What Is Level Term Life Insurance?
Confronting your mortality is an unenviable but necessary task. Your loved ones should be part of those considerations, as you don't want to leave them behind with insufficient funds to manage things like funeral costs, significant debt or living expenses. A life insurance policy is one way to gain peace of mind for yourself and security for your heirs.
But as you navigate the sea of life insurance policies, you'll come across a variety of rates, premiums and plan options. Learning how these policies work gives you a better chance of securing one that will ensure your beneficiaries’ financially secure futures at an affordable price. One type of policy that can help achieve that is level term life insurance.
Keep reading to learn what level term life insurance is, its pros and cons and whether it’ll work for you and your family.
What is level term life insurance?
Level term life insurance is a policy that provides the same death benefit at any point in the term. Whether you die on the same day you take out a policy or the last, your beneficiaries will receive the same payout. Additionally, your premiums will remain fixed throughout the term, which can include 10-, 20- and 30-year policies. Which one you choose depends on your needs and whether or not the insurer will approve it. Policies can also last until specified ages, which in most cases are 65.
How does level term life insurance work?
Because of the numerous terms it offers, level life insurance provides prospective policyholders with flexible options. But beyond this surface-level information, having a greater understanding of what these plans entail will help ensure you purchase a policy that meets your needs.
Policy term selection
The first step in the process is choosing a life insurance term. Be mindful that the term you select will influence the premiums you pay for the policy. A 10-year level term life insurance policy will cost less than a 30-year policy because there's less chance of an incident while the plan is active. Lower risk for the insurer equates to lower premiums for the policyholder.
Some level term life insurance companies will only cover you up to your 80th birthday, so be sure you know the rules before selecting a term. Your family's age should also influence your policy term selection. If you have young children, a longer term makes sense because it protects them for a longer time. However, if your kids are near adulthood and will be financially independent in the near future, a shorter term might be a better fit for you than a lengthy one.
Choosing the coverage amount
Next, you'll need to determine how much coverage your family requires to keep them financially afloat if you die. The number you come up with depends on your reason for needing life insurance in the first place (e.g., funeral costs, living expenses, debt management) and will impact your monthly premiums. For example, if you're the sole income earner and your family has a high-value mortgage, you'll need significant coverage to repay that debt.
More coverage typically means higher insurance rates. However, when comparing whole life insurance vs. term life insurance, it's worth noting that the latter typically costs less than the former. The result is more coverage with lower premiums, providing the best of both worlds if you need a significant amount of coverage but can't afford a more expensive policy.
Death benefit payout
The death benefit payout is the amount your beneficiaries receive if you die with an active life insurance policy, and level term insurance provides a level death benefit. A level death benefit for a term policy usually pays out as a lump sum. When that happens, your heirs will receive the entire amount in a single payment, and that amount is not considered income by the IRS. Therefore, those life insurance proceeds aren’t taxable.
However, some level term life insurance companies allow fixed-period payments. A fixed-period death benefit pays out at regular intervals over a specific period, and your beneficiaries will receive interest payments as part of the agreement. Interest payments received from life insurance policies are considered income and are subject to taxation.
Expiration of the policy
When your level term life policy expires, a few different things can happen. Some coverage terminates immediately with no option for renewal. In other situations, you can pay to extend the plan beyond its original date or convert it into a permanent policy. There's a chance you won't need a medical exam to convert or extend your policy, which is a bonus if you're getting older or experiencing health issues. The downside is that your renewable level term life insurance will come with higher premiums after its initial expiration.
How are level term policies able to provide level premiums?
For beginners, life insurance can be complicated and you'll have questions you want answered before committing to any policy. You might wonder how insurance providers can pay out level term policies without raising premiums, but the answer is relatively simple.
Life insurance companies have a formula for calculating risk using mortality and interest. Insurers have thousands of clients taking out term life policies at once and use the premiums from its active policies to pay surviving beneficiaries of other policies. These companies use mortality tables to estimate how many people within a specific group will file death claims per year, and that information is used to determine average life expectancies for prospective policyholders. Based on that data and trends that emerge from it, insurers set premiums for the policies they offer.
Additionally, insurance companies can invest the money they receive from premiums and increase their income. Since a level term policy doesn't have cash value, as a policyholder, you can't invest these funds and they don't provide retirement income for you as they can with whole life insurance policies. However, the insurance company can invest the money and earn returns.
Level term life insurance advantages and disadvantages
Understanding how these plans will benefit you and how they might fall short of your expectations will help you make a final decision. The following section details the pros and cons of level term life insurance.
