Increasing term life insurance - often referred to as index-linked life insurance - is a way of arranging a standard term life insurance policy so that the policy value increases over time. This option ensures that the value of the policy doesn't erode over time due to the effects of inflation and maintains its buying power.
Although it can be a sensible option to add to your policy, it is important to understand the cost implications and weigh up whether taking a little more cover than you need would be more cost-effective over the years. In this article, I will explain how increasing term insurance works across different life insurance companies and what it could cost.
What is term life insurance and how does it work?
A term life insurance policy is one that insures you for a predetermined number of years. It can be arranged to pay out in the event of death or the diagnosis of a critical or terminal illness. When you buy this type of policy, you choose the value of your insurance (sum assured) and the number of years (term) you want to be insured for. If you claim within the term, the sum assured will pay out.
A term life insurance policy can be arranged to pay a tax free lump sum of money or an income in the event of a claim.
On a lump sum basis, the sum assured can behave in 1 of 3 ways during the term of your policy. It can:
- Stay level - the claim amount will be the same regardless of when a claim is made during the term
- Decrease - the claim amount will decrease over the term (usually used for a repayment mortgage)
- Increase - the claim amount will increase each year on the policy anniversary at a rate outlined in your policy
On an income basis - referred to as a family income benefit life insurance - the sum assured will stay level or increase.
In this article, we will focus on increasing term life insurance but you can read more about the other types of term life insurance in our articles, "What is level term life insurance?" and "Decreasing term life insurance - How it works and when it is useful"
How does increasing term life insurance work?
An increasing term life insurance policy will increase in value each year - as will the monthly premium for the policy. This increase can be linked to inflation indices such as the retail price index, the consumer price index or it can be a flat increase each year. The flat increase options usually range between 2% to 15% increase each year and are chosen at the outset of the policy. Choosing an increasing life insurance policy can give you the peace of mind that what you deem to be enough money today, will still be enough money towards the end of your policy term.
Each year, around the policy anniversary date, the life insurance company will write to you to show the new, increased value of the policy and the associated new monthly price. Most insurance companies offer the policyholder the option to decline the increase in any given year. However, many policies will lose their increasing status if the option to increase is declined a certain number of times.
Your monthly premium will increase at a slightly inflated rate compared with the increase to your insured amount, as insurance companies factor in your increasing age each year.
The way that this is worked out varies across life insurance companies and there are three key factors that you should check.
- The rate at which the sum assured will increase - this is the amount that the policy will pay out in the event of a claim.
- The rate at which your monthly premium will increase - this is usually a multiple of the rate used for the sum assured and some insurers inflate more than others.
- The number of times that you can decline an increase - this opportunity exists at each policy anniversary and some insurers allow you to skip increases more regularly than others without losing the option to increase the following year.
The increase to your life insurance can be calculated using the retail price index (RPI). This index reflects the difference in cost for a selection of goods and services over the year. It can also be calculated using the consumer price index (CPI) or flat rates where you choose a fixed percentage for the increase each year.
The Office for National Statistics provides details for inflation and price indices.
How indexation works across different life insurance companies
|Insurance Company||Your life insurance value will increase by:||Your monthly premium will increase by:||Number of times you can decline an increase before the increase option will be removed:|
RPI up to 10%
1.5 x RPI
|More than 5% but not stipulated||3 consecutive times|
|Aviva||CPI up to 10%||
1.5 x CPI
RPI up to 10%
|More than RPI but not stipulated||1|
|Guardian||RPI up to 10%||
1.5 x RPI
|Legal & General||
RPI up to 10%
|1.5 x RPI||1|
1.5 x RPI
RPI (2% to 10%)
Fixed rate (2% to 5%)
1.2 x the chosen rate
RPI (2% to 10%)
1.5 x RPI
RPI up to a maximum of 10%
|If RPI is 0% - 1.75% premium is RPI % + 1.5%
If RPI is 2% - 7.75% premium is RPI % + 2.5%
If RPI > 8% premium is RPI % + 3.5%
3% or 5% fixed
RPI up to a maximum of 10%
1.5 x the chosen rate
RPI - Retail Price Index CPI - Consumer Price Index
How much does an increasing term life insurance policy cost?
