So-called “permanent insurance” is the most widely purchased type of life insurance in the U.S. today, accounting for 60% of all individual policy sales, according to the American Council of Life Insurers. Of the several varieties of permanent life insurance on the market, traditional whole life is the oldest and best known. This article explores its advantages and disadvantages.
- Whole life is a type of permanent insurance that can last for your entire lifetime.
- Whole life is much more expensive than term life insurance, which expires after a certain number of years.
- A whole life policy also has a savings component that can build cash value over the years.
What Is Whole Life Insurance?
As its name suggests, whole life insurance can cover you for your entire life. That’s in contrast to term insurance, which covers you for a designated period of time, such as 10, 20, or 30 years. If you still need life insurance when the term ends, you have to find new coverage.
Another key difference between a whole life policy and a term policy is cost, with term policies being considerably cheaper. That means that—for the same amount of money—you can buy a term policy with a much larger death benefit. So it’s not surprising that while 60% of new individual policies are permanent life insurance, they represent just 28% of the total face amount of all new policies.
One reason that whole life insurance is more expensive than term is that whole life also has a savings component, known as its “cash value.” Part of your fixed annual premium goes to buy insurance, much like a term policy, while another part goes into a reserve account, which will earn interest and grow in value over the years. You can take a loan against your policy’s cash value or withdraw the money if you decide to give up, or surrender, your policy. A term policy, on the other hand, has no cash value but simply pays off if you die.
Whole Life vs. Other Types of Permanent Insurance
In addition to traditional whole life, there are three other major kinds of permanent life insurance. All have both an insurance and a savings component. Here is how they compare with whole life.
- Universal Life—A universal life policy allows you to raise or lower your death benefit, which will, in turn, affect the premiums you pay. A policyholder might, for example, want to buy a universal life policy with a relatively low death benefit at the outset, increase it as their family grows and their income rises, and lower it again once their kids are financially independent.
- Variable Life—A variable life policy gives you greater control over how your cash value is invested, typically by offering you a portfolio of mutual funds from which to choose. With a whole life policy, the insurance company itself makes those investment decisions. Both the cash value of your policy and your policy’s death benefit can fluctuate based on how well your investments perform.
- Variable-Universal Life—Finally, a variable-universal life policy is a hybrid. Like a universal life policy, it lets policyholders adjust their death benefit, while also allowing them to choose how their cash value is invested, like a variable policy.
Pros of Whole Life Insurance
Whether a whole life policy is the right choice for you may depend as much on your psychology as your finances. Among its advantages are:
As long as you keep up with the premiums, a whole life policy can last you for the rest of your life. A term policy, on the other hand, is good for a certain number of years, after which you’ll typically have to replace it if you still need insurance. By then you may have more difficulty buying insurance—or getting it an affordable price—due to your age or health issues. However, it’s worth noting that people whose term policies expire often have more options than they realize for retaining some kind of insurance.
With a whole life policy, your premiums stay the same, as does your death benefit. With either form of variable life insurance, however, you will be subject to the ups and downs of the markets. People who are uncomfortable with investment risk and want a permanent policy may do better with a whole life one.
As with the other forms of permanent insurance, the cash value in a whole life policy grows tax deferred. By contrast, if that money were in a regular, non-retirement investment account, its interest and dividends would be taxed every year. What’s more, life insurance proceeds (the death benefit that goes to the beneficiary) are generally not taxable, so those investment gains may escape taxation altogether.
Potential loan collateral
As mentioned above, policyholders can borrow against the cash value of their policies after a certain point. That could be useful in a financial emergency for someone who has exhausted all other sources for borrowing. And unlike other kinds of loans, they don’t have to pay the money back if they can’t or choose not to. However, there are some major caveats here, one of which is that the policy’s death benefit will be reduced accordingly if they die before paying it back.
For the same amount of money as you’d spend on whole life, you can buy a much larger term insurance policy.
Cons of Whole Life Insurance
On the other hand, whole life insurance also has some drawbacks to consider. These include:
Compared with term life insurance, whole life insurance is costly—between five and 15 times as expensive, by Investopedia’s estimate. One reason is that part of your premium goes to fund that cash value account (so it isn’t entirely wasted). Another is that insurance salespeople typically receive larger commissions for selling whole life policies than term policies, a fact that may also help explain why permanent insurance policies outsell them.
Smaller death benefit
The corollary to whole life being more expensive is that whatever amount you spend on insurance will buy you a much lower death benefit than you could get with a term policy. So if you need a lot of insurance—as you might if you have a young family dependent on your income—whole life may not come near providing an adequate amount of protection.
Lack of investment control
With a whole life policy, the insurance company invests the cash value part of your policy in whatever way it chooses. If you’re a capable investor and comfortable taking on some additional risk, you might achieve greater returns by investing that money on your own. That is why consumer advocates have long suggested that people “buy term and invest the difference.” (To make that strategy work, of course, you actually do have to invest the difference and not just spend it on other things.) With a variable policy you have some investment options, but they’re limited to the menu of funds the insurance company makes available to you.
The Bottom Line
Whether or not whole life insurance is right for you depends on your individual needs. It’s more expensive than term life insurance, so for the same amount of money your death benefit will be smaller. Nevertheless, it’s yours for life, so you don’t have to worry about it running out. If you need more protection earlier in life, say for a growing family, term probably makes more sense. If, however, you want a legacy to leave for your heirs, it can be worth buying a whole life insurance policy.