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Term vs. Whole Life Insurance: Should You Have It, and Which is Best?

Whole Life Insurance

Although the business of selling life Insurance is still booming, the number of American households that are skipping this Insurance continues to rise as a result of a challenging economy. According to the Life Insurance and Market Research Association (LIMRA), which is the leading provider of industry analysis, in 2010 only 44 percent of households carried individual life insurance policies, and 30 percent of adults had absolutely no life insurance coverage at all. Trends for 2011 and 2012 suggest much of the same.

You may be amongst the millions of Americans who currently lack life insurance coverage that can provide for your family in the event of your death. But how do you know if purchasing a life insurance policy is a good idea right now? And if you do decide that now’s the time to get a policy, which is better: term life insurance or whole life insurance?

First, it’s important to examine whether you’re a good candidate for life insurance. Most Americans purchase this insurance in order to provide for, and financially protect, their families after the policyholder’s death. But in addition to this, the most common reasons to buy whole or term life insurance are:

  • To replace your income (very important if your salary is necessary for your family’s survival)
  • To pay final expenses and burial costs
  • To cover the costs of specific expenses (like a Mortgage or Credit Card balances)*
  • To lock in a lower premium price while you’re younger*
  • To create an investment tool that can be used for college and other large expenses*

While all of these are great reasons to choose to carry life insurance, paying an insurance premium is not ideal for all people. Specifically, a good insurance agent will tell you that life insurance is not a necessary (or ‘survival’) expense. First, for most individuals in good health, it’s important to prioritize and build up things like savings and a household emergency fund, and to pay down unsecured debt, before paying $200 a month for a life insurance premium. In other words, if you’re struggling to pay a credit card bill or feed your family, buying life insurance now may tie up funds you need for basic survival. That is not to say that you need to be well-off financially before getting insurance, but remember that the chances you’ll need it are slim. Thus, it’s best to consider whether you have a more urgent need of that money before beginning this process.

If you have a family or someone else you financially support, getting life insurance for yourself (as well as a spouse or other financial contributor) is recommended. But what sort of life insurance should you get?

These days, not only can you get life insurance that will cover you for the rest of your life (whole life insurance), but you can get insurance that covers you for a designated period of time (term life insurance), or even insurance that only covers a specific financial obligation like a mortgage or a credit card balance. Discovering which type of life insurance is best for you depends on your family’s needs.

What is Whole Life Insurance?

Whole life insurance is what many people often think of when they hear the term ‘life insurance.’ As the name suggests this policy is good for the rest of your life, as long as you keep up the payments. When you purchase whole life insurance, you’ll pay a monthly, quarterly, or annual premium that’s based on the insurance value you’ve selected, your age, your health, etc, at the time of purchase. Because the policy is good for the rest of your life, and the premiums are averaged across the life of the policy, the cost is very high. But beyond the insurance premium you’re paying, whole life policies also contain an investment component in which the insurer collects additional money from you and invests it. This investment component is meant to offset the larger premiums you’ll have to pay as you get older. The result is that whole life insurance policies often have very large premiums, because you’re paying for the policy plus the investment. For this reason most financial advisors don’t recommend this type of insurance for everyone because the investment component may not earn enough to cover the premium costs, even if the policy does earn equity as you pay. However, whole life insurance may be a good financial product for those who are wealthy, because higher premium costs are less of an issue, and because this type of insurance can circumvent certain components of federal estate tax rules.

What is Term Life Insurance?

Term life insurance covers you, but only during the period of time you’ve selected. Typically, you’ll find these types of policies offered in 5-yr, 10-yr, 15-yr, 20-yr, and 30-yr rates. Ideally, you need to choose the term that will provide the best protection of your interests. For example, if you’ve got small children ranging in age from 5-10, and you want to make sure the policy is in effect until they’re out of college, purchasing a 20-yr term life insurance policy would probably be best. Likewise, if you’re in your 30’s and just had your first child, you might want to lock in a low rate before your age pushes the premiums higher, and choose a 30-yr term to cover your family (including any additional children you may have in the future). Regardless of which term option you choose, the younger you are, the cheaper your policy premium will be. This is great when you’re young and healthy, but can become a costlier burden as you grow older. The solution to rising premium prices is to opt for a policy with level guaranteed rates. In this way, when you purchase your 20-yr term policy the premium costs will be averaged across the entire length of the term. While this may mean that you’d pay more for the first few years, you’d be paying less for the last 10 years of the policy. For these reasons and more, term life insurance is the top choice of many financial advisors and clients.

What is Bank Life Insurance?

As mentioned earlier, if you don’t have children or others who depend on you financially, but still want to protect your assets, some people find that purchasing specialty insurance is useful. If you’ve got a mortgage, chances are your lender may have tried to get you to purchase mortgage life insurance. This type of insurance will only pay your mortgage in the event of your death. Additionally, credit card issuers offer a similar product that can pay credit card balances off after your death. In both examples, the policies may possibly pay some death benefits to a person you designate, but generally these types of life insurance policies do not provide death benefits, and are thought of as more of an insurance policy that most benefits banks rather than a policy for the insured. However, these policies have kept thousands of people in their homes who may not have otherwise been able to afford their mortgage.

Term vs. Whole Life Insurance

For most people who are considering purchasing life insurance so their families are financially covered, choosing the term life insurance option is not only less costly, but offers more flexibility than the whole life option. Instead of paying for whole life insurance and hoping your rate of investment can cover the higher premium costs (or that your investment isn’t eaten by losses, commissions, and fees), it is often more convenient to pay for the term in which you most need the insurance, while investing on your own elsewhere. Unless you have a child or family member that you know will need significant longterm care, for which whole life insurance would be best, getting term life insurance will be more beneficial and cost-effective for the majority of people.

Of course, every person’s life insurance needs should be considered individually. It’s a good idea to get quotes and seek the advice of several insurance agents near you before purchasing any specific policy.

* = Not applicable across all life insurance policy types

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