Cost of Insurance (COI) and how it’s calculated
Many factors come into play when an insurance company determines the Cost of Insurance (COI) for a life insurance premium. When you purchase a life insurance policy your Cost of Insurance (COI) is per $1000.00 of coverage. In this example I will use simple numbers to illustrate the concept.
35 year old male non-smoker
COI = $1.00 per $1000 unit
Coverage $100,000 (100 units)
$1.00 x 100 = $100 annual premium
Your actual premium is calculated using multiple factors such as:
· Age
· Gender
· Smoker vs Non-Smoker
· Health Condition
· Family History
· Hobby Risk factors such a Skydiving, Scuba diving
Each year that passes your cost of insurance increases because age is one of the most critical factors. When you purchase a life insurance policy your premium is average over the term of the policy. Most term policies have maximum duration of 30 years while permanent policies can have a maximum duration up to 120 years of age.
In general term insurance is meant to provide income replacement for a specific time frame in the unlikely life event while your still young. Term Insurance can be a cost effective way to provide coverage on a tight budget. The downside of term insurance is exactly that it’s temporary.
Permanent life insurance is meant to provide income replacement and with available riders provide living benefits for long term care needs and lets not forget with the ability to create cash value. Now the downside of permanent insurance is the increased cost of insurance due to the averaging over the period up to 120 years of age. But is it really more expensive? Let’s take a look at buying 20 year term policies vs a single permanent life insurance policy. For this example I am going to use a 25-year-old male in good health non smoker:
As you can see at 45 the 20-year term expires so he has to reapply for term insurance but now at his present age and health. Can you predict what your health will be in 20 years from now? Let assume he is still in good health and is approved for another 20-year term now at age 70 his second 20 year term expires and wants to reapply for another 20 year term policy, unfortunately a 20 year term is no longer available due to his age.
Now lets take a look at the Indexed Universal Life policy. The starting face value is the same at the start but because I included option 2 or increasing value the face value continues to increase as the policy ages. This example show’s how the Cost of insurance can rapidly increase in the later years and eventually diminish the cash value that has accumulated. It’s my believe the most valuable benefit this policy provides is the long-term care rider. With ability to access your living benefit to help offset the cost’s of long- term care it allows the protection of your assets such as your retirement savings. Health insurance typically only covers a portion of the medical costs associated when you have a major medical event such as a heart attack, stroke of cancer.
When you start the process of securing a life insurance policy things to consider are:
· Will I still have long term debt in 20 to 30 years from now
· Will I be debt free when ready to retire
· Will I be able to self insure myself to take care of final expenses
· Will I be able to have the assets to pay estate taxes
· If I am not self insured will my spouse be able to manage debt’s that are left behind
If you decide to select term life insurance do you have the financial plan in place to enable you to become self insured and debt free. Many retiree’s purchase a home when they down size creating additional long term debt. Life insurance is the foundation of a long term financial plan as it provides the estate needed when life events happen.
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