Life insurance can provide you the assurance that your loved ones will be financially safeguarded if you die. However, coverage options are often confusing, so it’s critical to understand the different types of policies and select the best life insurance for your needs.
Life insurance is a good option for those who want to leave a safety net for family members to cover their funeral costs or unsecured debt. Term life insurance and whole life insurance policies are the two main options Americans have when selecting coverage, and both have different term lengths, benefits and premiums.
If you’re ready to purchase life insurance but don’t know how to choose between a term or whole life policy, read our guide below to learn more about these policies’ pros and cons.
Table of Contents
- What is term life insurance?
- What is whole life insurance?
- Differences between term and whole life insurance policies
- Choosing between term and whole life insurance
- Term vs. whole life insurance FAQs
- Alternatives to term and whole life insurance
What is term life insurance?
Term coverage gets its name because it expires after a set number of years. For example, you can purchase a policy with a 20-year term or a 30-year term. If you buy a level term policy, your premium will likely be the same every year during that 20- or 30-year period. If you die any time before the policy ends, your beneficiaries receive the death benefit.
Insurance companies can deny claims for various reasons, including if the policyholder dies within the first two years after taking out the policy. This is known as the contestability period. During this time, the company reserves the right to review your life insurance coverage before a payout.
At the end of your term, insurers typically provide the option to renew the policy. The cost will likely increase your premium significantly, but renewal can be worth it in certain situations, especially if the policyholder’s health is deteriorating. Some policies are guaranteed renewable, so the policyholder doesn't have to undergo a new medical exam, and a sick person may not not qualify for a policy otherwise.
If you decide to renew your policy, your death benefit amount typically remains the same and you’ll pay a new premium for extending the coverage on a yearly basis. Keep in mind that if you don’t have guaranteed renewability in your agreement, the insurance company can deny your request to renew a policy.
What is whole life insurance?
Whole life insurance remains in effect for the life of the insured person. They also generally feature level premiums that won't change over the life of the policy.
Like other forms of permanent life insurance — including universal and variable life insurance — whole life insurance policies have two components: A guaranteed death benefit and a savings account called the cash value. As you pay your premium, a portion of the money goes toward funding the cash value component. Once you have enough cash value, you can borrow against the value of your life insurance policy.
The cash value of your whole life insurance policy is guaranteed to grow over the long term, based on a rate set by the insurance company when you open your policy. With other forms of permanent life insurance, cash value growth may be affected by your premium payments and the performance of underlying investments.
When you die, the cash value account does not go to your beneficiaries — you can only claim it you surrender your policy or if your policy allows for limited withdrawals. Borrowing against your whole life insurance policy is another option, but outstanding loans can reduce the death benefit.
Differences between term and whole life insurance policies
The following comparisons can give you a general picture of the differences between term and whole life to help you choose the best life insurance products for your financial needs.
You can select the policy length
Policy is renewable
Includes a cash value component
Payment amount is guaranteed
Might earn dividends
Monthly premiums will not change
Term Life Insurance
Whole Life Insurance
Premiums for a term life policy tend to be more affordable than those for a whole life policy
Premiums tend to be higher than those for a term life insurance
Term life affordability is a result of the coverage expiring at the end of the term
Whole life is more expensive because it doesn't expire (as long as you pay your premiums).
As long as you make payments on time to keep the policy active, your premiums will not increase.
The death benefit is the payout made to the policy's beneficiaries in the event of the insured person's death. Essentially, it is the dollar amount your family will receive should you die while your policy is active.
Term Life Insurance
Whole Life Insurance
Death benefit is guaranteed during the policy term
Death benefit is guaranteed throughout the the insured's lifetime (as long as the policy is active)
If you want to increase the death benefit, it may require taking out a new policy.
If the insured makes a withdrawal from the cash value or takes out a loan against the policy and doesn't pay it back, the amount will be deducted from the death benefit upon their death.
Factors that affect the cost of life insurance
Life insurance companies price your premium based on how likely you are to die in the near future and the coverage amount you select, among other factors. The premiums, which you can typically pay monthly or annually, are usually higher with whole life insurance than with term life insurance.
The cheapest time to purchase a life insurance policy is now (or as soon as possible) because the longer you wait, the higher your premiums will be. The younger and healthier you are, the better the chance you’ll be approved for a life insurance policy with a substantial death benefit and manageable premiums. (There are even life insurance plans for children.)
Regardless of which type of insurance you purchase, these are some of the factors that will affect your life insurance premiums:
- Gender: Men have a lower life expectancy than women, and because of it, life insurance companies tend to charge men higher monthly premiums.
- Age: Life insurance companies see age as a risk, making older individuals pay higher premiums.
