Whole and Term Life Insurance: Understanding the Difference

Life insurance is designed to create financial protection for a persons' family should they pass away. This protection can come in the form of paying off the deceased persons' debts or even as a replacement for their income for a certain length of time. Life insurance can even be used as an investment, although this use of life insurance is somewhat controversial and a person should examine this option carefully before considering it.

Types of Life Insurance

There are two general types of life insurance, whole and term insurance. Whole life insurance is generally designed to be a lifelong benefit, with flat rates throughout the use of the benefit. Term insurance is intended to be used for a certain length of time and the rates generally change as the policyholder ages.

Key Differences

Whole life policies have a cash-out option, which allows them to be used as an investment. The cash value is guaranteed, depending on the type of whole life policy purchased and the length of time it is held.

Unlike whole life, term policies do not include a cash option. This type of policy is not designed to be held indefinitely. Term insurance (as its name suggests) is designed to be held for a certain term. For example, a parent may wish to purchase a term policy while his or her children are young and maintain it until they are living independently so they know their family will be taken care of should they pass away.

The policyholder may have to pass insurability standards as they renew their term insurance since term insurance is only sold in various increments (10 years, 20 years, etc.), whereas a whole life plan will not require this as long as the same policy is maintained.

Why Term Insurance?

At first glance, whole life may appear more appealing than term insurance. However, term policies are preferred by many consumers because they are generally much less expensive than whole policies. This allows the insured to gain the coverage they desire for a much lower rate. The capital that would have been used to fund a more expensive whole life policy can potentially be invested at a higher rate of return than the whole life policy would have provided. Whole life insurance is considered a good investment only when the insured is unable to invest successfully elsewhere. For example, if a person is always withdrawing their savings account money for various things that inevitably come up.