Life Insurance Basics

Insurance is defined as transferring risk to somebody else. In the case of life insurance, the risk is dying too soon and leaving behind loved ones unable to meet their financial obligations. Simply put, life insurance policies provide a cash payment when you die - this cash payment is often referred to as a "death benefit." However, there are many reasons to purchase life insurance beyond protecting your loved ones when you die. These ideas will be explored in more depth in other articles. Life insurance policies can be used pay final costs associated with your estate, policy loans or withdrawals may be taken against certain types of life insurance policies to provide additional income, the death benefit can help create an inheritance for your loved ones or to preserve an estate, the death benefit can help in paying some of the Federal and State taxes associated with your estate, and the death benefit can be excellent way to leave behind a charitable endowment in your name.

There are four (4) basic parties to a life insurance contract - the "insured" who's life is insured and underwritten on the policy, the "policy owner" who makes the payments for the policy - referred to as "premium payments," the "beneficiary" who is the named person(s) or organization(s) that will be paid the death benefit when the insured dies, and the "insurance company" that issues the policy. Often times, but not always, the insured and the policy owner are the same person. There must always be an "insurable interest" between the the insured and the beneficiary of a life insurance policy at the time of policy application. That is to say, the beneficiary must be able to show at the time of application that he or she derives a financial benefit from the insured and that the insured's death would pose hardship.

The basic nature of a life insurance contract is that it is "aleatory" meaning that, for a relatively small amount of money, you can tap into a large sum of money insuring your life for the benefits of your loved ones. Life insurance contracts are also "unilateral" in that the life insurance company promises to pay a death benefit as long as the insurance policy is kept active and has not been allowed to lapse due to non-payment of premiums. However, the insurance company cannot require that an policy owner pay his or her premiums.

There are two (2) broad types of life insurance plans - individual and group life insurance. "Group life insurance" is issued to employers with two or more participating employees or to organizations with two or more participating members. Participants of such group life insurance plans are issued "insurance certificates," not individual policies. The insured must choose from whatever plans the employer or organization has available and can lose coverage upon termination of employment or membership if the group life insurance policy is not converted into an individual life insurance policy. "Individual life insurance" policies are issued to individual or family applicants. Usually, these policies require an application with health questions and often require the insured to undergo medical examination as part of the "underwriting" process. "Underwriting" is the process of determining whether or not an insurance company will take on the risk of insuring someone and at what price they will assume this risk. Once approved and issued, and after the first premium has been paid, a policy owner has ten (10) days to decide if the policy is right for him or her - this is referred to as the "Free-Look period."

Now that you understand some of the basics of life insurance, other articles will explore types of life insurance and how life insurance can benefit you.