What would happen to your spouse or children in the event of your death? Would they be able to manage without you financially? Death is a difficult thing to think – and talk – about, but it’s an inevitable part of life. If the policy is large enough, it can help ensure your loved ones have food on the table and a roof over their heads. It can also cover expensive funeral costs and alleviate the burden of outstanding debts. In short, it helps provide guaranteed protection for your family at a time when money is the last thing they want to worry about. Learn more about the benefits of whole life insurance and how to find the right plan and provider for you and your family’s needs.
Whole Life Insurance: Guaranteed Coverage Without Any Surprises
Whole life insurance essentially offers you two financial products – life insurance and an investment. Sometimes called “straight life,” “ordinary life” or “continuous premium life insurance,” it’s a type of permanent life insurance that offers fixed premiums, a death benefit and cash value. Cash value, also called surrender value, is the part of the death benefit received when the policy is canceled. It’s also the key feature of permanent life insurance plans: Term life insurance, for example, doesn’t offer cash value.
Because whole life is permanent, the policy is active your entire life (or until a specified age, usually 100 to 121 years old), as long as premiums are paid on time. These premiums, minus insurance costs and expenses, are deposited by your insurer into your cash value account. While premiums for whole life are much higher than premiums for term life ($6,760 a year compared to $660 a year for a 30-year term policy for a 40 year old Illinois man in good health, according to Consumer Reports), whole life can be a good investment for those with financial backing who want guaranteed lifetime coverage.
Key Features of Whole Life Insurance
Your premiums will be the same for life, regardless of age, health and inflation.
As long as you pay premiums on time and don’t have any outstanding policy loans, your beneficiaries will receive the face amount of the policy when you die.
The cash value, or savings component of your policy, will grow each year without taxation. This cash is also yours, meaning you can access it via loan and withdrawal options. You would only be taxed if you withdrew more than what you put into the policy. Making a loan against the cash value, however, will reduce your death benefit and you’ll also be charged interest on the loan to make up the difference.
Types of Whole Life Insurance
When it comes to traditional whole life insurance, there are two main options – non-participating whole life insurance and participating whole life insurance. Below are six different variations that you can choose from:
Non-participating whole life insurance policies don’t pay dividends to the policy holder. Dividends are the money left over from collected premiums after overhead expenses and claims are paid. Your insurance company will set the fixed premium, death benefits and cash value when you purchase the policy and these amounts will not change afterwards.
Simply put, participating whole life insurance is the opposite of a non-participating policy. When the company does well in terms of investment earnings, mortality and expense costs, you’ll receive dividends either in cash, reduced premium payments, accumulated interest or to purchase paid-up additional insurance.
This type of policy is similar to non-participating whole life, except it offers adjustable premiums. You’ll be charged a premium based on the insurance company’s investment earnings, mortality and expense costs. If those numbers change, your premium will be adjusted accordingly, but will never exceed the maximum premium stated in your policy.
Economatic whole life insurance is similar to combining participating whole life and supplemental coverage – usually decreasing term life and paid-up additional insurance – through the use of dividends.
Under a limited payment policy, you can pay premiums over a shorter span of time, but still get lifetime coverage. However, because you’ll be making fewer payments, these amounts will be higher than what you would normally pay under a continuous premium plan.
As the name suggests, a single premium policy means you’ll only pay one large premium at the time of policy inception. After that, the policy is considered fully paid and no further payments are required. In many cases, however, companies will enforce substantial charges if you wish to cash in the policy during the first few years.
Who Gets Whole Life Insurance and Why?
When it comes to life insurance, the big question most people struggle with is whether they should get a term life policy or a whole life policy. The answer to this question will vary greatly from person to person and depends on how much you’re able to pay in premiums. Take a quick look at the major differences between term and whole life insurance:
|Policy Feature||Whole Life||Term Life|
|Guaranteed death benefits||(but only if the policy holder dies during his/her term, which often ends at age 72)|
|Premium payments go towards the death benefit and a cash value savings|
|Offers a cash value that earns interest|
|Offers tax-free benefits and dividends that can be used to buy additional paid-up insurance and/or provide a higher death benefit|
|Affordable premiums||(whole life premiums can be up to 10 times higher than a term policy with similar death benefit)|
In most cases, people purchase a whole life insurance plan because they want lifetime protection for their loved ones and money to supplement retirement and other savings. This is really a personal choice that can depend on a mix of factors, including your age and finances. In addition to lifetime coverage, there are other reasons for getting whole life insurance. Below is a closer look at the different types of people and situations that may be ideal for whole life.
Whole life can also ensure the continuity of your business. In most cases, people buy whole life insurance on themselves so their loved ones are taken care of in the event of their death. If you have insurable interest, however, you can buy a policy on another person. Insurable interest protects against the loss of someone else, such as a business partner or spouse, that could undermine your finances. It can provide income replacement should your business partner or a key employee die unexpectedly or provide funds to buy out the heirs of your deceased partner.
