It’s likely that if you’re searching for a new life insurance policy, you’ve looked at whole and term life insurance possibilities. However, what precisely distinguishes term life insurance from whole life insurance? There are two key distinctions between both insurance types, even though they both offer death payments in the event of the policyholder’s passing.
The difference between whole life and term life insurance are provided below, along with some guidance to assist you in selecting the best kind of life insurance for you and your family.
When comparing the differences between term and whole life insurance, consider the length of policy, the cash value and the cost.
- Length of policy: Term life insurance provides coverage for a specified period, such as 10, 20 or 30 years. In contrast, whole life insurance, a type of permanent insurance, offers lifelong coverage, typically until the policyholder reaches age 95 to 121, provided premiums are paid as required.
- Cash value benefit: Term life insurance premiums are applied entirely towards the death benefit, with no cash value component. Whole life insurance, however, includes a cash value feature. This means a portion of your premiums builds up a cash value that you can access during your lifetime through policy loans.
- Cost: Generally, whole life insurance is significantly more expensive than term life insurance. In fact, it can be 10 to 15 times more costly for the same face amount of coverage. This higher cost reflects the lifetime coverage and cash value benefit that whole life policies offer.
Let’s take a closer look at the features, advantages and disadvantages of each policy type and explore the differences between term and whole life insurance in more detail.
Term Life Insurance
The operation of term life insurance is as follows: It provides coverage for a predetermined amount of time, like 10, 20, or 30 years, and pays out if you pass away within that time. In the event that you live past the period and your coverage expires, your beneficiaries will not be compensated. The majority of policies are level term life insurance, which guarantees a constant death benefit and life insurance payments for the duration of the policy. A diminishing term life insurance policy is a little unusual and uncommon. Over the course of the term, the life insurance death benefit decreases while the premiums remain constant.
Your term life insurance policy should ideally last for the same amount of time as the debt you are covering. If you’re a first-time parent, for instance, you may get a 20-year coverage that will protect you until your child is financially independent. Finding and comparing life insurance quotes online is simple because most life insurance companies sell term life.
Here’s a closer look at what you should know about whole life insurance:
- Cash value: Part of your premium payments contributes to a cash value component. This amount grows over time and can be accessed through policy loans. However, keep in mind that loans accrue interest, and any outstanding loan balances will reduce the death benefit your beneficiaries receive.
- Value to beneficiary: When you pass away, your beneficiaries receive the full death benefit amount minus any outstanding loans against the cash value. The cash value itself is not included in the death benefit since it is a reserve on the policy. It’s an additional feature available during the lifetime of your policy.
- Payment schedules: Whole life insurance offers different payment options. You can typically choose to pay your premiums monthly, quarterly, semi-annually or annually. Additionally, there are limited-pay and single-pay options available:
- Limited-pay: You pay premiums for a set number of years (e.g., 10, 15 or 20 years) instead of for your entire life. This can help your cash value accumulate faster.
- Single-pay: You make one large payment upfront, which covers the cost of the policy for your lifetime. This option also accelerates the growth of the cash value.
- Dividends: If you have a participating policy from a mutual insurance company, you may receive dividends based on the company’s performance. You can use these dividends in various ways: reinvest them to boost your cash value, use them to purchase additional insurance coverage or take them as a cash payment.
Whole Life Insurance
The most popular kind of permanent life insurance is whole life, which normally has higher premiums than term. This is due to the fact that the majority of policies provide coverage until a significantly later age—for example, until age 90, 100, or 120. There is also a cash value component to whole life insurance. Your premium is applied to the cash value, which has the potential to increase over time. Once you have sufficient cash on hand, you can cash in the policy or borrow against it.
The operation of whole life insurance is simpler than that of other permanent life insurance products, although being more intricate than that of term life. The cash value increases at a fixed, guaranteed rate, and premiums stay the same. Also guaranteed is the death benefit; however, exercise caution when making unrepaid cash value withdrawals or loans. Your insurer will deduct any outstanding loans or withdrawals from the total death benefit that is distributed to your beneficiaries, even if you are not obligated to pay them back.
Many whole life insurance contracts are “participating” policies, meaning that your ability to receive profits is contingent upon the company’s financial performance. One of the several ways you can use your dividends is to increase the cash value of your policy.
Read Also: The Benefits of Health Insurance for Small Business Owners
Here’s what you need to know about term life insurance:
- Terms: Term life insurance policies are available for various lengths, from short-term options like 10 years to longer terms such as 30 years. Some carriers offer even longer terms. The most common term is 20 years, which provides substantial coverage for a significant period.
- Renewability: Many term policies come with a renewability feature, allowing you to extend your coverage for additional terms. If your policy doesn’t renew automatically, you will need to activate this option several months before the current term ends.
- Convertibility: Some term life policies offer a convertibility feature, which allows you to switch to a permanent life insurance policy without undergoing a new medical exam. This option can be beneficial if you wish to maintain coverage beyond the term without additional health evaluations.
- Return of premium: A return-of-premium policy feature refunds a portion of the premiums you paid if you outlive the term. While this can provide added value, it generally results in higher premiums compared to standard term policies.
- Premiums: Term life insurance companies base your premium on a few factors, including your age, lifestyle and health at the time of application. Your premium stays the same for the entire term. However, premiums can increase when you renew the policy because the cost is based on your age at the time of renewal.
- Level vs. decreasing term: With a level term policy, you pay a consistent premium and maintain the same death benefit throughout the term. This is the most common type of term life insurance. A decreasing term policy, on the other hand, features a death benefit that decreases over time, often used to align with reducing financial obligations like a mortgage.
Riders
Riders are extra benefits that you can add to your life insurance policy to customize it to your unique needs and situation. By offering extra features or benefits above and beyond the parameters of the basic policy, these add-ons improve your coverage. When it comes to handling specific issues or circumstances that are not covered by your standard policy, riders can be extremely helpful.
