Which is better, term or whole life insurance?

Term life insurance offers more affordable coverage than whole life. However, it only lasts for a certain number of years, and it doesn’t offer the tax-free savings component that whole life has.

Term and whole are two of the most common types of life insurance available. Whole life is a form of permanent life insurance that lasts as long as you live (assuming you pay the policy’s premiums). It also includes a cash value account—a savings component that grows tax-free over time and that you can withdraw from or borrow against while you are alive.

Term life insurance, on the other hand, lasts only for a set period of time (the term) and does not accrue any cash value. We’ll break down the key features that distinguish these insurance mainstays.

KEY TAKEAWAYS

  • Term coverage only protects you for a limited number of years, while whole life provides lifelong protection—as long as you keep up with the premium payments.
  • Term life is just insurance, whereas whole life also accumulates cash value that you can tap during your lifetime.
  • Whole life premiums can cost five to 15 times more than term policies with the same death benefit, so they’re not a good fit for everyone.

Term Life Insurance

Term life insurance is perhaps the easiest to understand because it’s straightforward insurance without a savings or investing component. The reason you buy a term policy is for the promise of a death benefit for your beneficiary should you pass away while it’s in force. For many people, it’s a way to make sure that their minor children are provided for and their mortgage is paid after they die.

As the name suggests, this basic form of insurance is only good for a certain period of time, whether it’s five, 20, or 30 years. After that, the policy expires.1

Benefits

  • Costs are much lower than for many other types of life insurance.
  • Term insurance is easier to understand than permanent policies.

Drawbacks

  • Only protects you for a limited number of years.
  • Cannot be used as a wealth-building or tax-planning strategy.

Benefits of Term Life Insurance, Explained

Because term policies offer basic coverage with a finite duration, they tend to be the cheapest type of life insurance, often by a wide margin. If all you seek from a life insurance policy is the ability to protect your family when you die, term insurance is likely your best fit.

Since term policies are typically more affordable and can last until your child enters adulthood, term insurance can be a particularly good option for single parents who want a safety net for their child if they die.

According to quotes gathered by Investopedia from more than 30 insurers, the average monthly premium for a 42-year-old man in excellent health applying for a 30-year term policy with a $250,000 death benefit is $33.24 a month. For a comparable female applicant, it’s $27.31.

Note

Women tend to have lower life insurance premiums than men because they typically have longer life spans.2

Drawbacks of Term Life Insurance, Explained

A variety of factors will change the price of term insurance. For example, a larger death benefit or longer length of coverage will certainly increase the premiums. Also, most policies require a medical exam, so any health complications could raise your rates above the norm.

Because term insurance eventually expires, you can find yourself having spent all that money for no purpose other than peace of mind. Also, you can’t use your investment in term insurance to build wealth or save on taxes as you can with other types of insurance.

Whole Life Insurance

Whole life is a form of permanent life insurance, which differs from term insurance in two key ways:

  • It never expires as long as you keep making your premium payments.
  • It provides some cash value in addition to the death benefit, which can be a source of funds for future needs.3

Benefits

  • Allows you to borrow against or withdraw from the policy for other financial needs.
  • Loans and withdrawals are generally tax-free, and loans may have beneficial terms.
  • Lets you lock in your premiums for life.

Drawbacks

  • Costs much more than comparable term policies.
  • If you let the policy lapse within the first few years, you could face surrender charges.
  • Any outstanding loans will reduce your death benefit.

Benefits of Whole Life Insurance, Explained

Most whole life policies are “level premium,” meaning that you pay the same monthly rate for the duration of the policy. (Some companies offer a limited payment option, which allows you to pay a higher premium for certain period of time—such as 20 years—rather than set premiums for your entire life.) Those premiums are split in two ways. One part of your payment goes to the insurance component, while the other part helps build your cash value, which grows over time.

Many providers offer a guaranteed interest rate. Some companies also sell participating policies that pay unguaranteed dividends which can increase your total return.

