What is life insurance?

What does life insurance do, who needs it, and why is it important?

Colin Lalley 1600

Colin Lalley

Published October 3, 2019

You might have an idea of what life insurance is. But if you were asked to define life insurance, could you do it? What if you needed to describe the different terms, provisions or types? What exactly is life insurance good for? How long does it last? Who needs it? It seems complicated, but the answers are fairly straightforward.

Life insurance provides a tax-free lump sum of money to your loved ones in the event of your death, allowing them to continue toward their financial goals. It’s a value asset that gives you peace of mind that they’ll be taken care of even when you aren’t around.

In this life insurance 101 guide, you’ll learn:


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How does life insurance work?

Life insurance is easy to understand once you know what questions you should be asking. If you understand the common components of an insurance policy, how to apply, the different types of policies and the costs involved, you’ll know how to get the right coverage for your family.

What are common features of life insurance?

No matter what type of policy you buy, life insurance consists of these four components:

Policyholder The person who owns the life insurance policy. Typically, if the policyholder dies, the death benefit is paid out, but it’s possible to take out a policy on someone else.

Beneficiary The person, people or institution(s) that receive money if the policyholder dies. There can be more than one beneficiary named on the policy.

Premium The money paid monthly or annually to keep a policy active (or “in-force”). If you stop paying premiums, the policy lapses.

Death benefit The money paid out upon the event of the policyholder. Life insurance goes into effect as soon as you make your first premium payment, meaning you’re eligible for the death benefit as soon as the policy is in force.

Insurance companies always pay the death benefit, except in specific circumstances where they aren’t obligated to like:

  • The policyholder outlives their term life policy
  • The policy lapses or is canceled
  • The death occurs within two years of the policy being in-force and the insurance company finds evidence of fraud on the application

How do you apply for life insurance?

The life insurance application usually takes four to eight weeks from start to finish, but you can complete the process in just seven steps. Here’s how it works:

1. Get free quotes. Comparing rates from different insurance companies allows you to make sure you’re getting the most affordable policy. You never have to pay for life insurance quotes. (You can compare quotes from over a dozen life insurance companies with Policygenius.)

2. Choose your policy. Take into account cost, customer service and the average application time.

3. Fill out an application. You can fill out your application online or call a licensed expert to get help. Either way, you’ll need to answer some basic income and health information.

4. Take a medical exam. As part of the underwriting process, you may need to take a medical exam that’s similar to a basic physical. The exam is free, and a technician will come to your home or workplace on your schedule.

5. Complete a phone interview. An insurance agent will ask you a few lifestyle and health questions.

6. Wait for approval. An underwriter will take all of the information collected to decide on a final premium rate, which should be similar to the quotes you received.

7. Sign your policy. After you sign your policy and send in your first premium payment, your policy will be in-force.

For more information, learn exactly what you need to do when applying for life insurance.

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What are the different types of life insurance?

Not all life insurance policies are created equally. How long the policy lasts, the cost and extra provisions depends on the type of coverage. Broadly speaking, life insurance is divided into two different types: term and permanent.

Term life insurance

Term life lasts for a predetermined period of time, known as the term. When the term is up, the policy expires. This is usually the most affordable type of life insurance, and lasts only as long as you need it to cover debts and provide for beneficiaries.

Learn more about term life insurance.

Permanent life insurance

Permanent insurance doesn’t have an expiration date and lasts for as long as the policyholder pays the premiums. Permanent policies also have a cash value component that acts as a sort of investment vehicle that can be borrowed against. The cash value portion, along with fees, raises the price of permanent policies compared to term. Permanent life insurance policies include whole, variable, universal and variable universal life.

Learn more about the types of life insurance.

Whole vs. term

Most shoppers have to decide between term and the most popular type of permanent life insurance, whole. Term life is the right choice for a majority of people because it’s affordable and straightforward. However, whole life, with its cash value and permanent status, can be useful for people with complicated finances. A licensed expert can help you decide which is the best option for you.

Learn about the differences between term vs. whole life insurance.

How much does life insurance cost?

According to industry group LIMRA, the estimated cost for a $250,000 term life insurance policy for a non-smoking 30-year-old is around $160 a year. The actual cost of life insurance depends on a number of factors, including where you live, your age, your health and health history, your financial history and your hobbies. And, of course, the coverage amount, type and term length (if applicable) of the policy plays a role in setting rates, too.

