What is Life Insurance: Meaning & Comprehensive Guide

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Life insurance is a contract designed to provide financial peace of mind. In exchange for your premium payments, an insurer guarantees to pay a death benefit to your chosen beneficiaries if you pass. Life insurance helps ensure that your loved ones’ economic future is secure, aiding with expenses and maintaining their standard of living.

Key Takeaways

  • Life insurance is a financial safety net providing a tax-free death benefit to beneficiaries, to cover things like living standards, debts, and final expenses after you pass.

  • There are two main types of life insurance policies: term life insurance, which covers a specific period, and permanent life insurance, covering a full lifetime period.

  • Premiums for life insurance are affected by factors like age, health, lifestyle, and occupation, with costs generally lower for younger, healthier folks, and non-smokers.

The basics of life insurance

Life insurance is a contract established between an individual and a life insurance company. This contract provides financial protection to the policyholder’s beneficiaries in the event of the policyholder’s passing.

This arrangement offers them a financial safety net, ensuring that they are taken care of when you’re no longer there to provide for them.

What is life insurance?

At its core, life insurance is a safety net. In exchange for your premiums, the insurance company promises to pay a specified amount, i.e. the death benefit, to your beneficiaries if you die while the policy is in effect. This death benefit can be used to:

  • Replace lost income

  • Maintain living expenses

  • Pay off debts

  • Cover final expenses

Life insurance in Canada

Life insurance in Canada plays a pivotal role in providing financial security for the beneficiaries when the insured person passes away. It’s not just about replacing lost income or paying for your children’s education. It can also pay off your debts, cover your funeral costs, and even help your family maintain the lifestyle they’ve grown accustomed to.

So, what exactly does Canadian life insurance coverage entail? Well, there are two main types: term life insurance and permanent life insurance. Term life insurance offers protection for a specific period, usually between 10 to 30 years. On the other hand, permanent life insurance provides lifelong coverage and has a cash value component. It comes in two forms: whole life insurance and universal life insurance. The key is to understand your financial needs and determine how much life insurance is required to choose a policy that best aligns with your financial protection goals.

Benefits of life insurance

Distinct features characterize the landscape of life insurance in Canada. One of the most significant is the tax-free death benefit, which can be considered a tax free payment. In Canada, life insurance payouts are tax-free lump sums, ensuring that beneficiaries receive the full value of the benefit without reductions due to taxes. This tax-free death benefit can be used for various purposes, like settling a mortgage, supporting education costs, or even funding a comfortable retirement.

Some types of permanent life insurance policies, specifically participating policies, build cash value over time. This cash value is guaranteed as long as the premiums are paid. With permanent insurance, such as guaranteed acceptance life insurance, policyholders can access this cash in several ways, although doing so may reduce the death benefit and lead to potential tax implications.

Additionally, a tax-efficient savings component within the policy is provided by the tax-deferred growth of the cash value in life insurance policies. Dividends earned from these policies can even be used to increase coverage or reduce premiums, offering a flexible benefit to policyholders.

Types of life insurance

When it comes to life insurance, there is no ‘one-size-fits-all’. Different people have different needs, and this is where the various types of life insurance policies come into play.

The two main types are term life insurance, which provides coverage for a specific period, and permanent life insurance, which provides lifelong coverage. The choice between these two largely depends on your needs; whether you require coverage for a specific period or your entire life.

Term life insurance

Term life insurance provides coverage for a specific period or “term”. It’s typically more affordable and can come in various term lengths, making term life insurance policies suitable for both short-term and long-term commitments (like a mortgage or business loan).

If you pass away during the term of the policy, the insurance company will pay out the death benefit to your beneficiaries. However, if you outlive the term, the coverage ends.

Permanent life insurance

Permanent life insurance provides coverage that lasts a lifetime. It includes a cash value component that accumulates over time and can be accessed during your lifetime. Permanent life insurance policies are more expensive than term life insurance.

Key factors affecting life insurance premiums

Your life insurance premiums are influenced by a variety of factors. These include:

  • Your age

  • Your health

  • Your lifestyle

  • Your occupation

As you age, your premiums tend to increase due to higher associated risks. Similarly, if you have pre-existing health conditions or risky lifestyle habits like smoking, you may face higher premiums. Jobs deemed hazardous can also lead to increased life insurance rates.

