Let's talk through all you need to know about a life insurance renewal.
What is a life insurance renewal?
A term life insurance policy is almost always the best product when it comes to protecting your family against the financial burden they would face if you died. In fact, there are very few circumstances where we would ever suggest buying a more expensive permanent policy to cover your needs.
These days, a policy feature known as “guaranteed renewable" has pretty much become standard on all term life insurance products (just like the front airbags and antilock brakes on new cars). It gives you the right to renew your policy at a pre-specified price when it’s about to expire. And you won’t need to go through additional underwriting or show proof of health for it. This abstract definition may be tough to wrap your head around, so let’s walk through an example.
Imagine that you purchase a 10-year term insurance policy today. Your policy will specify the annual or monthly rate you have to pay in premiums over the next 10 years. It will also separately specify the annual or monthly rate you’d have to pay in years (i.e., 10–20 years, 20–30 years, 30–40 years, and so on) if you choose to renew after each 10-year period. Sounds great, right? You get the option to renew at guaranteed rates even if you get sick before your policy term ends. And you don’t even have to pee in a cup or get poked for a blood test! So… what’s the catch? We’re glad you asked!
Why life insurance renewal rates are so high
Life insurance companies are very strategic in everything they do (just like the cable companies that try to sell suspiciously cheap packages). They would never create a product that would add significant risk just to attract customers. So what do they do?
They set their pre-specified term life insurance renewal rates at absurdly high numbers, essentially saying, “We’ll let you renew in 10 years without showing medical evidence. But because we won’t have any medical evidence, we’ll just assume your health will deteriorate in the next 10 years and price your renewal as if you’re an extremely high-risk new applicant in very poor health." In fact, a typical 10-year term policy could have renewal rates that are a whopping 5x to 20x the amount of the initial premium. It would be like covering the cost of life insurance for your entire team at work! (And let’s be honest: no one is that generous.)
How to assess whether to renew your life insurance policy
What does this mean for you? It means that renewing your term insurance policy will almost always be a terrible and very expensive idea. Unless your health deteriorates to the point where you have essentially become uninsurable (which really happens only if you’re diagnosed with a terminal disease), you can reapply for a new policy at significantly lower rates. You’re already paying your insurance company enough. So why give them more money than you need to?
What should you do as you get closer to your term insurance expiry date? Here’s a simple 4-step process to follow:
1. Know when your policy is set to expire
Remember that 50-page binder you got when you bought your life insurance policy, the one you use as a makeshift paperweight? Well, now’s the time to read it (but just the first page, luckily). Check your policy to see when it expires and set a reminder to tackle Step 2 about 3–6 months before this date.
2. Understand how your needs have changed
It’s important to routinely reassess your life insurance needs to understand how much coverage you need and how long you need it for. When it comes time to renew, your life has likely changed. If you have a 20-year term, think how different things are! Your kids may have grown up, you moved, or found a new job.
Chances are extremely slim you will need the same coverage you had earlier, so talk to somebody you trust about your needs.
3. Apply for a new policy if you still need coverage
Now that you know how your needs have changed, you know whether you’ll need to replace all or part of your expiring policy or whether you no longer need coverage and can free up some spare cash. Wouldn’t it be great to put those premiums back in your wallet if you can?
If you still need coverage, buying a new policy will probably be the most affordable option.
4. Make sure your initial policy isn’t renewed
If you’ve ever missed the cancellation date for a one-month “free" trial that automatically rolls into a paid plan, you know how important this step is. Insurance companies are happy to continue collecting premiums from you for as long as they can. That’s why they’ll automatically renew your term insurance policy unless you give them direct instructions to cancel it. And unlike with the gym membership you hardly use anymore, you won’t just be paying the same monthly or annual rate you’re paying right now. You’ll be shelling out money for those astronomically high term life insurance renewal rates. So if you don’t tell your insurance company that you want your policy to expire, you’ll be in for a shock when you get your next bank statement.