Stressed out while shopping for life insurance? Not sure what all the terms mean? You’re not alone.
Shopping for life insurance is an inherently stressful activity, and the confusing terminology never really helps. One of the first things you probably want to understand, though, is how permanent life insurance works. It has a few very important differences from term life insurance that might make it a better choice for you depending on your personal financial situation.
Insurify allows you to view personalized term life quotes from top life insurance companies all in one place so you can quickly and easily compare between them.
But what’s permanent life insurance, and how might it differ from a term plan?
What is Permanent Life Insurance?
By definition, permanent insurance refers to any life insurance policy that lasts your entire life. By contrast, a term insurance policy only lasts for a designated term length, whether it be 10, 20, or 30 years. Many insurance companies offer both types, so you can choose what’s right for you. Additionally, you can choose the amount of coverage appropriate for your needs or add on other insurance products, such as a rider, to customize your policy.
The two most popular forms of permanent life insurance are whole life insurance and universal life insurance. Permanent life insurance policies offer both a death benefit and a cash value component. The death benefit is the money paid out to your designated beneficiaries. Your designated beneficiaries are the loved ones in your life that rely on you for financial assistance in some way. These can be family members such as a spouse or sibling, or someone such as a business partner. The death benefit can cover outstanding household debts, final expenses, or even estate taxes after your passing.
All life insurance policies pay out a death benefit in the case of your passing. However, a distinguishing factor with permanent life insurance policies is the cash value—or savings—component. An attractive aspect of the cash value component is that it grows tax-free, meaning you don’t pay income taxes on that money until you withdraw it.
Over time, as you pay your life insurance premium, the policy’s cash value component will grow. It is important to note, though, that you usually have to wait a set period of time after you buy the policy before you can borrow against the savings portion. But, with time, you can theoretically borrow against these funds or use them to cover your premium. Subsequently, if you cancel your policy, you will get to keep this cash value. Be warned: doing so may come with hefty fees.
Permanent versus Term Life Insurance
As we previously mentioned, permanent life insurance lasts from the time you purchase the policy to the time you die, assuming you always pay your premiums. This means that your beneficiaries are effectively guaranteed to receive a death benefit upon your passing. But this, in addition to the cash value component, makes your policy inherently more expensive.
For most people, a term life policy should cover everything they need. If you purchase your policy when you are relatively young and your insurance needs are minimal, your premium should be pretty affordable. Because of these lower premiums, term life insurance tends to be more popular.
However, it’s important to note that these policies will usually expire before the end of your life, in which case you will have to purchase another policy if you want to remain insured. Plus, the new policy will almost always be more expensive due to your increased age. Because of this, some term policies allow you to convert to a permanent policy later on as your needs and circumstances evolve.
If you diligently contribute to savings and retirement accounts throughout your life, though, you may not even need to reapply for another life insurance policy after the term expires. Just because permanent life insurance is the right choice for some people doesn’t mean it’s the right one for you. Online research is a great place to start, but the best way to ensure you’re making the smartest long term financial decisions is to consult an independent financial advisor.
Types of Permanent Life Insurance
Whole Life Insurance: Premiums are fixed and the cash value component grows at a guaranteed rate. Because of this, whole life insurance policies tend to be pricier.
Universal Life Insurance: A universal life policy premium is flexible between a set maximum and minimum amount. Once your cash value component is large enough, you can pay your premiums with it. The cash value component’s growth is based on interest rates determined by the market, but there is a guaranteed minimum annual return. This type of policy is riskier than whole life because your costs are partially determined by market fluctuations, which makes it a bit cheaper.
Variable Life Insurance: Depending on your policy, you can have fixed premiums or flexible premiums. As for the cash value component, you decide how to invest it from the policy provider’s set of investment options.
Indexed Universal Life Insurance: The premiums work the same as universal life insurance (flexible between a set minimum and maximum); however, the cash value grows based on the performance of an index, such as the S&P 500. Though there’s a guaranteed minimum annual return, there is also a cap.
Variable Universal Life Insurance: Again, the premiums are flexible between a set minimum and maximum. The “variable” part of the policy means you can choose how to invest the cash value from the policy provider’s set of options.
Guaranteed Universal Life Insurance: The premiums are fixed for the length of the policy, but there is little to no cash value component. This policy type is often cheaper than a whole life policy because it lacks the cash value component. However, because of this, it is doubly important to never miss a premium payment give that there’s no cash value component for the provider to draw from. Missing a payment would cause a lapse in coverage that then forces you to apply for a new policy, in which case your premium will likely increase.
Bottom Line: Pros and Cons of Permanent Life Insurance
- Coverage for life
- Fixed rate premiums (except in the case of universal policies)
- Cash value component
- Tax-deferred growth on cash value
- More expensive than term policies
- Medical exam required
If you are young and healthy, a term life insurance policy will likely cover your needs. However, if you’d like to lock in a low rate on a permanent policy early or if you are older and can afford more life insurance coverage, a permanent policy may be the way to go. No matter your situation or needs, consulting an independent financial advisor is the best way to get objective advice on big financial decisions.
Whether or not you can afford that, though, when you are ready to start shopping, websites such as Insurify are a fast, free, and easy way to compare quotes from a variety of life insurance companies and at different coverage amounts, all in one place.