What is annual renewable term life insurance
Annual Renewable Term Life Insurance, or ART, is a special type of term insurance. Essentially, the policy owner is buying a one year term policy every year. At the anniversary date, a premium is paid and another one year term policy goes into effect.
Though the fundamentals of this type of life insurance are relatively simple, the reasons for and against purchasing annual renewable term insurance require careful consideration.
Who Should Consider an ART Life Policy?
This type of term life insurance is the most budget friendly way to provide the protection of a death benefit. The likelihood of anyone passing away within the next twelve months is low, therefore, in many cases a one year term life policy will be the least expensive insurance available at any point in time.
The idea here is that while a person is young, the cost of the annual renewable term policy will be very inexpensive. This is good for many younger families as they typically have less money during the first half of their life and more money during later years. So, while the insured is young and needs the insurance, they have an inexpensive way to protect their family.
As the insured ages, the rate will certainly rise for the same term insurance, however the need for insurance diminishes as savings and other factors come into the picture. In most cases, insurance becomes very cost prohibitive during later years in life. Annual renewable term policies are typically cancelled or replaced before retirement age.
In a nutshell, annual renewable life insurance is designed for young families with a protection need and a moderate or low budget. Such a family should plan to review their finances and insurance needs on a regular basis, as at some point they may choose to replace this policy with a longer term or permanent insurance option. Another scenario for this type of insurance would be to cover final expenses for younger dependents.
What Are the Risks and Downsides?
The most significant major risk of annual renewable term life insurance is ‘insurability risk’. Insurance is provided and priced based on age, health, and lifestyle. With ART policies, all are considered on an annual basis. If the insured becomes ill they may see large increases in premiums or be declined for continued coverage.
In the event of the painful scenario of becoming ill or uninsurable, the importance of reviewing insurance needs regularly comes to light. Annual renewable term insurance will essentially come to an end when the insured becomes old, sick, or passes away. One result is certain; the other two are very likely.
Other downsides to annual renewable term insurance are the lack of cash value and flexibility with the policy. Life insurance has become very dynamic and highly customizable. Families should take full advantage of the protection, planning capabilities, and features of modern life policies.
Example: Two Scenarios for Will I. Live
Will is a twenty five year old newlywed and has started his first job as a banker. He and his wife are healthy and are expecting a baby. His wife wants to stay home and raise the child, which will be possible thanks to Will’s income of $40,000 per year.
Will discusses his situation with a planner, and ultimately he wants to protect his wife and child in the event he is in an accident. Further, he does not want her to have to work while raising the child, especially if he isn’t around. He and the planner determine that he needs $700,000 in life insurance.
Their budget is tight, but he refuses to take any risk on this issue and purchases the least expensive option which is an annual renewable term policy. Will anticipates that within ten or fifteen years he will be in a better position financially, so he plans to change to a longer term or permanent insurance policy at that time.
Scenario one: Will reaches age forty five and has been promoted and saving money. However, he likes the lower premiums and has remained healthy enough to play softball with is coworkers and ride his bicycle every day. He decides to stay with the annual renewable term policy for another five or ten years.
Then the Unthinkable…
Will is diagnosed with prostate cancer at the age of forty eight. Unfortunately, upon the anniversary of his annual renewable life insurance policy he is informed that they will not be able to insure him any longer. His family still needs protection and having two children in college is putting a strain on their savings. This is the worst case scenario for Will and his family and illustrates the insurability risk involved.
What Should Will Have Done?
Scenario two: Will decided to go with a twenty year term policy at the age of forty five. This turned out to be a great and much needed decision as will was diagnosed with prostate cancer three years after changing the policy. His family will be protected if he is unable to beat the cancer and work to retirement age.
Despite strains on their budget from college aged children, Will and his planner realized that the significant risk of becoming uninsurable was growing as he aged. Though the annual renewable term policy had served them well and saved them some money, the time had come to spend a bit more and secure the insurance for a longer term.
More on Risk
There are a number of varying types of risk, all of which come into play when choosing life insurance or any financial decision. In the example of Will I. Live, the mortality risk to his family is weighed against the risk of being uninsurable later in life.
Sound financial planning and open discussions will help uncover the risks that are most dangerous or important for a family. With regard to life insurance, the biggest risk of all is waiting or ignoring a need. Tomorrow could be the day you are in an accident or diagnosed with something terminal.
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