A life insurance policy is a contract which is entered into between the insured who is the plan holder and an insurance company. The contract is essentially an undertaking by the insurer to pay out the sum assured if an event such as death or a critical illness arises.
To bring the contact into effect the plan holder either makes a single payment on commencement or agrees to make payments to the insurance company on a regular basis for a defined period of time. In both cases the money paid is referred to as the policy premium. In many countries life insurance also means providing for the payment of funeral expenses as well as the payout of the sum assured. However in countries like America policy payouts are usually only for the sum assured on the death or critical illness of the insured.
The sum which is stated in the plan is generally paid to the insured person’s beneficiaries in the case of the death of the insured and therefore the plan holder enjoys peace of mind in knowing that his or her beneficiaries are going to be taken care of after his or her death.
Although at times the sum assured can be paid out before death where the policyholder is diagnosed with an illness that is serious in nature, to ensure that the insurer’s liability is kept within workable limits, cases such as death or serious injury arising out of war, riot, some natural disasters and death from suicide are not insured.
Life insurance policies come different forms and can provide not simply protection but also serve as a form of investment. For example, a lot of term life insurance plans are designed strictly to offer protection for a set period of time and will only pay out if death or serious illness occurs during the specified term. If no such event occurs then the policy simply lapses having no value.
By contrast, many whole life insurance and universal life policies stay in force throughout the life of the plan holder and pay out on death or the diagnosis of critical illness. They do however also acquire a cash value based upon the value of the investment supporting the policy and the policyholder can take some or all of this value from the plan in accordance with the terms and conditions of the contract. This form of policy is frequently used as a savings vehicle for such things as the payment of education fees or to provide a lump sum for retirement.
Life insurance is also commonly used in business, particularly within partnerships, to safeguard the business against the death of someone who has a financial stake in the business. In this case it is common for one person to buy a plan and act as the plan holder and beneficiary with another person being the insured.