How does life insurance work? A guide for beginners

Life insurance is a type of contract taken out between an insurance provider and an individual where, in exchange for a premium, the insurer will guarantee to pay a certain amount of money in the event of the individual’s death.

It is not necessarily a type of savings or investment, as money will not be paid out unless a claim is made i.e. when you die. However, it will be assurance that once you’re gone, your family will be covered financially and have the money to pay for mortgage repayments, household bills and other important costs.

How much cover should you take out?

The amount of cover you should take out depends on a number of factors and for that reason, there are a number of different life insurance policies that you can opt for.

Term insurance

This is the most popular type of life insurance because it pays out money either in a lump sum or in monthly payments when you die within a set period of time. However, if you don’t die then the policy ends and you won’t receive anything back. There are a few different types of term insurance and it’s important to know the difference so you can choose the best one to suit you.

  1. Level Term Insurance

This will pay out a fixed sum if you die while the policy is still valid. The amount does not change so you’ll know exactly how much you’ll leave your dependents when you die.

  1. Increasing Term Insurance

Due to the rising cost of living, many people opt for increasing term insurance as it’s a policy designed to combat inflation. The sum will either remain the same or increase in line with the Retail Prices Index (RPI) – a measure of inflation. If the final sum is set to increase, so will your monthly premiums. This is very similar to index-linked term life insurance.

  1. Decreasing Term Insurance

This policy is a good option if you’re looking for one that will cover decreasing debt for example a mortgage repayment. Your pay-out will also decrease over time which means premiums tend to be lower.

  1. Convertible Term Insurance

This allows policyholders to change their term insurance into whole-of-life insurance. No matter which insurance provider you opt for, they will be obliged to convert your policy regardless of your health.

  1. Renewable Term Insurance

Simply, this cover allows you to renew your term insurance when the cover ends without the needs for a health review.

  1. Joint Life Insurance

If you are married, in a civil partnership or have financial commitments with someone then you might want to consider a joint life insurance policy. While this does mean that premiums will be cheaper, such policies are usually paid out on a “first death” basis. This means that there is only one pay-out when one policyholder dies and if the other wishes to remain insured he/she will have to take out another policy.

‘Whole of Life’ Insurance

Unlike term life insurance, as the name suggests, ‘whole of life insurance’ will cover you for your entire lifetime. A lump sum is guaranteed no matter what age the policyholder dies as long as premiums are paid for the whole of the policy. This type of policy has high premiums but this is understandable considering that a pay-out is inevitable.

How much does life insurance cost?

As well as the type of policy that you take out, there are a number of other factors that can affect the cost of your premiums. These include things such as your health and whether or not you smoke or have smoked in the past, your age, your lifestyle, your medical history and even your profession and hobbies. If you are a smoker, have had past medical conditions or have a hazardous job, you should expect to pay a little more for your premiums because you’re considered a high-risk.

There are plenty of life insurance companies out there so you always shop around on sites such as Call Wiser for the best deal to suit your requirements.