If having to pay permanent life insurance premiums is not a good fit for your current situation anymore, you may be wondering what to do next.
One option you have, known as extended term insurance, is to turn your policy into a term life plan and then use your cash value to pay the premiums.
In this article, we will discuss what extended term life insurance is, how it works, how it compares to other nonforfeiture options, and help you decide if it is right for you.
If a permanent life insurance policyholder is thinking about ending their coverage, one option their policy might allow is to convert their plan into a term insurance policy and pay the premiums with their cash value account.
However, this option is only available to people who have built up enough cash value in their permanent life insurance plan as determined by their insurance company.
Cash value is a special investment feature in permanent life insurance policies. Policyholders can add additional money to their cash value accounts which is then treated as a tax-deferred investment.
Depending on the terms of the permanent life insurance contract, people can use their cash value in a few ways:
If a person decides to convert their permanent life policy into a term plan, they’ll usually have to figure out what their new coverage and term will be with their insurance company.
Term life insurance is life coverage for a specific length of time. These plans are more affordable than permanent life insurance. However, once the term or period of coverage ends, your contract will be over and you won’t be covered by insurance.
Permanent life insurance has no expiry date and will continue until you die or stop paying your premiums. These plans are generally more expensive than term life insurance.
Depending on the amount of money a policyholder has paid into their cash value account over time, they might be able to keep their level of coverage.
However, in most cases, the coverage amount will be less than what they had with their permanent plan.
Ultimately, you’ll need to discuss this with your insurance broker, agent, or financial advisor to make sure that you are getting the right amount of coverage for the required period of time.
Every life insurance company will use a different method to calculate how much an extended term insurance costs, so it’s important to discuss your options with your insurance company before you make a decision.
Let’s say you have $250,000 in permanent life cover with $35,000 in your cash value account, but you decide that you want to get an extended term life insurance plan instead.
The insurance company will look at the length of time you want to extend your insurance with as a term plan and give you a couple of options on how you can convert your permanent insurance.
Keep in mind that your new coverage will be determined by:
Your insurance company might offer you different options:
Here’s another example to explain how an extended term life insurance policy might look:
Let's say you have a whole life insurance policy with a $500,000 death benefit and $20,000 in cash value.
However, due to a job loss, you can no longer afford to pay the whole life premiums, but you still need the $500,000 death benefit that comes with the policy.
In this case, you can use the extended term insurance feature to keep your $500,000 death benefit. The insurance company will determine how many years your $20,000 of cash value will last, which will be based on:
Let's say that your $20,000 will buy you 12 years of the $500,000 death benefit you have. On the day your extended term insurance plan takes effect, you will then get a $500,000 death benefit for a 12-year period.
You will not have to pay any more premiums for this coverage over the next 22 years. Your $500,000 term life insurance policy will end after 22 years which means your beneficiaries won't get any death benefit money if you die after that period.
An extended term insurance policy might be the right solution if you want to keep your life coverage but can’t afford the costs of a permanent life insurance plan. Let’s cover some of the advantages and downsides of this option.
There are many reasons some people consider taking advantage of a term policy’s extended term insurance option, including:
You keep a death benefit (coverage amount) for longer.
It ensures that you keep some form of life insurance coverage.
It lowers your life insurance expenses per month as your cash value is used to cover the costs of the policy.
Some reasons to not extend life insurance policies include:
You lose the benefits of whole life insurance and can’t use your cash value account anymore.
You won’t be able to convert your new term insurance plan into a permanent plan at a later date.
Now that we’ve covered what an extended term life insurance plan is, let’s look at some of the other options or nonforfeiture clauses a permanent life insurance policyholder has if they want to end their coverage.
A nonforfeiture clause is a feature of a permanent life insurance policy that governs what will happen if a policyholder doesn’t pay their premiums or if their policy lapses.
Unlike term policies, permanent life insurance and long-term care insurance may have nonforfeiture clauses.
Here are some of the nonforfeiture options that permanent life insurance policies can have:
Return a portion of the total premiums paid.
Pay back some of the cash value of the policy.
Give a smaller benefit based on how many premiums were paid before the policy ended.
Permanent life insurance contracts offer policyholders a number of options if they decide to end their coverage or if their policy payments lapse during their grace period.
These options are discussed in the policy’s nonforfeiture clause which basically describes what a policyholder can do once they choose to stop their permanent insurance.
A grace period is the amount of time that a policyholder is given to cover their premiums if they lapse in payments.
The typical length of a grace period can range from 24 hours to 30 days depending on your insurance provider.
For example, let’s say you don’t pay your life insurance premium on the due date of the month. Your insurance company will give you a defined amount of time to pay it before they end your life insurance coverage.
However, if you don't pay your premiums in the grace period, you won't necessarily lose your life insurance. Instead, your cash value will help you through one of the following four options:
You can end your policy and get the cash surrender value paid out to you.
You can choose a paid-up policy. This is when you opt for less coverage for the rest of the policy with no more premium payments.
You can choose an automatic premium loan. This is when you pay the remaining premiums by using the cash value of your policy.
You can take out an extended term life insurance policy for a set term with the cash value you’ve built up. This option requires no more premiums.
Usually, if the policyholder doesn’t pick an option, the terms of the policy will state which option would apply if the policy lapsed or was surrendered.
Let's say you have a whole life or universal life insurance policy but you're currently experiencing cash flow problems. With a nonforfeiture clause, you will still have options available to you if you need to make changes to your life insurance.
Nonforfeiture clauses exist to protect policyholders in case they can't pay their premiums or if they need to cash out their policies prematurely.
On the other hand, it’s also in the interest of life insurance companies to offer long-term clients the ability to change their coverage or adjust it when their financial circumstances call for it.
Extended term life insurance is a good idea if you’re struggling to cover the costs of your permanent life plan and want to keep some form of coverage for the next few years.
If you’re unsure about how extended term life insurance works or if it is the right option for you, head to PolicyScout’s life insurance hub.
We have loads of articles to help you understand all the different costs, enrollment options, plans, and coverage for the many types of life insurance available to you.