Life insurance has become a staple with most employee benefit packages. It is an essential tool in planning for either retirement or premature death. The question is, which type is best for the individual – term or whole life?
A good way to understand the difference is to use a housing analogy. Term could be viewed as renting insurance, and whole life as buying with a mortgage.
Term life insurance
With term life, the provider covers the life of the insured for a specific amount of coverage for a determined monthly premium, during a predetermined time period (or term). This is much like a one-year lease for an apartment, where your monthly rent payments guarantees a place to live for 12 months.
Term life example: A $100,000 term life policy has a $10 monthly premium guaranteed for 10 years, or time of employment. When the 10 years, or time of employment expires, the policy does too. The insured must purchase another policy to remain covered. As the individual gets older and possible health issues change, the risk to the provider increases and the premium will be more expensive.
Whole life insurance
With whole life, the provider covers the insured for a specific amount of coverage until the policy is paid in full. This happens when the cash value of the policy is equal to the amount of insurance. This is similar to a home mortgage. A $200,000 house will have a 30-year mortgage at a calculated monthly payment. Once the principle is paid in full, the home is paid for with no addition payments required.
Principle can be paid off early by adding to the monthly payment and reducing the principle of the loan. This practice will also reduce the total interest paid. So in theory, a 30-year mortgage can be paid off in 10 years or fewer. Monthly mortgage payments are generally higher than rent, but can be cheaper in the long run because payments cease when the loan is retired.
Whole life example: A $50,000 whole life policy has a calculated $150 premium for 20 years, when the policy will be paid in full. Again, by adding to the premium amount each month, the insured can increase the cash value ahead of schedule and reduce the 20 years.
Whole life policies may pay dividends. This is a payment based on the cash value of the policy. When the dividends are equal to or exceed the insurance cost of the policy, the policy will pay for itself.
Term life policies may be convertible. This is when the insured has the option to convert their term life policy to whole life in full or in part. This is a great option for young people starting out when term life is cheap. Over time, as income increases, the insured can convert portions of the policy when it is more affordable.
So, which is best for you?
There is no one size fits all answer. Your situation and your financial goals determine the right policy for the right time. Meeting with your benefit provider's representative will be the best way to determine the right policy for you.