Life insurance can be complex, but it doesn’t have to be confusing. This article will provide an overview of whole life and term life insurance, as well as how they compare so that you can get a good understanding of which will be appropriate for your situation.
Deciding Between Whole Life and Term Life
The decision of whether to purchase whole life or term life insurance is a personal one that is based on the financial needs of your beneficiary combined with your financial goals. Most insurance companies offer life insurance plans that are flexible. Life insurance can be a powerful way to meet your financial goals by providing financial security and profitable assets, thereby leaving your loved ones a lasting legacy.
What is Term Life Insurance?
Term life insurance, often referred to as “pure” life insurance pays a death benefit to your beneficiary in the event of your death. The plan is straightforward and uncomplicated.
Term life insurance is more affordable than whole life insurance because it is simply just life insurance coverage, without the additional service and maintenance fees. With this type of coverage, you have more flexibility in choosing the premium you are comfortable with paying.
The term itself specifies how long the policy is active. The policy expires once the specified term has lapsed. When purchasing term life insurance, the coverage is temporary with the most common term periods being 10, 20, and 30 years. Once the term runs out, you have the option to renew, however, the rate of renewal is significantly more expensive.
Term life insurance policies do not carry a cash value component. If you die while the policy is still active, your beneficiaries will collect the death benefit. However, if you live past the term period, the policy expires and the insurance company has no further obligation to you. This is the reason term life insurance is more affordable than whole life insurance.
Most term life policies have what’s known as level premium, where the premium cost and death benefit remains the same. Other companies also offer decreasing term insurance, under which the premium cost remains the same, but the death benefit decreases each year. This is great to use when considering coverage for your mortgage, which also typically declines each passing year.
Regardless of the option selected, term life insurance is an affordable way of meeting your temporary life insurance needs. Nonetheless, the policy term limit means that coverage is limited. If you feel you will still need a financial safety net once you’re in your 60’s or 70’s, then you will need to purchase a new policy (which will be remarkably expensive) or convert your term life insurance policy into a whole life policy in order to continue coverage. Most insurers do not charge an additional fee for this feature.
- Simple, easy to understand policies with no hidden fees, potential risks, or exclusions.
- Cancel before expiration without losing value.
- Typically, the most affordable type of life insurance
- Coverage ends once policy expires
- Once policy expires, you’ll need to find a new policy or convert your policy into a form of permanent life insurance.
What is Whole Life Insurance?
As the name suggests, whole life insurance is a type of permanent life insurance that is designed to provide coverage for you for life, as long as you pay your premiums. However, premiums are substantially higher than term life insurance policies. The higher premiums associated with whole life insurance accounts for the higher mortality risk you face as you get older and because these policies accumulate cash value over time. This cash value component of whole life policies helps with retirement planning and allows you to borrow against the policy for future needs.
These policies offer a fixed premium that’s guaranteed until the age of 100, at which point the death benefit will equal the cash value of the policy. If you are still alive at 100, the cash value, or death benefit, is paid to you.
You may choose to make smaller premium payments consistently throughout the life of the policy, lower premium payments at the beginning with higher payments afterward, or much larger payments over a shorter period (also known as limited pay whole life). Additionally, premiums paid on whole life insurance policies are either applied to increase the death benefit or reduce the premium.
A portion of each payment accumulates as cash value, which is tax-deferred. Generally, the insurance company invests the cash value, which will continue to increase as long as the policy remains active.
You have the ability to borrow against this cash value feature, but keep in mind that loans and interest will be deducted from the death benefit of the policy. You are also able to retain your cash value by canceling your whole life insurance policy, however, you will be void of life insurance coverage and you will receive less than the total of premiums you actually paid in.
Similar to other types of life insurance that offer a cash value, whole life is higher priced than term insurance, especially during the earlier years of your life. It may just be that whole life insurance is a more practical solution, financially speaking, for lifetime insurance coverage because the premiums do not increase as you get older or as your health declines.
The investment returns on whole life insurance policies are generally lower than the other forms of permanent life insurance coverage. This is because the insurer uses conservative means to invest your cash value. If you are desiring a greater return or would like more control over your cash value investments, the appropriate choice may be a variable universal life or variable life insurance policy.
- Whole life insurance does not expire
- Cash value component assists with financial and retirement planning
- Acts as a forced savings vehicle
- More expensive than term insurance
- High tendency to be surrendered early due to cost; surrender value changes
- Minimal interest received on cash value when compared to other investment routes
- More complicated than term life insurance
Whole Life Insurance vs Term Insurance
Now that you have a clearer picture of the differences between whole life and term life policies, you will want to compare in terms of short and long-term costs. You will need to consider such factors as age, whether you are a smoker or not, and the amount of coverage you would like to purchase.
When comparison shopping, you may find that the out-of-pocket costs associated with whole life insurance coverage are alarming next to term life insurance, but you must keep in mind that there is no cash value element with the term life insurance policy.
Fortunately, there exist many creative and flexible options with life insurance that you can mold to meet your individual needs. As always, it is best to speak to your life insurance professional regarding which strategy is right for you.