Purchasing life insurance coverage can be one of the most important and enduring financial decisions the head of a household makes for his or her family. A life policy can ensure that a family’s most pressing financial obligations are met even if a primary caregiver is suddenly absent. These include commitments to mortgage and car payments, medical bills, and student tuition expenses.

Since policy options vary as widely as the policyholder needs they cover, shopping for life insurance can also be very difficult. Before committing to one policy over another, consumers must carefully consider their coverage needs and options. Let’s get started with the basics:

Who Needs Life Insurance, and How Much?

People primarily purchase life insurance to provide for their beneficiaries in case of an unexpected death. And while policy sales and life insurance coverage rates are at their lowest levels in fifty years, most Americans admit that they could use more coverage:

  • According to a 2013 report by the Insurance Information Institute (III), 33% of Americans believe they are underinsured.
  • The Life Insurance Marketing and Research Association,or LIMRA, reports that 43% of consumers buy policies after specific life events like getting married, having a baby, or buying a house.
  • In one J.D. Power survey of individuals who were widowed between the ages of 25 and 55, only 25% believed that their deceased spouse had adequate life insurance.

How Much Life Insurance Is Enough?

All life insurance provides a death benefit. This is the amount of money an insurer pays if the insured person passes away while the policy is in force. Sometimes the amount of the death benefit is also called the face value of the policy.

Purchasing a policy to cover dependents is not the only reason people or companies purchase life insurance, but it is the primary motivation for most consumers. With this in mind, the ideal amount of life insurance is enough to help your family live comfortably without the benefit of your income. The California Department of insurance provides some good tips to help people figure out how much life insurance to purchase.

  • Figure out how much money your dependents would need to continue with their current standard of living if they lost your support. You might consider outstanding loan balances, monthly bills, and plans for the education of your children.
  • Balance an ideal death benefit against the cost. No insurance policy will do your family any good if you end up dropping it because it costs too much.
  • Shop around to compare prices and benefits offered for policies from a variety of different insurers.

Types of Life Insurance Policies

Many financial advisors and insurance agents have strong opinions about which kind of life insurance is best. Before you consult with an agent or an insurance representative, familiarize yourself with the basics so you can get an idea of your policy options and which may be best suited for you and your family. Start with the two basic types: cash value and term policies.

Term Life Policies

Term life policies are the most popular and common coverage plans available. They are active for a specific length of time. The term could be a few months or a few decades, but the contract always comes with a definite end date; and these policies have no cash value if you survive beyond the end of the contract. Since term policies are temporary and usually have no cash value, they are best suited for individuals who want to provide a financial safety net for their families in the event of a premature death. Since they are temporary contracts, insurers can guarantee higher benefit payouts for lower premiums.

To give you an idea, consider that a term life policy that guarantees a death benefit sum of $500,000 may cost a policyholder between 25-55 well under $500 a year while the policy is active. Alternately, annual premiums on cash value policies or term policy renewals can cost well into the thousands once you reach a certain age or if the status of your health changes.

Cash Value Policies

Whereas term life policies guarantee a set death benefit sum for a certain time, cash value policies work more like investment vehicles. They are more expensive, but they offer a cash accumulation feature and are typically permanent policies. In other words, your coverage will remain active as long as you continue making payments, or choose to cash out the policy.

This is the best policy for those who want to guarantee that their beneficiaries will receive the full cash value of the policy at the time of their death. Because cash value policies are permanent and can grow a cash value, they are more expensive than term policies. The most common kinds of cash value policies are whole life and universal life coverage.

Whole Life Coverage

This type of permanent cash value life insurance typically provides coverage for an entire life for a constant, agreed-upon premium. Whole life offers more consistency than other permanent cash value policies because the death benefit, its premiums and even the interest rate of your cash investment can be frozen at the time you buy the policy.

