Information to help consumers pick between a whole life insurance or term life insurance policy.
Some insurance professionals strongly believe that term life insurance is the best type of life insurance for people to buy. Others believe whole life insurance offers advantages unmatched by term life. Who is right? The answer depends on the goals, investment style, and risk tolerance of the insurance consumer.
All life insurance pays a death benefit when the policyholder dies. The goal is to alleviate the financial burden created when an income-producing family member dies unexpectedly. The death benefit is intended to replace the lost income of the deceased, allowing the survivors to maintain the lifestyle they enjoyed before the love one’s passing—at least for a period of time. Many experts believe that the death benefit should equal 3-7 times the annual salary of the breadwinner, giving the breadwinner’s family time to adjust to the loss financially as well as emotionally.
A major difference between whole life and term life is the amount of time the policy covers. As the name suggests, whole life covers the policyholder’s entire life, until death. A term policy insures the life only for a certain number of years, known as the term. When the term is up, the coverage ends. If the policyholder wishes to continue term life coverage, he or she must take out a new policy. This is an important juncture, critics of term life point out. If the term life policyholder has developed a serious illness, such as AIDS or cancer, insurance companies may not be willing to insure the life—or the premiums will be so high that the insurance will be out of reach. With whole life, coverage continues no matter what health problems the policyholder develops.
Since term life policies often expire without the insurer needing to pay a death benefit, the cost of term life insurance is much lower than the cost of whole life. In fact, term life insurance costs several times less than whole life insurance does. Affordability is term life’s main advantage. If a person has just started a family, he or she can take out a 20- or 30-year term life policy, knowing the family will be provided for should anything happen to the policyholder. After that, the term lifers argue, life insurance is no longer critical. With children grown, the mortgage paid off, and retirement in the offing, the policyholder can afford to allow the term policy to end without taking out another. The term life policy will have served its purpose.
This is another difference that whole lifers point to as a shortcoming of term life insurance: Once the term ends, all the money spent on term policy premiums is gone. The policyholder and his or her family will never see the money again. This is not the case with whole life insurance premiums. Since the policy covers the insured until death, the death benefit will be paid, which means the premiums will be recovered by the family. In addition, the insurance company invests the premiums, and the policy accrues what is known as cash value. The policyholder can borrow the cash value and pay it back to the insurance company. If the policyholder wishes to cancel the policy, the cash value will be paid to the policyholder. The amount paid out at the time of cancellation is known as the “surrender value.”
The term lifers acknowledge this difference, but they dispute the idea that it is a weakness of term life insurance. On the contrary, they say, it is a strength. Term life is meant to insure a life. It is not an investment. If a person wants to invest money, the term lifers argue, he or she should take the difference between the cost of term life insurance and the cost of whole life insurance and invest the savings in stocks, mutual funds, or another investment vehicle. The return will be much greater than the cash value or surrender value of a whole life policy.
The term life strategy is sound. The return on whole life insurance is small, and most other investments will outperform it over time. However, the strategy is not easy to execute. It requires discipline and savvy. The term life policyholder must calculate the savings over whole life and invest it every month, quarter, or year. The policyholder also must select an investment vehicle open the account. Even then, the shareholder must choose wisely. Not every investment makes a lot of money, and some actually lose money. Whole life is guaranteed to earn cash value.
In short, whole life offers a simple, conservative, way to insure a life until death, save money, and earn small returns. Term life offers the option of insuring a life through the wage earner’s most productive years and, provided the person remains in good health, beyond. Pairing investing with term life insurance is more complicated and riskier than with whole life insurance, but it offers the potential of a much larger return. The choice of which is better depends on how much you can afford to pay for life insurance and your own personal investing style.
Life Insurance - Whole Life vs. Term Life
