If you can’t quite tell the difference between term life vs whole life insurance, you’re not alone.
For the most part, what comes to most people’s minds when they hear “term life insurance” is that you pay some money monthly or annually, and if you pass away, your dependent would be given a certain amount of money.
And you’re not wrong.
That is life insurance in its most basic form. But then you get online, bump into a few ads, or speak to an agent and you are bombarded with all these terms and explanations that complicate things.
So here’s a guide for you to help you figure out the difference between term vs whole life insurance, show you how each works, and ultimately help you choose which of the two would be right for you.
Let’s jump right in…
What is Term Insurance?
Term life insurance covers you for a set period of time. It usually lasts about 10, 20 or 30 years. So, if you bought a $500,000 policy for a 20-year term, your beneficiaries would receive $500,000 if you passed away within those 20 years.
That’s it! Term life insurance is pretty straightforward.
To get this insurance, you would be assessed according to your age, health status and the risk level of the work you do, and you would get a rate that aligns with these factors. According to the insurance companies, the younger, healthier and generally less risky you are, the cheaper your premiums are.
You may even pay as little as $50 or less each month for a $500,000 policy.
Such a policy is especially beneficial for families where you want to have the peace of mind that your responsibilities (children, debts, burial expenses, businesses, parents, etc.) will be taken care of regardless of whether you live long or not.
It’s a safety net to ensure that your family is taken care of even if you didn’t accumulate the assets or cash to protect them yet.
The key to benefitting most with term insurance is to buy term and invest as well. During the 10, 20, or 30 year term, you also want to consistently invest money, so you end the term with assets.
What is Whole Life Insurance?
Whole life insurance, like its name, is a type of life insurance that purports to cover you for your whole life, whether that’s the next 20 years or 80 years to come. And, because it’s designed as a savings plan and insurance, its premiums are usually higher.
For instance, according to Quotacy, a female at the age of about 40 years old may pay, on average, about $640 per month for a $500,000 policy.
Where a term policy may be closer to $50, a whole life policy will likely be significantly higher– that’s because it’s supposed to be something you can use while you’re alive or dead. You can “borrow” against this policy, which is a feature many people like (until they really know how it works). And that’s where understanding this type of insurance starts to get complicated.
During the first 2-4 years, the cash value is a 100% loss. The money that was intended to go into the savings is spent on administrative costs (like agent commissions). After the first 2-4 years (depending on your policy), a whole life insurance policy accumulates “cash value”. If you want to use the cash value, you would apply for a loan from your policy that’s repaid to the company at 6-8% interest, and when you pass away, you receive either the cash value or the death benefit (not both); depending on which has the greater balance.
The problem with whole life insurance is that most clients who purchase don’t realize:
- The first 2-4 years are a 100% loss of cash value
- They don’t get both their cash value and death benefit at death
- The cash value must be loaned when they want to use it (unlike a typical savings or investment account that you can simply transfer from when you need it)
- The savings account has no account number and you no longer own the money inside once it’s forfeited into the policy. You have to “borrow”.
- The interest on the loan isn’t being paid to yourself. Instead, it can eat up the entire cash value and cause the policy to lapse
- The interest rates are low in comparison to other investment options, so you could be leaving a lot of money on the table
Marketers and insurance agents will sometimes refer to it as infinite banking, permanent insurance, cash value insurance and even insurance you can borrow from while still alive. Whenever you hear these words, they are most likely talking about whole life insurance.
Defining Popular Words in Whole Life Insurance
Let’s define some important words you are likely to hear in whole life insurance pitches you come across.
Infinite Banking – It refers to the possibility of you being able to borrow against yourself and your contributions all throughout your life. The name is based on the premise that you will keep paying your premiums (and loan amounts) to keep the coverage active for as long as you live.
Cash Value – This is the cash portion of your contributions. Out of the premiums you pay on a monthly or annual basis, a portion of them is made available as a loan when you apply for it. You can earn 1-3% in interest on the cash value, and when you borrow against this portion, you repay at 6-8% in interest.
Difference Between Whole Life and Term Life Insurance
From the definition, you can already tell some differences. But, let’s recap them here and add more differences to help you tell the two apart.
- Time Frame
The main difference between whole life and term insurance is the time each takes. Whole life insurance claims to be permanent in that it goes on up to 100 years of age; however, term insurance like our #1 recommendation insures clients up to 95 (which provides substantial time enough to accumulate assets).
Whole life insurance is often quite expensive compared to term life insurance. You may even pay as much as 15 times the cost of life insurance.
Here is one example of how much you would pay with term life vs whole life insurance:
Source: Policy Genius
What is Better: Whole life or Term Insurance?
To understand which would be better for you, we’ll look at the pros and cons so you can compare the two and see which one serves you best.
Term Life Insurance
- Affordable. Especially when you are young and in good health. Like our example above, you can see that it is more affordable than whole life insurance.
- Death benefit. You will get a death benefit as long as the policy is active.
- Usually more straightforward and easier to understand than whole life insurance.
