Life Insurance 101

Step 2: The Basic Concept

At its core, life insurance is a contract between you (the policyholder) and an insurance company (the insurer).

You agree to pay regular amounts called premiums — typically monthly or annually. In return, the insurer agrees that if the person covered by the policy (the insured) dies while the policy is active, it will pay a lump sum called the death benefit to the person or persons you've named (the beneficiaries).

The four parties in a life insurance policy

• Policyholder: The person who owns the policy and pays the premiums. Usually the insured person, but not always.
• Insured: The person whose life is covered. The death benefit is paid when the insured dies.
• Beneficiary: The person (or people, or organization) who receives the death benefit. Can be a spouse, child, sibling, estate, charity, or business partner.
• Insurer: The licensed insurance company that collects premiums and pays claims.

The death benefit is generally tax-free in Canada

In most cases, the death benefit paid to a named beneficiary is received tax-free under Canadian tax law. This is an important distinction from other forms of inheritance, which may trigger taxes at the estate level.

Step 3: The Two Main Types

Life insurance in Canada falls into two broad categories: term and permanent.

Term life insurance

Term provides coverage for a defined period — such as 10, 20, or 30 years. If the insured dies during the term, the death benefit is paid. If the term ends and the insured is still alive, the policy expires with no payout.

• Generally lower initial premiums compared to permanent
• Straightforward: pay premiums, get a death benefit if you die during the term
• Many term policies are renewable (though often at higher rates) or convertible to permanent
• Well-suited for covering specific time-limited obligations: a mortgage, raising children, or years until retirement

Permanent life insurance

Permanent provides coverage for the insured's entire lifetime, as long as premiums are paid. It comes in several varieties:

• Whole life: Fixed premiums, guaranteed death benefit, and a savings component (cash value) that grows at a guaranteed rate.
• Universal life: More flexible premiums and an investment component. The cash value can grow (or shrink) based on market performance or interest credited by the insurer.
• Term-to-100: Permanent coverage with no cash value, often with level premiums to age 100.

Permanent policies generally have higher initial premiums than term, but provide lifelong coverage and may accumulate cash value.

Step 4: How Much Coverage?

The death benefit amount is one of the key decisions in any life insurance policy. It directly affects your premium, and it needs to be large enough to serve its intended purpose.

Common approaches to estimating coverage needs

There is no single right answer, but here are frameworks that licensed advisors commonly discuss with clients:

• Income replacement: A common starting point is 7–10 times your annual income, though this varies widely depending on family size, debt, and assets.
• Debt coverage: Add up significant debts — mortgage balance, car loan, personal debt — that you'd want covered.
• Specific needs: Estimate future costs for dependants, such as childcare, education, and living expenses until self-sufficiency.
• Final expenses: Funeral, estate administration, and legal fees — often estimated at $15,000–$30,000 or more in Canada.

Group insurance vs individual policies

Many Canadians have some life insurance through an employer group plan. Group coverage is often limited (commonly 1–2× annual salary) and typically ends when employment ends. Many people choose individual policies to supplement or extend their coverage.

Step 5: What Affects the Cost?

Your premium is determined through a process called underwriting — the insurer's assessment of the risk of insuring you. Multiple factors influence the premium you're quoted:

Primary factors in life insurance pricing

• Age: The older you are when you apply, the higher the risk of death, and generally the higher your premium. Applying earlier typically locks in lower rates.
• Health: Your current health and medical history are major factors. Some conditions may result in higher premiums (rated policies) or declined coverage.
• Smoking status: Smokers typically pay significantly more than non-smokers — often 2–3× more — because of the increased health risks.
• Coverage amount: A $500,000 death benefit has a higher premium than a $250,000 death benefit.
• Policy type: Permanent coverage costs more than term coverage, all else being equal.
• Term length (for term insurance): A 30-year term typically costs more than a 10-year term because it covers more years.
• Sex: Historically, insurers have used biological sex as a pricing factor. Regulatory requirements vary by province.
• Occupation and activities: Some high-risk occupations or activities (e.g., certain aviation, extreme sports) may affect premiums.

The underwriting process

When you apply, the insurer will ask about your health history, medications, family medical history, and lifestyle. For larger policies, a medical exam (blood work, blood pressure, urinalysis) may be required. The insurer reviews this information to determine whether to offer coverage and at what rate.

Step 6: How the Application Process Works

Applying for life insurance in Canada typically follows a set of steps, though the details vary by insurer and product.

The typical application flow

1. Initial inquiry and quoting: You discuss your needs with a licensed insurance advisor (or use an online tool). You receive quotes based on your age, coverage amount, term, and health status. No commitment is made at this stage.
2. Application: You complete a written application with details about yourself, your beneficiaries, and your health history. You're asked to consent to the insurer obtaining medical records if needed.
3. Underwriting: The insurer reviews your application. For smaller policies or simplified products, this may take a few days. For larger amounts, a medical exam may be scheduled and records requested from your doctor.
4. Decision: The insurer approves the application (at standard or rated rates), requests more information, or declines. If approved, they issue a policy document.
5. Policy delivery and review: You receive the policy and have a free-look period (typically 10–30 days depending on the province) to review it. You can cancel for a full refund during this period.
6. Premiums begin: Once you accept the policy, premiums are collected on the agreed schedule. The policy is in force from this point.

Step 7: What to Consider Next

You've completed the Life Insurance 101 journey. Here's a summary of the key ideas and some directions for next steps.

What we covered

• Why: Life insurance addresses financial dependencies — income, debt, dependants, and final expenses.
• The basics: A contract between policyholder and insurer. You pay premiums; your beneficiaries receive a death benefit if you die while covered.
• Types: Term (temporary, typically lower cost) and permanent (lifelong, may accumulate cash value).
• Coverage amount: Depends on your obligations — income, debt, dependants, and final expenses. No single right number.
• Cost factors: Age, health, smoking status, coverage amount, and policy type all affect your premium.
• Applying: A licensed advisor guides you through an application, underwriting, and policy issuance.

Suggested next steps for further learning