Term vs Whole Life Insurance: Which One To Use

  • FitBUX
  • |
  • Term vs Whole Life Insurance: Which One To Use
Author: Joseph Reinke, CFA

When it comes to choosing a life insurance policy, there are two primary options: term vs whole life insurance.

While both offer valuable protection for you and your loved ones in the event of an untimely death, each type has its unique features that can make one more suited to your needs than the other.

In this article, we’ll compare term vs whole life insurance so you can determine which is best for you. We’ll also cover factors to consider when making your decision as well as tips for getting the most out of whatever policy you choose.

What Is Life Insurance

Life insurance is an agreement between you and an insurer that pays out a tax-free lump sum death benefit to a beneficiary if you die during the policy period.

The money should be used to cover costs such as funeral expenses, debts, replacement of lost income, or other financial needs of your beneficiaries.

Overview of Term vs Whole Life Insurance

Term life insurance is a type of policy that provides coverage for a specific period, usually 10, 20, or 30 years. This means the insured person will only receive death benefits if they pass away while the life policy is still active (the Insured is the person whose life is covered by the life insurance policy).

If the insured person lives beyond this period, the beneficiary is no longer eligible to receive death benefits from the life policy. The beneficiary is the person that receives money if the insured person dies.

Whole life insurance is a form of permanent life insurance that remains active until the policyholder passes away and pays out death benefits regardless of when it happens.

It also accumulates cash value over time and may offer dividends or other bonuses to holders.

To be clear on one point, whole life insurance is only permanent if you continue to pay your premiums!

Getting A Policy

One big difference between term life insurance and whole life is the necessary steps you need to take to get it.

Term life insurance is much easier to get. Most companies will allow you to do a simple 3 – 5 question survey and you can get some insurance.

I say “some” because this easy-to-obtain coverage will have a cap on the death benefit, i.e. you may only be able to obtain a term life policy for $250,000 with this method. This is how most employee life insurance is set up.

When it comes to whole life insurance you will always need to do a full medical exam.

A medical exam is where a specialist will come to your house and do things like taking blood.

To summarize this difference, term life insurance up to a certain death benefit is much easier to get than a whole life policy.

Types Of Whole Life Insurance

It’s important to note, there are different types of whole life insurance such as indexed universal life (IUL) and variable universal life insurance. For this article, we won’t use these terms and instead refer to the catch-all phrase whole life insurance to describe all of them from a high level.

Advantages and Disadvantages of Term Life Insurance

Term life insurance is generally the more affordable option when compared to whole life insurance.

Most of the time, people get a term life insurance policy and invest their savings and/or get a long-term disability insurance policy.

Premiums for term policies are fixed, which means you can plan your budget and know that your payments won’t change over time.

The main disadvantage of term life insurance is that it does not have the same built-in cash value as whole life insurance. This means you can’t use the money saved in a term policy to borrow against or reinvest like you can with a permanent policy.

Another way of saying this is that you can pay premiums for years, not die, and never receive a benefit.

Return Of Premium Term Life Insurance

Return of Premium (ROP) Term Life Insurance is an increasingly popular option that combines the affordability of term life insurance with the added benefit of returning all premiums paid at the end of the policy term if the person remains alive.

This type of policy works like a traditional term life insurance policy, but instead of no return benefit when it expires, it refunds the premium (less administrative fees) to the policyholder as cash at the end of the term.

This sounds very attractive but these policies are typically more expensive the traditional term life insurance policies.

Also, most of the time you do not keep the same term life insurance policy for the entire length, i.e. if you get a 20-year policy you do not keep it all 20 years. The reason is you may be able to get a cheaper policy in future years if you remain healthy.

Therefore, most return of premium term life insurance policies never return the premium.

Thus, I never recommend getting a return of premium policy!

Advantages and Disadvantages of Whole Life Insurance

On the other hand, whole life insurance offers coverage throughout a person’s lifetime and accumulates cash value as premiums are paid into it over time.

