Life insurance goes by a lot of names, but it comes in two forms: permanent and term. Understanding the difference can you buy the kind of insurance that will best suit your family’s needs?
Permanent insurance is protection that can be kept in force for as long as you live. There are several types of permanent insurance, including whole life, universal and variable life, and those that blend term and permanent insurance to provide flexibility and adjustability. One important feature of all types of permanent insurance is its “cash value,” a sum that increases over the years on a tax-deferred basis. Cash value has many uses. For example:
Using your policy as collateral, you can borrow from the company up to the amount of your current cash value. If you die and the loan has not been repaid, the amount owed plus interest will be deducted from he death proceeds paid to your beneficiary.
If you miss paying a premium, the company can–with your authorization–draw from the cash value to keep the policy in force.
If you wish to stop paying premiums, the accumulated cash value can be used to fund a paid-up policy that provides a reduced level of protection or the policy can be continued as term insurance for a specified period of time.
You can use the cash value to purchase an annuity that provides a guaranteed monthly income for life.
You can give up the policy completely and the insurance company will pay you the cash value. You pay taxes only if the cash value plus any policy dividends you may have received exceed the sum of the premiums you have paid.
The traditional type of permanent insurance is the whole life policy. Both the face amount (the death benefit) and the premium (the amount you pay for protection each year) are fixed at the time you buy your policy and stay the same even as you age. The cash value grows at a fixed rate of return specified in the policy.
Other types of permanent insurance allow policyholders increased flexibility regarding premium payments and death benefits. Under most forms of universal life insurance, for example, you can vary the amount and timing of premium payments, subject to certain minimums. You also can increase or decrease the death benefit more easily than under traditional whole life insurance. The amount of cash value you earn reflects current interest rates, subject to minimums guaranteed in the policy. Another type of permanent protection, variable life insurance, provides death benefits and cash values that fluctuate according to the investment experience of funds managed by the insurance company; however, the policyholder decides where his or her dollars will be invested–in stocks, bonds or money market funds. The amount of the cash value and the death benefit reflects the performance of these investments. Thus, while policyholders have the opportunity to obtain higher cash values and death benefits than with more traditional policies, they also assume the risks of poor investment performance.
Policies which combine term and permanent insurance allow the flexibility of tailoring a policy owner’s current insurance needs and premium paying capacity.
They also offer the adjustability to make changes after a policy is issued.
Unlike permanent insurance, term insurance is written for a specific period of time, for example, one year, five years or up to age 65. A term insurance policy pays a benefit only if you die during the period covered by the policy. If you stop paying premiums, the insurance stops.
Policies often may be renewed without taking a medical examination, usually up to a maximum age of 65 or 70, but premiums increase at each renewal. Term policies that are “convertible” may be exchanged for permanent insurance, without taking a medical examination, but with a higher premium.
Under term insurance, there is no cash value, so you cannot take out a loan on the policy, and there are no residual rights in the policy if it is canceled However, if you are young, term insurance initially is cheaper than other types of policies for the same amount of protection. Permanent insurance often is recommended as the core of an insurance program, but term insurance may be a useful supplement for young families needing large amounts of insurance protection for a specific period of time. Permanent and term insurance are two different products that fulfill a variety of personal needs. An experienced life insurance agent can help you choose the best policy for your individual situation.
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