973. Laura answers a listener's question about when it makes sense to convert term life insurance to a whole life policy.
973. Laura answers a listener's question about when it makes sense to convert term life insurance to a whole life policy.
Find a transcript here.
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Welcome back to Finance Friday, another special edition of Money Girl, where I answer your burning money questions! I love hearing from you and want to answer yours. So, if something finance-related is on your mind, leave me a voicemail at 302-364-0308. You can leave your name or remain anonymous.
Today's topic comes from Ana, who sent me an email saying, “I’m 56 and my husband will be 55 in November. We both have term life insurance for $750,000. However, the policies will expire in 2029, with the option to convert to whole life. We have a 17-year-old daughter and a 21-year-old son, and we want to leave them money when we’re gone. Before our term insurance expires, does it make sense to convert to whole life insurance, or should we take out new term policies?”
Thank you so much for this question, Ana! You're in a common situation where it’s time to reevaluate your life insurance needs and determine what’s next for you and your family. This post will review different types of life insurance and four options to consider before your term coverage expires.
What are the different types of life insurance?
There are several types of life insurance, but you can divide them into two main categories: temporary (or term) and permanent.
Term life only insures your life for a specified period, such as 10, 20, or 30 years. If you pay the fixed annual premium and die within the term, your beneficiaries receive a guaranteed death benefit.
For instance, Ana may have purchased a 20-year, $750,000 term policy when she was 40. Therefore, in 2029—four years from now—her policy will expire when she’s 60.
Permanent life, the other main life insurance category, covers you no matter when you die. As you can imagine, a permanent policy is more expensive than term insurance. It’s also more complex because, in addition to paying a death benefit, it involves an investment that builds "cash value."
There are three primary types of permanent insurance, also known as cash-value life insurance.
While it would be better to have coverage for your entire life, a significant benefit of term life, especially when you're young and healthy, is that it's inexpensive. You can get a lot of coverage for a relatively small premium.
However, as you age, the same policy might cost much more, depending on your health. The older and less healthy you are, the higher your term or permanent life insurance premiums will be. Other factors that typically determine the cost of coverage include your gender, medical history, smoking status, and driving history.
LISTEN ALSO: Who should buy cash value life insurance?
How to know if you need life insurance
Once your term life insurance expires and you stop paying premiums, your beneficiaries are no longer eligible for the policy benefit if you die. Ana and her husband have four years before their policies expire, but I like that she’s thinking ahead.
The most important question is whether you'll still need life insurance after your term policy expires. When Ana and her husband bought their life insurance, their kids were young. But by 2029, they'll be about 21 and 25 and hopefully financially independent or very close to it.
But Ana expressed that she wants to leave money to her children when she’s gone, and life insurance is an excellent way to do that.
4 options when your term life insurance expires
Consider the following four options before your term life insurance expires.
1. Convert to whole life.
Most insurers allow you to change your term policy into a permanent whole life policy. As I mentioned, it provides lifelong coverage and builds a cash value. That means your loved ones will receive a lump sum death benefit and any accumulated investment value, no matter when you die.
The financial security of whole life could be critical if you have a special needs child or an aging parent who depends on you and would need financial assistance after your death. Additionally, it could be part of your retirement or estate planning objectives.
The pro of converting a term policy to whole life is that you typically don't have to undergo a medical exam. Therefore, if Ana or her husband developed any health conditions, such as high blood pressure or diabetes, since they first got the policy, they wouldn’t be turned down for whole life coverage.
However, the con of whole life is that it’s much more expensive than term because it offers more benefits. The premium on a $750,000 policy could be 10 to 20 times higher than Ana’s current term premium.
RELATED: How do I create an affordable estate plan?
2. Convert a portion to whole life.
Many insurers allow you to convert a portion of your term policy into permanent coverage, which could help reduce your premiums and keep some amount of lifelong coverage. For instance, Ana could convert $100,000 of the $750,000, giving her a smaller policy to leave a guaranteed gift to her children at a lower cost.
3. Buy new term life.
The third option is to let your term insurance expire and then shop for a brand-new policy. The pro is that it will be significantly less expensive than whole life for the same death benefit.
The con is that you typically must undergo full medical underwriting with a medical exam, blood tests, and a health history questionnaire. Therefore, if Ana or her husband’s health isn’t good, their rates will be high, or they could even be denied coverage.
Also, if Ana and her husband are fortunate, they may outlive the term of the new policies as well. They could be in this same situation in their 70s or 80s when life insurance will be even higher.
4. Do nothing.
The fourth option for Ana and her husband is to let their term policies expire without replacing them. They might decide that the coverage did its job and protected them during the most vulnerable years when their children were young.
Opting not to buy life insurance could be wise if, by 2029, Ana and her husband have a healthy retirement nest egg and have repaid any significant debts. Their remaining savings and assets could be the money they leave their children, rather than the proceeds from life insurance.
READ ALSO: Am I saving enough for retirement?
How to decide what to do when term insurance expires
When it comes to life insurance, your health is a significant factor. If either Ana or her husband is in poor health, converting all or a portion of a term policy to a permanent policy is a wise option, especially if they're sure they'll still need coverage.
If your health is good, you have more choices when a term policy expires, such as shopping for a new policy. That's what my husband and I did after our 20-year term policies expired this year.
Your financial situation is also essential in life insurance decisions. For instance, if getting an expensive policy would derail your own retirement plans, it's probably not a good idea. Your priority is to make sure you're financially secure.
Also, be clear about your financial goals when buying life insurance. If you only want to cover final expenses or leave a $100,000 gift for each of your children, you don’t need a $750,000 policy.
Ana’s next step should be to call the insurance company and ask for quotes. For instance, she can request quotes to convert all $750,000 of her term policy, or $250,000, $100,000, or any amount, to whole life coverage.
I also recommend that Ana get quotes for new term policies, such as a 10 or 15-year term policy for $250,000 or $100,000. Then compare the cost of term and whole life to see what makes sense.
You have the flexibility to choose the provider, amount, and term that suits your needs. It’s easy to shop online using a site like Policygenius, where you can compare quotes and speak with a licensed insurance professional for guidance.
However, as I mentioned, obtaining new life insurance typically requires a medical exam. While there are no-exam life insurance options, they usually cost more than a standard policy.
Ana, I hope this helps you and your husband determine what’s best for your financial futures and your children’s!
That's all for now. I'll talk to you soon. Until then, here's to living a richer life!
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