Term Life Insurance vs. Whole Life Insurance | CapWay
- Life insurance is intended to be a safety net for your family.
- Whole life insurance costs more but has more benefits.
- Term life insurance is affordable with fewer benefits.
When discussing life insurance, you’ve probably heard of term life and whole life insurance. Especially when dealing with a commissioned life insurance agent, these terms can get confusing. It is important to understand what term life insurance and whole life insurance mean as you weigh which one you need.
What is life insurance?
To understand the differences between term life and whole life insurance, we need to know what life insurance is and why we get it. Life insurance is intended to financially protect your family in case you die. Specifically, it is a safety net so that your spouse and/or children can survive without your income in the event of your death.
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Do I need life insurance?
Since life insurance’s point is to financially protect your family, you only need life insurance if you have a family to protect or other financial obligations to be covered in the event of your death. If you have no financial obligations, life insurance may not be necessary.
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Whole Life Insurance
If you’ve decided you need life insurance, then you must choose between whole life insurance, universal life insurance, and term life insurance. Whole life and universal life are similar but not the same. In this article, we will focus on the differences between whole life and term life insurance.
Pros of Whole Life Insurance
Guaranteed Death Benefit
The most important pro of whole life insurance is the death benefit. You know that, as long as you have been paying your premiums, you will be covered with life insurance when you die. In other words, instead of being covered for a short time, you are covered until the day that you die. Another benefit to having a guaranteed death benefit is your premium rate is generally locked in for life.
Another benefit of whole life insurance is the ability to build cash value. Cash value is how much cash is on hand in your life insurance policy to tap into. It isn’t necessarily how much you would be paid out in the event of your death, but instead, money that you can access within your life insurance policy to invest and use, kind of like a retirement account. It counts as money in the bank for many financial transactions, which is a big deal when buying a home or other significant investments.
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One of the main benefits of cash value insurance is the ability to take out a loan against it. Many insurance companies will allow you to take a loan and pay it back, plus interest, at reasonable rates. However, the largest benefit of this loan is its speed. Since the loan is coming from your life insurance policy, it is technically your money, so it takes less time to receive the funds than if you were to receive it from a bank.
The wealthier you get, the more difficult it is to do tax planning effectively. Unlike some retirement accounts with a cap on how much money you can put in, a cash-value life insurance account has no limit. This means you can put money in and grow it tax-deferred. This would be a strategy to discuss with your accountant rather than a commissioned financial advisor.
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Cons of Whole Life Insurance
The premium is the biggest and most obvious con of a whole life insurance policy. Of any life insurance policy you can get, the premium for whole life insurance is much higher. Since there is a guaranteed death benefit, the life insurance company has to factor that into its profit margins.
Front Loading Your Policy
Another issue with whole-life policies is that your first premium payments usually pay for the company’s expenses before increasing your cash value position. This is called front-loading your policy. You might even have negative returns on your life insurance “investment” until about a decade in, so it is a long-term play.
If you cancel your policy too early, for example, before the front loading of your policy is finished, you may have to pay a surrender charge. This is a certain amount of money meant to cover the costs of managing your insurance policy. In practice, it is often used to keep people in a whole life insurance policy even when it may not suit them.
While it is great that you can take out a loan from your whole life insurance policy, it is essential to be careful. This is because any outstanding loans, meaning unpaid principal and/or accrued interest, will be taken out of the death benefit payout before your beneficiaries are paid.
Term Life Insurance
Term life insurance is an alternative to whole life insurance with much fewer bells and whistles, but it also comes with benefits. It is an important option to consider when you are considering life insurance.
Pros of Term Life Insurance
Affordable Policy Premium
Term life is less risky than whole life insurance for insurance companies, so they can offer these policies at much lower rates, usually just a few pennies per day. So if you want life insurance protection but don’t have the money for a permanent life insurance policy, term life is an ideal alternative.
Term life policies are more flexible. You can pay them while you want insurance, and you can simply cancel at any time when you no longer want it. There are no surrender charges or questions asked.
Medical Exams Are Not Always Required
Most life insurance policies require a medical exam to ensure you aren’t at high risk of dying tomorrow. This can be extensive and invasive, but many term life insurance policies now only require a statement that you have disclosed all illnesses and haven’t seen your doctor about any unexplained issues recently. Of course, if you lie about this, they will find out, and your beneficiaries won’t get paid. But if you are currently healthy, this is a great way to get life insurance quickly.
Cons of Term Life Insurance
No Cash Value
The money you put into a term life policy premium is no longer yours. As such, it accumulates no cash value. That means you can’t pull money out of it, and you can’t use your policy as a financial asset. Instead, it is intended to be a safety net in the event of your death.
Raising Your rates
While your rate will never go up during your insurance term, once that term ends, you will be required to get a new rate reflecting your increased age and health situation. Due to age alone, this means that your premium will be much higher.
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Death Benefit Not Guaranteed
With term life insurance, you are not guaranteed to have a death benefit. So if you outlive the term, you will get none of the money back that you put in, even if you die the day after your term ends. That means your heirs cannot count on life insurance money to cover the costs of your passing.
The Money Wrap-Up
Whole and term life insurance are two very different insurance products with very specific uses and purposes. Both of them have pros and cons, but usually, the pros and cons are outweighed by the cost. Unfortunately, if you can’t afford to pay for a whole life insurance policy, you can’t get one, no matter how enticing the cash value sounds.
In most instances, a life insurance policy is meant to replace your income for your beneficiaries during your working years. So generally, a term policy that covers the term of your working years will be sufficient. However, it is up to you to weigh the pros and cons to decide what kind of life insurance you need.
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