What is a life insurance premium and how does it work?

Diving into the world of life insurance, one term frequently encountered is the life insurance premium. This key component is the financial backbone of your policy, acting as the regular payment you make to keep your coverage active and ensure your beneficiaries are protected. Understanding what a life insurance premium encompasses, how it’s calculated and the factors influencing its cost can empower you to make informed decisions about your policy. With Bankrate’s expertise, we’ll unravel the complexities surrounding life insurance premiums, guiding you through their role in your financial planning. Our insights aim to clarify how these premiums work while helping you gauge the many factors that influence their cost.

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Whole life insurance combines life insurance with an investment component.

• Coverage for life
• Tax-deferred savings benefit if premiums are paid
• 3 variations of permanent insurance: whole life, universal life and variable life include investment component

Term life insurance is precisely what the name implies: an insurance policy that is good for a specific term of time.

• Fixed premium over term
• No savings benefits
• Outliving policy or policy cancellation results in no money back

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What is a life insurance premium?

A life insurance premium is the financial fuel that powers your policy, ensuring that your coverage remains active and your beneficiaries are safeguarded. Whether you opt for a term policy with its fixed duration or a permanent plan offering lifelong protection, the key to maintaining your policy is timely premium payments. While these payments are often made monthly, many insurers also offer quarterly, semi-annual or annual payment options to suit different preferences.

An intriguing aspect of life insurance, especially within whole life policies, is the concept of limited-pay life insurance. This variation allows for a more accelerated premium payment schedule, enabling policyholders to “pay off” their policy sooner, often resulting in higher premium amounts. Despite the completion of payments, the coverage remains intact, offering continued protection. This approach not only fulfills the policy’s financial obligations earlier but also accelerates the accumulation of cash value, providing an added layer of financial flexibility.

While you’re considering the flexibility of your life insurance premium payments, certain policies, such as universal life insurance, offer a range of payment options. Policyholders might decide to pay higher premiums to boost the policy’s cash value or, conversely, pay only a portion of the premium.

In some cases, with permanent policies, it’s even possible to cover premium costs using the accumulated cash value, avoiding out-of-pocket payments. This flexibility allows for a personalized approach to managing your policy, aligning with your financial strategy and ensuring that your coverage adapts to your evolving needs.

How are life insurance premiums determined?

The cost of a life insurance policy will vary for each person. Before a life insurance company issues you a policy, your health and other factors will typically be evaluated to determine how your life expectancy compares to your policy’s duration of coverage. Some people are considered to be high-risk due to lifestyle choices or health conditions. These applicants typically have a higher premium as the insurance company believes they are at a higher risk of premature death. Because of this, younger and healthier individuals generally see lower premiums on life insurance policies. In addition, a term policy may be cheaper than a permanent policy, depending on your age, as you might outlive the term policy length, and the insurer may not have to pay out a claim.

Here are some of the main factors an insurance company considers when determining your life insurance premium.

Type of coverage

You can choose between two main types of life insurance coverage: term and permanent policies. Term policies typically cost less, but they only provide coverage for a certain period of time (the term). These policies are likely to be most beneficial for those who only want coverage for a set number of years. For instance, a parent may get term life insurance that lasts until their child turns 18 and can become financially independent.

Permanent policies stay in force for the duration of your lifetime in most circumstances, as long as premiums are paid, and are often associated with a cash value account. Permanent policies are commonly much more expensive than term policies since an eventual payout is more likely.

Life insurance companies offer several different types of permanent policies:

• Whole life
• Universal life
• Guaranteed universal life
• Indexed universal life
• Variable universal life
• Guaranteed issue life insurance

Age

The younger you are when you purchase life insurance, the lower your premium will typically be. Why? Your life insurance company calculates your rates largely based on life expectancy and will typically set lower payments to account for the reduced risk of an earlier passing.

Sex

In the U.S., women live an average of five years longer than men. Life insurance companies may factor this into premium calculations, in addition to considering health complications that may be associated with one sex more than another. As a result, women may pay lower life insurance premiums than men, depending on their preexisting conditions and age.

Height and weight

Your height and weight are factors life insurance companies consider when assessing your application. This isn’t to say being overweight automatically affects your ability to secure life insurance, but it may influence the rate and type of policy available to you. Insurers often use the Body Mass Index (BMI) as a tool to gauge your overall health in relation to your weight and height, applying their own build chart to see where you fit.