Usually, your cash value doesn’t accrue until two to five years after coverage begins.4 Once it does, however, you can borrow or withdraw from your cash value amount (which grows on a tax-deferred basis). For example, you may want to do take out a loan to pay for expenses such as college tuition or home repairs.

The advantages of policy loans over other kinds of loans are that there’s no credit check and the interest rate may be lower. You also don’t have to repay the loan, but if you don’t, you will reduce your death benefit. Withdrawals are generally tax-free if you don’t take out more than you’ve paid into the policy.5

The ability to withdraw or borrow from a whole life insurance policy makes it a much more flexible financial tool than a term policy.

Drawbacks of Whole Life Insurance, Explained

Unfortunately, with whole life insurance, the death benefit and cash value aren’t completely separate features. If you take a loan from your policy, then your death benefit will go down by a corresponding amount if you don’t pay it back. For example, if you take out a $50,000 loan, then your beneficiaries will get $50,000 less, plus any interest due, if the loan is still outstanding.

The main disadvantage of whole life insurance is that it’s more expensive than a term policy—by quite a bit. Permanent policies cost on average five to 15 times more than term coverage with the same death benefit.6 For many consumers, the relatively high cost makes it hard to keep up with payments.

Another potential drawback of whole life insurance is its complexity. With a term policy, for example, you can simply stop making payments if you no longer need the insurance or can no longer afford it. However, depending on your carrier, whole life policyholders may face a significant surrender charge if they decide to walk away from their policy. Usually, this charge shrinks as the years go by until it finally disappears.7

Special Considerations

So which type of coverage is best for your family? If term coverage is all you can afford, then the answer is simple: Basic protection is better than no protection at all.

The question is a little trickier for folks who can afford the substantially higher premiums that come with a whole life policy. If your goal is to save for retirement, then many fee-based (that is, non-commission-earning) financial advisors recommend turning to 401(k)s and individual retirement accounts (IRAs) first. After maxing out those contributions, a cash value policy may be a better option for some people than a fully taxable investment account.

Some consumers have unique financial needs that a whole life policy can help manage more effectively. For example, parents with disabled children may want to consider whole life insurance, as it lasts your entire lifetime. As long as you keep paying the premiums, you know your kids will receive the death benefit from your policy, even when they’re adults.

Whole life can also be a valuable tool in succession planning for small businesses. One option is to purchase key person coverage on valuable employees. Also, as part of a buy and sell agreement, business partners will sometimes take out whole life insurance for each owner. The remaining partners can purchase the deceased’s equity stake in the event of their passing with the policy proceeds.

Regardless of insurance policy type, premiums will be lower the younger (and healthier) you are when you buy it.

Is Term Life Insurance Better Than Whole Life Insurance?

It depends on your needs and wants.

If you only need life insurance for a relatively short period of time (such as only when you have minor children to raise), term life may be better because the premiums are more affordable.

If you need permanent coverage that lasts your entire life, whole life is likely preferred. Whole life plans also offer several living benefits deriving from its cash value accumulation, which can be borrowed against or withdrawn during your lifetime.

How Long Do Term Life Policies Last?

Typical term life policies come in terms of 10, 15, 20, 25, or 30 years. A small number of insurers will offer 35- and 40-year policies as well.

What Happens to Term Life Insurance When the Term Ends?

If the term ends on your life insurance policy, generally, the policy will just expire and you don’t need to do anything. However, your insurer may allow you to renew it for another term, or to convert part or all of the term policy into a permanent policy. You’ll need to check on this possibility as early into the life of the policy as possible, because sometimes, term life conversion is only available in the early years of the policy.

The Bottom Line

The cash value component allows whole life insurance to offer more financial flexibility than term life . Nevertheless, because permanent policies are more complex and expensive, many consumers follow the old axiom, “Buy term and invest the rest.”

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