Why Do People Let Their Life Insurance Lapse? 94
The abstract of a new paper published on Journal of Financial Economics: We study aggregate lapsation risk in the life insurance sector. We construct two lapsation risk factors that explain a large fraction of the common variation in lapse rates of the 30 largest life insurance companies. The first is a cyclical factor that is positively correlated with credit spreads and unemployment, while the second factor is a trend factor that correlates with the level of interest rates. Using a novel policy-level database from a large life insurer, we examine the heterogeneity in risk factor exposures based on policy and policyholder characteristics.
Young policyholders with higher health risk in low-income areas are more likely to lapse their policies during economic downturns. We explore the implications for hedging and valuation of life insurance contracts. Ignoring aggregate lapsation risk results in mispricing of life insurance policies. The calibrated model points to overpricing on average. In the cross-section, young, low-income, and high-health risk households face higher effective mark-ups than the old, high-income, and healthy.
Young policyholders with higher health risk in low-income areas are more likely to lapse their policies during economic downturns. We explore the implications for hedging and valuation of life insurance contracts. Ignoring aggregate lapsation risk results in mispricing of life insurance policies. The calibrated model points to overpricing on average. In the cross-section, young, low-income, and high-health risk households face higher effective mark-ups than the old, high-income, and healthy.
Becaue (Score:1)
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According to the Insurance Information Institute, life insurance payouts as a percentage of premiums are quite high. From 2018 - 2022, 73% of all premiums went to payouts or policyholder dividends. 5% went to cash reserves, 7% to commissions, and 9% to administrative costs, licenses, and fees. The remaining 6% was profit for the insurance companies.
So with 78% of payments going to policyholders or cash reserves, that is a pretty high percentage. The US government expects health care to be over 80% for indiv
Re:Becaue (Score:5, Informative)
According to the Insurance Information Institute, life insurance payouts as a percentage of premiums are quite high. From 2018 - 2022, 73% of all premiums went to payouts or policyholder dividends. 5% went to cash reserves, 7% to commissions, and 9% to administrative costs, licenses, and fees. The remaining 6% was profit for the insurance companies.
So with 78% of payments going to policyholders or cash reserves, that is a pretty high percentage.
Is it? It means the average net loss from life insurance is 22% on average. Sounds like a poor investment compared to... well pretty much any investment.
Given that they collect monthly/yearly payments and pay only when someone dies, administrative fees should be minimal. Credit cards can do it for ~1-3% fee. I don't see why it should be 7-22x for life insurance.
I will say it: 7% commissions and 9% administrative cost is huge.
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It's not an investment. It's a risk hedging strategy.
As to why the administrative cost is so huge... Thank your elected officials for all of the rules that insurance companies have to abide by.
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Well it's not an investment so there's that.
It is if you don't need it.
When I was young, I had no life insurance because I had no dependents. Instead, I invested the money I would've spent on premiums.
When I later had dependents, I had enough in savings so they'd be ok if I was run over by a bus. So, I continued to buy no life insurance and continued to save.
I carry the absolute legal minimum insurance on my vehicle. Professionals at the insurance companies have calculated my risk and will charge me more. So, in the long run, I win by absorbing the r
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So, in the long run, I win by absorbing the risk myself.
A single individual doesn't get a "long run", at least in actuarial terms.
Re: Becaue (Score:2)
You win until you experience 1 time risk.
In CA the minimum liability coverage is $15k. That is ridiculously low. If you're ever at fault for practically anything, you're going to exceed that. God forbid you hit someone wealthy and they become disabled as a result. Millions of dollars worth of index funds might be drained as a result. Or your house.
I go with the high limits, including Umbrella, because this is a risk I just cannot affors to self-insure against.
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I will say it: 7% commissions and 9% administrative cost is huge.
Average commission as a percentage of sales across all industries is 20-30%. This is not just a single salesperson receiving this commission, you could have account executives, sales development reps, account managers, sales directors, etc. all getting a piece of that commission percentage. So life insurance apparently pays fairly low from a commission perspective.
It appears the reason for this is life insurance agents receive a very high commission rate in the first year (30-90%) but then get only 3-10% af
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Average commission as a percentage of sales across all industries is 20-30%.
Insurance should be well below average. Just like cars or homes, you can't expect a 20-30% commission, nobody would accept that. But unlike physical goods, there is no inventory to keep, only money to move. Insurance fees should be comparable to bank/credit card/forex fees. 0.1-3% sounds about right. More than that, you are just paying for crappy salesmen going from door to door trying to sell you crappy products. They don't care if 99% of people don't buy. They need just one sale per day or per week and it
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6% of the premium revenues was profit, but that doesn't account for all of their profits. Most people don't realize that insurance companies are investment companies: they're taking in premiums to invest in stocks and money markets which is where they make most of their money.
