Life insurance. It is, as financial author Mary Hunt writes, the insurance “we need and then hope we won’t.” Beyond the maddening confusion of life insurance policies themselves (what they do and do not cover, how much money is provided, etc.), the most puzzling aspect of life insurance is probably “should I get term insurance or whole insurance?” To the financially unsavvy, this question can become a constant nuisance, plauging your mind and delaying the actual making of a decision. So let’s learn the real difference between term and whole insurance – and which one you should buy.
The short answer is: buy term insurance. Always. No matter who you are, what dazzling graphs or statistics you are shown, or what an insurance salesperson says. Do NOT buy whole life insurance. Here’s why. Term life insurance is strictly, no-frills, 100% insurance. You pay the agreed-upon premiums and your policy remains effective for as long as you pay. If you die while the policy is in force, a set amount of money is paid to the person (or people) you designated, in advance, as your beneficiaries. That’s what life insurance is – income replacement insurance. It is a preventative safeguard you put in place to ensure anyone who depends on your income is cared for if you die and your income stops. If this is what you need, term insurance is for you.
“But what about whole life insurance?”, you ask. You’ve probably heard some great and wonderful things about how much “better” whole is than term, but in all likelihood, this is not true at all. Very simply, whole life is not “pure” life insurance. It is a life insurance product with savings and investments tied to it, which really just confuses things without any net benefit to you. As Mary Hunt writes, “Beware, because the savings advantages are always inflated, never guarenteed, and rarely fully understood by the person explaining them to you. The same amount of coverage will cost three to four times as much if you buy whole-life than if you buy pure term. That is the reason many people who carry whole-life are underinsured. They are spending all they can but not getting their moneys worth when it comes to the reason for the policy in the first place.” [emphasis added]
The mistake in buying whole life insurance is that life insurance is not meant to be an investment. It is also not designed to fund your retirement or pay for a child or grandchild’s college education. It is meant to replace your income stream if you die so your dependents can adjust to life without you. This is why no matter what an insurance salesperson tells you about how much your savings will grow in a whole life policy, you should not let them sell you one. You wouldn’t buy a parka for a vacation to Florida, and you shouldn’t buy investment products to replace your income if you die.
Whole life policies also go by names like “whole”, “variable life”, or “universal”, so be sure to avoid anything with these names as well. As Hunt concludes, “they make for great marketing brochures and fancy graphs, but cannot measure up as a great investment when put to the test.”
As far as term insurance goes, there are essentially two kinds you can buy: annually renewable term and level-premium term. The benefit of annually renewable term is that the insurance company can’t cancel your coverage or increase your premiums due to changes in your health. You take a medical exam up-front, are never required to take another one, and have the ability to keep renewing each year until about 70. This is the ideal type of term if you have future health worries and don’t want your policy to be subject to further testing.
The benefit of level-premium term policies is that, while costs are higher up-front, they tend to be much less expensive after the first few years. You will probably pay less for level-premium term than annually renewale term over ten or twenty years, making it a wise choice if you plan on being insured for that long. The only potential downside is that you will have to re-take a medical exam each time you want to renew the policy.
Hopefully this has cleared up your confusion regarding getting term or whole-life insurance!
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