When it comes to life insurance, understanding the various options available and planning your budget for them can be overwhelming. So how appealing would it be to have your insurance coverage at no cost if you never have to use it? If you agree, Return of Premium Life Insurance might be something for you to look into. This article seeks to clarify this type of insurance, offering a thorough insight into its features, advantages, and factors for prospective policyholders to consider.
Life Expectancy is on the Rise in Canada?
As of 2024, the life expectancy in Canada has reached 83.11 years, marking a nearly 4% rise from the 79.90 years recorded in 2004. The trend is that Canadians live longer, meaning that for many people, their term life insurance policies and monthly premiums never end up paying off. Here’s where Return of Premium Life Insurance (ROP)comes into play.
What Is Return of Premium Life Insurance?
ROP is a unique type of policy that combines the benefits of traditional term life insurance with a savings component. ROP, similar to standard term life insurance, offers coverage for a set duration, often ranging from 10 to 30 years. The difference is that if the policyholder outlives the policy term, they receive back a portion or all of the premiums paid. This feature makes ROP an attractive option for those seeking life insurance security with the added benefit of getting their investment back if the policy is not utilized for its death benefit.
How Does Return of Premium Life Insurance Work?
There are two ways to structure a Return of Premium Life Plan:
- Purchase it as an independent financial product without needing an additional rider.
- Add a Return of Premium rider to a term life insurance policy. There are three common ROP riders:
- Return of Premium on Death (ROPD): Refunds all eligible premiums if the policyholder dies during the policy term. The refund goes to the designated beneficiary, either revocable or irrevocable.
- Return of Premium on Expiry: If the policy term ends without claims, the insurer refunds the premiums.
- Return of Premium on Cancellation/Surrender: Allows partial or full premium return based on the policy’s duration or at certain ages. For example, a 50% refund after 20 years increases with age, up to 100% at age 65 or 75.
The policy operates as follows:
- Premiums are paid either monthly or annually to maintain coverage. Premium rates are determined based on policy amount, term length, age, health, and medical history.
- If the insured dies during the term, the policy pays out a death benefit to the beneficiaries, similar to standard term life insurance.
- If the insured outlives the term, the insurer refunds all premiums paid without interest. The payout occurs at the policy’s end and is taxable.
How Much Does Return on Premium Life Insurance Cost?
No matter the structure of the policy, it’s certain that the money-back feature comes at a considerable cost. Due to their refund capability, ROP policies typically feature higher premiums than traditional term life insurance, so be prepared for significantly higher payments. The additional cost for a return of premium rider varies, influenced by factors like your age, health status, and the insurer you choose. Typically, the return of premium insurance costs about two to three times more than a standard term policy.
Pros and Cons of ROP Life Insurance
Pros:
- Savings Element: The refund of premiums acts as a forced savings plan.
- Financial Security: Knowing that beneficiaries are protected in case of the policyholder’s untimely death provides peace of mind.
- Flexibility: Some policies offer partial returns if cancelled before the term ends.
- Lower Cost Than Some Other Options: Return of Premium policies are generally less expensive than whole life insurance.
Cons:
- Higher Cost: The premiums for ROP are typically higher than those for a standard term policy.
- Not a Great Way to Save: The extra money spent on ROP premiums could yield higher returns if invested elsewhere.
- No Interest on Returned Premiums: The refunded premiums do not include interest, which could lead to a loss in potential earning power due to inflation.
- Mid-Term Cancellation Consequences: Typically, cancelling an ROP policy before its term ends results in no refund of premiums.
Return of Premium in Canada
It’s important to note that in Canada, return of premium life insurance is not commonly offered for term life insurance policies; it’s specific to the U.S. Instead, Canadians can opt for a term or permanent life insurance.
However, in Canada, certain living benefit insurances like disability and critical illness insurance offer a Return of Premium (ROP) rider, providing a partial or full premium refund.
Is Return of Premium Worth It?
Traditional term life insurance only pays out if you die within the term, offering no payout if you outlive the policy. This might feel unfair to those paying premiums for years without any return. Return of Premium life insurance suits those who don’t mind higher costs for possibly getting their premiums back. However, due to its high costs, the return of premium insurance may not be suitable for all. For example, in the autumn of 2022, more than a third (35%) of Canadians indicated that their household struggled to meet financial obligations in the past year. For many, investing in a standard term life policy for safeguarding your family’s financial security, coupled with traditional retirement savings accounts, could be a more sensible strategy.
While getting a significant refund at retirement might sound good, remember it’s not extra money, just a return of your payments. The same amount could yield more in a traditional savings or investment account.
Alternatives to Return of Premium Life Insurance
For those who find ROP life insurance less appealing, there are alternatives:
- Traditional Term Life Insurance: Offers lower premiums without the premium return feature.
- Investing the Difference: The cost difference between a standard term policy and an ROP policy can yield higher returns.
- Permanent Life Insurance: It’s a one-time coverage with a cash value feature, albeit at increased premium rates.
The Bottom Line
Return of Premium Life Insurance presents a distinctive combination of security and possible premium reimbursements, appealing to specific policyholders. However, it’s essential to weigh the higher premiums against the potential benefits and consider personal financial circumstances and long-term goals. Consulting a financial advisor can offer personalized guidance for making well-informed choices.