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Published: Jul 28, 2023 15 min read

Whole Life Insurance

Definition

Whole life insurance is one of two main types of life insurance (the other being term life insurance). The idea behind whole life is to insure you for the entirety of your life, while term life insurance will only insure you for a limited period of time. Typically, a whole life policy will be in force until the insured's 100th or 120th birthday. Because such longevity is a rare occurrence, the policy tends to live up to its name.

The level premiums for whole life tend to be significantly higher than a comparable amount of term life coverage. Whole life insurance also includes a cash element from which you can borrow or use to pay the policy's premiums.

Whole life insurance has several sub-categories, including universal life, variable universal life, and flexible or adjustable premium life insurance.

Also known as:cash value insurance

Whole life insurance is a type of life insurance policy that guarantees a fixed death benefit for the beneficiaries and a cash value component that functions as a saving and investing vehicle for the policyholder during their lifetime. Read our in-depth guide to learn the benefits of whole life insurance — and its potential downsides to find out if it’s the best life insurance policy for you.

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How Does Whole Life Insurance Work?

Whole life insurance is a permanent insurance policy that builds cash value over time. As long as the premiums are paid on time, the policy remains active for the entire life of the policyholder and the beneficiaries will receive a set death benefit upon the insured's death.

The insured pays fixed premiums, which are allotted between several categories:

  • Partial funding for the policy’s death benefit
  • The insurer’s operating costs
  • Contributions to the cash value account, which can serve as an emergency fund that the policy holder can access or borrow against

What Does Whole Life Insurance Cover?

Death Benefit

  • Your beneficiaries are entitled to a tax-free, lump-sum death benefit at the moment of your passing.
  • There are no use restrictions. A death benefit payout can cover costs associated with your death like estate planning, burial, funeral, and debt settlements, but your beneficiaries aren't required to use it for those purposes.
  • The amount of the death benefit doesn’t change during the policyholder’s lifetime, but any outstanding loans against the cash value component of the policy will be deducted from the death benefit the beneficiaries receive.
  • The policy can expire at its “maturity date” usually when the insured reaches age 100 or 120. What happens next varies: Some companies pay out the cash value and close the policy, while others grant policy extensions or continue the policy with no changes.
  • The minimum coverage amount is usually $100,000, but many policies can pay out $1 million or more.

Cash Value

  • This component is a benefit for the insured while they are alive. It works as a safe investment and savings account the insured can access throughout their lifetime.
  • Returns on the cash value amount are “guaranteed,” meaning that the insurer pledges to uphold a minimum interest rate over the life of the policy.
  • The cash value account is funded with a portion of the premium payments. The amount earns interest and builds value on a tax-free basis.

Riders

Insurance riders enhance the coverage and modify the terms of a policy. For example, you can work around a policy’s maturity date by purchasing a maturity extension rider or access the death benefit while still living by adding an accelerated death benefit rider.

Eligibility

Eligibility for whole life insurance is determined by a variety of factors, including age, gender, employment information, medical history and lifestyle.

Insurers generally require a medical exam, but if you’d rather skip this step, some companies offer a no-exam life insurance alternative to the traditional underwriting process.

What Is The Cash Value of a Whole Life Insurance Policy?

Most people buy life insurance with a cash value component to build tax-deferred earnings. This living benefit works like a low-risk investment account, providing an extra source of income for retirement, college tuition or emergency funding.

A cash value account:

  • Grows slowly, but with guaranteed rates, regardless of stock market fluctuations
  • Earns interest on a tax-free basis as you continue making payments
  • Grows faster during the first years of the policy but slows down as you age since the cost of insuring you demands a larger portion of your premiums
  • Stays with the insurance company when the policyholder dies — unless the policy includes a rider that states otherwise

There are four ways to access the cash value earnings in a whole life insurance policy:

  • Policy loans – A policy loan is tax-free and less restricted than other types of loans. The insurance company lends the money and sets up a flexible repayment plan with low interest rates. Your cash value earnings serve as collateral.
  • Withdrawals – Policyholders can withdraw directly from the cash value with partial cash surrenders. These are final and can reduce the death benefit payout. Withdrawals are taxable if they exceed the cumulative amount you’ve paid in premiums, and withdrawing the full cash value amount triggers a policy lapse.
  • Surrendering the policy – Surrendering a policy cancels it and nullifies the death benefit. You receive the cash surrender value — whatever cash value is left after surrender charges and fees. Any cash surrender value that exceeds what you’ve paid in premiums is taxable.
  • Using it to make premium payments – You can use the cash value to cover monthly premiums and stop making payments out of pocket. It will take several years of high premium payments before this is possible, and if you empty the cash value account, the policy can lapse.

