as a rider to an existing policy. A rider is an add to coverage that gives you the opportunity to customize your insurance to fit your needs. Either way, they both work essentially the same. You’re starting with term life insurance as the basis. From there, you’re adding another feature that increases its value.
The return of premium life insurance provides a middle ground between term and whole life insurance. Your insurance operates within a set time with one significant difference. If you don’t die during its term, you’ll receive all or a portion of the premiums you have paid into the policy.
You can almost think of it as a win-win deal. However, let’s dig into it a bit to learn more.
Advantages of Return of Premium Life Insurance
The clear advantage is combining the affordability of term life insurance with the security of a facsimile of a cash value that is paid out at the policy’s termination, assuming no claim against it. If someone is reluctant to purchase life insurance, this assurance could be the selling point that makes the sale. After all, you have nothing to lose, right?
Your paid premiums represent the cash value of your policy. As such, you may be able to borrow against that amount, depending on the terms of your insurance. In that way, it resembles whole life insurance, adding to its worth. However, remember that these loans will accrue interest. And if they’re unpaid, it will take away from the amount of the death benefit.
Disadvantages of Return of Premium Life Insurance
As the saying goes, there’s no such thing as a free lunch. The same adage applies to return of premium life insurance.
As we mentioned earlier, the attractive feature of term life insurance is its low premium. That changes with this variation. A return of premium life insurance policy can cost you 50 percent or more to offer this added assurance.
If you’re paying a monthly premium, you may not notice the higher cost. However, if you pay annually, the increase in premium can mean a significant bit of cash in a lump sum. And if you’re on a limited budget, that can end up as a deal breaker. Unfortunately, there’s yet another twist on this part of the deal that concerns the death benefit.
Let’s say you don’t outlive the term of your policy. You ended paying more for a death benefit your beneficiaries would receive anyway had you not opted for the return of premium life insurance.
A return of premium life insurance policy is a commitment.
If you want to make money on it, you need to keep it for its entire term. Some insurers may place restrictions on surrendering a policy early. And there’s also the loss of the premiums you have already paid. You may find that you won’t get the same return had you kept the policy until its maturity. Always check the fine print.
Who Benefits From A ROP Plan?
As you may guess, there are scenarios in which a return of premium life insurance policy is the safe bet. If you need relatively risk-free insurance to carry you over a set time, it makes good sense to consider this insurance. An ex-spouse paying alimony may find that it’s the ideal solution to make sure and fulfill these obligations in the event of your death.
Return of premium life insurance is a smart option if your income prevents you from investing in a Roth IRA. If you’re in good health, you may outlive the term and have benefited from this tax-free investment.
You won’t lose money. You’ll also have the peace of mind of additional coverage for your family even if you don’t get the return of your premium dollars in your lifetime.
There is also your own tolerance for risk to consider. It’s human nature to want to avoid risks. After all, a bad choice carries consequences. Return of premium life insurance can assuage the fears of individuals with a low tolerance for risk who are reluctant to commit to term life insurance. From a psychological point-of-view, it offers a viable alternative.
Not the Best Choice For Everyone
Likewise, there are situations in which return of premium life insurance may not offer the best option. Generally, these policies include longer terms such as 20 or 30 years. Depending on your health and age, you may find that higher premiums without the assurance of a return aren’t worth the investment. And then, you should consider the other hidden costs of this insurance.
Instead of paying a higher premium on what is essentially a gamble, you could have taken that money and invested it in something more lucrative. Of course, there are no guarantees that would indeed happen, but it remains a possibility and therefore, a consideration in your decision to get a return of premium life insurance. To make a wiser choice, you should do the math.
Consider the added cost of return of premium life insurance over the life of the policy versus that of a standard term life insurance. You should research what your potential earnings may be had you invested in conservative options for a more realistic assessment. Then, compare the two numbers. These figures are speculation, but they are essential for an informed decision.
Return of premium life insurance makes the process of getting insurance less risky from a financial perspective. If you’re in good health, it can offer an alternative way to set aside tax-deferred funds. However, this insurance is not the best choice in all cases. As with any investment, you should research your options carefully to find the wisest choice for you.