Cash Value and Dividends Can Help Keep Your Life Insurance Policy From Lapsing
One advantage of whole life insurance policies over term life is that they build cash value. A term policy does no such thing. It is in effect so long as you continue to pay your premiums, and if you die while covered, the policy should pay out to your beneficiaries. But if you stop paying premiums and let your term life policy lapse, the policy is canceled and you have nothing to show for all those years of premiums you paid. Actually, you did receive a benefit during that time in the form of peace of mind and security knowing you were covered in case something went wrong. Just because you were fortunate enough to outlive your term policy doesn’t mean all that money was wasted. It just feels like it.
A whole life insurance policy is different. It builds value the longer you own it. If you cancel the policy before using it (i.e., if it expires before you do), then you are entitled to the cash value built up in the policy. In this regard, a whole life policy is like an investment vehicle. As investments go, whole life policies might not be the best place to put your investment funds, but it’s an attractive feature and valuable fringe benefit that comes along with the main purpose of the policy – to provide financial security to your loved ones when you die.
Some whole life policies also pay dividends from time to time as well. Because of these cash benefits that whole life policies provide, they are considerably more expensive than term life policies. The decision whether to purchase term life or whole life should not be made in a vacuum; you’ll need to look at your monthly budget, your investment or financial portfolio, and your overall long-term needs and goals.
Whole Life Insurance Has a Built-in Safety Valve to Prevent Policy Lapses
One benefit of having a whole life policy that you might not have considered is that the cash value building up in the policy can help you keep your policy from lapsing. A policy lapse occurs when you miss a premium payment. If you miss a payment, the company is required to notify you and offer you a grace period* to make it up before canceling your policy. If you don’t make up the premium in time, though, the company can (and will) cancel your policy. It’s possible to reinstate a lapsed policy, but depending on how much time has passed, you might have to submit a new application, and if your health has changed since you originally applied for life insurance, then you’ll be subject to increased premiums, policy exclusions, or you might even be denied reinstatement.
A policy lapse is scary, and it can come at the worst time. When you think about it, the people most likely to miss a payment are those who are facing a health crisis or entering an age when they begin to have memory problems. These are people busy dealing with medical issues, doctor bills, and family matters who might let chores like keeping up with bill payments slip. Family members might pitch in to help, but they are likewise focused on more pressing matters and might forget to pay bills on time. California requires insurance companies to notify policyholders of their right to designate another individual to receive lapse notices, which can help.
With a whole life policy, however, that built-in cash value can come to the rescue and help you avoid a lapse. If you have enough cash built up to cover your premiums, the company can simply pay your premiums for you by deducting them from the cash reserve in your policy. Similarly, instead of having the company send you a dividend check, dividends can also be applied toward premiums; it’s like getting a free month of life insurance, assuming you wouldn’t rather have the cash for something else.
Even with a whole life policy, it’s still important to stay on top of your insurance bill and policy cash value. If your cash balance drops to zero or below what it takes to cover a premium payment, then your policy won’t save you from lapse and you might not realize it. If you live in California, consider designating someone to receive notices in addition to yourself. State law requires the insurance company to remind you of this feature annually, along with your right to change designees when you desire.
*The applicable grace period is set by state law. Most states require a 30-day grace period. California requires at least 60 days, but many companies headquartered outside the state make the mistake of applying a 30-day grace period instead. This is a violation of the law in California that can be used in a lawsuit against the insurance company if they wrongfully deny your claim.