Term life insurance creates a morbid conundrum: Live through the policy term, and you get nothing after paying premiums for decades. Getting a payout requires your death. Talk about a lose-lose.
However, with return of premium (ROP) insurance, you can get all your money back at the end of the policy’s term — for a price, of course.
Table of Contents
- What Is Return of Premium Insurance?
- How Does Return of Premium Insurance Work?
- Average Cost of Return of Premium Life Insurance
- Return of Premium Pros & Cons
- Is ROP Insurance Worth It?
What Is Return of Premium Insurance?
A return of premium (ROP) policy allows you to recover every dollar you’ve paid to the insurance company in premiums if you’re still alive when the policy’s term ends.
But let’s take a step back and talk first about term life insurance. It’s designed to cover your prime earning years in case of your untimely death. That way, your spouse, children or relatives still have a way to make ends meet without your paycheck.
When you initiate the policy, typically for 20 or 30 years, your insurance company doesn’t know whether you’ll live through it. The company is taking on the risk. If you die, it’s on the hook for the amount of coverage in your policy. That’s why you pay the premiums.
Trying to get a refund on your term life policy after it ends reminds me of a scene from a slapstick Disney comedy “Gone Fishin'” featuring Joe Pesci and Danny Glover. A slick boat salesman closes a deal by telling the pair that they can return the vessel within 30 days, no questions asked. The two friends hilariously destroy the boat in a series of mishaps and try to return it — to no avail.
Similarly, with a regular 20-year term life policy, normally, you can’t saunter up to your insurance company after two decades and say, ‘So, here I am. Still alive! How about you give me back all the money I paid you since I never needed the insurance?’
With a return of premium insurance policy, though, that’s exactly what happens. Your insurance company takes all the money you’ve paid in premiums through the years and puts it right back into your bank account.
How Does Return of Premium Insurance Work?
As you’d expect, insurance companies aren’t going to offer you this type of refund for free. Simply getting an interest-free, decades-long loan from you isn’t going to generate enough return for them to cover the policies that end in full payouts.
You’ll pay extra for the privilege of potentially getting your money back. In addition to living through it, you also have to keep your policy active and pay on time throughout the entire term.
(It’s surprisingly easy to cancel traditional term life insurance before the end of the term. You just stop paying your premium and call or email your insurance company or fill out an online form to cancel your policy.)
Not every major insurance company offers return of premium. But ROP gets sold in several ways. Sometimes it’s a stand-alone (premium) policy, or it’s sold as a rider. Sometimes you can even find return of premium as part of permanent (non-expiring) insurance such as whole life insurance.
If you die while your term life insurance policy is active, your beneficiary will get a payout as usual. But if you’re alive and your ROP policy is still current when it ends, you get back every cent (or almost every cent if there are some fees) that you paid in premiums.
Return of premium typically requires a minimum of $100,000 of coverage.
Average Cost of Return of Premium Life Insurance
I’ve already mentioned that return of premium insurance is more expensive than base-level term life insurance. But how much more expensive?
That depends on your health and your age, among other factors. But according to Policygenius, it’s usually “about two to three times higher than a basic term policy.”
I used SmartAsset, which is similar to Expedia for term life insurance, to try to get real quotes on standard term life versus term life with return of premium insurance.
SmartAsset’s search didn’t return a single company within its partner brands offering 20-year ROP. The only company offering 30-year return of premium cost nearly six times a standard policy.
Expect these policies to be somewhat difficult to locate and extremely expensive to purchase.
Return of Premium Pros & Cons
Here are some of the benefits of paying for return of premium insurance.
- Potential windfall of money: Most term life policies expire near the typical retirement age. It’s a good time to get a nice stack of cash to add to your retirement savings.
- No taxes: Unlike other income you get from investments and retirement accounts, you won’t have to pay income tax on the money you get back from your premiums.
- Forced savings: There are some major downsides to using ROP as an avenue for savings, which I’ll mention in the cons. But it is a way of locking in (potential) retirement savings every month or year.
Here are some of the downsides to paying for return of premium insurance.
- Opportunity cost: Your most powerful tool when investing for retirement is time. Every dollar that you invest decades from retirement can turn into many dollars by the time you’re ready to withdraw. Handing the money to an insurance company means you have fewer available assets to invest.
- Expensive: If you’re in good health and relatively young, you may be surprised at how affordable term life insurance is, even with a good-sized benefit. When you add TOP insurance to the equation, that can change in a hurry. Also, if you were to pass away during the term, you will have paid a huge multiple for the same payout amount.
- Requires discipline: Are you going to make on-time payments every month for 20 or 30 years? Are you going to decide you no longer want to pay the monthly premiums at some point during the term? If the answer is no, you could be in violation of the terms of your return of premium and lose it all.
- Ugly returns: Not only are you giving a free loan to an insurance company when you buy an ROP policy, you actually end up losing money even though you get all your premiums back. Why? Over time, it’s more than likely that inflation will decrease the purchasing power of your premium dollars significantly.
Is ROP Insurance Worth It?
Like most financial things, you can run some calculations to determine whether return of premium is worth it for you. Investopedia does a nice job of giving a specific theoretical example.
Start by obtaining a term life insurance quote with and without ROP. Figure out the total cost difference over the full length of the policies. Let’s say that number is $10,000 over 20 years.
According to Bankrate’s calculator, if you invest in monthly installments and earn an average annual return of 5%, you’ll have $15,755. That’s nearly $6,000 more than if you simply get your $10,000 back.
There are other factors to consider, including your family situation, risk tolerance, whether or not you’re eligible to contribute to a Roth IRA, how much money you have and your tax situation.
“Return of premium life insurance is a great deal for the right person,” Clark says. “It’s ultimately free life insurance because they give you all your money back.
“If you’re the kind of person who’s just a creature of habit, you’ll start [a] policy, you’ll keep it in place all through the 20 or 30 years. Most people can’t maintain that discipline and it doesn’t work out for them. But if that’s you, you’re getting somewhat a free lunch.”
I personally would rather invest my extra money than lend it out in hopes of reclaiming life insurance premium payments one day. Consider your own circumstances before making a choice.
I’m a big fan of choice. It’s good to have options in life.
Sometimes extra choices create more work prior to making a decision to ensure you’re picking the best option.
For term life insurance, the choice seems fairly straightforward to me. Unless you find a policy that offers you ROP for a modest markup, the math doesn’t make a lot of sense.
You may find your own reasons for wanting return of premium — probably related to your risk tolerance or the potential psychology around “wasting” the money you spend on your policy if you live through it. But there are no guarantees. And there are almost certainly ways to get a better return on your money.