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The US government expects health care to be over 80% for individual insurance ...
Not just expects, it's written into the ACA. From Medical Loss Ratio [cms.gov] (and other sources):
The Affordable Care Act requires insurance companies to spend at least 80% or 85% of premium dollars on medical care, with the rate review provisions imposing tighter limits on health insurance rate increases. If an issuer fails to meet the applicable MLR standard in any given year, as of 2012, the issuer is required to provide a rebate to its customers.
I gotten a few of those rebates over the years for a couple hundred dollars each.
That leaves 15-20% for administrative costs (and other, like advertising). For comparison, the administrative costs for Medicare is 2-5% (usually closer to 2) -- for Social Security it's less than 2%. (Noting that comparing private and public program costs to each other can be tricky.)
Depends on when the underwriting occurs (Score:3)
All insurance is a scam. You pay an you pay, and when you clam they find a way to avoid paying!
Depends on when the underwriting of your policy actually happens - if it's at time of death[1], then they'll usually try to deny on anything they can find in the autopsy, even if unrelated to the actual direct cause of death, usually claiming they wouldn't have insured you if you had had that 'anything' at the time you applied.
If the underwriting happens when you apply (usually requiring some medical exam to some degree), then it's more of a guarantee it'll get paid out when they approve your application (u
Small correction: (Score:2)
it's more of a guarantee it'll paid out when they approve your application
That is to say, you're guaranteed a payout at death, once your application is approved (and in some jurisdictions, delivered personally to ensure you're still well when you get the policy).
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Re:Becaue (Score:4, Insightful)
Life insurance can be weird (Score:5, Informative)
While true for most insurances, life insurance can be a weird thing. Yes, life insurance can literally pay out more than it takes in. To know how takes a bit of a primer.
First, you have two major types of life insurance: Whole and Term.
Term life insurance is like car or house insurance - It covers a period of time, the term, and you're done.
Whole life insurance is insurance that you expect to have until you die.
What is actually going on with whole life insurance is that it's actually term life insurance plus an investment portion.
So let's say you get a $100k whole life insurance policy. After like 10 years, while you get a combined bill, in the insurance company's records, they've saved up $20k for when you eventually die, and they're only doing an $80k term policy now. Note the phrase "saved up".
Eventually they have $100k invested, at which point a number of things can happen, depending on how good of a company and contract you got. This can range from them still charging you premiums (bad!) to your premiums stopping, they'll pay out the $100k when you die, to even paying you $100k if you reach, say, 70 years old and haven't died yet.
The latter used to be pretty common when saving for retirement was very difficult, you had to be pretty wealthy to invest in the stock market, etc...
You'd buy a whole life insurance policy that paid out when you were 65 or so, and use that to retire on.
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Crap, forgot to bring it back around:
Because they're investing the money you're paying them, they can indeed pay out more than the raw amount you invested, because there may be 30-40 years of interest/returns in there.
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First, you have two major types of life insurance: Whole and Term. Term life insurance is like car or house insurance - It covers a period of time, the term, and you're done. Whole life insurance is insurance that you expect to have until you die.
Good summary, thanks.
When my wife and I discussed it, our attitude was life insurance was there to protect us from income loss should the primary earner (me) were to die early. Plus to cover costs for unpaid work each of us did in the marriage. Really it was to make sure my wife had enough cash to keep raising our kids until there were in college.
Now that the littles are in grad school and we've got enough saved to retire if we need to, we don't see the point of life insurance. What risk am we protecting ou
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Now that the littles are in grad school and we've got enough saved to retire if we need to, we don't see the point of life insurance. What risk am we protecting ourselves from? I wonder if the paper addresses that scenario.
That's a good question. The general answer would be that it doesn't until your estate becomes large enough to be taxable - then the insurance policy makes sense again because life insurance payouts are to the individual, not the estate, because they aren't in the estate, that's less taxes you have to pay, even if you end up paying out a bit more in premiums for the life insurance, you save more than that in taxes.
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The general answer would be that it doesn't until your estate becomes large enough to be taxable - then the insurance policy makes sense again because life insurance payouts are to the individual, not the estate, because they aren't in the estate, that's less taxes you have to pay, even if you end up paying out a bit more in premiums for the life insurance, you save more than that in taxes.
