Typically, when taking out term life insurance, there are two common options: level term life insurance and decreasing term life insurance.
With many people seeking both financial security and peace of mind, it is imperative that a person chooses the life insurance which best meets their specific needs.
But what is the best policy option?
Both types of term life insurance are designed to last a specific amount of time and to pay a sum assured (payout amount) to your loved ones if you pass away during the policy term.
However, there are a few differences between these policy types which can help to tailor your life insurance to your unique needs.
What is the difference between level and decreasing term life insurance?
The primary differences between the two policy options are how the policy will pay out and what the funds are suited to cover.
Level term cover provides a fixed (or level) sum pay out. This essentially means your loved ones will receive a designated amount, that won’t change over time if you were to pass away during the policy term.
Level term cover has the capacity to pay a higher fixed sum and is useful for covering interest-based mortgages. Decreasing term cover, however, has a sum assured that reduces over the policy term, meaning less will be received if you pass away.
In return though, a decreasing term policy is cheaper, as your risk management to the insurer reduces over time. An example of when this could be worthwhile is if you have a repayment mortgage, as the assured sum can decrease alongside your mortgage.
Alternatively, if you want a cover that lasts for life, you can take out whole life insurance, (known as permanent life insurance in the US).
The whole of life policies tends to be the most expensive but do not expire. Therefore, if you pass away, your loved ones are guaranteed a payout, with almost every whole life insurance policy being paid out (99.9% as of 2020. Source www.abi.org.uk). This policy is a form of life assurance.
Why take out level or decrease term life insurance?
The key reason is to cover key financial commitments for your loved ones, including any outstanding debts and/or future living costs that your family would not be able to cover without you.
While it is not a legal requirement to have life insurance in place to protect your mortgage, life insurance can help cover either all or some of the remaining balance for your loved ones.
Level term life insurance would be more suitable for an interest-only mortgage due to the fixed payments and amount. Whereas, the decreasing term would be more suited to covering a repayment mortgage as the sum paid out decreases over time (and can mirror your mortgage balance).
Choosing the right policy is crucial to ensure the protection of your home. By aligning your policy with your home improvement loan terms, you can safeguard your family from defaulting and losing their home.
Level term life insurance can also be beneficial for those who want the cover to protect loved ones from rising funeral costs and potentially inflated day to day living expenses. It can provide a fixed inheritance, charity donation or pay off any other debts in your name.
On the other hand, decreasing term life insurance could be well suited to those who have older children (who are more financially independent) to provide a small inheritance.
Alternatively, it can also suit childless couples who have other debts that decrease over time. This policy type can also be more suited to those with a tight budget due to having the cheapest premiums.
How is the cost calculated?
Both level and decreasing term life insurance will require you to provide key pieces of information to the insurer in order for your monthly premium to be calculated.
This includes:
- The level of the cover required
- The length of the policy’s term
- Your age
- Your smoking status
- Your medical history
- Your current health and wellbeing
- Your weight/BMI
- If critical illness cover is added
The greater the risk you present to the insurer, the more expensive your premiums will be, so try to read the cover note properly before confirming your policy.
For this reason, both level and decreasing term life insurance tend to be well suited to young adults who are in good health.
There are certain steps you can take to reduce the cost of your life insurance cover, such as quitting smoking, reducing your alcohol intake (if over 14 units per week) or losing weight (if you have a high BMI).
Critical and Terminal illnesses cover
Most insurers will offer terminal illness cover at no additional expense with term life insurance policies (both level and decreasing).
This will allow you to make an early claim on your life insurance policy if you fall terminally ill and are predicted to pass away within 12 months.
The sum provided can be utilised to pay off everything already mentioned, it can also be used to help pay private medical bills, assist with quality-of-life adaptations, pay carers or financially subsidise the impact your passing may have on your loved ones.
Critical illness cover, meanwhile, can be added to policies for an additional cost.
Statistically, you are far more likely to fall critically ill than pass away during your working life. Therefore, the further coverage will provide a pay out if you are diagnosed with a serious but not terminal illness.
If you are unable to work for a prolonged period, this can cover the loss of your salary so you can continue your current lifestyle, as well as pay for private medical treatment.
Examples of critical illnesses are heart attacks, strokes, some types of cancer and many illnesses which are negatively life altering.
Everything else you should know
Both policies only last for a finite amount of time with the term being specified in your policy contract, this could be up to 40 years depending on your needs.
While this could be enough time to guarantee your mortgage is paid off, or that any underage children in your care are financially covered, this does mean that if you die after your policy’s expiration date, no pay out will be issued.
By writing your life insurance policy in trust, you can make sure your benefactors receive the entire sum of your life insurance pay out.
Most insurers will provide a free trust writing service, which will sign the rights over to a trustee (of your choosing) upon your passing. This will detach your life insurance from your estate (paid off property, savings and possessions,) and mean that you will avoid or reduce the standard 40% inheritance and personal tax if the estate is valued over £325,000.
Additional control of your policy and a faster probate process (the period it is paid out) are also key benefits. You also have the option to take out level or decreasing term life insurance on a joint basis. The main benefit of joint life insurance is that you could save up to 30%, compared to two single policies.
However, the joint cover expires once it pays out on the first death, leaving the second life uninsured and needing to take out a new policy. This could result in higher premiums on a new policy if taking out cover at an older age.
If both policyholders pass simultaneously, only one payment is provided. This can impact any children/beneficiaries of the policy financially as there could be an insufficient payout amount to cover the loss of both lives.
Finally, make sure to calculate how much life insurance you will require. You may need life insurance to cover your mortgage or funeral but make sure you have enough to factor in other expenses, including other debts, higher education for your children, lump-sum inheritance and your current/projected savings.
You could calculate this yourself by adding the sum of all your financial commitments, or you could enlist the help of a life insurance broker (such as Reassured UK) who can talk through your needs and provide you with information about all your available options.
One final reminder
Regardless of the policy you choose, always contact your insurer if your circumstances change as it can evoke a special events option to alter your policy.
Whether you move house, have another child or change your career path to the highest-paid occupations, your insurer can make sure you have enough coverage to fulfil your needs. Therefore, you can continue your coverage with peace of mind, or you can check other quotes to take a new cover.
If you have loved ones who depend on your financially, life insurance is a great way to secure their future, whatever it may hold.
What’s more, the younger you are the cheaper the monthly premiums, so why not seize the day and provide reassuring peace of mind for both you and all your nearest and dearest.
