Term Life Insurance Vs. Permanent Life Insurance?
Posted July 30, 2009 – 4:36 pm in: term life insuranceTerm Life Insurance vs. Permanent Life Insurance
Tags: Insurance, Life, Permanent, Term-
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Whole life insurance is a form of life insurance which has a guaranteed level death benefit until death or age 100, which ever comes first. It also builds a guaranteed cash value which will equal the face amount of the policy at age 100. So if you have coverage of $100,000 and you are still alive at age 100, the insurance company will void your life insurance policy and pay you $100,000.
Premiums remain level and there are 3 ways you can pay your premiums. The most common way is called “Straight Life” or “Continuous Premium Whole Life.” This is where you premiums continuously until you die or when you reach age 100.
The second way is called “Limited Pay.” This is where you pay a higher amount of premiums than Straight Life for a certain amount of time. Examples of this are “20-Pay Life” or “Life Paid at 60.” With “20-Pay Life” you pay your premiums for 20 years. “Life paid at 60″ means you pay your premiums until you reach 60 years old. The shorter the payment period, the higher the premiums and vice versa.
The third way is called “Single Premium Whole Life.” This is where you pay one lump of premium and never have to pay it again.
As I mentioned earlier, Whole life insurance builds cash value. You can borrow it anytime and use it for any purpose. The question is “what is this borrowing part all about?” Isn’t the savings suppose to be your money? The answer is no. The premiums you pay belongs to the insurance company.
If you want to take money out from your life insurance, you have to borrow it. The insurance company will charge you a loan interest of anywhere between 5-8%. But in the first 2 years of the policy, no cash value is accumulated. So there’s nothing you can borrow during that time. After the first 2 years, you are guaranteed an interest rate between 1-3%. When you borrow money from the cash value, your death benefit is reduced by the amount you borrowed, but the premiums remain the same. Interest charged on the amount you borrowed does not go back into your cash value. It goes directly to the insurance company.
If you die someday, the insurance company keeps your cash value and pays the death benefit only.
If someday, you decide you want to cancel your whole life policy, you will get most of your cash value. When you cancel your life policy, the insurance company may charge you a surrender charge on your cash value. If you borrowed money from your cash value, it is important that you pay this loan back before canceling the policy. Failure to do so will result in income tax on the loan amount.
In summary, here are the pros and cons of whole life insurance:
PROS
1) You are guaranteed coverage until you die or reach age 100, whichever is first.
2) Premiums remain level.
3) It builds cash value.
CONS
1) It builds cash value, which makes this type of life policy very expensive.
2) Cash value grows at a low rate of return
3) If you want to use the cash value, you have to borrow it and pay loan interest of 5-8%
4) If you die, the insurance company keeps your cash value.
Term insurance is designed to provide death protection for a definite and limited period of time such as One Year Term, Five Year Term, 30 year Term, or Term to 65. If the insured dies during the term, the policy matures and the insurance company pays the face amount of the policy to the beneficiary. If the insured doesn’t die during the term, the policy expires.
The second most important characteristic of Term insurance is that it is pure insurance. You pay premiums only for the coverage. Since there are no forced savings or cash value attached to Term insurance, it is designed to provide the greatest possible protection for the lowest possible cost. Therefore, the two key points to remember about Term insurance are that if offers (1) protection only for a (2) a specified period of time.
One of the most widely marketed forms of Term insurance is Annually Renewable Term (ART). The insurance company grants the insured the right to renew the policy each year to a stated date or age. The cost to renew the policy goes up each year because the rates are based on the insured’s attained or current age.
The increasing in premiums can present a real problem for the insuring public. One Term product that provides a partial solution to the rising costs is Level Premium Term. With a policy of l0ng duration, the payment may be leveled out over the life of the policy to create Level Premium Term. The cost of Level Premium Term is calculated by price of the early years by the price of the later years. So in the beginning, you are making an overpayment of what the actual cost of insurance is. But in the later years, you are making an underpayment of what the actual cost of the insurance is. Why? Because the cost to insure someone is young is low compare to the cost of insuring someone who is old.
Term insurance, then, in any of its many forms, is the most affordable protection available for teh premium
Term insurance -where insurance is purchased for a specified period (typically a year, or for level periods such as 5, 10, 15, 20 even 25 and 30 years) where a death benefit is only paid to the beneficiary if the insured dies during the specified period. on survival nothing is payable
Permanent life insurance is a form of life insurance such as whole life or endowment, where the policy is for the life of the insured, the payout is assured at the end of the policy (assuming the policy is kept current) and the policy accrues cash value.
Term life insurance offers temporary protection for 1-30 years. You can usually choose from coverage for 10, 15, 20, or 30 years.
Term life does not build cash value, and provides the most life insurance at the lowest cost. If you outlive your term, the coverage expires.
Permanent life insurance provides lifetime coverage, as long as you pay the premiums.
Many people choose term life because it is much more affordable, and they may have money saved to pay their final expenses after the term of the term life policy.
Your question is a bit vague, but let’s go with this.
and only about 1-2% of all term policies ever pay off because most folks drop it as they get older, simply because the costs become exhorbitant.
First: Let’s discuss some various types of life insurance. Here are the basic forms of insurance.
Term- this is for a specific period only. Most companies offer 10, 15, 20, and some 30 and even 40 year term policies. There is no cash value accumulation within a term policy and it is basically renting your insurance for a specified period of time. It has its place, but the one bad feature of it is that you only win if you die. Most beneficiaries actually appreciate if the policy is in force at your death
Second: there is permanent insurance. This is insurance that will cover you for your lifetime, no matter how long. There are various types of permanent insurance. A lot of folks only know of an older one called Whole Life. This is an insurance in which there is cash value growth within the policy. The premiums are fixed in this type of policy. The basic idea is that you make premium payments and what is above the necessary to insure you goes into the General Accounts of the insurance company and they usually guarantee you about 3-5% on this. However there is almost never any cash accumulation over the first five years and what they give you barely, if it even does, keeps up with inflation. Also as you age, the cash accumulation can be used by the company to pay for policy charges so these often lapse or the person winds up at retirement with little if anything in the policy.