The monthly cost of a normal term life insurance policy is calculated using your:
- Smoker status
- Amount of insurance (£)
- Term of insurance (Years)
For an increasing term life insurance policy, your initial monthly premium will remain level for one year. Thereafter, just before your policy anniversary each year, you'll be notified of the increase to the sum assured and your monthly premium. You'll usually be given the option to decline the increase ahead of it being applied, if you don't want it. However, do check how many times your life insurance company will allow this before they take the increasing option away. (This is detailed in the table above)
Below, I have looked at how an increasing term life insurance policy for £100,000 over 20 years would increase in value and monthly cost. The second table shows you how much the same policy would cost if you just started with the higher value of insurance and paid a level price for it. You'll see that it is cheaper across the whole 20 years to have just started with more cover than to slowly creep up towards it.
Increasing term life insurance of £100,000 over 20 years for a 35 year old non-smoker
|Policy Year||Sum Insured||Monthly Premium||Annual Premium|
|Total Cost of Policy over 20 years||£1,963.69|
Based on an RPI increase of 2% where the premium increases by 1.5 x RPI
Level term life insurance of £100,000 over 20 years for a 35 year old non-smoker
|Policy Year||Sum Insured||Monthly Premium||
|Total Cost of Policy over 20 years||£1,814.40|
Why do you need an increasing life insurance policy?
Your life insurance policy should pay a sum of money that is relevant to what you want the money to cover if there's a claim. That sum of money, however, will lose value over time due to inflation - the rising cost of products and services.
For example, life insurance that's arranged to provide for your dependents is usually based on the ongoing cost of living; school or university fees and financial support with things like weddings and deposits on first homes. All the sorts of things that you would have paid for with your income. Once you have worked out what you want your life insurance to cover, you'll usually have worked it out in today's money. However, most things that we consider in today's money will cost more in the future. As this is difficult to predict, the increase option is a way to allow the life insurance company to stay on top of this for you.
Some family income benefit life insurance policies with an increase option will keep applying the increase to the income each year even after a claim has been made and you are in receipt of the monthly or annual benefit. This can be very useful as it is likely their cost of living will increase.
There are alternatives to choosing an increasing term life insurance policy. You could factor an estimation of inflation over the years when you buy your policy and take slightly more insurance than you think you need. You could also review your life insurance regularly and buy more insurance if you feel that the amount is not enough. If buying more, you would have to go through another application and any change in health, smoker status and lifestyle, along with your increased age could make this more expensive.
The advantage of increasing term insurance is that you don't have to predict inflation - the policy will do this for you, but at a cost. Also, your increases are automatic and won't be hindered if your health changes.
Is an increasing term life insurance policy worth it?
It can be but you have to accept that you are paying a premium to have an increasing term insurance option in place. If you are worried that the value of your insurance will erode with inflation then it is a useful option to include and it is even better if your insurance company will allow you to decline the option when you don't feel you want it without losing it. Do look at the comparison table further up in this article as it will show you which insurance companies give you more flexibility in this respect.
If your budget allows it and you are happy to use a prediction of inflation, taking more cover than you need upfront is the more cost-effective way to address the effects of inflation. You have to be mindful that if inflation reaches higher levels than you had initially predicted, then the money might fall short of what it needs to do.
How to buy an increasing term life insurance policy at the best rates
Working out how much money to insure on a life insurance policy can be tough. Factoring in things like inflation can make it even more challenging. If taking the increasing life insurance option makes this easier and you're happy to pay a bit extra for it then this is one solution. There are other solutions however and regardless of how you arrange your life insurance, you should review it regularly so that it reflects what you expect it to do, should the worst happen.
Often, comparison sites won't allow you to choose an increasing option and even when they do, it can be difficult to see the details of what you're getting. Speaking to a specialist life insurance adviser can save you time and help you understand your options more clearly. The advisers are trained to help you work out what level of life insurance is appropriate for what you need, including factoring in inflation.
Do ask for a level quotation at an increased amount as well as an increasing or index-linked term insurance option - so long as it is affordable - as it will give you more insurance from the start. You'll normally end up paying the same if you end up paying it for the whole term.
At Money to the Masses we have personally used and assessed the services provided by a specialist life insurance advisory company*. It provides bespoke advice for all personal and business insurances and the advisers are very well versed in the whole market of products that are available. You can arrange a call from one of them to talk through your requirements and if you end up arranging your life insurance with them, you'll even receive up to £100 cashback. The advice does not cost and you're free to make up your mind after the adviser provides you with all the information.
If a link has an * beside it this means that it is an affiliated link. If you go via the link, Money to the Masses may receive a small fee which helps keep Money to the Masses free to use. The following link can be used if you do not wish to help Money to the Masses and do not wish to qualify for the cashback referred to in the article - LifeSearch
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