Term Life vs. Whole Life Insurance

Once the need for life insurance is determined, the discussion almost invariably turns to the choice of Term Life insurance versus Whole Life or permanent insurance. Any comparison of the two, however, is like comparing apples and oranges with each satisfying very specific needs, preferences, and priorities. At its simplest, the main difference is that one is temporary coverage, designed to cover a known need for a specific period of time; and the other is permanent coverage designed to provide coverage for current and future needs for the life of the policyholder.

Renting vs. Owning Life Insurance

The difference between buying Term and Whole Life is often compared to renting versus buying a home. You may rent a home because you can’t yet afford a mortgage; or you know that you only need a temporary residence. With renting, your payments are cheaper, but you build no equity; and you must continue to pay rent to keep a roof over your head. When buying a home, a portion of your payments go towards the cost of a mortgage (interest) and a portion goes towards paying down your principle (equity). Eventually, you can own the home outright and have 100 percent equity in its value. Such is the case with Whole Life insurance It builds equity over time, which can reduce your insurance costs or result in a fully paid-up policy.

Renting Life Insurance

With Term insurance, you are, essentially, renting your life insurance. Because you are just paying for a death benefit, your premiums are lower than if you “owned” it via a permanent policy. However, like housing rent, your premium payments will increase, either yearly with a Yearly Renewable Term policy, or after a specified term of 10, 15, 20 or 30 years with a Level Term policy. Eventually, Term insurance payments can become very expensive should you continue to have a need for coverage.

Term insurance is best suited for people who know for certain their need for life insurance coverage will be temporary - that is, they feel that their surviving family members will no longer have a need for the extra protection life insurance provides; or that they will have accumulated enough liquid assets to self-insure. However, if they guess wrong, and they find that they still have a need in later years, they risk having to pay more for the coverage, or worse, not being able to obtain it due to health issues.

Owning Life Insurance

With Whole Life, you “own” the death benefit, and a portion of your premium goes towards building a cash value account. Everything about a Whole Life policy is guaranteed - the premium payment, the cash value growth, the death benefit are all guaranteed, which is one reason why the premiums are higher. The other reason Whole Life premiums are higher is that a portion of the payments goes towards building a cash value account.

As the cash value account grows, the amount the life insurance company is at risk decreases which is why it is able to keep the premiums level. Eventually, the cash value account can be accessed for living needs or to pay all or a portion of the premium payments. In most cases, a Whole Life policy can be fully paid-up within a 20 to 30-year time frame. Some life insurers pay an annual dividend which is applied to the cash value account, or it can be applied towards the premium. Over time, the annual dividend, although not guaranteed, can increase enough to cover the premium payment completely.

Whole Life is best suited for people who prefer to have more certainty in their financial life because they don’t know what the future will hold for them. Also, for people with health issues or with a family history of health issues, it is a way to “lock in” their insurability. For them, Whole Life can be much more cost effective, with the likelihood that they will be able to stop making premium payments after a period of time, and all that they paid into the policy plus the guaranteed growth is available to them while they are living.

Which is Right for You?

The determination of whether to buy Term or Whole Life comes down to several key factors, such as the actual purpose for life insurance, the length of time it’s needed, your age, your budget and health considerations. Because these factors tend to change over time, it’s not uncommon for people to buy multiple life insurance policies over time; and it’s also a reason why many people choose to purchase some combination of Term and Whole Life as a way to cover all their bases for long-term financial protection.