The face value of a life insurance policy is the amount of the death benefit you purchase when you purchase the procedure and is a primary factor in determining the amount of premium you pay. The face value is stated in the policy documents and often, but not always, remains the same as the death benefit for the policy’s life.
Knowing when and how to face value might help you better manage an existing life insurance policy or compare your options when shopping for a new one.
Definition And Example Of The Face Value Of A Life Insurance Policy
The face value, or face value, of a life insurance policy is established when issued. The amount of purchased death benefit indicates the amount of money the policy will pay the beneficiary or beneficiaries when the insured person dies. When a dollar amount identifies a life insurance policy, this amount is the face value. Therefore, a $500,000 policy has a face value of $500,000.
The face amount an individual applying for insurance may qualify for depends on several factors, including how much coverage they need. How much they can afford, and how much life insurance the company will provide (which may be limited by their age or the amount of your existing life insurance coverage).
A life insurance policy with a higher face value will cost correspondingly more than a policy with a lower face value, all other factors being equal.
In some circumstances, the face value amount and the death benefit may differ; Insurers often allow you to reduce the face value of your policy after it is issued, and in some cases, you can increase it.
How Does The Face Value Of A Life Insurance Policy Work?
The face value can be considered the starting point for the death benefit: it establishes the death benefit when the policy is issued and, therefore, the premium. But both the death benefit and the face value can sometimes change during the policy’s life.
When face value (and death benefit) changes
Here are some examples of when the face value and death benefit might change:
- Reduction on Demand: Insurers will often reduce face value upon request, as this does not increase your liability or risk exposure. However, increasing the face value usually requires you to reapply for the additional amount of coverage.
- Declining term life insurance: This is a type of term life insurance in which the face value (and death benefit) decreases at regular intervals, such as every year until the policy’s term expires. However, policy premiums remain level throughout the period. For example, a 30-year declining term policy might cover the declining principal amount of a 30-year mortgage.
- Insurability Guarantee Rider: This rider can be added to a policy at purchase. It allows the insured person to increase the face value, or death benefit, at regular intervals, such as every five years until a certain age, or when life requirements are met, such as the birth of a child. The key is that they can increase the benefit without providing evidence of insurability; they do not have to ask or answer medical questions.
- Renewable term life insurance: Many term life insurance policies are renewable after expiration. The insured does not have to provide additional evidence of insurability. Still, the new premium is based on their current age (and the state of health when they purchased the original policy). Since insurance costs increase with age, some people choose to renew it for a lower face amount, which comes with a more affordable premium.
- Variable life insurance: With inconsistent life policies, you can invest the cash value in subaccounts similar to mutual funds. Depending on the investment results, the face value of the procedure and the death benefit may increase or decrease.
- Accelerated Death Benefit: Accelerated death benefit riders allow the insured person to access the face value of the policy while they are still living. These riders are typically used to pay for expenses such as managed home care, long-term care, nursing home care, chronic or critical illness, or disability. But the activation of these additional clauses proportionally reduces the nominal value of the policy.
When the death benefit changes but the face value does not
Although the face amount and death benefit often move together, as in the examples above, there are less common cases where they may differ. This is primarily the case with permanent life insurance policies:
- Policy Loans: If the policyholder takes out a loan against the cash value and does not pay it back, the death benefit will be reduced in the event of the insured person’s death, even though the face value has not changed.
- Paid-In Life Insurance: Participating in whole life insurance policies may pay dividends to policyholders in the form of additional paid-in life insurance, which increases the death benefit but does not change the face value of the original policy.
- Universal Life Insurance Option 2: You can select one of two death benefit options with a universal life insurance policy. In the former, the death benefit is equal to the face value of the policy. The second provides a death benefit equal to the face value plus accumulated cash value so that the death benefit may be greater than face value.
Par Value Vs. cash value
Although the face value is usually the same amount as the death benefit, it should never be confused with the cash value. This distinction is only necessary with permanent life policies, which accumulate cash value, but term policies do not.
Permanent policies have a tax-deferred cash value account that offsets rising insurance costs as you age and is almost always less than face value. In most cases, the death benefit, not the cash value, is the amount your beneficiaries will receive. However, suppose you select option two on a universal life policy (when the policy is issued). The death benefit will equal face value plus cash value, so your beneficiaries will receive both.
