Whole Life Insurance

Whole life insurance, a type of permanent life insurance, essentially guarantees an income-tax-free payment when the policyholder passes away. It also builds cash value, based on an interest rate determined by the insurance provider.

What is whole life insurance?

Whole life insurance is a kind of permanent life insurance, and its key characteristic is that the life insurance company offers a payout (called the ‘death benefit’) to a person of your choosing (the ‘beneficiary’) whenever you should die, whether in five years or in fifty years. It covers you for your entire life. 

(Term life insurance by contrast, covers you only for a specific period of time, or ‘term,’ and pays out only if you should die while you’re covered under the policy. It offers only the death benefit, not any additional cash value.) 

Whole life insurance policies can be considerably more expensive than term policies. You might find yourself making a monthly payment (a ‘premium,’ as insurance companies say) that is anywhere from five to fifteen times more per month for the same amount of coverage under a whole life insurance policy than for a term life insurance policy.

Who might benefit from whole life insurance?

If you are looking to make sure that your children’s education is paid for, or that your partner can pay the mortgage should you pass away unexpectedly, or to cover other expenses which will be taken care of at a certain point, term life insurance is probably your best bet. 

Some people have financial obligations that won’t go away, though, and so they need a policy that won’t expire. For example, for those who have to provide for a lifelong dependent, like a child with special needs, the guaranteed death benefit may make whole life insurance attractive. 

High earners who have already taken full advantage of retirement accounts might find whole life insurance policies appealing as yet another vehicle for tax-deferred option. A whole life insurance policy can also assist with estate planning if the policyholder has a large amount to pass on—according to 2020 tax law, $11.58 million for an individual or $23.16 million for a couple—and you want your loved ones to be able to use the death benefit to cover estate taxes.

Others might choose whole life insurance in order to equalize their childrens’ inheritances. If, for example, you choose to leave your business to one of your children, permanent life insurance could provide an inheritance to your other loved ones.

What other types of permanent life insurance are there?

If you want permanent-style life insurance coverage but want more flexibility than whole life insurance offers, there are a few other kinds of insurance you can consider.

Universal life insurance allows you to adjust your premium and death benefit without buying a new policy. 

Variable life insurance builds cash value via money being invested in the stock market. 

Variable universal life insurance, a hybrid of variable and universal, allows the policyholder to to change the premium and the death benefit, while investing the money in the stock market. 

Indexed universal life insurance pays interest based on stock indexes, though money is not directly invested in the market.

What are the advantages of whole life insurance?

The greatest benefit of a whole life insurance policy is that the life insurance company issues the death benefit whenever you die, so there is no chance you will outlive your policy. (There are of course exceptions here, so it’s not accurate to say the death benefit is 100% ‘guaranteed.’) Term life insurance, on the other hand, pays out only if you die during the number of years covered by the policy. 

The principal advantage of whole life insurance policies is that they include a component that can build cash value over time; this is tax-deferred, meaning you don’t pay taxes on the gains while they accumulate. 

The life insurance company invests part of your monthly payments in a tax-deferred component that bears interest at a rate determined by the insurer, so the policy will build cash value over time. Once the policy has accumulated cash value, the policyholder can borrow from it or use it to pay the monthly payments.

You could, in the event of a rainy day, borrow from the account or surrender the policy for cash. This is one way that people use whole life insurance for support during retirement.

Are there downsides to whole life insurance?

There are several disadvantages to whole life insurance.

The premiums can possibly be anywhere from five to fifteen times as high as for term life insurance for the same amount of coverage. If that price proves too high, some people may have to end up walking away from the policy. And, of course, if you don’t make your payments, the policy lapses. 

Insurance companies make the interest-bearing cash value component sound good, but there are a few things to remember. 

Policies can take many years, even decades, to build cash value. And while you enjoy a guaranteed interest rate from the insurance company, you could have also considered investing your money in other ways—like, for example, an index fund. (That said, we’re not pretending to be financial advisors here.)

And while you can borrow money against the policy’s cash value, you’ll need to repay those loans with interest, or the death benefit will be reduced. And when you pass away, the insurance company only pays the death benefit to your beneficiary. The beneficiary does not get the accrued cash value of your account. The insurer keeps that.

What does whole life insurance cost?

Premiums vary depending on several factors.

Costs of life insurance are determined by your insurance company. Some of the key factors they take into account are your age, gender, health, family health history, whether you’re a smoker, and how much coverage you want. 

Young people present less risk and are cheaper to insure, so if you take out an insurance policy while you’re young, it’s not a bad idea. If you’re in good health, you present less of a risk to your life insurance company, so they can charge you less. 

Based on 2020 estimates, a whole life policy with a $1 million death benefit—for a 30-year-old New Jersey woman in ‘average health’—would run around $300/400 a month.

Of course, if you want the payout to be a million dollars when you die, it will be more expensive than if you want the payout to be $100,000.

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