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There are a few variations as to how life insurance work in Canada as compared to other countries.
For example, if you’re an immigrant and have had insurance policies from your home country, you’ll be surprised as to how different life insurance works in Canada as compared to the ones you’ve had in your home country.
Each country have their own sets of rules and regulations when it comes to the insurance industry and honestly, I’m not quite familiar with all of them but what I can tell you about is the insurance policies in Canada.
The basics of life insurance, however, are technically the same.
What is Life Insurance
Life insurance is a contract where the insured pays contributions to a company in exchange for a death benefit for beneficiaries if the insured passes away during the policy term. It serves as a financial risk management tool, ensuring loved ones’ financial security in case of premature death, covering income replacement, consumer debts, mortgage, and funeral costs.
For those without financial obligations, life insurance becomes a tool for addressing final expenses and potential capital gains taxes on accumulated assets. In this context, life insurance becomes a powerful estate preservation tool, ensuring tax-free wealth transfer to the next generation.
Types of Life Insurance
In Canada, just like the rest of the world, there are generally two types of life insurance policies:
- Permanent Life Insurance
- Term Life Insurance
Permanent Life Insurance
As you may know, permanent life insurance provides a lifetime insurance coverage to the life insured’s beneficiaries. In most instances, people acquire permanent life insurance to protect their loved ones from their permanent financial obligations.
For many Canadians, our permanent financial obligations come in the form of:
1. final expenses (interment costs, and taxes at death),
2. charity giving at death,
3. tax-free legacy to one’s heirs.
Types of Permanent Life Insurance
Permanent life insurance is further broken down into three types as follows:
- Whole Life Insurance
- Whole life insurance is the permanent life insurance type that you may be familiar with as this is the traditional permanent life insurance which provides the life insured with permanent life insurance coverage, level premiums, and level cash surrender values, with options for dividend income if placed with a participating/mutual insurance company.
- Universal Life Insurance
- Universal Life insurance is permanent life insurance that’s flexible, which means it can provide permanent coverage or a temporary one, depending on how it’s funded. Universal life insurance is technically life insurance with an investment component. Unlike whole life insurance, the premiums are actually invested in the market.
- Term to Age 100
- Term to Age 100 is permanent insurance without any cash values, think of it like whole life insurance less any cash values. This is usually cheaper than whole life and universal life if you’re only looking to implement a final expense coverage. The only caveat is that there are no options for a shortened contribution period such as 20-year paid-up policy.
Term Life Insurance
- Term life insurance is a life insurance policy that offers life insurance protection against your temporary financial obligations such as your income, debts, mortgage, and any other loans that you may have.
How much life insurance do I need?
The amount of life insurance coverage depends on your specific financial situation. If you have a young family, for example, the most important thing that you should have covered is the income that you use to support your family because if any of the breadwinners pass, whatever income that breadwinner earns may no longer be around as well.
We have written an extensive article that answers exactly this question here.
If on the other, you’re someone who may be in your senior years or someone who don’t have any young kids or any high financial obligations that requires your income in the event that you pass, in most instances, you’ll only need permanent life insurance coverage to provide funds for final expenses such as your interment costs.
How Life Insurance Payout Works
The death benefit payouts in Canada are usually a lump sum amount for the amount specified in your policy which is usually tax-free for personally-owned policies.
Take note that there’s a contestability period that may delay the payout up to a couple of months during the first two years of your life insurance policy. After the contestability period, life insurance payout only takes a couple of weeks.
What’s Not Covered By Life Insurance
Life insurance covers any form of death regardless of when and where it may occur.
During the contestability period of a policy (first 2 years), suicide is not covered, and commissions may be contested. Dishonest and fraudulent applications may result in your policy to not payout, so it’s a good idea to just declare everything and answer the questionnaires honestly.
If your application is in good faith, you need not worry about your policy not paying out.
Life insurance in Canada technically works in a similar manner as life insurance policies in other countries with a few differences. In the most basic sense, the contract will pay out when the life insured passes away during the term of the policy. If it’s permanent insurance and the contract is in force or paid-up at the time of the life insured’s death. It will pay out regardless of when the death occurs as it’s guaranteed to provide death benefits throughout the person’s lifetime.
There are two general types of life insurance in Canada:
- Permanent Life Insurance
- Term Life Insurance
Permanent life insurance has three types:
- Whole Life
- Universal Life
- Term to Age 100
Term Life insurance provides coverage between 10 and 40 years, depending on how long the term contract is. In most instances, term policies sold in Canada are renewable and convertible. This means, that if you implement a term life insurance of say, 10 or 20 years, you have the option to renew your contract at the end of its term or convert either the entire amount or part into a permanent life insurance policy such as whole life or universal life insurance.
Death benefit payouts are usually tax-free. It may take a couple of months for the payout during the first two years of the policy but will usually payout within 2 to 4 weeks after the contestability period.
An important thing to take note of is the fact that life insurance policies don’t provide coverage for suicide in their first two years and may contest the policy’s coverage for any commissions during this contestability period.
For this reason, we advise our clients to avoid switching from one life insurance policy to the next, especially after the contestability period has passed. Unfortunately, there are “insurance agents” who make a living out of replacing people’s policies; if you are ever solicited to replace your existing policy, especially if you have a permanent life insurance in force, you have to weigh the pros and cons and evaluate as to whether or not the agent is acting toward your best interest as a client.