Certain riders may not require an additional charge, while others may. To make sure these riders suit your demands and stay within your budget, it’s critical to compare their price to the advantages they offer.
The following list includes typical life insurance rider types:
- Accelerated death benefit rider: This rider lets you access part of your death benefit if you’re diagnosed with a terminal illness. It’s often included at no additional cost, helping you manage expenses during a difficult time. Keep in mind that using this benefit will reduce the amount available to your beneficiaries.
- Long-term care rider: This rider helps cover costs if you need long-term care services, such as nursing home or home care. It’s useful for managing expenses related to extended care and can be included with some policies. Using this benefit will reduce the amount available to your beneficiaries. Note that it’s typically available only with permanent life insurance, not term policies.
- Accidental death rider: This rider provides an additional payout if your death results from an accident. It can help provide extra financial support in such tragic circumstances, though not all types of accidents may be covered. Note: Without this rider, a life insurance policy will still pay out if death is the result of an accident. With this rider, the payout is increased.
- Waiver of premium rider: If you become disabled and cannot work, this rider allows you to stop paying premiums without losing coverage. It typically covers you until you can return to work or reach retirement age.
- Guaranteed insurability rider: This rider allows you to buy additional coverage without undergoing a medical exam, even if your health declines. It provides flexibility to adjust your coverage as your needs change over time.
- Return of premium rider: With this rider, if you outlive your term policy, you may receive a portion of the premiums paid back. While this rider can be more expensive, it offers a financial return if you don’t make a claim during the policy term.
- Family income benefit rider: This rider provides ongoing income to your family after your death, supplementing the lump sum of the death benefit. It’s beneficial for ensuring that your loved ones have financial support over time.
- Child term rider: This rider provides coverage for your children and pays a benefit if they pass away before a specified age. It can also convert into a permanent policy for them later in life.
- Term conversion rider: This rider allows you to convert your term policy into a permanent policy without a medical exam. It offers flexibility to switch to a permanent policy as your needs evolve.
- Chronic illness rider: This rider provides access to a portion of your death benefit if you are diagnosed with a chronic illness. It can help cover medical and long-term care costs; using this benefit will reduce the amount available to your beneficiaries.
- Disability rider: This rider pays a monthly income if you become disabled. The coverage amount and duration vary by policy and can help support you financially if you can’t work.
Keep in mind that the availability of these riders can vary depending on the insurer and the type of coverage you have.
Key Differences Between Term Life and Whole Life Insurance
| Policy feature | Term life | Whole life |
|---|---|---|
| Choice of policy length | You can choose a policy length, typically 1, 5, 10, 15, 20, 25 or 30 years. | Coverage can last your entire life, typically expiring at a specific age like 95 or 100. |
| Cash value | No cash value. | Cash value grows at a guaranteed rate set by the insurer. |
| Premiums | Premiums typically stay level throughout the length of the policy. | Premiums typically stay level throughout the length of the policy. |
| Dividends | No dividends. | Dividends may be available through participating policies. |
| Death benefit | Death benefit is typically level, but decreasing death benefits are available. | Death benefit is typically level, but graded death benefit policies are available.* |
Cost is a major difference between whole and term life insurance. Term life is often the most affordable life insurance because it’s temporary and has no cash value. Whole life premiums are much higher because the coverage typically lasts your lifetime, and the policy grows cash value. Here’s how annual premiums compare for term life policy vs. whole life.
These sample rates reflect the average annual premiums a non-smoker in excellent health would pay for $500,000 in coverage for both term and whole life policies.
| Age and gender | 20-year term policy | Whole life policy |
|---|---|---|
| 20-year-old woman | $177 | $3,173 |
| 20-year-old man | $216 | $3,593 |
| 30-year-old woman | $186 | $4,407 |
| 30-year-old man | $221 | $4,940 |
| 40-year-old woman | $282 | $6,512 |
| 40-year-old man | $334 | $7,440 |
| 50-year-old woman | $641 | $9,002 |
| 50-year-old man | $817 | $10,353 |
| 60-year-old woman | $1,656 | $14,375 |
| 60-year-old man | $2,352 | $16,698 |
| 70-year-old woman | $7,943 | $25,510 |
| 70-year-old man | $9,436 | $29,632 |
Final Thoughts
Term life is sufficient for most families, but whole life and other forms of permanent coverage can be useful in certain situations.
Choose term life if you:
- Only want coverage for a specific period of time. A term life policy can replace your income if you die while you still have major financial obligations, such as raising children or paying off your mortgage.
- Want the most affordable coverage. Term life insurance is the least expensive option, especially if you’re young and healthy.
- Think you might want permanent life insurance but can’t afford it right now. You may be able to convert your term life policy to permanent coverage at a later date. The deadline for conversion varies by policy, and not all policies offer conversion.
- Don’t want to use life insurance to accumulate a cash value. Buying a cheaper term life policy lets you save what you would have paid for a whole life policy, and perhaps invest the money elsewhere.
Choose whole life if you:
- Can comfortably afford the higher premiums. Whole life insurance is a lifelong commitment, so you want to make sure you can afford it. If you miss your premium payments, your policy could lapse.
- Want coverage that essentially lasts your lifetime. The death benefit from whole life policies typically pays out whenever you die. If you name life insurance beneficiaries on your policy, the payout will go directly to them and not through your estate.
- Have a lifelong dependent like a child with disabilities. Life insurance can fund a trust to provide care for your child after you’re gone. Consult with an attorney and financial advisor before setting up a trust.
- Want life insurance that builds guaranteed cash value. The cash value of whole life policies grows at a guaranteed rate set by the insurer.
