Return of Premium Life Insurance Policies and Riders

Return of Premium Life Insurance Policies and Riders

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"Return of premium" life insurance, also called ROP insurance, typically refers to a term policy that pays back the money you spent on premiums if you outlive the term of coverage. The cost of a return of premium term policy is significantly higher than a standard term policy with the same coverage limits. But since you get your money back if you don't pass away, the greater cost isn't necessarily bad unless you're concerned about your health or can't afford the higher premiums.

You should also consider whether you would be able to get a better return by saving and investing the additional money spent for a return of premium policy, as opposed to a standard term policy.

What is return of premium term life insurance?

A ROP term life insurance policy is similar to a traditional term policy: you purchase coverage for a certain number of years, with a policy term of typically 20 or 30 years, and if you die while the policy is in force, your beneficiaries receive the policy's death benefit.

The key difference is that with a traditional term policy, if you don't die during the policy term, you would receive no payout after the policy has ended. With a return of premium policy, if you don't die during the term, you would receive a check from the insurer paying back to you the sum of premiums you had paid.

Most return of premium term life insurance plans have level premiums, meaning they don't increase over the initial term length. However, they include the option to renew annually after that period of time, though the cost increases each year. A return of premium individual term life insurance policy can be structured in one of two ways that both work the same, but which option you'll be given depends on your insurer:

  • As a term life insurance policy to which you add a return of premium rider.
  • As a return of premium policy, which doesn't require an additional rider.

No matter how your ROP life insurance is structured, your premiums will be significantly higher than they would be for a basic term policy with the same death benefit. But, since you receive the total amount of premiums paid back at the end of the term, you would receive that additional money cash back as well. And in most cases, you receive the money back tax free, since the payout doesn't exceed what you've paid in premiums.

However, the cost of any additional riders added to the life insurance policy and certain fees may not be included in the payout at the end of the term. We recommend you review the policy's specifics in order to understand how much money you'd get back.

Return of premium term insurance with cash value

Some return of premium life insurance policies include a cash value component, a feature that is usually limited to permanent life insurance policies. These are similar to whole life insurance policies, but only provide coverage for the specified policy term and build cash value at a slower rate.

Term life insurance
ROP term insurance
Whole life insurance
Builds cash value?NoYesYes
Maturity dateN/AEnd of term (for example, after 20 years)Typically age 100
Cash value at maturity dateN/AEqual to sum of premiums paidEqual to policy's death benefit
Surrender value$0Equals accumulated cash valueEquals accumulated cash value

A common complaint about return of premium policies is that you have to pay higher premiums, but if you cancel your policy before the term expires, you would receive nothing in return. The benefit of cash value ROP policies is that if you decide to cancel your term life insurance, you would receive money back — as long as you held the policy for a certain period of time. We recommend that you don't take this option if at all possible, as you would still be sacrificing a portion of the premiums paid up to that point, but it does offer greater flexibility.

During the first several years of coverage, a cash value ROP policy typically has no surrender value, as the cash value doesn't grow linearly. Instead, it grows exponentially, so each year a larger percentage of the premiums paid is included within the policy's cash value. So, the percentage of premiums paid that you would receive back if you canceled your life insurance policy increases over time, as it's equal to the amount of cash value your policy has accumulated.

For example, if you surrendered your policy in year 29 and had a 30-year term return of premium policy, you would get nearly the entire value of premiums paid as your money back. But if you canceled the same life insurance policy in year 20, you might only receive 45% of the premiums paid in return.

You can also take out policy loans with cash value return of premium life insurance policies in the same manner as other cash value policies and just pay a small interest fee.

Pros and cons of return of premium term life insurance

Compared to traditional term life insurance, a return of premium policy has several benefits and drawbacks that you should consider before purchasing coverage.

Benefits of return of premium life insurance

  • A small percentage of term life insurance policyholders die during the period of coverage. This can make it hard to justify the cost of a policy — even if it does make sense as part of your financial plan — if you have an aversion to loss because you receive no tangible return on your money spent. By returning your money if you outlive the coverage term, a return of premium policy directly addresses this issue.
  • In theory, you could do better financially by buying a cheaper standard term life insurance policy and investing the money you would have spent on a return of premium policy. But if you're concerned about your savings discipline, or aren't confident that your investment returns would exceed those of a ROP policy, it's a fairly low-risk savings option if you already need term insurance. You just give up the upside potential that you could capture if you consistently saved and your investments performed well.