Let’s say you have a pension plan and have accumulated assets that can generate income after you die. If your estate’s net value is more than the set exempt amount at the time of your death, it will be subject to estate tax. A whole life insurance plan can help your beneficiaries pay for these taxes.
One of the most appealing features of whole life is the cash value that grows tax-free. If you’ve already maxed out on other investment options, such as 401(k)s and individual retirement arrangements, the cash value benefit plus dividends of a whole life insurance plan are nice additions to your retirement and investment nest egg. Additionally, with whole life insurance, you can withdraw or take out a loan tax-free. When you withdraw from a 401(k) or IRA, you’ll need to pay taxes on all the money you withdraw. Even if you don’t have other investments, whole life can be a more straightforward way to invest your money while also ensuring your final expenses won’t be a burden on your family – you pay a monthly or annual premium, your cash value grows tax-free and your beneficiaries will receive the entire death benefit tax-free when you die, whether it’s due to an unforeseen accident tomorrow or old age decades from now.
While many people with dependents may opt for a term life insurance plan to cover a certain financial phase of life, such as putting a child through college and/or paying for a house, those with dependents who have disabilities have a different set of needs. Such children may need significant financial support to cover things like medical bills and/or everyday expenses after a parent’s death. Whole life insurance is ideal in such situations. The policies are not only guaranteed to pay out upon the policyholder’s death, but they also grow a cash value account at a guaranteed interest rate, which is available for quick liquidity.
One of the most attractive features of whole life policies is the long-term care rider. This recent addition “lets you start drawing up to 2 percent or $330 per day or your death benefit – not your cash value – for long-term care needs,” according to Consumer Reports. In some cases, a 40-year-old in excellent health might be able to add this rider to a $500,000 policy for just over an extra $300 a year, the magazine reported.
How to Shop for Whole Life Insurance
Shopping for whole life insurance can seem daunting, but researching your options and planning ahead can ensure that your loved ones will be protected after you’re gone. Financial planning expert Jason Silverberg, CFP, CLU, ChFC offers the following tips to help make the process a little less scary:
Consider converting your term life policy to a whole life policy
Consider converting your term life policy to a whole life policy If you have term life insurance and it’s set to expire, conversion may be the best option. Silverberg says that conversion is popular, particularly if your health has declined since your term policy’s inception. “If you have fallen ill, you may not get the same health rating or may even be declined for a new policy. If you still need coverage, your best bet would be to extend the term out by converting it,” he explains. Not all providers offer this option, however, so if this is something you’re considering, talk to your insurance company as soon as possible to find out more.
Figure out why whole life is right for you
If you don’t have a term life policy and need to start from the beginning, start by asking the question, why do I need whole life insurance? Because whole life is much more expensive than term life, you should carefully evaluate your financial situation, assets and needs, as well as why you’re getting whole life – do all of these things justify the premiums and outweigh alternatives such as term life insurance plus investment options? If the answer is yes, your best bet is to get whole life insurance as early as possible since premiums will be more expensive the older and less healthy you are.
Find a financial planner or independent insurance agent
Working with a financial planner or independent agent allows you to explore options from different insurance companies. You can also discuss what type of policy is best for you without being limited to what one company has to offer.
Determine what you can afford
Simply put, if you can’t make the payments, you shouldn’t get the plan. However, Silverberg notes that since premiums for whole life are generally guaranteed not to change, the cost might feel like a stretch today, but over time you might be able to grow into them. “It’s similar to a mortgage – as your income goes up, the monthly costs will feel less and less of a burden. Don’t stretch too far, though,” Silverberg says.
Go with a reputable insurance company
When it comes to whole life insurance, your relationship with the insurance company will last a lifetime so choose wisely. You’ll want to go with a company with a high financial strength rating (through firms such as A.M. Best), a strong reputation and outstanding customer service. After all, the guarantees of whole life insurance are only as strong as the company making them.
Ask about the rate of return
According to Consumer Reports, insurance companies are not required to disclose the rate of return on the cash value or how much of your premium is invested. Most companies will provide some sort of illustration of how the policy’s cash value could perform – be sure to ask what is and isn’t guaranteed and how your premium payments will be used to determine whether you’re getting the best possible outcome.
Pick policy add-ons
Review adds-ons that are offered by each provider you’re considering in order to get the best coverage possible for your needs and goals. Some add-ons also have tax benefits.
Make sure you’re not being oversold
Silverberg recommends that if you do work with independent agents or financial planners, ask these important questions: Do they own this product? Why or why not? Ask what the downsides are to owning the product. An honest agent will discuss why this product may not make sense for you.
The Pros and Cons of Whole Life Insurance
Whole life insurance will cover you your entire life, or until age 100 or 121. Even if you let your policy lapse, you’ll still have access to your cash value as long as the policy wasn’t drawing from the investment to cover premium payments.
