Life insurance typically comes in two forms, depending on the desired length of coverage: term life insurance or whole life insurance. Other forms include:
There are a few other major differences between them.
Term Life Insurance
|Whole Life Insurance||Universal Life Insurance|
|Term life insurance is designed to cover you for a pre-designated age range, but can be renewed or converted||Yearly Renewable Term Life Insurance is designed to cover you for one year and needs to be renewed||Whole life insurance is designed to cover you for life||Universal life insurance is designed to cover you for life|
|Lowest overall premium – can stay the same or start low and increase with age||Lower initial premium than term life insurance; increases with age||Highest premium – stays the same throughout the policy||Lower premium – can vary over time, depending on your needs and contributions to cash value|
|Accrues no cash value||Accrues no cash value|
Cash value increases at a predetermined rate
Interest on cash value accrues at a fixed rate
Cash value increases by the amount you elect to contribute
Interest on cash value fluctuates with the market
|Many insurers offer riders that protect your death benefit if you become disabled, critically ill, or terminally ill. You may be limited on when you can add these riders, so check with your insurance agent.|
Term insurance policies typically cover the stages of life where your income is most important for your family, such as having minor children or a mortgage. It is designed to cover you for a pre-designated age range or term that you determine when you start the policy. The typical term is 10, 20, or 30 years. Most companies will have an age limit above which a policy will stop, usually 80-90 years old.
Term life insurance’s only function is to provide money for your family if you die. It accrues no cash value and if you are alive when the policy expires, no benefits are paid out.
There may be reasons you would want temporary coverage during a specific time interval.
Term life insurance premiums are the cheapest — less than 10% of the cost of whole life for the same coverage — and it could be the only thing you can afford for now.
The goal is to prevent financial difficulties for your surviving loved ones, so the policy may only be necessary for the times that will be true.
It may be possible to adjust the amount of the death benefit to adapt to your needs.
The higher the death benefit, the higher the premium.
If you are healthy, you can choose a premium that stays the same until the policy expires or one that is lower when you are younger and less financially secure that increases as you get older.
Level term or level-premium life policies provide coverage for a pre-specified period.
Yearly renewable term life policies have to be renewed every year.
Decreasing term policies have a death benefit that declines each year, according to a predetermined schedule.
If you have health problems or risk factors such as smoking, your premiums may automatically increase as you age.
They may be renewed, but premiums continue to increase as you may develop other risk factors.
You can usually extend your policy or convert it to whole life if/when you can afford to.
Your premiums will be based on your age, health, and other risk factors at the time you renew or convert.
Your medical condition may prevent you from renewing.
You may be able to cancel your policy at any time.
You will need to check with your insurance company for the details of your policy, but there are some general considerations.
While term life insurance is adequate for most situations, you may want to consider whole life insurance as a way to leave money to your family or as an investment.
A whole life insurance settlement can be a way to provide tax-free inheritance for your heirs.
A whole life insurance is appropriate if your family will always need financial support, such as having a lifelong dependent with special needs.
You may want to assure your family has money for final expenses no matter when you die, rather than if you die during a certain interval or term.
The savings portion of these whole life policies is referred to as the cash value.
Cash value generally increases at a predetermined rate which is based on the percent of the premium being put into savings and investment of cash value accruing interest at a fixed rate.
Cash value is not typically intended to go to your beneficiaries after your death.
You can buy an increasing death benefit policy or add a rider — at additional cost — to the policy that allows this, therefore increasing the death benefit.
There is a type of whole life/universal policy with a levelized death benefit that automatically includes the cash value with the death benefit after your death without a rider.
You can also increase death benefits by using cash value to purchase additional coverage.
The reduced paid up option allows you to stop paying your premiums and end up with a lower death benefit.
The other ways are rather complicated and should be explained by your insurance agent.
Whole life insurance can be canceled if you have any reason to do so.
You may no longer want or need life insurance.
The premiums can become more expensive than you can afford and you may not be able to alter your current policy to lower them.
You may have found a better policy that’s more affordable and/or provides better benefits, although you may be able to negotiate the same terms for your current policy.
The process of canceling your insurance can be complicated and depends on your policy, how long you have had it, the cash value, and the rules of your insurance company. They make sure they can recover their expenses if you decide to cancel and will usually charge fees and financial penalties to do so.
You may want to access the death benefits while still alive.
See the Collecting From Life Insurance Before Death section.
The first 2-3 years of a whole life policy are considered the surrender period, which is the amount of time you must wait until you can withdraw funds from your policy without facing a penalty.
There is no charge after the surrender period and you will be able to get a part of the cash value back called the surrender value, which is the cash value minus fees.
Although you will not be taxed on anything that you contributed to the cash value, you will be taxed on any interest or dividends earned on that value.
Your insurance company may allow you to keep the death benefit but only if your cash value is used to cover the premiums, essentially changing it to a term life policy. Some companies may allow you to convert directly to a term life policy.
They may offer the chance to take a reduced paid up option.
You may be able to let the policy lie dormant for years, after which you may be able to reinstate it within a set period.
If you have had the policy long enough, you may have reached the point where the policy can pay for itself.
This could happen if the dividends or interest are enough to pay the premium or you are trying to spend cash value before you lose it and use it to pay your premiums (paid-up option).