• BMI categories: Generally, BMIs are categorized as underweight (below 18.5), healthy weight (18.5–24.9), overweight (25–29.9) and obese (30 and above). Your classification can affect your premium rates.
• Impact of BMI on premiums: While there’s no uniform standard, many insurers offer more lenient BMI classifications compared to general health guidelines. A favorable BMI, even if classified as overweight, might not significantly hike your premiums if your overall health is good.
• Weight-related health conditions: Insurers may raise rates for overweight individuals, particularly if weight-related health issues like diabetes, heart disease or certain cancers are present, as these can shorten life expectancy.

Health

Most life insurance policies require a medical exam and will request your medical records. This is your insurance provider’s way of making sure that the information listed on your application is accurate and that you don’t have a preexisting condition that would drastically shorten your life expectancy. Examples of preexisting conditions that could increase your premium include diabetes, high blood pressure and cholesterol.

Overall, the healthier you are, the less you’ll likely pay for your life insurance policy. Making choices to improve your health, like exercising or quitting smoking, can ultimately lower your life insurance premiums.

Lifestyle

The way you live impacts your risk level in the eyes of insurers. Life insurance providers typically raise your rates to compensate for the risks associated with a dangerous lifestyle, such as a risky occupation or extreme hobbies. If your job is inherently dangerous, such as washing windows on skyscrapers, there may not be much you can do to offset the cost of life insurance. However, if you engage in more extreme hobbies or activities, such as motorcycle riding, bungee jumping, skydiving or smoking, you may consider making lifestyle adjustments. Cutting out risky activities may help you lower the cost of life insurance significantly.

Driving record

Your driving record also plays a role in determining your life insurance premiums, similar to how it influences your car insurance rates. When assessing your application, life insurance companies look at various factors, including your driving history, to gauge your overall risk profile. Here’s how your driving record could impact your life insurance:

• Assessing risk: Insurers view your driving record as a reflection of your risk-taking behaviors. Frequent speeding tickets, DUIs or license suspensions suggest higher risk, potentially leading to increased premiums or even declined coverage.
• Speeding tickets: A few speeding tickets might not drastically affect your rates, but their frequency and severity do matter. For instance, having two or fewer moving violations in the past three years might still allow you to qualify for the best rates with some insurers. However, more than three tickets could result in higher premiums or a substandard rating.
• DUIs: The impact of DUIs on your life insurance varies significantly between insurers. While a single DUI might not disqualify you from coverage, multiple DUIs within a five-year period could lead to outright denial or deferred consideration from many insurers. Some may offer coverage with a substandard rating, depending on additional factors.
• Consequences of multiple violations: Multiple infractions like speeding or DUIs can lead to a substandard rating, increasing your base premium. Insurers may also add a flat extra for a certain period, such as two years, which is an additional cost on top of your base premium, specifically attributed to the heightened risk your driving record presents.

Riders

Life insurance riders, also called endorsements, are designed to add certain policy benefits to make a life insurance policy work better for your specific needs. Riders will typically add to your monthly premium but allow you to tailor your life insurance coverage to your specific needs and provide coverage in case of specific conditions or occurrences. Common life insurance riders include:

• Long-term care rider
• Term conversion rider
• Waiver of premium rider
• Terminal illness rider
• Disability income rider
• Child benefit rider
• Accidental death benefit rider

How are life insurance premiums used by insurers?

Now that you know what a life insurance premium is, you might be wondering how that money is used once you hand it over to your insurer. Generally, insurance providers may use your life insurance premium in the following ways:

• To cover liabilities: Insurance providers are required to maintain cash reserves used to pay out on claims. That means that if a policyholder passes away, the insurer will use a portion of total paid premiums to cover the set death benefit (and any other policy payouts) to the designated beneficiaries. Financially stable insurance companies will usually keep a set amount of money on hand to cover outstanding liabilities and help ensure beneficiaries receive what is owed in the event of the policyholder’s untimely passing.
• To cover business expenses: Like any other company, a life insurer has to account for operating costs. A portion of your life insurance premium may go towards salaries, office space, legal fees or other business expenses.
• To invest: Some insurance providers choose to invest a portion of the money they have in the growth of the insurance company and subsequent benefits to policyholders. Good returns on those investments may allow them to keep the cost of their insurance products as low as possible and can help provide greater financial stability and peace of mind to stakeholders (policyholders).

