There are a few key differences between term and permanent life insurance policies that will help you decide which type of policy will best meet your individual needs.
Simply put, term life insurance is good for a pre-determined amount of time. When the term is up the policy is renewable, but the rate will be higher. Term policies are usually inexpensive compared to permanent policies. Term life insurance is the better financial choice for 98% of families.
Permanent life insurance includes universal life insurance and whole life insurance. It’s good for the entire life of the insured person, and has a cash accumulation value as well as a death benefit. This type of policy costs more, but is also more versatile.
Permanent life insurance policies will almost always have a higher premium cost than term life insurance policies — around 20X as much for the same amount of coverage. Much depends on the insured person’s age and health status. In general, term life insurance is the least expensive option.
A term life insurance policy may last as long as 30 years, but when the time is up, the policy disappears. All of the premium payments go with it unless the insured person dies before the term is up.
You’ll choose a term of 10, 15, 20, 25, or 30 years upon initiation of the life insurance policy. At that time, the cost will be set by the insurance company. If you agree, you’ll pay the premiums until the term is up or until the insured person dies. The face value of the policy will never change, nor will the amount of money you pay for the policy.
A permanent life insurance policy lasts for the lifetime of the insured person, no matter how long they live. When they die, their heirs are guaranteed a death benefit. This guarantee of a benefit is one reason permanent life insurance is more expensive.
The issue is that most people don’t keep their permanent life insurance policy — in fact 87% of permanent life insurance is lapsed or surrendered and never pays a payout. This is due to the high cost of the product.
Permanent life insurance policies are much more complex than term policies. They have a guaranteed rate of return on the cash value portion of the policy. The premiums are as much as 20 to 30X times higher for a permanent life insurance policy than for a term life insurance policy.
Both term life insurance and permanent life insurance policies offer a death benefit payable to designated beneficiaries.
If the policy term expires before the death of the insured person, there is no death benefit and the insurance company will not pay a claim.
Permanent life insurance offers a death benefit to beneficiaries no matter when the insured person dies, as long as the policy was in good standing when the death occurred.
If your term life insurance policy is convertible, you can request that it be changed to a permanent policy if you do so before the conversion deadline set by the insurance company.
This is a good option for people who want a permanent policy but would otherwise have to pay a much higher rate because of their health status.
When converting a policy from term to permanent, there’s no medical exam required to prove insurability. This is a great option for people who are in poor health or who have a difficult medical history.
The permanent life insurance policy, after conversion, will have a higher premium than the term policy, but it will also have the benefits associated with permanent life insurance.
Term life insurance policies do not have a cash value. Their benefit is only payable to the beneficiaries upon the death of the insured person.
Most types of permanent life insurance offer a cash value component that accumulates as you pay the policy premiums. This cash value grows with a guaranteed minimum rate of return.
The insured person can borrow against the cash value that’s accumulated in the policy or they can choose to cash in those funds.
How to choose between permanent and term life insurance
These two options have so many differences that choosing between them is a simple matter of evaluating individual circumstances. Here are some easy guidelines:
Term life insurance is great for:
- People who want the least expensive life insurance option
- People who want to protect their family from a loss of income and help them pay off debts, fund college tuition and retire early
- Young people who need to replace income in the event of their untimely death, but don’t have extra money to spend on insurance
- People who only need life insurance for a certain amount of time, such as during the time when kids are living at home or until their house is paid off
Permanent life insurance is great for:
- People who want coverage for life, no matter how long they live
- Retirees who want to leave money to heirs, but also want to spend the money they’ve earned over the years
- Managing estate taxes so that heirs don’t have to cut into their inheritance to pay them
- Funding for a special needs trust to provide lifelong care for a dependent after the insured person dies
- Equalizing inheritance when only one child can be the recipient of property or the family business
Before purchasing any type of life insurance, make sure you understand your policy. While term life insurance is fairly straightforward, whole life insurance financial products can be difficult to understand.
Some financial topics related to life insurance, like setting up a trust or managing estate taxes, require the advice of tax and estate planning professionals. Taking the time to plan carefully when it comes to choosing between whole life insurance and term life insurance is an important part of the process of creating a successful financial future.