Life Insurance Cost - How It Works

Have you ever wondered how your life insurance cost is worked out? Every life insurance policy has two main parts to its price. The mortality cost - determined by your odds of dying at that moment - and the policy expense cost - your share of the insurance company cost i.e. rent, staff, and agent commission.

The mortality cost increases every year as you get older and your risk of dying increases. The expense cost or charge remains more or less the same. The majority of permanent life insurance policies have level premiums for life. The question often asked is, how can this be the case when the mortality charge increases each year?

The answer is that the insurance company averages the increasing mortality charges over your remaining expected life. In other words, the life insurance cost that is overpaid in the early years, is set aside in a reserve for you, called “cash value”. If you, at some time, cancel a permanent policy, by law you are entitled to the return of most of those overpayments - that cash value. The cash value is very little in the early years because of heavy first year costs - underwriting, medical exams, and agent commissions.

Another type of life insurance, term life insurance, differs in that its costs increase regularly as you age. Sometimes this increase is on a yearly basis, sometimes it is every 5 or 10 years. The overall term life insurance cost can be averaged over 10, 15, or even 20 years. So the price is level for the entire term. Term life insurance does not have a cash value element, so if you drop or cancel any term insurance policy in the early years, you receive no refund of any overpayment.