What Is the Difference Between Term and Whole Life Insurance?

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Credit Sesame on the difference between term and whole life insurance.

Life insurance is a way of ensuring that the people who depend on you are provided for financially should you die unexpectedly. 

Deciding what type of insurance to get can be challenging. Your choice affects the cost and benefits of your life insurance. The difference between term and whole insurance is primarily how long the policy lasts. However, there are also differences in policies provided.

How Does Life Insurance Work?

Basically, life insurance consists of two components:

  • Premium. The amount you pay, typically monthly, for the policy
  • Death benefit. The amount the policy pays if you die

When your policy is set up, you choose who receives the death benefit. This person is known as the beneficiary. You can have multiple beneficiaries on a life insurance policy, and in most cases, you can change your beneficiaries later.

The point of a life insurance policy is to protect against the unexpected. As an example, take a healthy 25-year-old who is the primary breadwinner for her family. 

A young healthy person is not expected to die any time soon. However, if the unexpected happens and she dies prematurely, her beneficiary would receive a death benefit worth many times what she paid into the policy.

This way, her loved ones could be covered financially for the unexpected loss of her ability to provide for them. That’s the point of having life insurance. You hope your beneficiaries won’t need it, but you want to make sure it’s there if they do. 

The big question then becomes one of how long you need to provide that protection. This is where the choice between term and whole life insurance comes in.

What Is Term Insurance?

The word “term” refers to a specific amount of time. Term life insurance policies are designed to be in effect only for a set period of time, such as 10 or 20 years. 

If you die during that term and you’ve kept up with your premium payments, the policy pays a death benefit. If the term expires before you die, the policy does not pay a benefit.

The premiums are relatively inexpensive.

What Is Whole Life Insurance?

Whole life insurance is as a permanent life insurance policy. It is the simplest and most common type of permanent life insurance

Permanent life insurance policy is not limited to a specific term. It stays in effect for as long as you continue to pay the premiums.

Another characteristic of permanent life insurance is that it may have a savings component. Under the terms of the policy, policyholders may received a dividend periodically.

Other forms of permanent life insurance have a variety of premium structures, savings components and death benefit arrangements. However, the two main characteristics shared by most permanent life insurance policies are

  • Remaining in effect for as long as the premiums are paid.
  • Having a savings component in addition to a death benefit.

These components of whole life insurance policies add to the cost of the policies. 

Term vs Whole Life Insurance

For younger adults in particular, the most prominent difference between term and whole life insurance is that term insurance is cheaper. However, since term insurance only lasts for a limited amount of time, you are faced with a decision of what to do once the term expires. 

You can try to get a new term insurance policy at that point. However, you are older and may have acquired health problems. Premiums are almost certain to be more expensive, and you may not even qualify for life insurance. 

Because of that, if you want to make sure you’re insured beyond the length of a term life insurance policy, whole life offers a longer-term solution.

A whole life policy may also pay dividends that allow you to build savings all the time. However, there is no guarantee that the value of those savings will exceed what you could earn by getting a cheaper term policy and investing the money yourself. 

The following table summarizes how term and whole life insurance address different needs:

What would you like to do? Term life insurance Whole life insurance
Get life insurance for the near future Yes Yes
Get long-term life insurance No Yes
Pay lower premiums now Yes No
Accumulate long-term savings in the policy No Yes

Deciding What Type of Insurance Is Right for You

Both term and whole life insurance have their pros and cons, so the choice depends on your situation. Here are some considerations:

  • If money is tight, term insurance might be the only way you could afford a policy that would provide a sufficient benefit.
  • If you’re saving money rapidly and plan to retire within 10 to 20 years, term insurance might be the most cost-effective way of filling the gap until you’ve saved sufficient resources for your family to live on.
  • If you’re fairly young but have sufficient income to afford whole life insurance, it might be the best option for providing insurance over a long time horizon.
  • If you have very young children or long-term dependents, a whole life policy might be the best way of making sure they’re provided for even if it’s many years before you die.

Whichever type of life insurance you decide on, it’s very important to shop around for the best price. It’s a very competitive market with lots of different options, so be sure to compare prices and coverage details carefully before choosing.

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Disclaimer: The article and information provided here is for informational purposes only and is not intended as a substitute for professional advice.

Richard Barrington
Financial analyst for Credit Sesame, Richard Barrington earned his Chartered Financial Analyst designation and worked for over thirty years in the financial industry. He graduated from St. John Fisher College and joined Manning & Napier Advisors. He worked his way up to become head of marketing and client service, an owner of the firm and a member of its governing executive committee. He left the investment business in 2006 to become a financial analyst and commentator with a focus on the impact of the economy on personal finances. In that role he has appeared on Fox Business News and NPR, and has been quoted by the Wall Street Journal, the New York Times, USA Today, CNBC and many other publications.

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