What is the Difference Between Term Life and Whole Life Insurance?
BY: Aaron Crowe | October 13, 2020
Buying life insurance can be intimidating. It’s something you rarely shop for, if at all, and confusing concepts only make it harder to understand.
The good news is that the benefits can be a lifeline for loved ones left behind by a breadwinner’s death, and life insurance is relatively inexpensive.
Shopping for it isn’t easy, but types of life insurance basically comes down to two types: term and whole life insurance. Understanding your insurance options and finding a good life insurance coverage should be relatively easy.
What is term life insurance?
Term life insurance is simply insurance you have for a "term." The length of coverage could be from 1 to 30 years, but is typically set at 10, 20 and 30 years.
By setting it for a certain amount of time, the insurance is often more affordable than whole insurance and you pay regular premiums for the duration the policy is active.
The main idea behind term life insurance is that the policy is in effect for the number of years you’ll need it, such as your working years. If anything should happen to you before retirement, your beneficiaries will receive the benefits. The insurance will be a safety net and help your family or spouse pay the mortgage, college costs and other expenses that they might not be able to with your salary gone if you are gone.
After 30 years policyholders likely have fewer financial obligations, such as paying off a home where your children no longer live and you’ve built up wealth and don’t need life insurance in retirement.
When the term ends, the policy expires. This means you are no longer insured and beneficiaries do not receive payouts. However, you can shop for a new policy or convert your term life policy into a form of permanent life insurance. But since you’ll be 20 or 30 years older, the new policy will likely cost more and you'll undergo health screenings that could result in higher premiums.
What is whole life insurance?
Whole life insurance is also just what the name implies: for your whole, or entire, life. It’s a type of permanent life insurance that stays in effect for as long as you pay the premiums.
Whole life is a combination of insurance and investment. It is more complicated than term insurance, but the main term to know about whole life is “cash value.”
This is money used from part of your premium that goes into a tax-deferred savings account. The policy’s cash value grows over time. You can borrow from it, draw from it for retirement, or fund the policy. Some whole life policies pay out dividends like other investments do. Although permanent policies build cash value, it has a minimum growth rate and is a conservative investment. You’ll likely find better investment returns elsewhere and this shouldn't be used as your only source of investment.
The benefit of purchasing whole life insurance while you are young is will find insurance cheaper than when you are older. Your policy will be based on a 20- or 30-something body rather than a 50- or 60-something body where diseases and conditions are more likely to be diagnosed, making it more expensive to insure you.
Whole life insurance is also beneficial to those who build wealth and have a complicated financial balance sheet. This insurance is often included with general estate planning. With a whole life policy your full inheritance goes to your beneficiaries.
How term life and whole life insurance compare
Here’s a quick comparison of term and whole life insurance:
| Term Life Insurance | Whole Life Insurance | |
|---|---|---|
| Coverage duration | 1 - 30 years | Life |
| Cost | $25 - $35/month | 5 - 15x more |
| Guaranteed benefit | Yes, if within term | Yes |
| Guaranteed cash value | No | Yes |
How much does life insurance cost?
The average cost of life insurance among all policy types is $44 per month, according to data from S&P Global reported by Business Insider.
It reported the average term and whole life insurance costs per month for a man in excellent health with a $250,000, 20-year term policy, and a $100,000 whole life policy, at different ages:
| Age | Average term rate/month | Average whole rate/month |
|---|---|---|
| 20s | $15.90 | $85.45 |
| 30s | $16.14 | $122.20 |
| 40s | $21.75 | $196.25 |
| 50s | $47.86 | $233.94 |
Many factors go into the price of life insurance, which are listed below but for people 35 and younger, monthly premiums for either type of policy are significantly cheaper than they are those after age 35. Getting coverage at a young age means locking in a monthly premium for the life of the policy.
