What is Life Insurance? Definition, Types, Benefits, & Examples

Life is unpredictable. Tomorrow what will happen, no one can predict exactly. As such, people to reduce the uncertainties from the coming future tend to buy life insurance policies.

So, what is a life insurance policy, what are its benefits, let’s discuss.

Page Contents

What is Life Insurance?

Life insurance is a contract between the policyholder and the insurance company, in which the policyholder agrees to pay the premium amount periodically, and in return, the insurance company promises to pay him the lumpsum amount or to his nominees at the time of his death or at the maturity of the contract.

In other words, life insurance is an agreement between a person and an insurance company. The insurance company promises to give a lump sum of money to specific people chosen by the insured person when they die, but only if the insured person pays regular amounts of money to the insurance company while they are alive.

Life insurance contract provides peace of mind to the policyholders as they are assured to be protected when something unexpected happens in the future. Parents with minor children, adults who own property together, seniors who want to leave money to adult children who provide their care, etc. For such people, this insurance policy can be a good option.

Types of Life Insurance

Based on the nature of the insurance and the desire of the insured parties the life insurance policy or plan can be different types. The following are its main types.

Term Life Insurance

Term insurance is a type of insurance policy that is only valid for a specific period of time. If the person who bought the policy dies during this time, their family will get a certain amount of money. But, if the person who bought the policy doesn’t pass away during this time, nothing will be paid out.

Also Read: 2 Concepts of Insurance: Contractual and Functional Concept

Whole Life Insurance

Whole life insurance is a type of insurance that covers you for your entire life, as long as you continue to pay the premiums. This means that you can have coverage for up to 100 years if needed.

Money Back Policy

Money-back policies are different from other types of insurance because they provide you with payouts at certain intervals during the policy period. If the policyholder were to pass away during the policy period, their family would receive the full amount.

However, these policies tend to be more expensive than other types of insurance. This can be a good choice for people who want to receive some money back during the policy period while still ensuring that their loved ones are protected if something were to happen to them.

Endowment Policy

An endowment plan is a type of life insurance policy that combines insurance and savings. If the person who is insured outlives the policy period, the insurance company will provide them with a payout.

This payout is called the maturity benefit and is meant to help the policyholder save money for the future while also providing protection for their loved ones.

Retirement Plan

Retirement life insurance plans are designed to help individuals build a reliable source of income for their retirement years. These plans aim to provide financial independence and peace of mind during retirement.

Benefits of Life Insurance Plans

When you buy a life insurance policy, you can benefit from it in a different way. The following are the main benefits you could enjoy from it.

Financial Security For Your Loved Ones – The most significant benefit of a life insurance policy is that it provides financial protection for your loved ones in case you pass away.
Peace of Mind – Knowing that your loved ones are taken care of can give you peace of mind.
Tax Benefits – The premiums paid towards a life insurance policy are often tax-deductible. In addition, the death benefit is usually tax-free for the beneficiaries.
Loan Options – Some types of life insurance policies offer loan options, which can be a great resource for emergency expenses or other financial needs.
Wealth Creation – It can also allow you to invest and can help you be financially ready for the future, offering good returns and income.

What is Life Insurance Premium?

When you purchase a life insurance policy, you pay a certain amount of money to the insurance company to keep the policy active. This payment is called the life insurance premium and it can be made monthly, quarterly, bi-annually, or annually.

In exchange for paying the premium, the insurance company promises to provide financial support to your family in case you pass away unexpectedly during the policy term.

The premium amount is based on various factors, including your age, health, lifestyle, and the amount of coverage you choose. It’s important to pay your premiums on time to ensure that your policy remains active and your loved ones are protected.

Factors that Affect Life Insurance Premium

These are some factors that can impact the cost of your life insurance premiums:

Age: Generally, life insurance is less expensive for younger people since they are considered to be less of a risk.
Gender: Females tend to have lower premiums compared to males as they are statistically less likely to have life-threatening illnesses or engage in risky behaviors.
Smoking: If you smoke, your premiums are likely to be higher as smoking is considered a significant health risk.
Health: If you have a pre-existing medical condition or poor health, your premiums may be higher as there is a greater risk of you passing away during the policy term.
Lifestyle: If you engage in risky activities, such as extreme sports or dangerous hobbies, your premiums may be higher as there is an increased risk of injury or death.
Family Medical History: If you have a family history of chronic illnesses or genetic disorders, your premiums may be higher since there is a greater likelihood that you may also develop these conditions.
Driving Record: If you have a history of safe driving, your premiums may be lower since you are considered to be less of a risk on the road.

Principles of Life Insurance

The following four are the main principles that most life insurance companies follow.

Insurable Interest

To prevent insurance policies from being misused, there is a principle that assesses the level of interest a potential policyholder has in the policy. This interest could be due to a personal relationship or family connection, for example.

Based on this level of interest, the insurance company decides whether to approve or reject the individual’s application for a policy.

Minimal Risk

Life insurance companies take on a certain amount of risk when providing coverage, as they will have to pay out the assured sum at some point. To minimize this risk, insurers will usually assess the applicant’s medical status, smoking habits, and overall health.

They may also expect the policyholder to maintain good health habits to reduce the chances of having to pay out on the policy.

Good Faith

A life insurance policy is a legal agreement between the insurance company and the policyholder. Both parties must provide honest and accurate information to each other in good faith.

Failure to disclose important information could result in negative consequences for both parties.

Law of Large Numbers

The principle of life insurance is based on a statistical theorem that states that larger numbers tend to average out fluctuations. In simpler terms, since this insurance policy is a long-term investment, losses, and gains will even out over time, reducing the risks for the policyholder.

Also Read: 14 Key Elements of an Insurance Contract

Examples of Life Insurance

Let’s look at a sample example of Mr. Volkan Zora’s term life insurance policy.

Life Insurance Policy of Mr. Volkan Zora

Policy Number: 123456789

Effective Date: May 1, 2023

Insured: Mr. Volkan Zora

Insurer: XYZ Insurance Company

Type of Policy: Term Life Insurance

Policy Term: 20 years

Beneficiary: Ms. Selin Zora (spouse)

Premium: $50 per month

Coverage Amount: $500,000

Terms and Conditions:

The policy will remain in force for a period of 20 years from the effective date.
In the event of the death of the insured during the policy term, the beneficiary will receive the coverage amount of $500,000.
Premium payments are due on the first of each month. Failure to pay the premium will result in a lapse of the policy.
The insured must provide accurate and truthful information on the application for insurance. Misrepresentation or concealment of material facts may result in the policy being voided.
The policy may be canceled by the insured or the insurer at any time. If the insured cancels the policy, a pro-rated refund of premiums will be issued.

By signing below, Mr. Volkan Zora acknowledges that he has read and understands the terms and conditions of this policy and agrees to abide by them.

Signature: ____________________________

Date: May 1, 2023

XYZ Insurance Company