Interesting. Thank you for your explanations! This actually is causing me to consider putting more into my life insurance and less into my 401k (I expect I'll be leaving a good chunk of money to my beneficiaries).
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Just be aware that "large enough to be taxed" is multiple millions. So you're probably still better off sticking with the 401k for the moment.
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In the united states, in 2024, 'large enough to be taxable' is $13.61 Million to a single beneficiary. If you have $20 Million and you are splitting it evenly between two people, it's still not taxable.
Each year you can gift some amount of money to any other person without even having to report it. In 2023 that amount was $17,000. If you give more than that, you must report it on your taxes, but until you hit the lifetime cap for gifts above the $17,000/year annual exclusion, no actual taxes are owed.
ht [schwab.com]
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Its worth noting "whole life" isnt actually very common any more universal-life is and those contracts can be structured a lot of ways. There are lot really good tricks you can do with life insurance.
People still do what you suggest in your final model; where its essentially a savings vehicle for retirement. It can be a damn good one too.
If you are lucky enough to be in the situation where you are maxing out IRAs and the like;
it can provide an additional tax shelter.
It will have generally have an immediate
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Its worth noting "whole life" isnt actually very common any more universal-life is and those contracts can be structured a lot of ways. There are lot really good tricks you can do with life insurance.
True, I was going for a short summary though. A really good insurance policy will be flexible like you say.
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No, term life insurance is the most common these days because, at least initially, it's the cheapest option.
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The insurance company generates investment returns on the premiums. If you think insurance is about some gamble they'll collect more premium than deliver in benefits you don't understand how any of it works
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This is why ZIRP and its evisceration of the bond market has made insurance prices skyrocket.
The Fed exists only to transfer wealth from the poor to the rich. Giant fucking scam.
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You don't actually want a payout. Do you not understand the point of insurance?
This is life insurance, not health insurance. You absolutely do want a payout, it's just that the money will go to whomever you leave behind.
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How on earth would it pay out more than it takes in? That's impossible. You don't actually want a payout. Do you not understand the point of insurance?
Some insurance sectors don't make their profits on premiums. They make money by investing premium income somewhere else, and that money puts them in the black. This is especially the case in the reinsurance market.
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Term vs Whole life insurance (Score:3)
It's a fucking scam? The life insurance company exists to make money. That requires paying out less than they take in.
Perhaps you are conflating term life insurance and whole life insurance. And even there, you are over generalizing.
Term life insurance is simple: you pay periodically and if you die they pay out. This not only isn't a scam, it's a sound idea for earners with dependents.
In whole life insurance, you pay a little more periodically and if you die they pay out. If at the end date (ie age 65) if you are still alive, you get a different pay out. This isn't inherently a scam either, but there are two problem
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It's a fucking scam? The life insurance company exists to make money.
LOL. Guess what, every business in existence exists to make money. Every person in the world who has a job, works to make money.
Welcome to the adult world.
They died (Score:2)
Could be one reason. The life insurance company won't die to find that out.
No one is going to profit from their death (Score:2)
It's by design. (Score:2)
Basically kicking out insured people before they can collect...
It's just the tip of the iceberg.
https://www.huffpost.com/entry... [huffpost.com]
Did someone really study this? (Score:5, Insightful)
You buy life insurance when you have financial obligations that you want to provide for if you die.
You stop buying it when your situation changes.
There, is that so complicated?
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Obligations generally diminish over time (Score:1)
Once you have financial obligations you want to provide for after your death, those don't tend to go away before you do.
The obligations do not, but if you save money at some point you are likely to have enough saved to more than take care of any remaining obligations...
Also over time as people age the obligations generally reduce; my mortgage now is smaller than it was a decade ago. Since for most people the mortgage is probably the largest obligation they have, I would argue it does mostly diminish or go
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Exactly.
I currently have life insurance, but I am considering cancelling it as I have plenty of assets, few dependents and the cost keeps going up.
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They appear to be studying it to identify if life insurance premiums are being overpriced for some subsets of the population. The research abstract identifies young policyholders in low income areas as a group who is being charged too much when compared to their expected future payouts. This is useful information for both insurance companies and government regulators.
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But you've also got to trust that they'll live up to the agreement. When that doesn't happen WRT one insurance policy, one is quite likely to distrust all the others as being worthwhile.
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You stop buying it when your situation changes.?
When you generalise everything you cease understanding anything. The study here looks at *what* situational changes cause a lapse in life insurance. Can you answer that? No didn't think so.
Analogy: I could write "People on Slashdot make posts". But that is a pointless statement which doesn't help us understand that some people make smart and intelligent posts, while others make the post you made.
