Customizing a Life Insurance Policy With Riders

Life insurance is often viewed as a way to cover expenses and provide for loved ones after the insured's passing. But with the inclusion of riders—which may or may not come with additional costs or fees—policies can be customized to provide supplemental coverage for a variety of situations, including some that occur during the insured's lifetime.

"Riders can provide extra coverage for specific expenses, such as long-term care and estate taxes," says Austin Jarvis, director of trust, tax, and estate at the Schwab Center for Financial Research. While some riders can be added to term policies—which expire after a set number of years—many riders are better suited to permanent policies, which provide lifetime coverage and accumulate a cash value that can be borrowed against or withdrawn.

"Term insurance typically is used to replace your income if you die with outstanding financial obligations like a mortgage, but permanent insurance and riders are more about protecting your own financial security and your family's legacy," Austin says.

With that in mind, here are five common riders to consider, depending on your goals.

The longer you live, the greater the chances of disability or illness—especially if certain conditions run in your family. Adding a rider to cover medical care in particular situations can help ensure you don't have to draw upon your estate to pay the costs.

• Long-term care rider: Nearly 7 in 10 people who reach the age of 65 will eventually need long-term services to assist with health and personal care needs, such as bathing and dressing.¹ A long-term care rider will help pay for those services by allowing you to tap part of your policy's death benefit, with any remaining funds paid out to your beneficiaries upon your death.
• Chronic illness rider: Similar to a long-term care rider, chronic illness riders generally cover expenses generated by illness or injury that prevent you from meeting a number of your personal care requirements. This add-on, which some policies offer at no extra cost, also lets you access some of the policy's death benefit during your lifetime.

In both cases, if you hold the life insurance policy in an irrevocable life insurance trust (ILIT)—which is designed to exclude the policy from your taxable estate—be sure to choose an indemnity rider that makes payments to the trust rather than a reimbursement rider that makes payments to you, the estate owner. Otherwise, the reimbursement payments could be seen as a direct benefit to you, which could nullify the irrevocable nature of the trust and potentially expose the remaining death benefit to estate taxes.

As your wealth grows, you may want additional life insurance to help make certain the payouts are commensurate with your estate's and heirs' needs. Including particular riders now can ensure this happens automatically without the need to establish new policies in the future.

• Guaranteed insurability rider: A guaranteed insurability rider allows you to periodically increase a policy's death benefit without submitting to a new medical exam, though you'll likely pay a higher premium to reflect the increased payout. Increases occur at either predetermined dates or at significant milestones, such as marriage.
• Paid-up addition rider: This rider gives policyholders the flexibility to occasionally buy extra permanent life insurance, increasing the death benefit and the cash value of the policy without a permanent jump in the premium or the need to submit to another medical exam. "Paid-up additions have their own cash value that can grow over time thanks to annual dividends," Austin says. "So, the more permanent life insurance you have, the greater the potential for compound growth."

Many people may assume they don't need to plan for estate taxes, given the current estate tax exemption of $12.92 million for individuals and $25.84 million for married couples. But unless Congress acts to extend it, that limit will expire at the end of 2025, after which the exempted amount could be cut in half. Even relatively small estates could face taxes at the state level in Connecticut, Hawaii, Illinois, Maine, Maryland, Massachusetts, Minnesota, New York, Oregon, Rhode Island, Vermont, Washington, and the District of Columbia.

• Estate protection rider: This rider is designed to help offset taxes that may be generated if the death benefit paid by your life insurance policy is included in your taxable estate. "If your life insurance policy could grow your estate beyond the current or anticipated exemption, it's better to place it in an ILIT, which can help remove it from your taxable estate," Austin says. "However, for those whose estates are comfortably within the current exemption—but who could face taxes if the exemption changes or their wealth grows—this rider could help plan for taxes without going through the trouble of establishing a trust."

Be aware that many riders are available only at the time a policy is established, so it's important to identify your current and future needs upfront.

"Even if you don't need certain protections now, it's possible you could require them in the future," Austin says. "When in doubt, reach out to your financial advisor and/or insurance broker to discuss your options."