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Is Whole Life or Term Life Insurance a Better Choice?
Published: 09/15/2011 by Kevin Mulligan
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»» Life Insurance
» Money
Life insurance is a complicated financial product that is easy to ignore because it deals with our own deaths and the deaths of those we love. Unfortunately, there is no escaping death (and taxes) and life insurance is a great way to protect your family in the event that you pass away unexpectedly.
There are two main overarching categories when it comes to life insurance: whole life and term life. The two are only similar in that there is a death benefit provided to your beneficiaries upon your death. Everything else about the two types of insurance is different. How can you tell which one is the best product for you?
Whole Life Insurance for Specific Scenarios
Whole life insurance is:
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more complicated than term life insurance
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more expensive than term life insurance
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more fee-laden than term life insurance
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more incentivized to sell than term life insurance
Due to the above three points, most people are best served in avoiding whole life insurance. However, there are certain circumstances where the tax and estate planning benefits can be somewhat useful. Just be wary that the cards are stacked against you and canceling the policy any time in the first 10 years usually results in you forfeiting a majority of the cash value of the policy.
Term Life Insurance is Better
Term life insurance is a simple product. You sign a contract with an insurer firm where you pay a monthly or annual premium for a set term of many years. In return your beneficiaries receive a large death benefit if you die during the term. Since there is no investing or supposed wealth building portion to the insurance, it costs a lot less on an annual basis than whole life insurance. The product is simple, and costs are driven down for consumers by competition amongst insurance firms. Sometimes simple is better, and this is one case where it is.
Separate Insurance and Investing
The problem with whole life insurance comes from the mixture of life insurance with investing or cash value in the policy. The salesmen for whole life will tell you it is a great way to build wealth, invest over the long term, and build up cash value in the policy that you can draw against.
What they don't tell you is mixing investing with insurance is a bad idea. These are two separate financial concepts for a reason. You want insurance as a hedge against risk. You want investing as a way to grow your nest egg over the long haul. When you separate the two products you can focus on specific costs. You aim for low annual term insurance rates and low expense ratios on your mutual funds.
Whole life insurance comes with a thick explanation of the benefits and perks, but hides the actual cost of closing the policy, the cost of borrowing against that cash value, and the cost of the investments (and associated fees) inside the investment portion of the policy. If you decide to go with term life insurance you can find an inexpensive policy that leaves a lot of extra money left over each year compared to whole life insurance. You can then take those extra dollars and invest them yourself in your 401k or IRA. In these retirement accounts you will be better able to see and control the costs of having your investments.