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This. (Score:2)
I bought extra life insurance when we had kids. Enough to pay off the mortgage and make sure my wife wouldn't have to work part-time until the kids were in school, and wouldn't have to work full-time until they were in middle school. And enough to cover some of the costs of college.
When the kids grew up and we paid off the mortgage, we dropped the extra life insurance. What I got from my job was enough to cover the rest of college.
Now that I'm retired, there's no income to replace, so no need for insuran
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Exactly,
Early in career when you have a moderate or high income (if lucky) you don't have assets to fall back to if you lose the ability to work. It is not only about your family left behind, it could be yourself left in a wheelchair or coma.
However mid-career you either have those assets, or your company already provides a cheaper life insurance option (or sometimes even free) for 2x you salary for 10 years, or similar terms.
Then you don't need that personal life insurance anymore.
It is simple.
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Exactly,
Early in career when you have a moderate or high income (if lucky) you don't have assets to fall back to if you lose the ability to work. It is not only about your family left behind, it could be yourself left in a wheelchair or coma.
That's covered by long-term disability insurance, not life insurance.
Money (Score:3)
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When it costs $1200/mo to rent a studio apartment in Oklahoma, betting against yourself for bills that won't affect you anyway seems really low on the list of things to spend money on compared to food, clothes, shelter, a bicycle and a transit card, and some means not to go nucking futs.
I wonder if it costs that much in Okie cuz all the folks moved there to WFH in a lower cost environment?
I have been to Okie many times, OKC & Tulsa both along with some rural parts and all on business. If I want the Sun & Surf I can always fly to Cali or Florida, enoj it and do some WFH remotely ;)))
Yeah, If I was pulling down Big Benjamins I would want to consider living some place where my folding green goes farther, leaving me more at the end of the month for the nice things in life.
And if lots o
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No, it's price fixing on a nationwide scale [propublica.org]. Cox and AT&T are so slow and expensive here that there's third world countries with faster internet cheaper than in Tulsa, which itself is a city of 400,000 in a metropolis of a million. Fortunately the law might finally catch up to this [ctpublic.org].
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No, it's price fixing on a nationwide scale [propublica.org]. Cox and AT&T are so slow and expensive here that there's third world countries with faster internet cheaper than in Tulsa, which itself is a city of 400,000 in a metropolis of a million. Fortunately the law might finally catch up to this [ctpublic.org].
Same here, which is why Utrecht's looking really nice right now. Higher takehome wages and more vacation time for the work I do, and a lower cost of living than anywhere in Oklahoma that has jobs, plus I could stop spending $10k a year on a car, which would help with having nice things like being able to retire or go attend a furry convention without having to worry about not having time off to get sick or visit family. Tired of living like a fucking automoton because we don't regulate markets and employers effectively. Sad thing is there's nothing that The Netherlands is doing that the US can't, they learned it from us. We just regressed as a country under decades of Republican austerity dragging us backwards.
Those article links are interesting.
I am an indirect landlord myself, legally allowed to manage properties for an old & infirm member of the family that actually owns them. Over the past 2 years I have increased the rents within the limits of the local law (not rent control like NYC, but it keeps rents from skyrocketing in a market where they easily could due to lack of build-able land).
Yet when I examine the rents of similar properties, all on the same 150 meter long street, I find my rents are STILL B
Better Reasons... (Score:2)
Life Insurance is necessary when you are young and have young kids at home (if you worry about their care if you die). When the kids grow up and leave home to start their own lives, the life insurance isn't as necessary, especially if the spouse has their own career.
It can be used to transfer wealth to your dependents, but they take such a tax hit this way. There are better vehicles for transferring wealth to dependents.
As you get older, life insurance is less important than long term care insurance.
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Better be VERY certain that "long term care" policy has a carrier that has a VERY good reputation.
"Young policyholders" (Score:2)
You get life insurance for the purpose of paying for your funeral and giving your spouse/kids enough money to get by while getting on their feet in your absence. If you don't have a spouse or kids you don't really need it. Get cremated cheaply and everyone else moves on.
Scam! (Score:3)
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Were insurance properly regulated, it would be an excellent device for risk spreading. As it is, however....
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Maybe they figured out that Life Insurance is a scam.
What's scammy about it? As long as it pays out when you die and meets the contractual terms it is not a scam. Maybe the situation of the contract is not a good decision given your life situation, but that doesn't make its existence a scam.
I am 64 (Score:2)
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$500 a month? You'd be better off putting that money into the S&P 500.