Advantages:
- Predictable premiums and life insurance coverage
- Simplified policy structure
- Potential for conversion to permanent life insurance
Disadvantages:
- Limited coverage period
- No cash value accumulation
- Life insurance premiums can increase after the term
Level term life insurance advantages
You'll find clear advantages when comparing level term life insurance to other insurance types. The straightforward nature of these policies makes them popular with policyholders.
Predictable premiums and life insurance coverage
You always know what to expect with low-cost level term life insurance coverage. From the moment you take out a policy, your premiums will never change, helping you plan financially. Your coverage won't vary either, making these policies efficient for estate planning. If you value predictability of your payments and the payouts your heirs will receive, this type of insurance could be a good fit for you.
Simplified policy structure
It doesn't get much simpler than level term life insurance. As long as you continue making your monthly premium payments, your policy is guaranteed to pay out if you die within its coverage period. You don't have to worry about variable rates or cash value, and you likely won't require a level term life insurance calculator, as the policy only offers death benefits.
Potential for conversion to permanent life insurance
Despite the simplified nature of guaranteed level term life insurance, converting the plan into permanent life insurance is common. If you go this route, your premiums will increase but it's always good to have some flexibility if you wish to keep an active life insurance policy. Renewable level term life insurance is another option worth considering. These policies allow you to keep your current plan after expiration, providing flexibility in the future.
Level term life insurance disadvantages
A level term policy might seem like a great option, but you should be aware of a few drawbacks before progressing with a policy.
Limited coverage period
Unlike a whole life insurance policy, level term coverage doesn't last indefinitely. You'll select a coverage term with the best level term life insurance rates, but you'll no longer have coverage once the plan expires. This drawback could leave you scrambling to find a new life insurance policy in your later years, or paying a premium to extend your current one. In both of those cases, it’s likely that your premiums will be higher than what you paid for the original level term insurance policy.
No cash value accumulation
Many whole, universal and variable life insurance policies have a cash value component. With one of those policies, the insurer deposits a portion of your monthly premium payments into a cash value account. This account earns interest or is invested, helping it grow and provide a more significant payout for your beneficiaries. You can also borrow against the policy's value.
With a level term life insurance policy, this is not the case as there is no cash value component. As a result, your policy won’t grow, and your death benefit will never increase, thereby limiting the payout your beneficiaries will receive. If you want a policy that provides a death benefit and builds cash value, look into whole, universal or variable plans.
Life insurance premiums can increase after the term
A noteworthy issue you could experience with level term policies comes at the end of the term. The second your policy expires, you'll no longer have life insurance coverage. It's often possible to renew your policy, but you'll likely see your premiums increase significantly. This could present issues for retirees on a fixed income because it's an additional expense they might not be able to afford.
What is the difference between level term and decreasing life insurance?
Level term and decreasing life insurance offer similar policies, with the main difference being the death benefit. With both plans, your premiums will stay the same throughout the term, providing cost certainty. However, with a decreasing life insurance plan, your payout shrinks over the years, leaving your beneficiaries with fewer proceeds.
While decreasing life insurance might not sound ideal, it costs less than level term and could be beneficial if you're on a tight budget. It's also worth considering if you're taking out a loan, but your lender wants you to have life insurance in case you die before satisfying the debt. In this scenario, you'll want the cheapest policy available to fulfill your insurance requirements, which will likely be a decreasing life insurance plan.
What is the best level term life insurance?
The best life insurance policy delivers adequate death benefits and affordable premiums. Low-cost level term life insurance is available via numerous providers. As long as the plan provides a payout that you find substantial enough for your beneficiaries, you'll likely be happy with your policy.
As you search for the best level term life insurance policy, consider the costs, terms and benefits each option entails. You'll also want to compare level term life insurance to permanent life insurance plans — like whole, universal and variable — to ensure you find the ideal policy capable of meeting your needs.
Summary of Money's term level life insurance explanation
Understanding level term life insurance can help you determine which type of life insurance policy is right for you. With a level term policy, you'll have fixed premiums and death benefits from start to finish, making them easy to budget for and manage. You can also transition your level term policy into a permanent one, ensuring your coverage doesn't lapse at the end of the term.
However, term level life insurance policies don't have a cash value component, so you can't use them for retirement income or take out loans against them. You'll also incur significant expenses if you convert your level term into a permanent policy because your premiums are based on your current age and health. Level term life insurance could be the right fit for you, but learning about your options is vital before deciding on any life insurance policy.