Term Life Insurance: Constant Benefit vs. Decreasing Benefit

A handful of people take out life insurance because they like the idea of a friend or good cause receiving a windfall when they die. But for most life insurance policyholders, it’s all about peace of mind.

Many people have children, mortgages, businesses or other financial responsibilities which would suffer in their absence if Joe Black paid a visit. Nobody wants their family to become homeless or even cut back on their standard of living for that matter. Leaving a business partner or cherished employees in a lurch also isn’t everyone’s idea of a good way to go.

But will those responsibilities last a lifetime, or just a time? Will you still need the same amount of life insurance coverage when you mortgage is amortized, your children are grown, you’ve exited your business or your spouse has left you?

This is the most important question to ask yourself because it will make a huge difference in the total cost of getting life insurance. Depending on how you answer that question, you could be better off with a “constant” benefit or a “decreasing” benefit.

Constant life insurance benefit

This is the “classic” variety of term life insurance, and the one that normally comes to mind when someone talks about having life insurance. When your policy has a constant benefit, the insurance company pays out a fixed amount of money to your beneficiary if you die within the insurance term.

Example: You get term life insurance with a constant benefit of CHF 400,000 and an insurance term of 20 years. Exactly 19 years and 11 months after taking out the policy you die of a covered hazard. Your son Ricky – whom you named as your beneficiary – receives the full benefit of CHF 400,000.

Pros:

• You always know exactly how much your policy is worth and how much your beneficiaries will receive if you die during the insurance term.
• The benefit which is paid out is generally much higher than the amount you pay for your insurance in premiums.

Cons:

• Premiums are relatively high because the chances of the insurance company having to pay out a big benefit are high. That makes this an expensive option and subsequently a big financial risk because if you die after the insurance term ends, you’ve spent a lot of money for nothing.

Decreasing life insurance benefit

If you just want to protect your family or business from financial hardship until they are able to take care of themselves, then term life insurance with a decreasing benefit may provide a solution. Instead of paying out the same high benefit whenever you happen to die, the benefit decreases at regular intervals to match your decreasing financial responsibilities.

Example: You get a life insurance policy with a 20 year term to provide for your soon-to-be-born child if you die before they are old enough to stand on their own two feet. You know that your spouse will need an extra CHF 20,000 per year to raise the child without you – or a total of CHF 400,000 over the first 20 years of the kid’s life.

Your benefit starts at CHF 400,000 so that if you die during your kid’s first year of life, your spouse would get CHF 400,000 to cover the costs for the next 20 years. But every year, the benefit shrinks by CHF 20,000 because your spouse needs that much less money to raise the kid every year that passes. If you died on your kid’s 10^th birthday, your spouse would get a benefit of CHF 200,000. If you died on the kid’s 19^th birthday, your spouse would get just CHF 20,000 to cover the last year of expenses before your kid flies the nest.

Pros:

• Low premiums. The cost of decreasing benefit life insurance can be as low as 50%-60% of the cost of constant benefit life insurance – as shown by the moneyland.ch life insurance comparison.
• You only pay for the amount of insurance which you actually need to cover your financial responsibilities.

Cons:

• The chance of your beneficiaries receiving a large benefit decreases as your insurance term progresses. That makes this a poor choice if you want to leave a large windfall as a legacy.
• If you do die late in the insurance term, the benefit paid out may be lower than the total amount which you spent on premiums.

Verdict

If you want to leave a fixed amount of money to a person or cause that you care about, choosing a constant benefit gives you the chance to do that. However, you pay a lot for the privilege in the way of higher premiums.

If all you want is the peace of mind that comes with knowing that your financial bases are covered, decreasing benefit life insurance give you that at a heavily discounted price.

You can easily compare the cost of life insurance with constant and decreasing benefits using the unbiased life insurance comparison on moneyland.ch. Just select either “Constant benefit” or “Decreasing benefit” under “Type of insurance” to find the cost of both types of policies and compare life insurance from different insurance providers.

More on this topic:
Life insurance comparison
Choosing the right life insurance coverage
Life insurance: useful tips
Term life insurance vs. mixed life insurance
Term life insurance in Switzerland: 3a vs. 3b