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How Does Term Life Insurance Work? (2021)

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Aissa Martell

By: Aissa Martell

Edited by John Leach

Last Updated October 4, 2021

Why you can trust Insurify

Insurify partners with top insurance companies and is a licensed agent in all 50 states. However, the insurance experts writing our content operate independently of our partners. Check out reviews from over 3,000 satisfied customers, how we make money, our data methodology, and our editorial standards.

Understanding how life insurance works may be an obstacle for some when weighing their best life insurance options. With so many life insurance features to consider, like cash value and living benefits, maneuvering the waters of life insurance may be turbulent. Luckily, term life insurance is the most uncomplicated type of life insurance on the market. And with a variety of plans to choose from, it can encompass many of your financial needs.

You are the captain of your ship, and the financial vessels you choose last longer than a lifetime. Life insurance can help protect the future of your loved ones, your business, and your lasting financial obligations. With Insurify, you can navigate the waters with ease. Merely answer a few basic questions, such as your age and state, and in minutes, Insurify will generate a list of life insurance quotes to compare.

How Life Insurance Works

The reason most people buy a life insurance policy is for the financial protection of their loved ones. Life insurance offers a type of financial risk management of your assets. It is mainly used to ensure that the people who are financially dependent on your income can still pay the mortgage and cover funeral costs and living expenses.

Most people use life insurance to provide an amount of money to their beneficiaries should they pass away. Life insurance transfers the risk of financial loss due to your passing to your life insurance company. Insurers evaluate the chance of loss and any hazards that increase the chance, such as smoking, in underwriting, the process where life insurance rates are determined.

If you pay premiums on your life insurance policy and the policy stays in force until you pass away, your beneficiaries will receive the death benefit of the policy. Expressly, this is the way life insurance works as a financial tool. Life insurance may also be used as a savings and investment vehicle and a means to provide finances for long-term care due to disability or terminal illness.

Life insurance products are divided into two basic categories: whole life insurance (also called permanent life insurance) and term life insurance. Whole life insurance policies last the policyholder ’s entire life, and your premium payments grow cash value in the insurer ‘s general account. Term life insurance lasts for a period of time and pays out the death benefit only if you pass away within the term length.

Whole Life Insurance

Whole life insurance is any type of permanent life insurance policy. These types of policies are categorized by the way they accumulate cash value. Traditional whole life insurance policies grow cash value in your insurer ‘s general account at a guaranteed rate. Universal life insurance is a type of permanent coverage where the cash value grows in an investment account and the cash value is not guaranteed.

Cash value in life insurance is a living benefit and is meant to be used while you are alive. You can take out loans or make withdrawals from the cash value of a permanent life insurance policy. Cash value is a feature that makes permanent life insurance more expensive and complicated than term life insurance.

Term Life Insurance

If you are looking to keep things simple and your loved ones financially protected, term life insurance is the most straightforward type of life insurance on the market. Term life insurance lasts for a specific amount of time, as short as a year and as long as 20 years or more. The policy pays a guaranteed death benefit if you pass away within the term. Most term life insurance policies are renewable with a premium increase.

Term life insurance can also provide extra protection and added benefits to an existing policy. Called term life riders, these insurance products are a simple way to extend coverage to a spouse or children for a number of years at an affordable price. They may also enhance your base policy’s amount of coverage.

What Is Term Life Insurance Good For?

Most people buy term life insurance for survivor protection. Term life insurance utilizes a variety of features to encompass diverse life insurance needs. Different types of term life insurance may provide income replacement or living benefits for disability and may serve as a simpler no-exam life insurance policy at an affordable price.

Level Term Life Insurance

Level-term life insurance provides level premiums and a guaranteed death benefit. Premiums remain the same for the length of the term, and if you pass away while the policy is in force, your beneficiaries receive the death benefit. Level term life insurance is the most popular type of term life insurance. It is less expensive than a permanent policy, and a 20-year term locks in a level premium for the term length.

Debt Protection

Life insurance coverage does more than protect your personal finances; it also protects your financial assets and unpaid debt. A decreasing term life insurance policy can protect a 30-year mortgage and ensure loved ones can pay off any debt you leave behind. A decreasing term policy’s premiums decrease with the amount of your debt. The policy ends with your expense or pays a benefit if you pass away in the term.

Term Life Riders

For periods such as when your children are young or before you reach retirement, term life riders may extend, or add value to, your existing coverage. Term life riders can extend coverage to your immediate family, add additional amounts for certain conditions, and provide living benefits if you become disabled. Parents with young children often buy extra protection for child care should they pass while their children are young.

No-Medical-Exam Term Life Insurance

No-medical-exam term life insurance policies can be a fast and easy way to obtain life insurance. Available online, through the mail, or with your life insurance agent, these policies are issued in less time than traditional policies, though you will typically pay higher premiums than a fully underwritten policy. No-exam permanent life policies are usually expensive, reserved for medical conditions, and considered last-resort life insurance.

Group Life Insurance

Most commonly found on the job, group life insurance is given by employers as a part of a benefits package. Typically a one-year renewable term life insurance policy, the policy owner, usually an employer, pays the premiums and holds the master policy. Insureds, typically employees, are given a certificate of insurance and must name their beneficiaries.