- Health: Having pre-existing conditions such as diabetes, cancer or heart conditions will make it difficult to obtain approval and result in more expensive premiums.
- Lifestyle: Life-threatening hobbies such as skydiving or rock climbing make you a higher risk in the eyes of life insurance companies.
- Weight: Life insurance companies may charge more for individuals with a higher BMI.
- Cigarette use: Smokers are more likely to develop significant health issues and will always pay a higher rate than non-smokers.
Choosing between term and whole life insurance
The choice between a term or a whole life insurance option should primarily depend on your insurance needs and your available budget.
Is term life insurance right for you?
A term life policy is a good option if you:
- Want coverage only for a certain time period: For example, if you have a mortgage, it could make sense to have term life insurance during the life of your home loan to cover the remainder of your mortgage loan should you die before paying it off.
- Are interested in a whole life policy but cannot afford it right now: Many life insurance companies offer convertible term to whole life policies. You can purchase a convertible term policy now, and when you can afford to, convert your policy to whole life.
- Want affordable coverage: Since term life policies don’t have a cash value component and coverage expires at the end of their term, they tend to be more affordable than permanent policies.
- You’re not interested in the investment component of a whole life policy: Since whole life policies are more expensive partly because of the investment component (cash value), you can take what you save on monthly premiums and invest it somewhere else.
Is whole life insurance right for you?
A whole life policy is a good option if you:
- Want permanent coverage: A whole life can last your entire lifetime, lapsing only if the premiums aren’t paid.
- Can afford higher premiums: Because of the cash value component, a whole life policy has higher premiums than a term life policy.
- Want to have an investment component: The cash value component can be an option to consider for those who have maxed out their contributions to an IRA or 401(k) plan. Policyholders can also take out loans against their policies, but they have to pay interest on them like they would any other loan.
Using your whole life policy as an investment
Americans sometimes consider using a whole life insurance policy as an investment if they have already maxed out on other tax-deferred investment options like an IRA or 401(k). The investment component of a whole life policy grows at a fixed rate established by the insurance company.
If you’re interested in learning more about how to use life insurance as an investment, check out our guide.
Alternatives to term and whole life insurance
While term and whole life policies are the two most common types of life insurance, there are other options. Here's a brief overview:
- Universal life insurance: Offers more flexibility than a whole life policy. Policyholders can change their death benefit amount and premium payments at any point without surrendering the policy.
- Variable universal policy: Similar to a universal policy, a variable universal policy has flexible premiums and pays a death benefit to the policy’s beneficiaries. What makes it different is its variable investment component. Policyholders have access to various investment sub-accounts, and the performance of those underlying investments can affect the policy’s cash value. It requires a more hands-on approach than other permanent policies.
- Indexed universal life insurance: This type of permanent life insurance includes a death benefit and a cash value component. It allows policyholders to have more input with regards to how its underlying investments are managed, and a portion of the cash value can be tied to a stock market index. While they may earn higher returns than other permanent policies, annual earnings are subject to a maximum called a cap rate.
Term vs Whole Life Insurance FAQs
What is the main difference between term life insurance and whole life insurance?
Term life insurance only lasts for a set period of time, often 20 or 30 years. If the policyholder outlives the policy term, the policy expires and there won't be a payout.
With whole life insurance, beneficiaries will get the death benefit regardless of when the policyholder dies. In other words, the coverage lasts for your entire life, which is one of the reasons whole life insurance costs more.
Another reason whole life premiums are more expensive is because these policies include a savings component called the cash value, which grows tax-free.
Is term life insurance better than whole life insurance?
Term life insurance can be a good choice if all you want is a policy that pays your beneficiaries in the event you die early. It can be a way to replace some of the income that would have otherwise come in for your family if you lived longer and continued to work.
Compared to whole life insurance, term life insurance is a simpler and more affordable product, which is appealing to many Americans.
Whole life insurance is more expensive because it offers lifelong coverage and additional benefits. If you're unsure which option is best for you, it may help to talk with a financial advisor or another financial professional.
What happens if you outlive your term life insurance policy?
What is the difference between whole life and universal life?
Summary of Money’s guide to term life vs. whole life insurance
Term life insurance
- Cheaper premiums than permanent life insurance
- Many policies include the option to convert to permanent life insurance
- Coverage you can tailor to your needs
- The policy expires upon reaching its term
- No cash value, unlike many whole life policies
- Health issues can affect your ability to convert or renew your policy
Whole life insurance
- Guaranteed death benefit makes better financial planning
- The policy will build cash value over time
- The insured can take out loans against this type of policy
- Considerably more expensive than term life
- Loans may decrease your death benefit
Check our selection of the best life insurance companies to learn more about our top picks and their offerings.