Understanding Level Term Life Insurance
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Level term life insurance is a policy that has a level death benefit the entire time you own it. Your beneficiaries will get paid the same amount regardless of whether you die in the third year or 23rd year of your 30-year policy. It can also be called level benefit term life insurance, highlighting the death benefit as the unchanging part of the policy.
Confusingly, level term life is sometimes used to talk about a policy with a premium that doesn’t change over its life. This is actually a level premium term life insurance policy, but it’s often referred to as just level term life insurance.
The two options usually go hand in hand: a level death benefit with level premium payments. Most of the "normal" term policies available today are some flavor of level term life. You should clarify which product you want when talking to a life insurance agent or when shopping online.
Benefits of level term life insurance
Predictability is the main benefit of level term life insurance. You know how much you’ll be leaving to your beneficiaries no matter when you die, as long as you don’t outlive your policy. This means you — and they — can make plans with a single value in mind.
Since level benefits often mean level premiums, budgeting is also easy. The amount you pay for your second year of coverage is going to be the same as the amount you pay for your 12th year of coverage, assuming you don’t make any changes to your policy.
Level term life also allows you to take advantage of your good health. Since you’ll be paying the same amount and receiving the same coverage throughout the life of the policy, you can get 10, 20 or even more than 30 years of coverage based on your current health.
One of the alternatives to level term insurance is annual renewable term life insurance. These policies are renewed each year, with rates going up as you get older. Insurers usually won’t require additional health exams between renewals, but the price you’ll pay isn’t always fixed and can increase along with inflation.
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Drawbacks of level term life insurance
Level term life has two major drawbacks. The first is that it locks in rates based on your current health, and not everyone is as healthy as they can be — or plan to be. For instance, if you’re in the middle of a new diet, starting to quit smoking or on the verge of a major medical procedure, you might not be as healthy now as you’ll be in two years.
If you lock in a 20-year rate with your current medical history, you could be paying a level — but inflated — price for all 20 years. In this case, you might be better off getting an annually renewable policy for a shorter period of time. Then, once you’ve settled into a healthier life, you can reapply for a level term policy.
The other reason you might not want a level benefit policy is that your financial needs are declining. Imagine you want coverage to help your spouse pay for your car, home and child’s schooling if you die. You might think you need $350,000 to cover all of those costs today.
Now imagine how your needs change over time. You’re going to pay the car off in five years and your child is going to be out of school in 10. By that point, you’ll only owe $100,000 on your home, but with a level term life policy, you’d still be paying for $350,000 of coverage.
This is where a decreasing term policy can seem handy — but it might not be the right choice for you.
Level term vs. decreasing term life insurance
Decreasing term life is life insurance with a decreasing death benefit. That means your coverage will drop over time, hopefully in line with a decrease in your need for coverage. Mortgage life insurance is an example of this type of coverage, though not all versions of decreasing term will be directly tied to how much you owe on your mortgage.
In fact, mortgage and decreasing life insurance are often more expensive than traditional term life insurance. However, you can build your own "decreasing term" policy pretty easily these days.
If you want to increase your policy, you might need to effectively reapply. That means new forms, a new life insurance medical exam and the whole process repeated to make sure you’re not too risky to qualify for more coverage.
Decreasing your coverage is much easier. Usually, there’s a form you’ll need to fill out, and your insurer will issue you a new payment plan. That’s it. A few minutes of paperwork and you’ve got less coverage. Looking at the previous example, you could simply reduce the amount of level term coverage you have when you’ve finished paying for your child’s school.
If you want a more automated approach to coverage reduction, you could “ladder” your term insurance policies instead. With laddering, you stack up term policies to get to the total coverage you need.
At the beginning of your coverage, you might have three term policies that add up to $350,000. One of those policies lasts five years with a $10,000 face value — “face value” is just the base amount a policy pays out. The second has a face value of $240,000 and lasts 10 years. The final policy is for $100,000 and lasts 20 years, when your mortgage will be paid off.
This laddering system gives you automatic reductions in coverage as your needs decrease because your policies will end. As you drop policies, your total premium paid will go down as well.
