When it comes to life insurance, are you confused about the difference between term or whole life? Making the wrong decision can have disastrous implications for your finances, so you need to have a good understanding of both types of life insurance before you dive in.
What Is Term Life Insurance?
Term life insurance is your basic life insurance policy in which you’ll get the face amount in the event of the policyholder’s death. The ‘term’ part of the name comes from the fact that the policy lasts for a particular number of years. While the policy is active, you’ll be covered, but after it expires, you’re left with no protection and no payout will be given if you then die.
Assuming that you’re in good health and are under 50 years old, you can get very competitive premiums on a term life insurance policy, because statistics are on your side that you are less likely to die before the age of 50 if you’re in general good health. Beyond the age of 50, you can expect to be paying considerably more for your premiums, and you may struggle to be accepted for term life insurance at all after you hit 65, because your chances of dying are more likely in the eyes of the insurance company. Still, term life is the cheapest form of life insurance, because it does not attach any extra benefits to the policy other than the death benefit.
What Is Whole Life Insurance?
Term life insurance only lasts for a specific number of years, but whole life insurance will cover you for the rest of your life as long as you’ve paid the full amount of premiums. It is radically different from term life insurance, because some of your monthly premiums are invested into shares, bonds and other investment vehicles. This acts as a ‘cash value’ savings asset that you can claim if you live longer than the length of your policy or borrow against the amount, but it makes whole life insurance policies more expensive than term life insurance policies. Many insurance companies package the investment component as retirement savings, but there are far better options out there for funding your retirement if that’s your main goal. If you’re an employee, paying into a 401(k) is probably your best option, while a Roth IRA is advisable for anyone who doesn’t have a 401(k) offered at work or if it doesn’t offer a company match.
Whole life insurance policies tend to come with big fees and commissions and even worse than this, you’ll often be hit with up-front commission fees that aren’t made obvious, and these can effectively wipe out your first and second year’s premium.
Return of Premium Insurance
I tend to be skeptical about whole life insurance, because it tends to be considerably more expensive than term life insurance, and it comes with hidden fees and commissions. You also have no control over the investments that make up the cash value part of your policy. Instead of taking out whole life insurance, you might prefer to choose an insurance company that offers a “return of premium” insurance policy. This works in a similar fashion to term life insurance except that when the term expires, you will be given back the premiums that you’ve paid. For example, if you’ve taken out a twenty-year term policy with monthly premiums of $1,000 a year, your “return on premium” would be $20,000 at the end of the term. This is a more attractive proposition than whole life or basic term life insurance, because you’re guaranteed to receive your premiums back again if you’re still alive, but you’ll be paying higher premiums if you choose this option.
For most people, term life insurance is the best option, but go ahead and talk to an insurance professional if you’ve got any doubts regarding your best move. Be aware though that he or she may have a vested interest in selling you a specific life insurance policy, so go into it with your eyes open and think very carefully about which option you think will suit you best. This will help you avoid being talked into something that could prove to be a bad decision in the long run.
(photo credit: Anyaka)