- Flexible. You can customize the term length according to your needs.
- For most people, it leaves the most room in the budget for investing
- Some policies (such as our #1 recommended option) offers guaranteed renewability
- Can be covered up to age 95
- Expiration date. Term life insurance has an expiration date, so if you’re not investing into a well-rounded portfolio (with insurance and investments), you may feel like you spent it all for nothing. Sidenote: Make sure to setup insurance and investments simultaneously!
- Can’t cover you once you have a high mortality risk. Once you have a fatal illness or injury, you can be considered “uninsurable”, so it’s important to look into your options before something happens.
Whole Life Insurance
- It can cover you for up to age 100. (as long as you pay your premiums)
- Many report that they do receive their death benefit
- You can take loans against the policy
- It’s quite expensive compared to term life insurance.
- Interest rates are quite low, making it hard to make substantial returns
- You earn less interest than you get charged when you take a loan
- Surrender charges in case you back out of the policy.
- You could have a reduced death benefit if you take out loans and fail to pay them.
Let’s see what happens at the end of each insurance policy so you know what to expect.
What Happens at the End of Term Life Insurance?
Once your term life insurance comes to an end, some policies expire, which is why it’s important to look into options like our #1 recommended option that offers guaranteed renewability (regardless of health).
What Happens at the End of Whole Life Insurance?
Assuming you have paid your premiums for whole life insurance religiously, the end of the policy comes when you turn 100 or when you die (hopefully a long time from now).
Once this day comes, you may expect your beneficiaries to receive the payout, including the death benefit and your cash value. But, what agents fail to mention sometimes is that your beneficiaries will only get the one; whichever has the highest balance.
The remaining balance gets retained by the insurance company.
If you took out any loans and failed to pay them before your death, they would be subtracted from the payout. That means that your beneficiaries would get less than the initial amount and lose out on the cash value.
Such considerations make it important to choose between the two life insurance options wisely.
Choosing Between Term vs Whole life
When choosing which insurance policy to go with, or even whether to take an insurance policy, a few things can help you make the decision.
- Look at which helps you build the most wealth in the long run
- Detach yourself from the policies, and look at them more objectively. Thinking about your possible death isn’t a fun thing. It may even cloud your judgement. You may just need to list the pros and cons of each and look to understand them, similar to how you would choose a carpet cleaner or a phone plan.
- Do your homework. Read through the insurance policy’s terms and conditions. Now this one becomes important, especially because we all know how persuasive some insurance agents can be. You don’t want to pick a policy because you were persuaded into it, only to regret it later.
- Look beyond the insurance agent. The agent selling you insurance may be a friend or neighbor. But, you must be cautious when choosing insurance by looking beyond the agent. Consider doing your own homework and choosing one that works best for you without being swayed by the agent.
Take the time to understand each policy, and then go a step further to look at what the companies you are interested in provide.
You’ll find that different companies have different product offerings. For instance, you may find a term life insurance policy that has exclusions; meanwhile another has none. So take your time to really understand each policy before settling on one.
Whole vs Term: Our Take
Since we’ve seen term life insurance is cheaper than whole life, you can put the difference towards investments and get the best of both worlds. You can have higher interest rates while still protecting your loved ones in the case of your death.
For most families, it’s a good idea to separate your investments from your life insurance. When you separate the two, you are able to build more wealth, and at some point, become self-insured because you’ll have much more assets! Remember that any loans you take up on whole life insurance and fail to pay will reduce your beneficiaries’ payout.
And taking the more expensive option also runs the risk of you being unable to pay the premiums later in life. Let’s look at what would happen if you stopped paying for both insurance options.
What the Experts Say About Term Vs Life Insurance
Here are a few things experts will tell you about term vs whole life insurance.
It is wiser to separate your investments from your insurance. This ascertains your beneficiaries’ protection and enables you to accumulate more earnings in the long run.
Accessing the cash value of whole life insurance isn’t always as straightforward as a bank account. It may take you up to 6 months to get your request for withdrawal of this cash approved.
And, it’s considered a loan, in which you would need to pay interest rates of about 6-8%.
Final Thoughts: Term Insurance vs Whole Life Insurance
Life insurance is undoubtedly important to protect your loved ones from potential disasters. A life insurance policy will go a long way in giving you peace of mind. And with this article, you now better understand term life and whole life insurance policies. Download this article to read it on the go and keep the knowledge close to you.
If you’re ready to take action, and protect your loved ones, book a free 30-minute consultation. Get help from a financial pro to analyze your policy and eliminate insurance risks.
Learn how you can separate your savings and insurance so you can accumulate more wealth in the long term.
Which is cheaper, Whole Life or Term Insurance?
Term life insurance is cheaper than whole life.
Can you Cash Out Term life insurance?
No, you can’t cash out term life insurance, which is why it’s important to also establish investments.
How many years are the longest term life policies?
The record for longest term policy is held by Primerica. They offer 35-year term policies. Other term life policies often go for 10, 20 or 30 years. Let us help you set up a Primerica policy today.