Dividend-paying whole life insurance policy

A “participating whole life insurance policy” can earn dividends on top of the guaranteed cash value and death benefit.

If and when the insurance company generates a surplus of profit, policyholders receive dividends as partial refunds of premium payments. They may use these earnings in several ways:

  • As a cash or check payout
  • As contributions to cash value account
  • To make advanced premium payments
  • To purchase additional coverage

Before borrowing from your cash-value account, remember:

  • Mismanaged cash value loans can lapse your policy, nullify tax-exempt status and reduce the death benefit.
  • Withdrawals and loans that exceed the cash value amount will be subject to taxation.
  • Withdrawals and outstanding cash value loans will reduce the death benefit payout to your beneficiaries.
  • Policy loans and withdrawals increase the risk of the policy lapsing.
  • Due to its low annual growth rate, it can take up to 10 years to build enough funds before you can actually borrow.
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How Much Does Whole Life Insurance Cost?

Whole life insurance rates are considerably more expensive than other types of life insurance. Policies can cost up to 10 times more than term life insurance.

Common factors affecting life insurance rates

Premiums can range from $40 to $300 monthly, but the exact amount you pay every month will depend on a few factors:

  • Your individual profile
  • The company’s underwriting guidelines
  • Insurance policy type
  • Coverage amount
  • Any riders you purchase

Some policies offer an optional clause called a waiver of premium, which waives premium payments if the insured person becomes critically ill or disabled.

Whole life insurance premiums are based on:

  • Age and gender – The younger you are, the lower your premiums will be. Premiums for women also tend to be more affordable than for men.
  • Medical history – Insurance companies look at your own medical history and your parents’. Pre-existing conditions or family history of chronic conditions will drive up premiums. Expect a medical exam or health questions to assess your health.
  • Smoker Status – Your premiums could increase by as much as 20% if you smoke cigarettes or use tobacco (cigars, snuff, and chewing tobacco).
  • Hobbies – Practicing extreme sports like skydiving, rock climbing or other risky hobbies raises premiums.
  • Occupation – Working a high-risk job (ex. police officers, construction workers, pilots, and firefighters) tends to raise insurance premiums.

What Type of Life Insurance Policy Is Right for You?

Life insurance products are split into two types of coverage: term and permanent policies. The choice ultimately depends on what you can afford and what you want out of life insurance. Take a careful look at every life insurance option available and, if needed, consult a financial advisor before settling on one.

Term life insurance is a simple product with just three types of policies. It works for people looking for affordable coverage for a limited number of years. On the other hand, whole life insurance is one of the multiple types of permanent life insurance that offer lifelong coverage and cash value earnings. There are several types of permanent life insurance:

  • Universal life insurance
  • Variable life insurance
  • Variable-universal life insurance
  • Survivorship life insurance
  • Single premium life insurance

Whole life vs. term life insurance

Here’s how both policy types compare:

  • Coverage – Whole life policies insure you for your entire life, while term life policies have an expiration date after a set number of years.
  • Premiums – Whole life premiums tend to be significantly higher than term life premiums.
  • Investment savings – Whole life policies include an investment component with a modest rate of return (though it can take years to accrue enough value for a loan), while term life policies do not.
  • Dividends – Whole life policies can pay dividends, but term life policies do not.

People who benefit from whole life insurance

Whole life insurance works for people who want long-term protection and can afford the high premium rates. For example:

  • Parents – To ensure your children's financial well-being (fund education, build a trust for children with special needs, etc.).
  • Couples – To cover daily and future living expenses, such as mortgage payments, for a spouse or partner.
  • Older adults – To cover financial obligations, funeral costs, final expenses and supplement Social Security Income.
  • Business owners – To ensure the operation of a business after the owner’s death or to cover debt related to operations, especially if it’s backed by assets (like a family home) or the family needs to buy out a partner.
  • People who need estate planning – To help your loved ones cover estate taxes, asset management and other death-related expenses in case of the policy owner’s unexpected or accidental death.
  • Businesses that need to insure a “key employee” – To buffer any financial setbacks after the loss of an essential employee.

