What is life insurance?

If you’ve ever asked yourself the question, What is life insurance?, then read on to find out some of the things worth knowing before taking out cover.

Life insurance explained

Life insurance, also sometimes known as life cover, is a policy that provides a lump-sum payment to your loved ones if you die during the policy term. It can provide them with financial stability and peace of mind about paying necessary expenses like a mortgage or childcare. The payout could also be used to cover the cost of your funeral, if you haven’t made separate financial arrangements for that.

You can choose the amount of cover you need and the time period you need it for. You’ll also have other options, such as single or joint policies.

Do I need life insurance?

Whether or not you need life insurance will depend on who relies upon your income and what assets you have. If you have a partner, they may struggle to cover the mortgage payments on their own once you’re gone, so life insurance could enable them to stay in the family home without having to downsize or move. Equally, if you have children, your partner or spouse will be able to continue to provide for them with fewer financial worries.

When deciding whether or not you need life insurance, think about whether your family could manage if you were no longer there and bringing in your salary. This will be particularly important for young couples, homeowners or those with young families. Once you’re retired, you are likely to have fewer dependants, but you may still want life insurance to protect your partner.

Understanding the different types of life insurance

There are various types of life insurance, and it’s important to decide which one is right for you before you take out cover.

Whole of life insurance vs. term insurance

One of the most importance distinctions to understand when considering life insurance is the difference between a whole of life, or whole life insurance policy, and a term insurance policy.

What is whole of life insurance?

Whole of life insurance does what it says - it covers you for the duration of your life, as long as you continue to pay the premium with no missed payments. Due to this whole of life policies tend to cost more than term insurance.

A whole of life policy might be suitable for you if you have a lifetime mortgage (sometimes known as an equity release mortgage), or you want to cover the costs of your funeral.

What is term insurance?

Unlike whole of life insurance that covers you until you die, a term insurance policy runs for a set amount of time (for example 10 or 20 years, or until your mortgage is due to be paid off). You can determine the time period. It is worth noting that when term insurance runs out, you will need to take out a new policy if you still wish to be insured. As you will be older than when you took out the first policy, the premiums will likely increase. You might even find it difficult to get cover at all.

Death in service

Death in service has some benefits that are similar to life insurance, but there are some important differences. Unlike a life insurance policy, which you arrange yourself, a death in service benefit comes from an employer.

What is death in service?

Death in service is a type of benefit offered by some employers that results in a lump sum being paid should you die while on their payroll. It’s an extra measure of financial cover that will help your family after you’re gone, perhaps helping them to pay off some of the mortgage or assisting them with household bills.

The amount a nominated beneficiary will receive may vary, but it’s usually a multiple of your current salary. For instance, should you earn £30,000 a year, a death in service payment of four times your salary would be £120,000. You can choose one or multiple beneficiaries and decide what percentage they each would get. For example, you could choose to give your spouse 50% and your two children 25% each.

There is no legal requirement for employers to provide a death in service benefit.

What’s the difference between death in service and life insurance?

Death in service is something that can be provided by your employer and will result in a set lump sum payment based on your salary. A life insurance policy needs to be taken out and paid for by you, but will also result in a final lump sum payment to your loved ones when you pass away.

Death in service won’t follow you to another employer and doesn’t offer the flexibility provided by life insurance, nor does it usually offer the same level of cover.

Read more in our article 'Death in service benefit and life insurance: What is the difference?'

Mortgage insurance

Mortgage life insurance is there to specifically pay off your mortgage should you die during the policy term. The most popular form of this type of insurance is decreasing term.

What is decreasing term life insurance?

Decreasing term life insurance is a policy where the total payout reduces over time as you gradually pay off your mortgage. The idea is that, when you pass away, the lump sum your family would receive is enough to pay off the mortgage, with little left over for anything else.

What’s the difference between level term and decreasing term?

A level term policy, also known as term insurance, will result in a lump sum payout that doesn’t change over time. While these kinds of policies can be more expensive, the payout to your family could cover more than just the mortgage, potentially providing more financial stability for your loved ones.

The amount you are covered for on a decreasing life insurance policy will reduce over time, typically in line with the outstanding balance on a capital repayment mortgage. It means that, should the worst happen, your mortgage can at least be paid off in full, allowing your family to continue to live in their home.

For more information read our article Do I need life insurance for a mortgage?

Key life insurance takeaways

We’ve covered a lot of information in this article, so we’ve summarised some of the main points for you to consider:

• Life insurance provides a lump sum payment to your family upon your death
• It is important if you have a spouse/partner, or a family who you want to care for
• Whole of life insurance lasts for the duration of your lifetime with no rise in premiums
• Term life insurance runs out after a certain number of years
• Death in service is a benefit offered by some employers. It results in a lump sum payment to your loved ones
• Mortgage insurance provides a payout to cover your mortgage. For this reason, the potential lump sum reduces over time as you pay off your mortgage. This cover is also known as decreasing life insurance.

How much life insurance might you need?

When taking out life insurance, the first thing to consider is what the payout should be, and if it will be enough to help your family and dependants. There are other things to consider, including lifestyle, age and health. To get an idea of the payout you might be able to leave behind, take a look at our life insurance calculator.