Generally when you buy term life insurance, you’re insuring against an untimely death. Term life covers a temporary need — like providing for your dependents if you should die before they’re financially self-sufficient. As you grow older and your dependents are also self-sufficient, or you have money socked away in a retirement fund, you may not need as much life insurance coverage.
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People don’t like to pay for term life insurance, because they figure they won’t really use the coverage. What 30 year old buying life insurance coverage really expects to die within 30 years? They want the coverage for their families just in case the unthinkable happens, but for most people, when they reach the end of the 30 year term, they feel like the money paid into the term life policy was wasted. With a return of premium term life policy, you will get your money back at the end of the term — it is like you’re getting “free insurance”.
Return of premium term life insurance policies combine the advantages of traditional term life — like lower premiums compared to whole life insurance policies, and the ability to get back the money you invested at the end of your term.
How Do Insurance Companies Make Money?
If the majority of people buying return of premium term life policies are still alive at the end of the term and get back all of the money they paid in, how does the insurance company make any money on the product? It seems like they would be losing too much money to offer the policies if most people get back their money.
Insurance companies offering return of premium rider charge considerably more for a policy with a rider, than for the one without. While someone with a regular term life policy might pay $50 a month for their 30 year coverage — and receive nothing at the end of 30 years if they’re still alive; someone with a return of premium term life policy might pay $70 or more for the same coverage — except if they’re still alive after 30 years, they’ll get back all of the money they paid into their policy. The insurance company invests the extra money and earns capital growth on the money, which allows them to return your premiums to you once the term period has ended.
Disadvantages of Return of Premium Rider
Live or die, it seems a return of premium term life insurance policy offers a lot of benefits over the traditional term life policy. If you live, you get back every penny you paid. If you should pass away during your term, your beneficiaries get whatever amount you were covered for.
Some people feel return of premium term life is a poor use of money because you receive 0% return on your investment (if you live). If you invested $70 a month for 30 years instead of paying your life insurance, at the end of the 30 years you will most certainly come out ahead, but the amount would vary depending on market performance and your selection of investments. This of course assumes you do live the full term of the policy you’re considering – and the idea of life insurance is to cover you “just in case”.
Also, if you open a 30 year return of premium term life insurance policy and decide to get out after 10 years, you’ll only get back about 9% of what you paid in. If you wait 20 years and decide to cancel, you’ll only get back about 35% of what you paid. You only get back your full investment if you wait the full 30 years to close the policy. If you decide to get a return of premium term life policy — make sure you’re in it for the long haul, or you’re going to lose money on the deal.
Video by Jeff Rose, CFP
Here’s a short video by Jeff Rose, CFP that explains all of this in an easy to understand 2 minutes video: