How does Life insurance work? Your simple guide

No, it doesn’t have to be complicated.

Like eating well and exercising regularly, having the right insurance coverage in place is a great way to protect your future. But how does life insurance work? Luckily, it doesn’t have to be confusing. We’ll take you through the ins and outs so that you can get the best protection in place for your needs.

In a nutshell, life insurance ensures that your loved ones are financially supported even if something happens to you. By making regular payments now, you can rest assured that your nearest and dearest will be taken care of down the line.

Read on to find out how life insurance policies work, what you have to put in, and what you get out.

How does a life insurance policy work?

A life insurance policy is a contract between you and your insurance provider that lays out:

  • How much you have to pay (your premiums), and when
  • How much your insurer has to pay, and when

Depending on the type of life insurance you choose, life insurance can either be paid out as a lump sum or regular, ongoing payments. 

There are many benefits to having life insurance coverage in place. The main one is that it can take the financial stress out of death and critical illness by:

  • Helping your family pay off a mortgage, which will enable them to stay in your home
  • Keeping your household income up
  • Topping up your family’s savings
  • Paying off any debts you may have
  • Covering the cost of your funeral and other related expenses
  • Ensuring quicker payouts after your death when other money may be tied up
  • Helping you minimise tax payments as most life insurance policies in the UK are subject to different tax laws than other forms of inheritance (the details of how these taxes work differ on a case-by-case basis, so it’s vital to chat to a professional about how to facilitate tax planning for your unique situation)

What does life insurance cover?

Life insurance will either pay a lump sum or regular payments, depending on the type of coverage you get. The money can either go to something in particular, like a mortgage, or be used to offer more general financial protection. 

Some life insurance policies include critical illness coverage, which will pay your beneficiaries out in the event that you become seriously ill.

How does decreasing life insurance work?

As the name suggests, the amount decreasing life insurance pays out decreases over time. This type of policy is often used to cover a payment that will diminish over time, such as a mortgage payment or business loan. The coverage term can either be really short (just a year) or long (a few decades), and the schedule for the payments will be mapped out in the terms of your insurance policy.

Decreasing life insurance falls under the category of term life insurance: it covers you for a stipulated period, after which you can renew your policy or find a new one. 

Are there different types of policies?

There are three policy types available with several insurers to choose from. It’s always best to seek advice when thinking about life insurance, as everyone’s circumstances will be slightly different.

Ø  Level term insurance

This policy will last for a fixed term (e.g. 10 – 25 years) and the policy will only pay out if the insured dies during the term of the policy. The amount of cover, as well as the premium, will remain the same throughout the length of the policy.

Ø  Decreasing term insurance

This policy will run for a fixed term and pay out if the insured dies during the term of the policy. A decreasing term policy is usually used to cover a repayment mortgage because the pay-out reduces alongside the mortgage.

Ø  Whole of life insurance

This policy is guaranteed to pay out when you die, so long as you have consistently maintained your premium payments. The amount of cover, as well as the premium will stay the same throughout the policy.

Who needs a life insurance policy?

Life insurance is suitable for most people and is something that everyone should consider. Anyone who owns a home (with or without a mortgage), parents, anyone with dependents (children, elderly, disabled, non-working spouses), and anyone with outstanding debt should have cover.

However, there are a few groups of people a life insurance policy isn’t suitable for. These are students and anyone without dependents. Anyone without dependents but still with commitments should look at an income protection policy. This would cover loss of income through accident, sickness or unemployment and provide peace of mind should a life change occur.

Did you know life insurance may not be as expensive as you think?

If you have a clear medical history life insurance can often cost less that your Netflix subscription or a round of drinks in your local pub. The best way to find out your induvial cost is to get a quote with advice and understand what options you available to cover your loved ones if the worst may happen to you.

The cost of life insurance will depend on several factors;

  1. Your age. Age is a large factor; a life policy is always best when purchased at a younger age.
  2. Whether you smoke. Smokers are deemed a higher risk than non-smokers.
  3. The amount of cover. The higher the cover, the higher the premiums.
  4. The length of the policy. The longer the policy term, the greater risk to the insurer.
  5. Your health and lifestyle. The insurer will ask questions about your medical history, your family’s medical history and questions around drinking and smoking.

A life insurance policy is best purchased with advice so a qualified advisor can look at all the options for you and make recommendations based on your personal circumstances.

How long do you have to pay life insurance?

Depending on the type of life insurance you opt for, you could be paying into your plan for the rest of your life. However, if you choose a term life insurance policy, you will only need to pay for the duration of its validity. (Of course, you might want to renew it after that.) 

Insurance needs change at different times of life. When you grow your family, take out a mortgage, or start a business, you may look into taking out a new policy or increasing your cover.

Generally, the younger you are, the lower your insurance premiums will be. There’s usually also a minimum and maximum age when it comes to buying different types of insurance policies. Check with your provider to see what their window is for the coverage you want.

How does life insurance pay out?

As discussed, you can either set up your policy to pay your beneficiaries a lump sum or regular ongoing payments.  

The process of claiming life insurance will differ depending on your insurance provider. It usually doesn’t take long to get paid out if there are no disputes over beneficiaries or cause of death. In these instances, payouts typically take place within 30 days of the claim.

To make it easier for those left behind, you may want to run through the claims process with them ahead of time. It should go something like this:

  • Fill out the insurance claim form. This can typically be found on the insurer’s website. 
  • Contact your insurance provider. These details should be left with all your insurance paperwork. 
  • Provide the following documentation:
    • Death certificate
    • Completed claim form
    • Policy document that names the beneficiaries and details of the coverage — this certificate should be issued at the time the policy is purchased

From there, the insurance provider should have everything they need to sort out the claims. 

Quickfire summary

Life insurance offers you the peace of mind of knowing that your loved ones will be taken care of, even after you’re gone. This type of coverage can be especially valuable if you are growing your family, starting a business or buying a house.

There are different types of life insurance available, including increasing and decreasing coverage, and whole of life insurance. The right policy for you will depend on your current financial status and the kind of coverage you require. 

When the time comes, your beneficiaries will have to provide a death certificate, a completed claim form, and a policy document in order to claim their benefits.

Give us a call if you’d like to talk through this all — getting the right insurance in place doesn’t have to be complicated. 

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