When it comes to business insurance, liability insurance is usually the first type of insurance that springs to mind. This type of insurance helps to protect your business against financial loss. One type of insurance that sometimes gets overlooked by small business owners is life insurance. The reduced paid-up insurance definition is when someone with a whole life insurance policy takes a lower amount of insurance.

Tip

Many business owners take out life insurance policies to ensure their families can cover business expenses if something happened.

Understanding Life Insurance

Life insurance policies pay a benefit to the beneficiaries named in the policy. This benefit is paid after the person insured by the policy dies. There are three main types of life insurance policies:

  • Term insurance. This is life insurance for a set period, such as 10 or 20 years. 
  • Whole life insurance. This life insurance is designed to last through a person’s lifetime. It accumulates cash value within the policy and premiums are higher than for term policies. 
  • Universal life insurance. This life insurance is a hybrid of term and whole life. The premiums are flexible and they can accumulate cash value. 

The reduced paid-up option is only available with whole life insurance policies.

What Is Reduced Paid-Up Insurance?

Reduced paid-up insurance allows you to stop paying life insurance premiums. In exchange for no longer having to pay premiums, the life insurance gives you a reduced amount of life insurance. That reduced amount is based on the cash value at the time you stop the policy.

For example, you may take out a whole life policy for $50,000. Over time, your needs or your financial situation may change. After 20 years of paying on the policy, you decide you don’t want to keep paying on it. Whole life policies offer three options in these situations:

  • Cash surrender. You give up the policy and you receive the cash value. 
  • Extended-term insurance. You convert the policy to term insurance and keep the full face amount of the policy ($50,000). 
  • Reduced paid-up insurance. You receive a policy with a lower face amount that’s in force for the rest of your life. After 20 years, you might receive a $30,000 reduced paid-up policy. 

With all three options, you no longer need to pay premiums. Your policy might include a reduced paid-up illustration to help you clarify how much you would receive.

Why Take Reduced Paid-Up Insurance?

Reduced paid-up insurance allows you to keep a policy in force for the rest of your life without paying premiums. This frees up your income for other purposes, which can be helpful if your income has changed or if your expenses have increased. It does decrease the amount of your policy, though, which can be discouraging if you have paid on it for several years.

It also takes away the cash value in your policy. You can borrow against the cash value in some policies, which can come in handy for unexpected expenses. Whether a reduced paid-up insurance policy is right for you depends on your financial situation as well as that of your business.

Determining Your Business Insurance Needs

A reduced paid-up policy might be right for you if you no longer need the same amount of insurance. For example, if you’ve built up your savings, your loved ones might be able to use that to cover business expenses if something happened to you. In that case, you could reduce the amount of your insurance.

It might also make sense to take a reduced paid-up policy if you’re leaving your business. If you no longer need the coverage, there’s no reason to continue paying premiums. Ultimately, the right move for your insurance depends on your financial situation and your business continuation plans. A business financial advisor can help you decide on the right move for your situation.