Unlike term life insurance, which buys you the maximum amount of coverage for the least amount of cash over a fixed term of years, "cash value" or "permanent" life insurance can last your lifetime. It costs more because a portion of your annual premium is used to pay "mortality costs" (the actual cost of the life insurance) and expenses, while the balance grows tax-free inside the policy.
That excess money can be borrowed or withdrawn through a policy loan. Interest is charged on the amount withdrawn. And if you die without repaying the loan, the death benefit (the amount paid to your beneficiaries) is reduced by the amount of the loan.
The money inside the policy can grow in a variety of ways, depending on the design of the policy, either through a promised minimum interest rate, or through your choice of mutual fund-like investments inside the policy, or even through dividends declared by some insurance companies.
With all these variables, it is more complicated to buy a cash value life insurance policy. Here are five questions you might want to ask before buying:
1. Do you guarantee that as long as I pay this premium, the insurance will stay in force and not lapse -- no matter how long I live? Note the use of the word "guarantee." That's important. Some policies will "illustrate" that there will be enough cash growing inside the policy to keep it in force until age 100 -- or even until age 121. But an illustration is not a guarantee! Getting that no-lapse guarantee may require paying a higher premium or buying a policy with that feature.
2. Can I prepay premiums to ensure that the policy stays in force? You might not want to be paying premiums later in life, though you still have a need for life insurance. Many policies allow you to put "extra" cash into the policy in the early years, giving the money a longer time to grow and making it available to pay premiums in later years. You might put in enough to have a "paid-up" policy, guaranteed to last to age 121. Again, you want a guarantee.
3. Does it have a waiver of premium? This means the insurance company will pay your premium for you if you become totally disabled, typically for over 6 months.
4. Does this policy offer living benefits? Some policies allow you to access a portion of your death benefit early if you are terminally ill. (Doing so obviously reduces the amount you'll leave to your heirs). Others allow you to access the death benefit to pay for long term care. Check the terms of these "riders."
5. How are policy loans calculated? On most policies there are two "cash value" numbers -- the accumulation value and the cash surrender value, which subtracts any charges or penalties for withdrawals. Typically, you can withdraw about 90 percent of the surrender value, but if the loan interest ever exceeds this amount you can be asked to pay down the loan.
These are just some of the basic questions to ask. Also consider who should be the owner, and who should be the beneficiary of the policy. An irrevocable trust can keep the proceeds out of your estate. A different trust should be set up to handle money for children who are beneficiaries.
Always ask what is guaranteed (as opposed to "illustrated" or "likely") and be willing to pay for that promise. Life insurance is not supposed to be an investment bet, but a sure thing. So you want to make sure it stays in force as long as you live. And that's The Savage Truth.
