Life Insurance Terms You Should Know

Understanding the fine print matters. Here’s a breakdown of key terms and clauses commonly found in life insurance policies, explained in plain English.

1. Incontestability Clause: Prevents the insurer from voiding the policy after a set period (usually 2 years), unless fraud is proven.
2. Grace Period: A 30 or 31 day window after a missed payment where the policy remains active before lapsing.
3. Modified Endowment Contract (MEC): An overfunded life policy that loses tax advantages and behaves like an investment.
4. Illustration: A non-guaranteed projection showing how a policy might perform over time, based on current assumptions.
5. Free-Look Period: A 10-30 day period where a new policy can be canceled for a full refund, no questions asked.
6. Contestability Period: The first 2 years of a policy where claims can be denied due to misrepresentation or fraud.
7. Nonforfeiture Options: Choices available if you stop paying premiums:
   • Cash Surrender Value
   • Reduced Paid-Up Insurance
   • Extended Term Insurance
8. Level Term vs. Decreasing Term:
   Level Term: Death benefit stays the same.
   Decreasing Term: Death benefit declines over time (e.g., mortgage protection).
9. Accelerated Death Benefit: Access part of the death benefit early if diagnosed with a terminal illness.
10. Per Stirpes vs. Per Capita:
    • Per Stirpes: Passes benefits to a deceased beneficiary’s children.
    • Per Capita: Splits benefits only among surviving beneficiaries.
11. Cost of Insurance (COI): The amount deducted to cover the death benefit—it increases as you age.
12. Surrender Charge: A fee for canceling a policy early, used to recover upfront costs.
13. Loan Provision: Allows you to borrow from your policy’s cash value. Unpaid loans reduce the death benefit.
14. Dividends (Participating Policy): Refund of premiums from mutual insurers, usable for paid-up additions, premium reduction, or cash.
15. Waiver of Premium Rider: Waives your premium if you become disabled, keeping the policy in force.
16. Reinstatement Clause: Lets you reactivate a lapsed policy (usually within 3-5 years) if you pay missed premiums + interest.
17. Collateral Assignment: Assigns policy value to a lender as loan security. The lender gets paid first upon a claim.
18. Indemnity vs. Reimbursement Plans:
    • Indemnity: Pays a fixed amount for services.
    • Reimbursement: Covers actual costs up to a limit.
19. Elimination Period: Waiting period before benefits begin (common in disability or LTC policies). Longer periods mean lower premiums.
20. Guaranteed Insurability Rider: Lets you buy more coverage later without a medical exam.
21. Joint Life / Survivorship Policy:
    • First-to-die: Pays on the first death.
    • Second-to-die: Pays after both insureds pass (used in estate planning).
22. Indexed Universal Life (IUL): A permanent policy tied to market index performance, with caps and floors for safe growth.
23. CVAT vs. GPT: Two IRS tests (Cash Value Accumulation vs. Guideline Premium) that determine if a policy qualifies as life insurance or becomes taxable.
24. Rescission: The cancellation of a policy due to fraud or misrepresentation, typically within the contestability period.
25. Backdating (Saving Age): Allows a policy to be issued with an earlier effective date to lock in a younger age and lower premium.