This has been an active debate in the personal finance space for many years. Ask most people and they will answer “Term Insurance is the way to go because you can buy term and invest the rest.” Ask an insurance salesperson and you’ll get “Buy whole life because it covers you for your whole life.” Which is right?
Well that depends on what you need insurance to do for you.
Term Insurance
is defined as life insurance coverage that will cover you for a specific (term) number of years. It does not hold any cash value and will need to be renewed or discontinued once your term is up. You can typically buy term insurance for 5 years all the way up to 30 years. This is not a lifetime policy.
Whole Life Insurance
is what we call permanent insurance because it will cover you for your entire life as long as you continue to pay the premiums. As you make the premium payments to your whole life policy, over time, your policy will build up a cash value.
Benefits of Term Life Insurance:
1) Cost. Term is much cheaper to purchase and own than whole life insurance.
2) It can be purchased to cover a specific need. For example, as a couple with small children and a mortgage, you might buy a 20-year term policy to cover the cost of raising the children and to pay off the mortgage in the case that the main breadwinner of the family passes away.
3) You can cancel it anytime by just not making the premium payment.
Benefits of Whole Life Insurance:
1) After passing an initial life insurance medical exam and continuing to pay the premium you are covered for life, with no further medical exams. When you purchase life insurance, you’ll answer a series of medical questions, normally have an appointment with a nurse who’ll draw blood and take a urine sample as well as having your medical history reviewed. With whole life insurance, you’ll only have to go through this process once.
2) It builds cash value. The premiums you pay for the insurance will mostly go towards the cost of the death benefit and the insurers costs and profits with a small amount going towards the cash value. The insurance company will invest the cash value in interest paying investments. As the cash value earns interest and you continue to contribute to it, the cash value increases. The benefit coming when the cash value builds up and the interest (dividend) can pay the premium.
3) Tax-Free Loan. As the cash value builds in the whole life policy, you’ll be able to take a tax-free loan against your cash value. This can be useful for home repairs, college expenses or pretty much whatever you want to use it for.
Again, whole life insurance is for your entire life. Term insurance is for a limited term. Term is cheaper and easier to get than whole life but when your term comes up for renewal you will need to decide to A) Do nothing B) See what your current insurance company offers you in the way of a renewal. Staying with the same company may allow you to avoid another insurance medical exam. C) Compare the rates with other insurance companies. (Keep in mind if you go this direction with a new company, you’ll be subject to qualifying medically.)
I had a client who at age 55 bought a $1 million term policy for 20 years. His yearly premium was around $3200. Several years back he turned age 75 and his term came up for renewal at a price of around $60,000 a year. He was in no position to pay $60,000 a year so he ended up dropping the policy.
Insurance is designed to protect your assets and I’m a believer that most people can get by with term insurance. Many insurance salespeople will flip it around and say whole life is preferable because it is an investment. Yes, the cash value and an optional tax-free loan is a nice feature with whole life but there’s a large cost to use it.
I’m banking that if you put $1000 a month in whole life versus $250 in term life insurance and another $750 in a low cost index fund, the term and the index fund would give you the same insurance coverage and blow the doors off the whole life even with the tax-free loan benefit.
Buyer beware, whole life policies typically pay the highest commission to an agent of any investment/insurance product out there so if you’re being pitched a whole life policy by an insurance agent make damn sure it fits a clear need of yours otherwise you might end up with a product that you don’t really need. Get a second opinion.
With that said, whole life insurance does have its place.
Where does whole life fit?
1) Let’s say your family has a history of heart disease, dementia or some other debilitating illness. Your father had it, your mother had it and your siblings have it. Then whole life might be the answer because it will cover you for the rest of your life.
2) You have an estate planning issue. So, you need your insurance to last as long as you do then whole life might be a good answer here.
3) You want to leave an inheritance to your beneficiaries. Again, you need your insurance to last as long as you do.
4) Reverse Mortgages. If you have a reverse mortgage in place where equity in your home is paying you back in the form of income, you may want to have a whole life policy in place for your beneficiary. With the whole life proceeds at death, the beneficiary would be able to buy the home back from the bank. (Kinda cool, eh?)
These are just a few ways that whole life fits and I’m sure there are other ways that it also fits someone’s financial picture.
Keep in mind that if you’re covered by a group life insurance plan at work, you’ll often lose that coverage once you retire so it’s best to look at some options well ahead of time if life insurance is a benefit you want to continue.
My Final Opinion: Term is the clear winner for me unless you have a real need for the life insurance to live as long as you do.
If you’d like a quick term quote, you can click https://www.retireearly365.com/best-term-life-insurance
for a quote from some of the top companies.
Stay protected and live free my friends,
Eric Gaddy
