Reducing payout life insurance offers the best of both worlds
Traditionally life insurance has always been offered to customers as a flat rate deal. If the customer died two weeks into their policy they’d receive the full amount as set out when they took out the policy, and if they died two weeks before the end of their policy twenty five years later, they’d still receive the same amount.
Whilst that sort of policy had been around for years, there were those who argued that it defeated the object of term life insurance. Term life insurance was designed to offers customers protection when they needed it the most, and to look after their financial responsibilities if they were no longer there to do it themselves.
A typical customer would buy life insurance when they bought their first home, for at least the value of their mortgage, and would then add to it if they had children. If that customer died a few years later their mortgage would be roughly the same, as you pay off mostly interest first, and the additional money for the children would help to pay for their upbringing.
That customers financial responsibilities would decrease however as time goes on. As the customer paid off more and more of their mortgage, and their children got older, and nearer to leaving home, the amount of financial responsibility the customer had would fall, yet the risk of them dying would statistically increase in the insurance company’s eyes.
Effectively they’d be paying more for the cover, because of a higher risk of dying, for a level of policy they no longer needed.
That’s why they invented reducing term life insurance, which costs less because of the decrease in risk. At the beginning of a policy, when the customer is younger, the risk of them dying is lower, and their financial responsibilities are greater the amount the policy pays out is high, but as time goes on, that amount the policy would pay out reduces, usually in line with the mortgage reducing and the children needing less financial aid as part of growing up.
By the time there are only a few years left on the policy, many people will have children who have gone to university, and mortgages with just a few thousand pounds left, and the need a hundreds of thousands of pounds worth of cover is gone.