People who don’t benefit from whole life insurance

Life insurance is a welcome safety net for anyone, but purchasing a whole life policy is not always the best choice for:

  • People in average income brackets - Expensive premiums are generally not compatible with average wages. People who have large mortgages and other debts are best served by term life insurance
  • Older adults who need to boost their retirement - Older adults should look for the best life insurance for seniors before considering a whole life policy. The cash value will grow at a very slow rate, and you will pay extremely high premiums without seeing much returns.
  • Buyers looking for investment opportunities - Focus on maxing out your 401(k) and IRA contributions before considering whole life insurance for its investing benefits. A policy’s cash value earnings resemble money in a savings account: tax-free, secure, and stable, but it won’t earn impressive rates.

When Should I Get Whole Life Insurance?

Generally, experts recommend purchasing a life insurance policy when you’re relatively young to ensure you pay a lower premium. Many younger people opt for term life insurance rather than whole life insurance because of its lower cost, but there are also a few specific scenarios you may encounter when it would make sense to consider a whole life insurance policy.

Mortgage payoff

If you want to ensure that your family can pay off your home if something happens to you, the death benefit and cash value component of a whole life policy can help.

Children at home

A whole life insurance policy can help you ensure that your children’s financial needs — whatever those may be — will be taken care of after your death.

Children’s college costs

For some parents, the cash value component of a whole life insurance plan can function like a college savings account. It’s especially attractive because the money can grow in a tax-advantaged account, much like it would in a 529 plan. But unlike a 529, your children will be able to use that money for other purposes without penalty if they choose not to attend college. It’s worth remembering, however, that the cash value component of a whole life insurance plan can take more than a decade to grow.

Partner who relies on your income

If you don’t have children, a whole life insurance policy can help ensure your partner is financially stable.

Inheritance

A life insurance policy is a popular way to transmit money to your heirs tax-free. In general, proceeds from life insurance are not subject to income tax or estate tax (though there are exceptions).

Funeral expenses

A whole life insurance plan can be used to help your family pay for your funeral expenses.

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Whole Life Insurance FAQ

What is the difference between term and whole life insurance?

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Whole life insurance guarantees lifelong coverage with a cash value component, fixed death benefit, and set premium prices. It may also pay out annual dividends. Whole life insurance premiums are significantly higher than term life.

Term life insurance offers a death benefit for a limited period of time, but the death benefit is lost if the policy owner outlives the term (10-130 years). This type of policy offers significantly lower premiums, but they may increase with time. There is no cash value component and it is not eligible for dividends.

How much life insurance coverage do I need?

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The general advice is that you purchase a policy that covers up to 10 to 15 times your annual income, but it may be more if you have dependents, particular financial circumstances, and goals.

Use an online life insurance calculator to get a better estimate. Calculations are based on your income, savings, estimated burial costs, the number of dependents, and how much they need to survive for a set number of years. You can also consult a financial professional to go over every insurance product option — especially if you're thinking about whole life insurance.

Is whole life insurance a good investment?

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Whole life insurance can be a good investment depending on your circumstances. If you can afford the relatively high premiums and are looking for a way to pass money on to your children or family, a whole life policy might make sense for you. Those in average income brackets may be better served by a term life policy with lower premium payments.

What are the best whole life insurance companies?

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The best whole life insurance companies should have good financial strength as rated by A.M. Best and other credit agencies. Northwestern Mutual, New York Life, and State Farm top our list of the best life insurance companies.

You can get life insurance quotes online but keep in mind this is still a traditional business, so some of the best coverage requires speaking directly with an insurance agent.

Can you get life insurance with a pre-existing condition?

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It's possible to take out a life insurance policy if you have a pre-existing condition like cancer or diabetes, but keep in mind that you'll likely have to pay higher premiums. Some types of life insurance plans will require a medical exam to help determine your coverage and premium, while others do not. If you develop a health condition after you buy a life insurance policy, your rate won't change.

Summary of Money’s Guide to Whole Life Insurance

Pros
  • Lifelong coverage
  • Fixed premiums
  • Investing component
  • No expiration date
  • Potential to earn dividends
  • Cash value loans or withdrawals
  • Loans and withdrawals have no use restrictions
Cons
  • High premiums
  • Slow rate of return on investment
  • High initial commission fees
  • Takes 10-15 years for policyholders to build enough cash value for a loan
  • Cash value does not go to beneficiaries
  • Withdrawals may be taxable income
  • Outstanding cash value loans are deducted from death benefit payout

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