Are you going to invest in whole or term life insurance? When choosing life insurance, the best way to keep yourself fully protected is to know the difference among the types of insurance and how they can work for you. Here’s a breakdown of the features and benefits of whole and term life insurance to help you stay informed enough to purchase the right insurance plan for your needs, both now and in the future.
Permanent Life Insurance
Whole life, universal life, variable life: permanent life insurance comes in a number of forms, and all of them are designed to protect you for your entire lifetime (or for as long as you keep the policy in place).
Basic features of permanent policies:
- Level premiums: the premiums remain level over the lifetime of the policy, even as the risk of death increases with age. How does it work? The premiums charged in the initial years are higher than the risk you represent; the difference is then invested into policy reserves that subsidize your later premiums. The invested premiums balance out the increasing risk.
- Cash values: your reserves accumulate as a cash value, which remains available for you if you want to borrow against or cancel your policy.
- Non-forfeiture options: You can choose to either keep the policy in force or take advantage of a cash settlement if you decide to discontinue premium payments. The cash you could receive depends on how long the policy has been in force, and how much cash is in the reserve.
- Participating policies and policy dividends: if your policy shares in the financial experience of the insurance company, you can earn annual policy dividends. How does it work? Your premium is always formed based in conservative estimates of future expenses, death claims, and interest or other investment earnings. When the estimates are higher than the experience, the surplus is credited to participating policyholders with dividends.
- Non-participating policies: do not share in the insurer’s earnings or receive dividends.
Variations of Permanent Insurance
How do you choose among the variations? By selecting the features and premiums that work best for you. All permanent insurance policies provide you with life-long coverage and your beneficiaries with a tax-free payment after you die, but each variation still presents different guarantees, and those differences impact your premium.
Whole life insurance is the traditional policy. It fully guarantees the level of premiums you pay, the death benefit, and the growing cash values within the policy.
Whole life policies use long-term interest rate assumptions. Interest rate sensitive policies, on the other hand, use current interest rates that may be adjusted as interest rate levels change. The result: you could get more coverage for less premium; however, you need to share some of the risk with the insurer to make this possible, and you’re exposed to the risk of your premium rates increasing.
The most popular and flexible of the interest-rate sensitive policies, universal life insurance offers both life insurance and an investment account. You decide on the amount of insurance you need and can increase or decrease your premiums and your death benefit, within limitations. However, your account value, or any premiums that remain in your account after the insurance company deductions are removed, is also placed into investment interest accounts, providing you with the potential to generate tax-advantage growth based on the performance of your investments.
These guarantee the premiums and death benefit for a specified period (e.g., five years), after which the premiums and death benefit are re-adjusted based on investment conditions at that time.
With variable life insurance, the premiums are guaranteed, but the cash values vary according to the fund’s performance, subject to a minimum guarantee.
Term Life Insurance
If you don’t think permanent insurance is quite right for you, you may prefer term life insurance. These policies provide coverage for a certain number of years or to a set age (often available in terms of one, five, 10, or 20 years, or to age 60 or 65). They expire after that time, and a death benefit is only paid if you die during that term. The policy can be renewed for a higher premium at the end of its term, usually without re-application (no second medical); however, the policy may not be renewable when you turn 70. Term policies are non-participating and don’t include cash values or other non-forfeiture values. Term premiums are generally lower than permanent policies.
Convertible term policies can be exchanged for a permanent insurance policy without having to submit evidence of insurability.
This term plan is often categorized as a permanent plan because it provides life insurance coverage through to age 100. The cons? They don’t pay dividends or include cash values, although some may provide other non-forfeiture values. The pros? Premiums tend to stay lower than for traditional whole life policies, and both the premium and death benefits are typically guaranteed and stay level. Plus, you are covered for the length of the term, as long as you keep the policy in force.
You have tons of options to choose among to ensure you get the premium and life insurance plan that best work with your needs, both now and in the future. Just remember, your options don’t end when you sign up for a policy. If you are limited by immediate obligations and funds now, you can choose the policy that meets your current needs. Just make sure it is renewable and convertible and you’ll still ensure the flexibility to modify your policy as your needs change.