There is a continuing death benefit — that is, your heirs will inherit the value of your policy no matter how long you live. And they’ll inherit it tax-free.
You can include a rider to the policy that will let you start drawing part of the death benefit for your long-term care needs. This has an advantage over a long-term care policy, which has a waiting period for receiving benefits.
You can borrow against your policy tax-free, up to the amount of the cash value.
With whole life insurance, you know exactly what you get – a locked-in premium, fixed interest rate on your cash value and terms that do not change.
Your beneficiaries will receive the face value of the policy, and payout can often be received in as early as 30 days if the process goes smoothly.
There is a guaranteed maximum on the expenses your insurance company can charge you and a guaranteed minimum interest rate on your cash value.
If you’re unable to pay premiums due to financial hardships, you can use your cash value to cover payments and maintain your policy.
Whole life is much more expensive than term life and usually more expensive than universal life insurance.
Whole life is a long-term investment, and it will take some time to build up your cash value. If you stop making payments due to financial difficulties in the first few years of your policy, its surrender value will be little or nothing. Consumer Reports notes that it can take up to 20 years of payments before the benefits of whole life significantly outweigh the benefits of term life plus alternative investment options.
There is a surrender period, usually during the first few years, which means you’ll have to pay a surrender charge if you want to withdraw your cash value during this time.
In order to take out a loan against your policy, a minimum balance is typically required (usually around $10,000) and you must have had your policy for a specified amount of time (usually at least five years).
You cannot deduct interest paid on your policy loans when you file your taxes.
Despite disclosure regulations, insurance companies are not required to disclose management fees, rate of return, sales commissions and how much of your premium actually does towards your savings component.
Tax-free status ends with your death, which means if you have any outstanding loans when you die, that amount will be taxable.
Common Mistakes Consumers Make & How You Can Avoid Them
It’s only natural that consumers make mistakes. Here are a few common ones and what you can do to avoid them:
|Common Mistake||How to Avoid it|
|Choosing the wrong benefit amount||You want to leave your family financially secure, but also don’t want to pay premiums on more coverage than they will need. There are calculators available online that can help remove the guesswork of figuring out how much coverage your family will need in the event of your death. Silverberg suggests using a Human Life Value Calculator or a Needs Analysis calculator, which adds up all the expenditures (e.g., college, mortgage) you’d want covered if you died. You can also use MoneyGeek’s life insurance calculator.|
|Overestimating premium costs||The only way to know how much insurance will cost you is to get a quote. Since insurance is based on your personal risk of dying, it can be difficult to get an exact number without doing a thorough examination, Silverberg says. “Don’t be afraid to do this — there is no obligation to purchase insurance once you’ve completed the process,” he adds. Some companies may offer a simplified policy if the face amount is below a certain threshold and the applicant can report a clean medical history, but even then, it’s still best to get a quote from the company you’re considering.|
|Not researching your options||Don’t take the first policy that comes along. Work with an independent financial planner to explore different companies’ offerings and compare pros and cons. Read as much as you can before purchasing a plan. “Life insurance can get complex; make sure you understand what’s being offered and how it all works before you’re locked in,” says Silverberg.|
Surrendering a Whole Life Insurance Policy
Surrendering your policy means you are fully cancelling your coverage. You’re allowed to do this at any time, but before discontinuing, you should understand all the implications. Below are some of the common reasons people surrender their whole life policy and the key consequences to keep in mind:
- No matter how much you try to plan, life is unpredictable. This means the life insurance policy you purchased 20 or 30 years ago may not be needed anymore. Maybe you got the plan to cover your dependents and they no longer need the support, or you divorced your spouse and life insurance is no longer needed on that person. You could have been a business owner and ended up selling your company. Regardless of the back story, sometimes coverage just isn’t needed anymore and you’d rather save the money you’ve been spending on premiums.
- When you surrender your policy, you get access to the cash value. Sometimes people need access to this money to cover large, unexpected expenses or to get through a transitional period such as unemployment.
- Whole life insurance is expensive and sometimes things happen that make paying these premiums difficult or impossible. In this case, you may need to stop payments completely or may want to look for a less expensive plan from a different company. A cheaper plan isn’t always likely, however, especially if your health has declined since the inception of your last policy.
- Regardless of why you surrender your policy, when you do so, you are also surrendering your entire death benefit, and although you will receive the cash value payout (minus any applicable fees), it will be taxed.
- You will likely be hit with a surrender charge and administrative fees, which are typically higher during the early years of your policy. These fees will likely be taken out of the cash value so be sure you understand all terms of the policy’s surrender fees before purchasing.
- If you’ve taken out a loan against your policy, you may have to pay extra taxes.
- Surrendering will not affect your credit score or diminish your chances of getting a new life insurance policy later on. However, as you get older and your health declines, getting affordable life insurance gets more difficult.