When Should You Replace Your Life Insurance Policy?

You purchase life insurance to protect your loved ones, but life insurance needs are not set in stone. They may change as your life changes. If your existing policy no longer covers all your financial needs, life insurance replacement is an option. 

Replacing your current policy with a new one may help you adequately protect your family from life’s uncertainties. In this post, you’ll learn when you should consider life insurance benefits, how it works, and its benefits. 

Why should you replace your life insurance policy?

People replace their life insurance policies for a number of reasons. The four most common ones are: 

1. Expired policy

If your term life plan is approaching its expiration date but you still have financial obligations like mortgage or childcare, applying for a new policy makes sense. This is particularly true if your existing policy doesn’t include a renewability clause. 

2. Change in financial status

A drop in finances may make the current policy unaffordable. If that’s the case, replacing it with a cheaper policy is better than canceling your existing policy and going without life insurance. With cash value life insurance, you could surrender the policy in exchange for its cash value and then use the money to buy a paid-up term life policy. Compared to cash value life insurance, term life insurance is substantially cheaper. 

3. Excess or insufficient coverage

Life insurance needs can change over time as your life changes. If you need more or less coverage than what you currently have, switching to another policy is something you may want to consider. 

For example, let’s say five years back, when you were just starting your career, you bought a term life plan to cover your student loan. However, now that you are married and have a mortgage, you feel you do not have enough coverage. You called up the insurer to check whether you can increase the death benefit. Unfortunately, that’s not an option since your policy doesn’t have a guaranteed insurability rider — which gives policyholders an option to increase the coverage amount without undergoing medical testing. In this case, a new life insurance policy is the only way to have more coverage. 

Certain life events, like repayment of debts or children becoming financially independent, can have the opposite effect on your life insurance needs. If you need less coverage than before, dropping your existing policy for a new one may save you a substantial sum every year.

4. Features

People also replace their life insurance policies for features. For instance, you may have previously bought a term life plan because it was more affordable, but you now prefer a policy with an investment component. If your policy doesn’t include a conversion feature — which lets you convert to permanent coverage without medical underwriting — your only means to cash value life insurance is through a new policy. 

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What are the replacement regulations and procedures?

Canada has a unified replacement form called the Life Insurance Replacement Declaration (LIRD). All provinces except Quebec require the use of this form for replacing a life insurance policy. 

The LIRD form covers essential elements that help a consumer better understand the pros and cons of replacing an existing policy. Your agent or broker must complete this form and explain the benefits of switching to a new policy before canceling an existing policy. 

How to compare costs?

If you are replacing a term life policy with a permanent policy or another term plan, you only need to consider the difference between premiums. However, if you are switching from a permanent life policy to term life insurance or another type of permanent plan (such as whole life to universal life or vice versa), you must additionally consider the following:

• Surrender charges – This is the cost you pay if you cancel a cash value life insurance policy within a particular time frame known as the surrender period. The surrender charges start out high (up to 10% of the account value in the first policy year) and diminish gradually as time passes. If you surrender your policy within the first few years, you will likely pay a hefty fee. Consequently, the net cash value (gross cash value – surrender charges) may not be enough to pay the entire new policy. 
• Tax liability on a cash value withdrawal – Any amount withdrawn from the cash value that exceeds the policy’s cost basis is considered a taxable disposition. 

6 important things to consider

Thinking about replacing your life insurance policy? If so, there are a few things you must first consider. Understanding the various policy options available to you and doing a thorough research can ensure the new coverage meets your current life insurance needs and fits your budget. 

1.The life insurance medical exam

Standard life insurance policies typically require a medical exam. It provides the insurer with a snapshot of your health condition. The insurance company uses this information to determine your insurability and set your premium rate. You may have taken and passed a paramedical exam when you purchased your current policy. If you apply for a new policy, you will likely have to undergo a new medical exam. If your health has deteriorated in recent years, you will have to pay more for coverage or may even be denied. Although no-medical exam life insurance plans are an option for people with severe health issues, these plans are significantly more expensive than standard policies and have smaller death benefits.   

2. Compare Different Types of Life Insurance Policies

Term life, whole life, and universal life are the three most common types of life insurance policies. Each of them has its pros and cons. Knowing about them can help you pick the right policy for your situation. 

Term Life Insurance

Term life insurance lasts for a specific period, such as 10, 15, 20, or 30 years. Your beneficiaries receive the death benefit only if you pass during the policy term. Once the policy term expires, the coverage terminates automatically, unless you renew the policy or convert it into a whole life or universal life plan. 

