Life insurance can be broken down into two broad categories: term and permanent. Once you have a firm understanding of how life insurance works and you’ve decided that you’ll need permanent life insurance, the next question to ask yourself is what type of permanent life insurance you’ll need.
Before we move forward, let’s first look at the general differences between Term and Permanent. Each has its own distinct benefits and advantages.
Term life insurance is the most basic type. The policy covers a set number of years, anywhere from 1 to 30. For younger people, this is often the least expensive option as it features relatively low rates for a fixed number of years. You’ll want to consider the length of the policy you purchase. If it expires and you want to renew, you’ll be older, and the rates will be higher. Term life insurance doesn’t have a cash value component (more on that below) or lifetime coverage. Essentially, your dependents don’t collect on the policy unless you die within the term period.
Permanent life insurance policies cover you until the day you die, no matter when it happens. The premiums can be fixed or flexible. The biggest benefit is the cash value component. The insurance company invests your premiums to build up cash reserves in your account. You aren’t taxed on the investment earnings until you cash in the policy, and you can borrow from the reserves. The drawback to permanent life insurance policies are higher premiums compared to term policies. Consumer Reports shows that a 40-year-old man in perfect health who wants a $500,000 policy would pay $6,670 in annual premiums for a “Whole life” insurance policy versus $660 for a term policy.
Permanent life insurance policies can be further broken down into sub-categories, each type allowing for various degrees of control where the money is invested.
This is the most basic type of permanent life insurance. Whole life features a fixed premium, meaning the rate you pay for your policy will never increase. However, the consumer has no control over where the money is invested. Whole life offers a certain amount of certainty, as your policy builds a cash value and the death benefit amount is guaranteed to your dependents.
This policy has a cash value that’s determined by short-term interest rates rather than the stated long-term rate of a whole life policy. The interest rates can fluctuate, but cannot fall below the policy’s guaranteed interest rate. The policyholder can shift funds between insurance and the savings components of the policy and can use savings to make premium payments. The premiums are flexible, meaning you can adjust your premiums and coverages as your needs change over time.
This type of policy gives the consumer control over where their savings are invested. The rate of return on investments not only impacts the cash value of the policy, but also will increase or decrease the amount of the final death benefit. The premiums in this model are fixed.
Universal Variable Life
This is a hybrid of the two. It allows for flexible premiums and for your cash value and final death benefits to be affected by the performance of your investments.
A permanent life insurance policy can be a part of your financial plan with a lot of options and flexibility. You’ll want to research the nuances of each type of policy and consider your health and lifestyle, investment acumen, aversion to risk, and your current financial standing to choose a permanent policy that works best for you. While it’s uncertain what might happen in 10, 20, 30 years or more, it’s also helpful to know that should your needs change, you can carry both permanent and term life insurance.
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