What happens if you stop paying life insurance premiums?

When premiums for life insurance are missed, the consequences depend on the policy type—term or permanent. Each comes with a grace period, a time frame during which the policy remains active despite missed payments. This grace period’s length can vary based on the policy and insurer, but 30 days from the payment due date is common.

Missed term policy payment

For term life policies, failing to pay within the grace period typically results in policy lapse, terminating coverage. This means no death benefit for dependents upon the policyholder’s passing. Most term policies offer a reinstatement period, allowing for payment of overdue premiums to reactivate coverage.

Missed permanent policy payment

Permanent policies, which include a cash value component, handle missed payments differently. If sufficient cash value is available, it might cover premiums, potentially preventing policy lapse. It’s important to review your policy to see how this will impact your specific policy. Policyholders should consult their insurer about activating this feature, as it might not be automatic. Utilizing cash value for premiums reduces the eventual death benefit if not reimbursed and can create policy performance issues down the road, such as slower cash value accumulation and premium increases.

How can I save on my life insurance premiums?

Finding ways to reduce the cost of life insurance premiums can make this essential coverage more accessible and budget-friendly. Here are some practical tips to consider:

• Opt for annual payments: Choosing to pay your premium on an annual basis rather than monthly can lead to savings. Due to reduced processing fees, insurers often charge less for annual payments.
• Start early: The earlier in life you secure a policy, the lower your premiums are likely to be. Younger applicants are generally seen as lower risk, which translates into cost savings. However, not everyone needs life insurance so it’s important to consider your current lifestyle and future plans.
• Embrace a healthy lifestyle: Simple lifestyle changes, such as regular exercise and a balanced diet, can improve your health and potentially lower your premiums.
• Quit smoking: Tobacco use is a significant factor in premium calculations due to its health risks. Giving up smoking can lead to more favorable rates.
• Leverage employment benefits: Group life insurance policies through your employer might offer more competitive rates. However, remember these benefits typically end if you change jobs.
• Consider a ladder strategy: This involves layering multiple-term policies to match your changing financial obligations over time. It’s a sophisticated approach that might require guidance from a financial advisor.
• Adjust coverage as needs change: As major financial responsibilities, like mortgage or education expenses, decrease, you might not need as much coverage. Reducing your coverage level can lead to lower premiums.
• Limit risky behaviors: High-risk hobbies (riding motorcycles, rock climbing, etc.) can inflate your premiums. By adopting safer pastimes, you can present yourself as a lower risk to insurers.
• Stay proactive with your health: Managing health conditions under your control, such as high blood pressure or cholesterol, could positively affect your premium costs.

Frequently asked questions

• • What is the best life insurance company?

    The best life insurance company will vary depending on personal preferences. For example, the provider that has the best customer service and the most riders might only offer a small selection of policies. Or, the best provider on paper might have the most expensive rates. To find the best life insurance carrier for you, experts recommend comparing multiple companies based on criteria like coverage types, third-party ratings, available riders, policy limits and other factors that are important to you and your family.

  • Is buying life insurance worth it?

    Life insurance might be worth it if you are looking to financially support your dependent family members in the event of your death. If you were to pass away, the funds from your policy could help your surviving family members cover ongoing expenses such as mortgage payments. Life insurance can also be used to leave money to your heirs or a charity of your choosing. Not everyone will need or want a life insurance policy, though. If you aren’t sure if life insurance suits your needs, talk to a licensed agent.

  • Why is my life insurance premium so high?

    If your life insurance premium is high, it’s likely because your insurer views you as a high-risk policyholder. There are several factors that influence your premium, including your health, age, occupation and lifestyle. Choosing a robust life insurance policy with high coverage limits or multiple riders can also drive up your premium. Speaking with a licensed insurance agent about your rating factors may help you identify ways to reduce your risk and save.

  • What life insurance policies have the cheapest premiums?

    Term life insurance premiums are usually cheaper than permanent life insurance premiums. That’s because a term policy covers you for a certain time period rather than your entire life, and your insurer may never have to pay out a claim if you outlive the policy. That said, term policies with high coverage limits may be just as expensive as less robust permanent policies. Requesting quotes is the best way to identify the cheapest policy type for you.