Universal Life Coverage

Also a permanent and cash value type of life insurance, this kind of policy provides more flexibility than whole life. Within limits, premiums and the face value can be changed over the course of the policy’s life and policyholders can renegotiate terms and adjust coverage to meet their current needs. That said, unlike with a whole life policy, the death benefit can vary based upon the performance of the money market the policy is invested in. If the investment value increases, the face value will rise. If the investment value decreases, the death benefit could decline. If you want a cash value policy, but you’re younger or you think that your coverage needs may change, a universal life policy is ideal. Because while your rate of return can vary, you will have more options to lower, raise or even borrow against your cash value throughout your life.

Variable Universal Life Coverage

This policy hybrid offers the investment security of variable life with the flexibility of universal life. The details of these policies must be worked out with your provider to determine what a balanced policy for your needs might be, but keep in mind that premiums for tailored policies will typically be higher and subject to change as your health and financial circumstances change.

This graph outlines the typical features of each of these common policy types:

Term Whole Life Universal Life
Source: California Department of Insurance
Premium Low, increases with age Level Level, Flexible
Face Amount Level or Decreasing, Renewable into old age Level Level, Flexible
Cash Value No Yes Yes
Policy Loans None Yes Yes

Which Kind Of Life Insurance Is Best For You?

People and companies purchase life insurance policies for different reasons. All policies provide a death benefit, but that might be used to help families cope with the loss of a breadwinner, cover funeral expenses, accumulate an asset, transfer wealth to the next generation, or even protect a business. Ultimately, the most important thing to consider when you’re shopping life policies is your coverage needs in terms of your age, health, and financial obligations.

The truth is that younger and healthier people pay less for life insurance coverage, because insurers will expect you to survive the term of your policy or to renegotiate terms as you convert a term policy into a permanent policy later in life. Some younger people choose to purchase a larger term policy to cover a home, growing family, and other obligations. Then they lock in lower rates with a smaller permanent policy for lifetime coverage.

That’s why it’s important for younger clients who need less coverage or are unsure of their coverage needs to realize that term policies costs less. A lower premium means families can afford to purchase more coverage or save money for other uses. Savings could be used to pay bills, reduce debt, or fund investment accounts. And ultimately, less debt and more savings will lower your need for comprehensive life insurance coverage.

Term policies also expire, and they usually have no cash value after the policy ends. If a family’s breadwinner buys a 20 year term policy at 35, he may find himself without coverage at 55. The problem is that rates will be higher for any particular type of coverage at 55 than they were at 35. You should also consider the risk of developing medical issues that make the family breadwinner harder to insure.

On the other hand, many insurers court the over 50 crowd, and some insurers offer 10 year term policies to reasonably healthy people in their 70’s. You can also find term policies that offer an option to convert them to permanent coverage before the expiration date, and this might be a good way to hedge bets.

Consider Your Employer Coverage Options First

If your employer offers group life insurance, it can be a simple and convenient choice. That said, some employees opt to purchase individual policies because coverage does not depend upon employment with a particular company. Others buy their own policies because their employer does not offer enough coverage for their needs.

Group and Employer-Sponsored Coverage

Since many Americans rely on employee-sponsored life insurance, make sure you understand your choices. An employer-sponsored group policy is not exactly the same as voluntary benefits that might be offered at your place of work. This might be confusing because premiums for both types of employer-based policies get taken out of paychecks. Here’s how to tell the difference:

  • Employers do not pay any of the premiums for voluntary worksite plans. They might offer to take premiums out of paychecks, and in some cases this might be done out of pre-tax earnings.
  • Insurers underwrite an entire company when they offer group life insurance policies. In other words, employees usually just sign up without answering health questions.
  • Insurers can underwrite each applicant when they offer voluntary worksite benefits. Employees might answer health questions, and some employees could be declined or charged more based upon their answers.
  • Most of the time, group coverage gets terminated when employment ends. Some voluntary benefit companies allow ex-employees to keep their coverage if they keep paying the premium.