Age & life insurance cost

Age plays a significant role in determining your life insurance costs. The younger you are when you buy a policy, the lower your premiums will usually be. This is because younger people are generally healthier and less likely to pass away.

Health & lifestyle

Your health and lifestyle choices can significantly impact your life insurance costs. Pre-existing conditions often lead to higher premiums. Meanwhile, lifestyle habits such as smoking, excessive drinking, and participating in high-risk activities can also increase your premiums.


Gender is another key factor that influences life insurance premium rates. Due to longer average life expectancy, women generally pay less for life insurance premiums compared to men.

How to determine your life insurance coverage

Determining how much life insurance coverage you need involves considering your current financial obligations, the future income needs of your dependents, and any final expenses that might arise upon your passing.

These factors can help you estimate the amount of coverage you need to ensure your loved ones’ financial security.

Assessing financial obligations

When determining life insurance coverage needs, it’s important to take into account your current financial obligations. For example:

  • Debts like a mortgage or student loans

  • The value of your current assets

  • Future family expenses

  • The duration of financial support needed by your dependents

Income replacement

Another key aspect of determining life insurance coverage needs is income replacement. It’s generally recommended to secure coverage equal to 5-7 years of your annual net income. This would provide sufficient financial support to your beneficiaries, allowing them to maintain their current lifestyle without financial strain.

Choosing the right life insurance policy

Choosing the right life insurance policy requires careful consideration of a few different factors when buying life insurance. These include the type of policy that suits your needs, the reputation and financial stability of the insurance company, and the affordability of the premiums.

Comparing policy types

When choosing a life insurance policy, comparing different types of policies can be beneficial. While term life insurance may be suitable for those with short-term needs, permanent life insurance might be a better option for those seeking long-term coverage and an investment component. Each type of policy has its unique features, and understanding these can help you make an informed decision.

Evaluating insurance companies

Choosing the right insurance company is as important as choosing the right policy. When evaluating insurance companies, consider the following factors:

  • Financial stability

  • Customer service

  • Reputation

  • Range of products

Reviews and ratings from trusted sources can provide valuable insights into the company’s reliability and the quality of their service.

Application process and qualifying for life insurance

Applying for life insurance involves:

  • Providing personal details

  • Providing medical history

  • Providing financial information

  • Undergoing a medical exam (depending on the insurance company and the type of policy)

The application process also involves assessing your eligibility based on various factors such as age, health, lifestyle, and occupation.

Life & critical illness insurance

For those desiring broader protection, Life & Critical Illness Insurance may be a viable option. This type of insurance combines standard life insurance with coverage for life-altering illnesses such as cancer, stroke, heart attack, and dementia. It offers comprehensive protection for policyholders and their families, helping them cover additional costs not covered by provincial or territorial health plans, including home-care costs, travel, lost wages, childcare, and more.

The primary distinction between critical illness insurance and life insurance lies in the payout timing. Critical illness benefits are paid out during the coping or recovery period from a covered illness, whereas life insurance benefits are disbursed upon the policyholder’s death. The payout from a critical illness insurance policy is typically a lump-sum amount, which, like life insurance, can be used for any purpose, including out-of-pocket expenses and living costs. But remember, the specific illnesses covered by critical illness insurance vary by policy, so it’s crucial to read the fine print and understand your coverage.

Life insurance claim and beneficiary designation

Beneficiary designation forms a crucial aspect of life insurance. It ensures that the death benefit goes to the intended recipient, rather than the insurer’s default beneficiary, the estate. Moreover, policyholders have the flexibility to choose multiple beneficiaries and assign different proportions of the benefits to each, reflecting their wishes for distribution. This is where the payout options come into play.

Beneficiaries have several options on how they wish to receive the death benefit.

Naming a Beneficiary

Naming a beneficiary is a vital part of managing your life insurance policy. This designation ensures that the death benefit is distributed as per your wishes and not by the default assumption that the estate is the beneficiary. You have the flexibility to nominate anyone as your beneficiary – be it a spouse, family member, friend, or even a charity. You can also name multiple beneficiaries and specify the percentage of the death benefit each one will receive.