There’s another insurance called Universal Life which is similar in many ways to the whole life, but here the premium payments are flexible, but again any cash value accumulation is put into the General Accounts of the insurance company and guaranteed at about 2-5%.
Third:
Because both of these types of insurance didn’t provide real cash value accumulation the insurance companies came out with a product, and it is a very very good one for a lot of folks. It’s called a Variable Universal Life policy. Here, the cash value accumulates in Sub Accounts (which are owned by the insured and NOT the insurance company). These accounts are out in the market and get market rates of return. Depending on the portfolios that you are in, these can average anywhere from 8 – 12% over time. They can also take a hit over the shorter term as you can see in the market now.
These policies not only provide life long insurance for you, but the cash value in the account may be accessed tax free (as it may in the other cash value insurance) and if structured correctly, this can add much money to your retirement or even before so you may enjoy it even while you’re alive (as well as having the death benefit if something happens to you).
About eight years or so ago, the insurance companies also created Indexed Universal Life. In these policies, the cash value accumulation is a result of being compared to some index, usually the S& P 500 or sometimes a combination of the S & P and international indices like the Sang Heng over the year. A lot of these policies average about 8% over time. They often usually have a cap and a floor and they are often very attractive to folks who like guarantees.
You’re going to hear a lot of “sound bites” here. A lot of simply “buy term, invest the difference”. “All cash value insurance is evil” etc. These are usually from folks who aren’t even licensed to discuss the variable forms of insurance in front of someone. They also never mentioned the potential tax benefits of a permanent policy vs. the term buy the dif strategy.
I’m dually licensed, both with an insurance license as well as a security license (no, this is not a solicitation for business, I’m simply attempting to answer your question in as concise and correct as possible in front of a computer where I can’t illustrate or draw things for you.)
I suggest that you might like to have your library request “The New Life Insurance Investment Advisor: Achieving Financial Security for You” by Ben Baldwin. It’s a bit dry, but you can see for yourself that what I’ve said is accurate.
As an aside, remember if you get your life insurance from your employer, often it’s only about 2x your salary and it usually ends when your employment does. Please, if you speak to any agent local to you, make sure he/she is dually licensed so you can get the full story and not just the part of it that the singly licensed person wants to babble because it’s the only way they can sell the only thing they have available.
Does this mean I think term is bad? Absolutely not. I often recommend it to folks who have a need for it, but usually it’s a convertible policy that can be moved to a permanent one as their situation improves. However, term is NOT the be-all and end-all and it often increases in cost to a point where you wind up having to drop it.
This is just an overview. Contact a LOCAL agent for illustrations.
Term Life Insurance:
Coverage for a specified period of time. (Annual Renewable, 10 yr, 20 yr., 30 yr., Term to age 65., Decreasing Term.
Pure cost insurance. Premiums are less than Permanent in early years. Term accumulates no cash or loan value. It’s temporary insurance. Each renewal period, the premium rate increases. Only 2-3% of death claims are paid by term insurance. Chances are that when you really need it, it will have already expired. It gets too expensive to keep in later years.
Term Insurance usually is guaranteed renewable, but it gets expensive in later years, and guaranteed convertible to Permanent, but will also be more expensive in later years.
Permanent Insurance:
Whole Life, Universal Life, Limited Pay Life (10 yr., 20 yr., Paid up at 65., Paid up at 95.)
Whole Life: Premium rates are higher than Term, and payable for life, usually to age 95 or 100. Premiums are level throughout the life of the contract and this offsets the increasing cost of term insurance. It accumulates cash or loan value, in addition to having another non-forfeiture benefit of Extended Term, or Reduced Paid Up Insurance. If the insured is still living, and the policy premiums are paid for the total premium-paying period, the policy will “endow” (pay off) at age 100. (Some newer WL policies these days are payable to, and endows at age 120, or pays at death, if earlier.)
Some Whole Life policies also accumulate dividends, in addition to cash value. I recommend using the dividends to purchase Paid Up Additions. This will INCREASE your death benefit every year, but your premium stays the same.
If one cannot afford to be totally insured with WL, I recommend a combination of WL and Term. You’ll be protected two ways. You’ll have the total amount needed, but in later years, you won’t lose your insurance for not being able to pay for it. As the dividends increase the death benefit by purchasing paid up addiditons, you’ll be able to reduce the term in later years.
Universal Life:
This is a combination of Annual Renewable and a cash accumulation account. (Similar to an annuity). It accumulates a cash or loan value, and some have a reduced paid up benefit. This type of policy came into being in the early 1980’s to counter a wholesale replacement company called A.L. Williams and Associates.
The cash accumulation has a minimum guaranteed interest rate, and the term insurance has a maximum mortality rate. Your premiums go into the cash account, and out of it comes the monthly cost of the term insurance, and the monthly policy expenses.
UL has two options: Option A: The death benefit includes the accumulated cash value. Option B: The death benefit, plus the cash value upon death. The costs are higher for this option.
After the UL had been in existence for a few years, the Federal Government decided to regulate it, because many people were dumping cash into these policies to shield them from having to pay taxes on the interest accumulation. Now there are guidelines to follow, and it’s not as lucrative as a tax shelter. There are now maximum premiums one can put into a UL without penalties.
The UL is a complicated policy to try to explain in this little space, so I recommend that you call a LOCAL agent to explain it more fully.
I hope this limited amount of information helps.
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gd luck
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