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How does a life insurance company play a simplistic role in our everybody lifestyle?

  Everyone is going to die sometime, but then how do life insurance companies make money? 


Life insurance is essentially a contract between the insured and the insurance company that pays out if the policyholder, the insured dies. The life insurance money generally goes to a family member or beneficiary. But how can this be profitable for the insurance company? Everyone dies, after all. Well, it all has to do with how the contracts are set up.


 There's generally two types of life insurance, term life and permanent life. Term life covers the insured for a set amount of time, generally somewhere in the range of 15 to 30 year periods. If you die in that period. The policy pays out. If you don't, then you get nothing as you're no longer covered. In this scenario, life insurance makes a little bit more sense as it removes the possibility of every policyholder eventually dying since it's only a given period of time insurance companies can run complicated and sort of morbid models to determine how many people will die in a given group, what your risk of death is, and conversely this allows them to properly set your life insurance rates. If 100 people pay $50.00 a month for 10 years, the insurance company gets $600,000, then if only 25% of those people die in that term, the company only pays out to 25 people. That means as long as the life insurance policies only payout less than 24K each. Then the insurance company still turns a profit. That's not to mention, too that the insurance company can invest the premiums that you pay in the meantime, turning an even bigger profit. 



But what about permanent life insurance? In these scenarios, the plan will pay out if the policyholder is still paying their premiums at the time of death. Companies that sell these policies make money in a few different ways. They get to take the money from people who stop paying their premiums and move on. This is essentially peer profit for insurers as they never have to pay out and two, they invest the money people pay overtime. A term life insurance policy for a healthy 20 year old is about $70.00 a month for $100,000 of coverage. That means if a person lives to be 80, they'll have paid about $50,000 in premiums. Over that time they would still get about 2X return on their money. But if the insurance company invested that money over that time, they could turn it into several $100,000 at a modest interest rate of return, thanks to compounding interest. 


But then why even get life insurance? Well, because if you don't live to be 80, then you'll still get the full payout, and we'll have paid much less in premiums, making your return even better. The last minor way that companies can make money on life insurance is by sneakily putting in terms and clauses into the contracts. This can get the companies out of paying out certain death benefits in fringe scenarios, this helps ramp up the profit just slightly more. So to summarize, life insurance companies make money by either setting term limits, charging higher premiums, investing the money you give them, and otherwise running complicated statistical formulas about who will die and win to ensure that they keep their profits high and their payouts low.



 

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