Return of premium life insurance, also known as ROP life, is a type of term policy that refunds all your premiums at the end of the term period if you are still alive.
If you do not outlive the term, whether it is 10, 20 or 30 years, your beneficiaries will be paid out the death benefit. However, this “free” life insurance coverage costs an average 30% to 50% more than a traditional term life policy.
There are many types of life insurance policies available to you in the marketplace, and each company you research will specialize in certain kinds. You may have already heard about term, whole, and universal life insurance, but what about custom policies and riders?
Learn more about the pros and cons of return of premium term life insurance to determine whether the higher premiums are worth the advantages.
What Return of Premium Life Insurance Really Is…
As we mentioned, if you were to die during the term of the life insurance policy, ROP life insurance companies would pay your family the death benefit amount you purchased.
On the other hand, if you were to make all your payments and live through the entire term of the policy, the company would refund you the amount you paid in premiums.
This means that if you paid $25,000 in premiums over the life of a 30-year policy, you would receive a lump sum payment of $25,000 in the end, and the refund is not taxable.
Many people often complain that paying for term life insurance is like throwing away money because you can never recoup the payments that you made. This life insurance offers a solution for that.
Reasons To Buy A Return of Premium Rider
- Consumers believe they will outlive the policy
- Consumers want to recoup their investment instead of paying premiums and receiving no benefits
- Their family will get a lump sum payment either way – whether they live or die.
- Both payouts are not taxable.
How Does Return of Premium Work?
Return of premium life insurance works by increasing the premium amount that you need to pay. Your insurance company will invest the money while you have the policy, earn an excess return on your higher premiums, and then be able to return the exact amount that you paid at the end of the policy.
While you do receive the money back, it is important to realize that the amount is not adjusted for inflation, does not include accrued interest, and you may not end up with as much value as you originally thought. This is because of the time value of money and the negative eroding effects of inflation over a period of time.
Is A Return of Premium Rider Worth It?
When you take into consideration the increased cost of premiums, and the amount that you could earn in returns by investing the difference in the stock market, you will find that, in most cases, the increased cost is not worth it. It all depends on the rate of return you receive over the term period.
For example, let’s assume you are a 30-year old in excellent health and looking for a 30-year term life insurance policy with a $1,000,000 face value.
Traditional term coverage may cost $700 per year, or $21,000 in premiums over the life of the policy. Let’s say the average mark-up for a ROP policy is 50%, although the cost can go up to 3x as much. The return of premium rider would cost $1,050 per year, or $31,500 in premiums over the life of the policy.
- If you invest the difference and earn an average of 6%, you will have accumulated approximately $30,000 in investment returns. Minus the term life premiums of $21,000, and your net is $9,000 versus the $31,500 refund with ROP. You would be better off with the return of premium rider.
- If you invest the difference and earn an average of 8%, you will have accrued around $43,000 in investment income. Minus the traditional premiums of $21,000, and your net is $22,000 versus the $31,500 refund with ROP. You would be better off with a return of premium.
- Finally, if you invest the difference and earn an average of 10%, you will have about $63,000 in gains. Subtract your premiums of $21,000, and your net is $42,000 versus the $31,500 refund with ROP. At this rate of return, your traditional term life policy would yield a better investment.
Note that, in the last 100 years, the stock market has returned over 9% per year. With an average return of 9%, both term and ROP life insurance would return the same amount over a 30 year period.
Just remember that these figures are based on the assumption that your return of premium policy is only 50% more – as the difference in price increases, traditional term life insurance becomes a better value.
Pros and Cons of Return of Premium Life
When researching and comparing policies, it is important to understand the pros and cons of return of premium life insurance.
- The low cost and flexibility of traditional term life insurance.
- With ROP life insurance, you get the benefits of term life, plus the ability to get a refund of your premiums. This may be a great investment for someone who would normally feel like he is wasting money on a life insurance policy that may never pay out, while still giving his family the financial protection they would need in the event of his untimely death.
- The lump sum payout is not taxed. Learn more about life insurance and taxes.
- Return of premium acts like a forced savings account.
- Return of premium costs more than traditional term life insurance. For young and healthy applicants, the cost difference may be 10% to 20%. However, ROP premiums are typically 30% to 3 times more than term life rates. A ROP rider quickly negates term life insurance as the cheapest type of coverage available.
- The higher cost can affect how much life insurance you can afford to purchase. You may be better off buying term insurance that will allow you to purchase all of the coverage that you currently need.
- If you cancel your policy or fail to make payments before the term expires, you may not get any refund at all. Policies differ between providers, so consult your life insurance company regarding the details of their coverage.
- If you are a savvy or knowledgeable investor, you can often earn more by investing the difference in premiums between ROP and traditional term life. If you can earn a decent rate of return, your investment may be worth more than the lump sum refund you would receive.
- Return of premium insurance may not be available in all states.
How To Buy A Return of Premium Life Insurance Policy
If you decide that you want to buy term life with a ROP rider, then you need to consider several factors before you purchase a policy.
First, you will need to compare the premiums on each of the policies. Life insurance rates vary significantly between companies and depending on your current age, health, risk profile, term period, and death benefit amount, certain types of life insurance might be more affordable.
Another factor to review is the payout amount if you were to cancel your life insurance early. Some policies will not return any of the premiums that you have paid if you cancel early, while others will refund a percentage after a certain number of years.
Finally, consumers should always research extensively and compare life insurance quotes to avoid buyer’s remorse. Life insurance is a long term investment and commitment, so be sure you are buying the right policy for you and your family’s financial needs.