This cash value can be used to borrow against during times of financial hardship or for long-term investments.

The biggest disadvantage of whole life insurance is its cost—it tends to be much more expensive than term policies because it provides coverage for an entire lifetime rather than just a set number of years.

In addition, returns in these insurance policies are not guaranteed so there is some risk involved with them as well.

Reduced Paid Up Life Insurance

You may see this term: Reduce paid up life insurance.

This is a whole life insurance policy whereby you’ve been making premium payments for several years and have a significant cash value saved up.

However, you may not want to keep making the premium payments to keep the whole life insurance policy from lapsing.

Therefore, you use the cash value from the policy to pay the whole life premiums.

However, you must be careful. If the cash value goes to $0, you’ll have to either start making payments again or the policy will lapse and you get nothing!

To prevent that from happening, owners of whole life insurance will reduce the amount of death benefit. Doing so reduces the cost of insurance. Therefore, you may be able to keep the policy forever and never make another payment again.

That is why they call it reduced paid up life insurance. Being paid up means you do not have to make payments ever again. In essence, you truly have permanent life insurance because it will never lapse and you know the death benefit will be paid to the beneficiaries.

Factors to Consider When Choosing Between Term or Whole Life Insurance

When choosing between term and whole life insurance, there are several factors to consider.

First, think about how long you want your policy to last. If you only need coverage for a specific period of time, such as while your children are young or while you still have a mortgage on your home, term life insurance is the more affordable option and the best choice.

On the other hand, if you want a policy that will provide long-term benefits to both you and your family, whole life insurance may be a better fit.

You also need to think about what kind of death benefit you’d like your policy to provide. With a term policy, death benefits are typically fixed but may increase depending on how much coverage you purchase. In contrast, whole life policies may include additional bonuses or payouts for the policyholder or their beneficiaries.

In short, most people only need term life insurance.

Whole life insurance is only needed in two circumstances:

  1. You need a permanent policy for an ILIT (Irrevocable life insurance trust)
  2. Or you have a lot of extra money each year and are looking for a tax-free investment via a “Super Roth”

Tips for Getting the Most Out of Your Policy

Once you have determined which type of policy is right for your specific needs, there are a few tips to keep in mind to get the most out of your insurance policy.

  1. Shop around and compare quotes from multiple providers to ensure you are getting the best deal possible.
  2. Look for policies with no-cost riders so you can add coverage without additional fees.
  3. You should also be sure to review your policy periodically and update it when your circumstances change. If you get married, divorced, or have children, for example, you may need more or less coverage than you initially purchased.
  4. Always try to pay the premiums annually. Over time this will save you a good chunk of money.
  5. Think about how beneficiaries will receive their payout.

Final Thoughts on Finding the Right Coverage for You

Choosing between term and whole life insurance can be a difficult decision to make, but it is an important one.

When deciding on the right policy for your needs, consider how long you want coverage for, what kind of death benefit you would like to provide, and other factors such as riders or payment distribution options.

Ultimately, finding the best plan that fits within your budget will give you peace of mind knowing that your family’s financial future is taken care of in any situation.

If this sounds overwhelming and confusing FitBUX’s financial planning technology makes it easier than ever before with our intuitive tools and resources designed specifically for selecting the perfect plan for your family’s needs. Sign up today to get started!

Joseph Reinke, CFA

Follow me here

About the Author

Joseph Reinke is a Chartered Financial Analyst (CFA) Charter Holder and founder of FitBUX which has helped over 14,000 young professionals on their journey to financial freedom. Joseph has been personally investing since he was 12 years old.

In addition, he has experience in student loans, mortgages, wealth management, investment banking, valuation, stock trading, and option trading. He has been on 100s of podcast and has been invited to 100s of universities to discuss financial planning with their soon to be graduates.

{"email":"Email address invalid","url":"Website address invalid","required":"Required field missing"}