For many life insurance shoppers, the first consideration when buying a policy is deciding between term and permanent life insurance. Term life insurance offers you a death benefit for a specified term, and provides no benefit if you outlive that term. Whole life insurance is a type of permanent life insurance, which is designed to provide a death benefit for your entire life, even if you live to a ripe old age.
Here’s what you need to know about each of these life insurance options so you can make the best decision for your needs.
What's the Difference Between Term and Whole Life Insurance?
|Term Life Insurance||Whole Life Insurance|
|Lasts for specified amount of time||Lasts for policyholder's entire life|
|Benefit can expire||Benefit is guaranteed|
|Less expensive||More expensive|
|Policyholder cannot access funds||Accessible cash value|
When you purchase a life insurance policy, you’re signing a contract with the life insurance company. Per your contract, you will pay premiums to the insurer for a specified time period, or term. In return, the insurer promises to pay a death benefit (also known as the face amount) to your beneficiaries if the insured person passes away while the policy is in place. Term life insurance lasts for a specified amount of time—generally between one and 30 years. If the insured person doesn’t pass away during the term, the policy will expire with no death benefit paid.
Whole life insurance is a type of permanent life insurance, a category that also includes universal life, variable universal life, and indexed universal life. Like term life insurance, whole life promises to pay your beneficiaries a death benefit in exchange for your premiums (as long as you die while the policy is in force). The major difference is that whole life insurance covers you for your entire life, not just for a specific term.
Term life insurance generally provides a higher death benefit for a smaller premium because it does not need to last your entire life. If you die while your children are young, for example, term coverage can provide enough death benefit to cover your lost income until your kids have reached adulthood—at a much lower cost than whole life insurance. The benefit may even be enough to cover their education expenses, depending on how much you can afford.
However, if the insured person survives the term, you won’t see any financial payout from term life insurance. Additionally, if you wish to buy another insurance policy after the term has ended, you may not be able to qualify.
Premiums are based on the insured person’s age and health. If your term life insurance policy expires, there’s no guarantee that you will be able to extend, renew, or purchase a new term policy.
Whole life insurance solves some of these problems. Because this type of insurance lasts a lifetime and its premiums are generally level from the beginning of your policy, a whole life policy protects you for a consistent cost, no matter your future health. However, whole life insurance is generally more expensive, which could be prohibitive for some people.
Term life insurance policies accounted for 71.2% of total number of policies sold in 2018, but represented 71.8% of the total face amount issued that year, according to the American Council of Life Insurers. This difference in number of policies vs. total face amount stems in part from the fact that term life insurance tends to be less expensive than whole life, since your risk of dying while covered is much lower. That means you can buy a term policy with a larger death benefit for a smaller premium than a whole life insurance policy.
Whole life insurance policies tend to be much more expensive than their term counterparts. That’s because you are guaranteed to die, no matter how long you live, so the insurance company is much more likely to have to pay out a death benefit. In contrast, there is a reasonable chance that you will outlive the term of a term life insurance policy.
To make sure whole life insurance remains affordable to policyholders as they age, insurers generally charge a level premium, which stays consistent over the life of the policy. The amount that would be required to pay a claim in the first few years of the policy is lower than the amount charged in premiums; the excess goes into a cash account that helps offset the cost of insurance as it rises with age.
With term life insurance, you are contracted to pay premiums through the duration of the term, which are returned as a benefit upon death. This benefit is not guaranteed as it will expire after the term is over, and there's a decent chance it will never be paid. In that way, term life insurance is similar to homeowners or auto insurance: You pay premiums to protect yourself against loss, and if you don’t need to make a claim, the money you spent in premiums is simply gone.
This is where an attractive feature of whole life insurance comes into play: cash value. Insurers are legally required to offer those premium overpayments to policyholders as a cash value that can be accessed. This means whole life insurance can potentially serve double-duty for some policyholders: protecting their family in case of an early death, as well as providing a source of income.
Accessing the cash value of a whole life insurance policy can potentially cause the policy to lapse if sufficient premiums aren’t paid to keep it active.
Which Is Right for You?
Deciding between these two types of insurance depends in part on your specific financial needs. There are several important factors to keep in mind when choosing between term and whole life insurance, or when deciding whether to purchase a life insurance policy in general.
Your Age and Health
The younger and healthier you are when you purchase life insurance, the less expensive you can expect your premiums to be, whether you choose term or whole life insurance.
Your Family’s Financial Needs
If you expect your family to be financially secure in a certain number of years, even without your contributions, term life insurance may make the most sense for you. For example, if you have young children, you may want to provide coverage until they reach a certain age or finish college. However, if you have family members with disabilities or other long-term special needs, whole life insurance may help you ensure that they will be financially taken care of no matter how long you live.
Cost is a factor in purchasing life insurance, but it’s not the only consideration, as noted above. Insurance shoppers who would like to ensure a lifelong death benefit and a potential future income source may consider the whole life insurance premiums to be money well spent, even though they will likely cost more than a term life insurance policy.
The Bottom Line
Choosing between term and whole life insurance will differ from person to person, since your specific calculations depend on your family, finances, and future plans. But understanding the benefits and drawbacks of both term and whole life insurance can help you make the right choice for your specific situation.