Worksite Life Insurance Sales by Line of Business, 2011

  • Disability 20%
  • Hospital indemnity/supplemental medical plans 13%
  • Accident 13%
  • Cancer/critical illness 11%
  • Dental 11%
  • Other 7%
  • Life 25%

Source: Eastbridge Consulting Group, Inc. via III

Buying Individual Life Insurance Plans

Today’s consumers can purchase life insurance online, through the mail, or over the phone. They also have the option of sitting down with a local life insurance agent or other financial professional. Some applications only require answers to a couple of basic questions, while other applications can take an hour to complete. The right choice really depends upon your needs and situation. This should be clearer as you read about different types of policy applications and situations, but before you begin, there is one major term you need to know before you get started: underwriting.

Underwriting refers to the process that an insurer goes through to determine if an applicant is eligible for a particular policy, death benefit amount, or even rate class. The insurance company employee who handles this process is called an underwriter. Their job is to determine your risk level and coverage qualifications. There are three different types of underwriting processes:

Fully-Underwritten vs. Simplified Issue vs. Guaranteed Issue

You probably expect to answer some health questions on your application. When it comes to determining your life insurance benefits, there are three basic types of underwriting levels: Fully underwritten, simplified issue, and guaranteed issue.

Fully-Underwritten Policies

Expect to answer several questions about your current health, personal history, and even your family’s health. You might even need to submit to a medical exam, get a physician’s statement, or supply a blood or urine sample. The advantage for people in good health is that this is usually the only way to get approved for preferred rates. A little inconvenience can save you a lot of money, and it might be the only way to qualify for really large death benefits.

People with a healthy lifestyle and no serious health issues might save money by taking out a fully underwritten policy. The insurer picks up the bill if they request any exams. If you do not smoke, watch your weight, and have no prior medical conditions, you have a good chance to qualify for better rates. This might be the only way to qualify for large face value policies even if you cannot qualify for the cheapest rates.

Simplified Issue Policies

Compared to fully-underwritten policy applications, providers will only ask a few health questions before granting you a simplified issue policy. The questions have been designed to only weed out applicants who have serious illnesses. If you could have qualified for a preferred rate, the convenience might be costing you money. Since life insurance companies have to base their decisions on less information, they will assume the average customer falls into a riskier rate class. Maximum policy death benefits limits might be modest too.

Keep in mind, people with less healthy habits or a prior medical issue might never qualify for the very best rates anyway. It might not be worth it to go through the trouble to answer several questions, have a medical exam, and then wait several days for an answer. The application process for simplified issue policies may be very quick, and some insurers will answer within a day or two.

Guaranteed Issue Policies

Generally, guaranteed issue policy applications will ask little to no health questions. Insurers use a graduated death benefit instead of underwriting. The full death benefit might not be payable for 24 to 36 months. Some of these policies will pay a percentage of the death benefit or refund premiums if the insured person dies before the waiting period is over. Maximum policy death benefits are usually fairly small.

Of course, guaranteed issue policies will typically cost more than fully-underwritten or simplified issue policies. The increased risk gets built into the rates. They also usually do not offer an immediate death benefit. Guaranteed issue policies are often advertised to seniors as a way to get life insurance without answering any health questions. Lots of relatively healthy older people might quality for cheaper policies, so frugal people might shop around.

If you want millions of dollars in coverage, you may need to submit to a more complete underwriting process. If you want a policy worth a few hundred thousand dollars, say to cover a home mortgage, you might be able to use a simplified issue application. Guaranteed issue policy limits usually stop at a few thousand dollars.

What You Need to Know Before You Buy

Life insurance is a billion dollar industry, so it is a good idea to find an agent you trust before committing to a policy contract. A good agent should be able to review your state’s insurance underwriting guidelines and advise you on your risk levels and options ahead of time. You can choose between an independent insurance agent or an agent that works directly for a single provider.

Generally, more consumers choose to buy policies through independent agents because they can compare more providers this way, but there is no indication that policyholders who buy directly from a provider or one of their agents receive less coverage or pay more overall:

Life Individual Market Share by Distribution Channel, 2003-2012 (Based on first year collected premium)

  • 60%
  • 50
  • 40
  • 30
  • 20
  • 10
  • 0
Line 1
Line 2
Line 3
Line 4

  • 2003
  • 2004
  • 2005
  • 2006
  • 2007
  • 2008
  • 2009
  • 2010
  • 2011
  • 2012 5
  • Independent agents 1
  • Affiliated agents 2
  • Direct response 3
  • Other 4

Source: LIMRA’s U.S. Individual Life Insurance Sales Survey and LIMRA estimates, via III

  1. Includes brokers, stockbrokers and personal producing general agents.
  2. Includes career, multiline exclusive and home service agents.
  3. No producers are involved. Does not include direct marketing efforts involving agents.
  4. Includes financial institutions, worksite and other channels.
  5. Estimate.

