What to Consider When Buying Life Insurance

Insurance is America’s fourth-largest household purchase--after food, housing and taxes--yet those who buy insurance “are among the least knowledgeable consumers” in the United States, according to the National Insurance Consumer Organization.

That’s not entirely the consumer’s fault. Insurance, particularly life insurance, is a complicated product sold by thousands of companies nationwide in nearly limitless variations.

There are no federal disclosure standards. And the U.S. authorities who regulate truth-in-advertising claims for virtually all other products have no jurisdiction over insurance.

Couple that with laws that vary from state to state, regulators at the state level enforcing those laws with varying degrees of skill and 51 different guarantee associations backing policyholder account values up to different limits, and you’ve got a consumer information nightmare.

Insurance agents supposedly sort all this out for their customers. Some do. But others take advantage of consumer ignorance and recommend whatever product generates the highest commission.

How does a consumer get a good product at the right price in this treacherous market?

First, determine what product you need.

There are two basic types of life insurance--term and whole life.

Term is the cheapest and simplest to understand. It pays off if you die within the “term,” which is usually a year, usually renewable. If you don’t die, the insurance expires. You have to buy it again or go without.

Whole life, which goes by a myriad of names, including universal life and variable life, is “permanent” insurance, bought with the idea of keeping it forever. It pays off if you die and, over time, builds up a cash value.

By and large, young and healthy individuals are better off with term, said Robert Hunter, president of the National Insurance Consumers Organization in Alexandria, Va. Term almost always provides the highest insurance benefit at the lowest price.

A 35-year-old male nonsmoker, for example, would pay about $140 annually for a $100,000 term policy. A comparable whole life policy would cost about $1,100 each year.

The premium on the term policy will increase as the buyer gets older, while the whole life premium won’t. But term premiums rise slowly--usually only a few dollars a year. A 45-year-old would pay about $210 annually for the same policy, according to NICO’s life insurance shopping guide, “Taking a Bite Out of Insurance.”

But consumers should look for term policies that are renewable regardless of health. That safeguards those who become terminally ill.

Those who are much older or very affluent might consider whole life policies to get a tax shelter as well as insurance protection.

Before deciding, consumers should price both term and whole life policies and determine whether they would fare better buying the term policy and investing the difference--in tax-free municipal bonds, for example. If the term policy cost $500 and the whole life policy cost $1,500 annually, the consumer should see what rate of return he or she could earn on the $1,000 difference.

Compare that rate of return with the return on the insurance policy and determine what risks and rewards are related to both investments. If the alternate investment has a higher (or equivalent) return and fewer restrictions, stick with the cheaper term policy.

Now the only issue is price. There are several ways to find an affordable policy. One could buy NICO’s shopping guide ($13.95, including postage), which spells out reasonable insurance rates and restrictions based on the individual’s age and sex. It can be ordered by sending a check to NICO, 121 N. Payne St., Alexandria, Va. 22314.

Those buying term policies can also go through a rate-shopping service. Three are free--SelectQuote at (800) 343-1985, InsuranceQuote at (800) 972-1104 and TermQuote at (800) 444-8376. They make money if the consumer buys one of the products they recommend. Term buyers should also shop around every few years to make sure that the rate they’re paying is still competitive.

Those buying whole life policies must look at the company’s strength and track record, plus historic and promised rates of return. They must also consider the “load” on most such policies. Often premiums paid in the first year--sometimes two--do nothing to accumulate cash value. They simply go to paying a broker’s commissions.

There are no-load policies sold directly by the insurer or through a fee-only agent. Fee-only agents aren’t cheap, typically charging between $250 and $1,000 to investigate policies that might suit the consumer’s needs. But having less of an inherent conflict of interest, they may find the customer a better policy at a better price.