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What Happens to Term Life Insurance at the End of the Term?

Term life insurance is a type of policy that has a set end date. Whereas permanent life insurance typically ends at the end of life, term life insurance may end at the end of the term. Most policies are renewable at that time and may also be converted to permanent coverage during the life of the policy. Some life insurance companies may offer a return of premium rider for term life insurance policyholders.

Renewable Term Life Insurance

If your term life insurance coverage is renewable, you can renew your term life insurance policy without evidence of insurability. Term life insurance premiums are generally less expensive than permanent policies during the first term. If you renew your policy, you are basically agreeing to a new policy, and monthly premiums will noticeably increase.

Decreasing Term Life Insurance

If you buy a decreasing term life insurance policy to cover the cost of your child’s education, your mortgage, or any existing debt, the policy terminates once your expense reaches a zero balance. Your life insurance cost decreases alongside your debt until it is paid. Should you pass away during the term, the policy will pay the coverage to your beneficiaries to cover the expenses.

Return of Premium Rider

If your insurer offers a return of premium rider, it will return a portion or all of the premiums you paid if you outlive the policy’s term. Interest is not a part of any premiums returned, and if you pass away with this rider, your beneficiaries receive the face amount of the policy, not any premiums paid. If you cancel your policy, premiums will not be returned with this rider.

How Does Term Life Insurance Pay Out?

When the insured person of a term life insurance policy passes away, the death benefit is paid out or settled in several ways. Settlement options are outlined in the policy. Usually, the policy owner can let the beneficiary decide how the benefits are delivered at the time of settlement. Or through the spendthrift clause, the policyholder can choose an irrevocable settlement option.

A life insurance policy’s death benefit is tax-free and usually does not need to be reported to the IRS. However, if you or your beneficiary chooses a settlement option that involves interest, any interest received is considered taxable income, not the face amount of the death benefit.

Lump Sum

A lump-sum cash payment is distributed to beneficiaries at once, in one single payment upon the death of the insured. With this payout method, the insurer fulfills all of its responsibilities in the life insurance contract.

Retained Asset Account

Some life insurance companies pay out the policy’s benefit through a retained asset account. Beneficiaries are given a checkbook and an account where they can make withdrawals from the life insurance proceeds. The funds from the policy grow interest in the account, and there aren’t any restrictions on the account.

Interest-Only Payments

Interest-only payments are ones where the benefit from the policy is held in the insurer ‘s interest-growing account until a future date and pays out only the interest until then. Interest is paid out at no more than monthly intervals, or at least annually. The beneficiary or the policyholder chooses the date the face amount of the policy is delivered, which is usually paid in a lump sum or another settlement option.

Fixed-Period and Fixed-Amount Payments

A fixed-period payment option pays the death benefit in equal amounts over a determined period of time. Funds that remain in the account grow interest. Payments are made until the face amount of the death benefit and the interest reach a zero balance. Fixed-amount payments are a series of payments to the beneficiary paid for a length of time based on the amount of the benefit and interest.

Life Contingency Settlement Options

Also known as life income settlement options, these types of payments are based on the life of the beneficiary, or payee. All life contingency payments are made for the payee’s entire life. The funds of the insurance policy are used to buy an annuity based on the payee’s life expectancy. The longer you’re expected to live, the smaller the payments, but for a longer period of time than an older beneficiary.

Disability and Living Benefit Riders

Hybrid policies are types of life insurance that include long-term care—any policy with a living benefits rider could be considered a hybrid policy. Living benefits are triggered in different ways, depending on the rider. Usually, living benefits are distributed when the insured is diagnosed as chronically ill or becomes disabled.

Insurify’s life insurance calculator that helps guide you through the enigmatic waters of life insurance. You decide how much life insurance you need to give you and your loved ones peace of mind, and Insurify will produce a list of life insurance quotes for you to compare. Answer a few basic questions, such as your age and residence, and you’re on your way to finding the right life insurance company.

Frequently Asked Questions

  • Term life insurance term lengths vary between insurers. Policies may be as little as one year, but most life insurance companies' policies are in increments of five years.

  • Not by default. Some life insurance companies offer a return of premium rider that will return all or a percentage of the premiums you've paid. Some insurers offer a surrender value for term life insurance, but that is usually after you've paid premiums for a long time, and the surrender value is usually very low.

  • The policyholder of the life insurance policy can choose how the benefit of the policy is paid to the beneficiary or allow the beneficiary to decide. If you or your beneficiary decides to choose a settlement option with life contingency, the face amount of the policy plus interest is delivered in a series of income payments.


Term life insurance works to protect the life that you create every day. The financial security that you provide daily for your loved ones is an important financial asset that should be protected. Term life insurance is an affordable way to ensure your loved ones can still count on you, at least for a window of time after you pass, for living expenses and any end-of-life costs.

When you’re looking for the right life insurance company with the right policy, Insurify is a troubleshooter at your fingertips. With Insurify, you’ll know which life insurance company has the coverage at the price that fits your budget. You don’t have to surf a sea of life insurance options alone.

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Aissa Martell
Aissa Martell

Insurance Writer

Aissa Martell is a licensed insurance producer in the State of New York. She is a creative writer and has been freelance writing for five years. She’s happy to share her knowledge of the insurance industry and its products.

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