Regardless of if you choose an independent or an affiliated agent, it’s important to go into your consultation knowing what to ask and what the possibilities are. Here are a few questions and reminders to bring up with your agent or insurance representative.

What information does this application require?

These days, most insurers want to find out a lot about their applicants before they become customers. This means that a company might request your drivers license number and ask for permission to pull credit reports and medical records.

Overseas travel habits, risky hobbies, poor credit, too many traffic tickets, or a criminal record could impact an underwriter’s decision. This does not mean you cannot purchase life insurance, but it may mean that you will never get the most favorable rates. If you think something about your history might raise a red flag, find a good agent to help you.

The Medical Information Bureau, MIB, keeps records of serious medical treatment. These are usually reported by various insurance companies. You have the right to visit MIB.com to pull your medical history so you can see what they know about you. You can bet that most insurers will look at this information, so why don’t you review it first?

You also have the right to get free credit reports from the major credit bureaus. Visit the U.S. Federal Trade Commission (FTC) for more information about obtaining your free credit report.

What if I am declined for a certain type of coverage?

People might be declined for life insurance. Each company and type of policy will have its own underwriting guidelines.

  • Try to avoid declines because they will be inconvenient and might even make it harder to qualify for other policies.
  • Some insurers do ask if you have ever been declined before on their applications.
  • Get information from a good agent or your own research before you apply to avoid declines.
  • Despite the best efforts of qualified agents and informed consumers, declines do happen occasionally.
  • Getting a decline from one insurer does not mean you should stop looking for coverage.

You want insurance, and your agent certainly wants to sell you a policy, but insurance company underwriters have other priorities. They have to follow guidelines that protect the insurer against assuming too much risk.

Most people can find coverage. If something on your health or personal history raises a red flag, that means you should do more homework or get assistance from a life insurance professional. Insurers have to tell you exactly why they declined your application, and you can use this knowledge to avoid the problem in the future. In some cases, the information they based their information on could be in error, and you have the right to get errors corrected.

Can I omit information on my application?

You might as well assume that insurers will find out if you try to lie or cover up anything. You do not have to complete an application if you would rather not answer questions, but you should never sign an application when you know the information is misleading or incomplete. This could be fraud, and it can also get your policy terminated before it ever pays out any benefits. If an application asks uncomfortable questions, you could search for a policy that has fewer requirements.

How can I avoid insurance scams or overpaying for a policy?

Shop wisely

Comparing a variety of policies from a handful of different insurers should help you find the right coverage at the right price. Be sure to begin with a clear idea of the reasons why you want to purchase coverage, an estimate of how much coverage you need, and what type of policy would be best for you. You’ll also want to make sure that the provider you choose is financially viable, this guide from the Insurance Information Institute calls out the largest life insurance providers by revenue and offers a few tips for assessing smaller companies.

Protect yourself

Occasionally, people do get scammed by unlicensed fraudsters. Licensed agents and insurers must follow very strict regulations. Visit your state’s insurance commission website to verify the license of any agent or insurer that you plan to do business with. Most states provide residents with a simple online search and a toll-free number. These state insurance departments exist to regulate the insurance business and protect consumers.

How can I learn more about my coverage options?

There is a lot to know about life insurance, but most insurers make the process of applying for a policy very simple. Depending upon your needs, you might be able to click a few buttons, call a toll-free number, or sit down for a short appointment with a local agent. Most of the information in this guide applies to exceptions, and not the rules. If you feel like you’ve been violated by an insurer or you aren’t getting the information you need, contact your state’s insurance commission or the NAIC to further explore your rights and options as a policyholder.