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He doesn't say if it's whole life, annuity or what but abandoning a policy at 65 and starting over at $500 is a gamble.
But so is assuming that the unguaranteed policies will still exist in 20 years.
Now, if you're 40 and thinking about it, run away.
Low Value Offering (Score:2)
Life insurance is a low value offer for many, and it's value is inversely proportional to wealth. Term life policies are especially low value compared to whole life. As I got older, I dropped my term policies as they became more expensive, and kept my whole life as dividends now pay the premiums almost entirely. Younger policy owners have different priorities than older people in many cases. The choice between life insurance and rent/mortgage, car payment, and other household expensed or life insurance for
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While this is true, whole life policy dividends offer a much lower return on investment, than things like IRS invested in mutual funds, or paying off your home mortgage (thus creating a nest egg for yourself). So you are right, these policies offer low value compared to other investments.
Couple of Theories (Score:2, Insightful)
Because they got fired?
Or perhaps its because a box of Corn Flakes is $9 (cost to manufacture: 12 cents).
Or perhaps its because the state has a permanent lien on everything you own in the form of property taxes and vehicle registration. Financial gravity is like the sea: always pulling you down towards homelessness and ruin. It's only a matter of how long you can tread water before you grow too tired.
Rent is forever. The only land that isn't taxed until seized is the grave.
You already own nothing. The reaso
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I'm curious, where do you live that a box of Corn Flakes is $9? Here in expensive Boston MA it's $4.50 at Market Basket.
I don't know who that was, but here in the suburbs of Washington, D.C. an 18 oz box of corn flakes is $9.19 at Giant (which for you Bostonians is Stop & Shop - in fact it's the same company now).
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Is that really all you got out of my comment?
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Oh I see. So if Corn Flakes are less expensive for you, vehicle registration and property taxes are fictional. Got it.
They paid their mortgage (Score:2)
All insurance is a con, you pay upfront and get nothing in return, if you do make a claim you are effectively given a loan that they will have you repay through higher premiums after a claim.
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It's not a con. You're paying to get rid of a risk. Do you need that? In most cases, no. In some cases you do. My car is insured - if I hit someone I could be on the hook for millions, even if it wasn't legally required. My house is insured - if it burns down there's no way I could afford to pay the mortgage off and then buy another house. My life isn't insured - I have no dependents and if I'm dead I don't need money. Nor is my phone, washing machine, TV etc - if they break I'll just buy another one.
Basica
So people who can't afford it drop it... (Score:2)
Young policyholders with higher health risk in low-income areas are more likely to lapse their policies during economic downturns.
So young policyholders (those starting their careers and earning less) with higher health risk (much higher premiums) in low-income areas (again earning less) are more likely to lapse (can no longer afford) their policies during economic downturns (spouse lost their job, hours reduced, etc).
So those who can't pay their premiums lapse their policy. Not exactly surprising.
Dependents (Score:2)
When you have a young family, life insurance is a hedge against your family not being able to make it financially if you perish unexpectedly. When you get older, you can look at the policy as being an inheritance... or, you can say, "You children are adults now. Fend for yourself." Then the money going to premiums stops. While you do lose "something" with the cessation of the policy, it's something after you are dead. Discontinuing the policy may be the rational choice to make.
Possible solution (Score:1)
Maybe states can pass a law that one doesn't completely lose insurance benefits if they stop paying.
More like WIFE insurance, amirite? (Score:2)
Why bother? (Score:3)
I detest life-insurance agents: they always argue that I shall some day die, which is not so.
-- Stephen Leacock
The Usual Reason (Score:2)
Why would someone let their life insurance lapse?
Well, same reason they let their house insurance lapse; that's pretty common. A friend's brother's house burned to the ground a couple weeks ago. Insurance lapsed years and years ago, apparently. He is older and retired. What's he going to do? We have no fucking clue.
People would let their car insurance lapse if the state Government were not actively monitoring it. And indeed, lots of people do. Because the cops don't happen to catch them and pull them over.
It serves a purpose for a while. (Score:1)
Limited payment whole life. (Score:2)
My Life Insurance (Score:2)
When my wife was pregnant with our first child, I bought a combination of term life insurance (relative low cost) and whole life insurance (high cost). I wanted my wife to have a financial cushion if I died, where she would not have to work full time. After the baby was born, I bought a combination of whole and term insurance on my wife, to help pay the cost of child care and housekeeping if my wife died. I repeated all this with our second child.
Later, when I was earning a good income, I converted all t
Term Life Insurance Is Gambling Against Yourself (Score:1)