Cons of return of premium life insurance

  • Your return of premium term life insurance quotes will be significantly higher than the quotes you would receive for a standard term policy of the same size. Quotes for return of premium life insurance can range from 130% to several hundred percent of the cost of a policy with no return of premium benefit.
  • Unless you purchase a return of premium policy with cash value, you would receive no money back if you decided to switch insurers and would have essentially paid for a benefit you did not receive. And even if your policy does have cash value, it would be a low percentage of premiums paid for the first half of your coverage term.
  • If you're a senior or believe you have a higher risk of dying during the policy term, we would not recommend ROP insurance. Since ROP insurance quotes are higher, if you die during the policy term, your family's net benefit is smaller. Because the policy's death benefit is fixed, each additional dollar that you've paid in premiums reduces the total value delivered to your family.

Choosing the best term policy with return of premium

ROP life insurance is offered by most large life insurance companies, though companies do offer slightly different versions, so we recommend comparing multiple policies. In addition to the policy's structure, such as whether it builds cash value, the most important consideration when choosing a return of premium policy is to choose the plan with the cheapest incremental cost for ROP.

The return of a ROP policy is determined by comparing the cost of the return of premium option to the total premiums returned.

Say, for example, that you need a $500,000 term life insurance policy with a 20-year term. If you were offered a $500 per year quote for a standard term policy and a $1,500 per year quote for a return of premium policy, the incremental cost would be $1,000 per year, or $20,000 over the policy term. This should be compared to the total amount of money returned after 20 years, which would be $30,000, or about a 3.7% annualized rate of return.

The lower the incremental cost is as a proportion of your total premium — in this example two-thirds of the premium is incremental — the greater your return on investment if you outlive your policy.

Example return of premium policy
Annual cost of term coverage$500
Annual cost of ROP rider$1,000
Total annual cost$1,500
Total premiums paid (20 years)$30,000
Total cost of ROP rider (20 years)$20,000
Total return on ROP$10,000
Average annualized return on ROP3.7%

Return of premium life insurance companies offer differing quotes for base policies and return of premium riders, so we recommend comparing quotes from multiple insurers. The best term life insurance plan for your financial situation isn't necessarily the same as the best for another person, since the decision is based in part on your objectives and willingness to accept risk.

For instance, if the company with the cheapest total cost offers a low return on the incremental cost, you might decide that purchasing a standard policy and investing the money yourself is the better option. On the other hand, if an insurer's ROP rider cost was low, but the total quote was greater due to a higher cost of term coverage, you would have to consider how much you're willing to spend for a better return.

As you review the numbers, keep in mind that a return of premium payment is made tax-free, whereas returns on money invested in a brokerage account would be taxed.

Return of premium with whole and universal life insurance

A return of premium rider isn't typically available for permanent life insurance policies, since coverage is designed to extend for your entire lifetime and, in theory, you wouldn't outlive the policy. However, there are a few ways that a permanent life insurance policy would provide a return of premiums to either you or your beneficiaries.

ROP guaranteed universal life insurance

Some life insurance companies have begun offering guaranteed universal life insurance with a return of premium option, but these are quite different from ROP term life insurance policies. With a guaranteed universal return of premium policy, you would simply have the option of surrendering your policy at certain points during the period of coverage and receiving the sum of premiums paid in return.

This can be a helpful option if you're confident that you want permanent coverage but are willing to pay for the ability to get your money back if a significant life change occurs.

For example, say you purchased a guaranteed universal life insurance policy to ensure that your husband or wife would have funds to live on in retirement, but your spouse developed cancer. You might want the ability to receive your money back in order to pay for medical expenses, particularly if they have a lower life expectancy and you wouldn't expect to pass first.

The only downside in this case is that you would have to wait for one of the policy's return of premium years to come up before you would receive your money back from the insurer.

Living past a policy's maturity date

Permanent life insurance policies typically come with a maturity date, at which point the policy will either be considered "paid-up" or you would receive its entire cash value as a payout. Whole life insurance policies, for example, typically mature when you reach the age of 100. Universal life insurance policies that are currently available often come with the option for the policy to mature at age 100, 105 or as high as age 121.

However, if you have an older permanent policy, it might mature when you reach a lower age, such as 85. While this isn't a direct return of premiums, you would receive money back that you had paid into the policy's cash value.

Adding cash value to a policy's death benefit

When you purchase a life insurance policy, the amount of coverage you select, such as $500,000, is typically equal to the amount your beneficiaries would receive if you died. Any cash value left in the policy would go to the insurer.

There are some exceptions, but this is the traditional structure. However, some permanent life insurance policies give you the option of adding the cash value to the death benefit your beneficiaries receive. The benefit is that the premiums you paid into the cash value, and didn't use while alive, don't simply disappear. However, similar to a return of premium policy, this option is significantly more expensive to purchase.

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