Term vs. Whole Life Insurance: Which is Right for You?

Term vs. whole life insurance

Life insurance is a great way to provide financial protection for loved ones after your passing. However, different types of life insurance can work in very different ways. While there are a number of life insurance options available, the most common are term life and whole life insurance policies.

In short, term life provides a death benefit over a specified period of time. Whole life is a type of permanent life insurance that also comprises a cash value element that can pay out before the death of the insured.

We’ll look at these two options in more detail, including the pros and cons of each as well as who should consider each policy type.

What’s the difference between a term life policy and a whole life policy?

Put simply, the differences come down to cost, length of coverage, and whether the policy offers cash value or not. Both policy types offer a payout to beneficiaries upon the death of the insured (if within the policy term). However, only whole life offers permanent coverage that can build cash value. Have a look at the breakdown of these policy types below. 

The differences between term and whole life insurance policies highlighted above offer a basic overview. In the next section, we'll look at each policy type in more detail.

Term life insurance explained

Term life is a life insurance policy type that provides death benefits only during a specified policy term. Such a policy can be used to cover final expenses (funeral costs, medical bills, etc.), pay off debts, and replace the income that is lost due to the insured's passing. It’s a renewable policy, with terms lasting anywhere from one to 30 years. 

However, once a term life insurance policy ends, you will likely have to have a medical exam in order to renew. Even if the results of your medical exam are positive, your new rates are almost guaranteed to be more expensive simply because of your increased age. For this reason, choosing a longer-term period is often encouraged, ensuring that your lower payments remain in place for a longer period of time. Also, term life insurance carries no cash value, meaning that there can be no benefits paid out before the insured’s death.

For most people, a term life insurance policy will be sufficient. This is especially true for those who aren't in high tax brackets or who have other retirement investments. Term life is more affordable than whole life, meaning that those on a budget should consider a term life policy for this reason. Below you'll find a few additional perks and drawbacks of term life policies. 

Whole life insurance explained

Whole life is a form of permanent life insurance that stays in place for the duration of your life. Not only that, but your coverage level remains the same and your payments will never increase. Also known as a cash value policy, whole life insurance incorporates a savings component that may be attractive to some.

Like term life, whole life insurance also pays a death benefit but also includes a savings component that builds in value over the years. The policy’s cash value can be even accessed before the insured’s death. After the policy has accumulated enough cash value, you can take out loans against it or even surrender the policy to gain early access to the funds — something many whole life policyholders use for extra retirement income. Some whole life policies may even pay yearly dividends which can be paid out to you or used to cover your premium payments.

However, premiums for whole life policies are much higher, which could be a determining factor for many. These higher costs can make keeping up with the monthly premiums a major problem. Plus, the returns on whole life insurance — while guaranteed — are much lower than many other types of investments. Those looking for higher returns should look at other investment options such as a 401k or IRA. Have a look at the pros and cons breakdown for whole life insurance below.

How much life insurance coverage do I need?

Whether you choose term or whole life, you still need to determine your coverage level. Settling on a coverage amount requires looking at your current state of affairs as well as your family’s current and future financial obligations. Ultimately, a life insurance agent can help you land on this number by performing a needs analysis, but these questions can help you ensure that your loved ones have what they need in the event of your passing.

• What assets do you currently have (including property, stocks and savings)?  
• How much income will you need to replace (your salary multiplied by how many years needing replacement)?
• How much debt do you currently have (including mortgages, credit cards or other loans)?
• Do you wish to provide a college fund for your children?

In general, a good rule of thumb is to purchase coverage at 10-12 times your annual income level in addition to any outstanding debts you may have.

Can I purchase additional life insurance coverage?

Both term and whole life insurance policies offer a number of riders that can increase your coverage. It's always encouraged to purchase such riders at the onset of your policy to avoid having to undergo further underwriting that can have adverse effects on your insurance premiums. Some of the more popular life insurance riders include:

• Child term rider
• Chronic illness rider
• Accelerated death benefit
• Long-term care rider

Because the two coverage types are different, there may be some riders only available to respective coverage types. For instance, a guaranteed insurability rider is likely to only be available on a permanent policy such as whole life or universal which allows you to increase coverage without having to undergo a new medical examination or further underwriting. Those specific to term coverage include the term conversion rider which allows you to upgrade your term policy to a whole life policy.

Term vs. whole: which life insurance policy do I choose?

Choosing the right life insurance coverage has a lot to do with where you are in life. This can factor in your age, your family and how you are doing financially. Ultimately, a life insurance agent will likely do a needs assessment to help you determine the best type of policy and coverage limits, but here are a few things to consider.

If you need another avenue of saving for retirement — and have already utilized more traditional options like an IRA or 401k — then whole life could be a good option. Likewise, if you have lifelong dependents that you will need to provide for, whole life policies tend to be a good way to provide sustained protection.

For the majority of people, however, term life insurance policies tend to be the more practical choice as the premiums are cheaper and the coverage can often last through most of your working years. While the accumulated cash value component of whole life insurance might be attractive to some, bear in mind that you can often get better gains by pairing a term policy with other investment vehicles.

Term vs. whole life insurance FAQs