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Term life insurance is a good fit for those who: 

• Want life insurance for a specific period (e.g. until you pay off mortgage or your children become financially independent)
• Do not want to use life insurance as an investment tool
• Want extensive coverage at a budget-friendly rate

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Whole Life Insurance

Whole life insurance is a type of permanent life insurance. It provides lifelong coverage and accumulates cash value on a tax-deferred basis at a fixed rate. You can access the policy’s cash value at any time while living. Your beneficiaries typically receive only the death benefit.

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Whole life insurance can be a top choice if: 

• You have a lifelong dependent
• You want to use the cash value to supplement a qualified retirement vehicle
• You want to use life insurance for estate planning or to fund a buy-sell agreement 

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Universal Life Insurance

Like whole life plans, universal life insurance combines the death benefit with an investment component. However, it accrues cash value differently. With universal life plans, the cash value grows at a variable rate, which depends on the performance of the investment sub-accounts picked by you. Some universal life policies also give you the freedom to raise or lower premium payments within certain limits. 

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Universal life insurance can be worth the cost for someone who wants: 

• Permanent life insurance coverage along with the cash value feature
• Flexibility to raise or lower premium payments
• Control over how the cash value is invested

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3. The suicide and contestability clauses 

Most life insurance policies contain a suicide provision or clause, which usually lasts for two years. During this time, the insurance provider will not pay the death benefit if the insured commits suicide. If you replace your policy, whether with the same or a new provider, the clock starts all over again. 

Life insurance plans also typically include a two-year contestability period. During this period, the insurer can contest a claim and deny it if it finds that the applicant lied on their application. 

For example, an applicant lies about not smoking on the application form and dies from lung cancer a year later. In this situation, the insurer can rescind the insurance contract and refuse to pay the death benefit. 

If you have had your policy for more than two years, the insurer can no longer dispute the claim. You would forfeit this advantage if you switch to a new policy.  

4. Learn about how the new policy accrues cash value 

If you are replacing one cash value life insurance policy with another, take some time to understand how the new policy will accrue wealth. Typically, cash value grows gradually during the first few years, so you will likely have to wait several years to be able to access it. 

5. Be aware of insurance churning

Insurance churning is when an agent or a broker convinces a policyholder to replace an ineffective policy for the sake of pocketing a commission. Thankfully, there are many mechanisms in place, the LIRD for instance, which helps protect policyholders from churning. Insurance churning is illegal and doesn’t occur frequently, but it is nice to be aware of it. If your agent is trying to talk you into replacing your existing coverage when you do not feel any pressing need to do so, consider getting a second opinion. 

6. Consider converting your policy

If you currently have a term life policy but want to replace it with a permanent life plan, consider converting it instead of buying a new policy. Many term life plans allow policyholders to convert to whole life or universal life insurance without going through the underwriting process. This means your new premium rate will be based only on your current age, not current health. 

If your health has changed for the worse, switching will prove significantly cheaper, not to mention simpler, than signing up for a new permanent life plan. You will also be able to bypass a new contestability period if you go this route. 

Conclusion

Replacing your life insurance policy with a new one can be a smart move in certain situations. For example, you may want to consider it if you are finding it hard to keep up with your policy premiums or if your life insurance needs have changed drastically over the years. 

Speak to a Dundas Life expert if you are not happy with your existing policy and are looking for a replacement. We will help you zero in on the right coverage for your present situation and shop your case to multiple top-ranking life insurers so that you can pay the lowest-possible rate. 

Frequently Asked Questions (FAQs)

When should you give up your life insurance policy?

If all financial obligations that your life insurance plan covers have passed, or if no one depends on you financially anymore, you can safely give up your policy. For example, if you primarily bought life insurance to cover the years until your children become financially independent, canceling the coverage when your youngest child starts his or her career makes sense. 

Apart from the death benefit, some policies build cash value which you can access at any time while still alive. Canceling such a policy can be an option if you need a large amount of cash immediately or when you retire. 

What is life insurance replacement?

Life insurance replacement means buying a new policy and canceling your existing policy. If your life insurance needs have changed over the years, you may consider switching to a new policy to adequately cover your loved ones. 

Why would someone want to replace their life insurance policy?

You may want to replace your life insurance policy if it no longer meets all your needs, provides more coverage than what you need, or has become unaffordable.