However, things can get a bit complicated when the beneficiary is a minor or when the beneficiary is named irrevocably. In the case of minors, it’s advisable to set up a trust for managing the proceeds until the child reaches the age of majority. And when dealing with irrevocable beneficiaries, you’ll need their written permission to make any changes to the policy. It’s also wise to name alternate or contingent beneficiaries to ensure the death benefit is passed on as intended if the primary beneficiary is unable to receive it.

Payout Options

After naming the beneficiary and facing an unfortunate event, how does the beneficiary claim the death benefit? In Canada, beneficiaries of life insurance policies have several payout options, including:

  • Receiving a lump sum

  • Installments

  • Annuities

  • Through a retained asset account

Each option has its advantages and potential tax implications. For instance, annuities offer a payout over a set period, with the balance growing at a predetermined interest rate. However, the interest portion received by beneficiaries is taxable income.

Given the complexity and potential tax implications, it’s advisable to consult with an insurance agent or an estate planning attorney to determine the most suitable payout option. Regardless of the chosen option, the primary purpose of the payout is to provide financial support for beneficiaries, covering a range of expenses such as final expenses, mortgage payments, and day-to-day costs.

Life insurance riders and policy modifications

Life insurance policies can be customized to suit your unique needs through riders and policy modifications. Riders are extra features that can be added to your policy for a cost.

There are several common riders that you can add to your life insurance policy. For example, accidental death riders, spousal riders, and child riders.

Updating your policy

Over time, your needs and circumstances may change, and your life insurance policy should evolve with them. Regularly reviewing and updating your policy ensures that it continues to meet your current needs. This could involve updating beneficiary information, adding or removing riders, or even replacing or surrendering your policy.

Frequently Asked Questions

Which life insurance is the best in Canada?

The best life insurance in Canada varies depending on individual needs. Consider insurers like PolicyMe, RBC, Canada Life, CPP, Desjardins, and Empire Life to find the best coverage for your specific situation.

What are the 3 main types of life insurance?

The three main types of life insurance are term life insurance, whole life insurance, and universal life insurance. Each offers different benefits and coverage options, so it's important to carefully consider which type suits your needs best.

Can you cash out life insurance?

Yes, you can cash out a life insurance policy before death if it has accumulated cash value. This can be done through taking out a loan against the policy or by surrendering the policy to access the cash value.

How does life insurance work in Canada?

In Canada, life insurance works by the insured paying a monthly premium to the insurance company. If the insured individual passes away while the policy is in place, the company pays a benefit to the chosen beneficiary, such as a spouse or child. It is essentially a contract for financial protection in the event of death.

How is the cost of life insurance determined?

The cost of life insurance is determined by factors including your age, health status, lifestyle choices, and occupation. These elements help insurance providers assess the level of risk associated with insuring you.

Can I use my life insurance while alive?

Yes, you can access money from your life insurance policy while you're alive, with certain tax implications. When you pass away, your beneficiaries receive a tax-free payment. Keep in mind there are 2 types of permanent insurance: participating life insurance and universal life insurance.

How much is a $500,000 life insurance policy for a 60 year old man?

The average cost of a $500,000 term life insurance policy for a 60-year-old man is typically based on age and the length of the policy.

How much does life insurance cost per month in Canada?

Life insurance in Canada can cost between $15 to $100 per month, with an average cost of $26.55 per month for PolicyMe customers. It's important to consider various factors like age, coverage amount, and term length.

Which life insurance is best in Canada?

The best life insurance companies in Canada are Assumption Life for simplified issues, Beneva for combo coverage, BMO for affordability, Canada Life for financial strength, Canada Protection Plan for non-medical purposes, Desjardins for stability, and Empire Life for personalization. Choose the one that fits your specific needs.

Is it worth buying life insurance in Canada?

Life insurance in Canada is worth buying if you have financial dependents or large debts, such as a mortgage, that you don't want to pass on to your beneficiaries. However, if you have significant wealth or no one depending on your income, it may not be necessary.

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