Different insurance carriers weigh these factors differently, which is why it’s important to compare quotes from multiple companies to make sure you’re getting the most affordable rate.

Learn more about the cost of life insurance.

What are the advantages of life insurance?

There are many benefits of life insurance that make it a necessary part of any financial plan. No matter how you use it as part of your safety net, you can count on the following.

It provides money tax-free

The death benefit provided by a life insurance policy is a lump sum of money that’s tax-free. That means the whole amount goes to your beneficiaries – and they don’t have to plan their goals around receiving only a portion of the money thanks to taxes.

Learn about the instances when life insurance is taxable.

It’s affordable protection

While the exact cost of life insurance varies, for the most part, it’s pretty affordable. Consider this: A healthy 30-year-old male can expect to pay under $40 a month for a $1,000,000 term life policy. That’s about half the cost of the average internet bill. Since it helps pay for college, a house, retirement, and more, that’s money well spent.

It’s an alternative investment option

Term life insurance is straightforward, but the cash value of whole and other permanent types can act as a forced investment vehicle. You should talk to a financial adviser before deciding whether or not a permanent life insurance policy is the right path, but if you’ve already maxed out other investment options like an IRA, life insurance might work as an additional vehicle.

Why is life insurance important?

Financial planning is important, but if you’re the breadwinner and you die, it makes all of that planning moot. The meaning and importance of life insurance is the peace of mind it provides when it comes to:

  • Protecting future plans like college and retirement for your beneficiaries

  • Paying off debt like a mortgage or student loans

  • Estate and inheritance planning to leave something behind for children, grandchildren, or charities

  • Covering end of life expenses like funerals, which have an average cost of nearly $10,000 

Who needs life insurance?

Life insurance is a useful tool for most people, but that doesn’t mean everyone needs it. It’s often unnecessary if:

  • You don’t have any beneficiaries. If you’re young and single, and no one is counting on your financially, you probably don’t need life insurance. But keep in mind that there are still reasons you might buy it. Life insurance gets more expensive the longer you wait to buy, so you might choose to apply while you’re young to lock in low rates. You might also want to leave money to an institution or charity.
  • You don’t have (or anticipate) any debt. If your death won’t leave loved ones with debt, you might not need life insurance. But you should also consider future debt, like the cost of putting your kids through school or caring for aging parents. It’s important to look ahead to your life insurance needs, not just to the past.
  • You can self-insure. Even if you do have or anticipate debt, you might be able to cover the costs simply using your own savings.

If you don’t fall into one of these scenarios, you should seriously consider life insurance. If you don’t have it, you risk leaving your loved ones financially vulnerable in a worst-case scenario – something that’s easily avoidable with life insurance. Learn more about when you should get life insurance.

Frequently Asked Questions

How does life insurance work?



The policyholder pays a monthly cost, called the premium, to keep the life insurance policy active. If the policyholder dies, their beneficiaries receive a cash payout, called the death benefit. Whole life insurance lasts for as long as you pay premiums, while term life insurance expires after a set number of years.

How much does life insurance cost?



Life insurance cost depends largely on your age, your health, the benefit amount, and the term length. A healthy 35-year-old male can buy a $500,000, 20-year policy for around $26 a month.

Whole life insurance is 6-10 times more expensive than a comparable term policy. Life insurance rates increase by an average of 8-10% each year you put off buying a policy.

Who needs life insurance?



Anyone who is the primary breadwinner and has people who depend on them financially should consider life insurance.

This includes parents, spouses, and even children who have student loan debts co-signed by their parents. Think about costs like everday bills, mortgages, retirement savings, and credit card debt that would need to be accounted for if you were no longer around.

Entrepreneurs should also consider life insurance to help business partners support the company or allow their family to buy out their shares.

Older people without any dependents, or young children who don't provide financial support, likely don't need life insurance.

What are the types of life insurance?



The two main types of life insurance are term and whole.

Term life insurance expires at the end of the term, making it an affordable option that protects you when you need it most.

Whole life insurance is a type of permanent life insurance that lasts as long as you pay for it. It has an investment-like cash value, but is 6-10 times more expensive than term life.

Other types of permanent life insurance include universal, variable, and guaranteed.

What are the advantages of life insurance?



Life insurance provides peace of mind for you and your family. Term life insurance is an affordable form of financial protection, costing as little as $20-$25 a month for some people.

The death benefit is usually tax-free, so your family gets the entire amount.

Life insurance can be purchased online, and the entire benefit amount is available as soon as the policy is active - no waiting period.