Life insurance is also cheaper for women than men, and especially at age 35 and younger. This is because women live longer than men and the premiums are stretched out longer, keeping them lower. Look at this example of average monthly premiums for women and men in excellent health both seeking $250,000 worth of coverage for a 30-year term:
| Age | Female | Male |
|---|---|---|
| 25 | $20.10 | $23.05 |
| 30 | $21.86 | $23.07 |
| 35 | $24.19 | $26.48 |
| 40 | $34.77 | $40.21 |
| 45 | $48.52 | $61.40 |
| 50 | $60.31 | $81.72 |
Still, whole life insurance policies carry a higher cost than term life insurance policies.
Changing term premiums
Term life insurance can come in two forms: guaranteed level and annual renewable. Each can affect the price of the policy.
Guaranteed level term insurance keeps premiums the same for the entire policy term. Renewable annual term life insurance must be renewed periodically, when the premiums can be raised.
You might want a renewable annual policy if you need coverage for a short period of time. Premiums are lower than guaranteed level premiums, but rise later.
Whole life insurance premiums, on the other hand, remain the same no matter how long you have the policy.
With any of these policies you must make regular payments on the premiums. If not, the policy could lapse and benefits could be denied if you die.
What is a guaranteed death benefit?
One term you may hear about when researching life insurance is “guaranteed death benefit.”
Term and whole life policies each have this benefit, which is the amount of money paid to your beneficiaries. The life insurance company can’t alter it.
The amount is usually untaxed, meaning your beneficiaries won’t receive have to pay taxes on the money they receive, ensuring they get the most coverage if you're gone.
However, if you have whole life and take out a loan against your policy, the death benefit will be used to repay the outstanding amount, leaving less money to your beneficiaries.
What is guaranteed cash value?
Cash value is the part of your policy that earns interest and may be withdrawn or borrowed against.
As discussed earlier, it’s one of the greatest benefits of whole life insurance. It’s “guaranteed,” meaning it has a minimum growth rate.
Term life insurance doesn’t have cash value. It only pays off when you die. You can’t borrow against it or earn money from it while alive.
With a whole life policy, the life insurance company will pay out the accumulated cash value of the years held, minus any loans or fees. This is the investment part of “guaranteed cash value.”
Factors affecting life insurance rates
Age and gender may be the first factors in determining life insurance plans but there are other factors that will weigh heavily on the price of your premiums. While financial needs set the bar on coverage amount, insurers are also concerned with these factors, and they affect life insurance rates.
Smoking
Smokers are more likely to die at least 10 years sooner than nonsmokers, according to the Centers for Disease Control and Prevention (CDC). Quitting smoking before age 40 reduces the risk of dying from smoking-related disease by about 90%, the CDC says.
Research suggests that life insurance is 100 to 300 times more expensive for smokers. This means a 45-year-old man who smoked who wanted to buy a 20-year, $500,000 policy would pay $289 per month for coverage, versus about $52 for a nonsmoker.
Risky activities
Do you skydive, scuba or travel overseas to war-torn countries? Your life insurance rates will probably be higher than if you didn’t do such "risky activities."
Your life insurance company may also look at your driving record and charge you more for life insurance if you have a lot of speeding tickets.
Risky activities can go beyond hobbies. If you’re a firefighter or travel for work to countries deemed unsafe, then your insurance rates may be higher — $2.50 to $5 for every $1,000 worth of insurance, according to TrueBlue Life Insurance.
Health history
A full medical exam is typically required before being approved for a life insurance policy. Your medical records may also be needed so experts can review your current health and medical history, including hereditary history. A health condition in your family that can lead to early death could raise your premiums.
Pre-existing conditions could exempt you from coverage or make it more costly. These include the most common conditions:
- Diabetes
- Heart disease
- High blood pressure
- High cholesterol
- Obesity
- Cancer
Losing weight, lowering your blood pressure and cholesterol levels, and no longer smoking before you apply for insurance can make it cheaper.
PolicyGenius found life insurance rates increase, on average, 4.5% to 9% year over year, so the longer you wait, the more you will pay, even with a pre-existing condition or health concern.
Length and amount of coverage
It goes without saying that the longer you have a policy the less expensive the monthly premiums will be. This is for the simple reason that you’re making more total premium payments.
A higher death benefit, such as $1 million compared to a $500,000 policy, will increase the cost of insurance, as well.
How much life insurance do you need?
To determine how much life insurance you need, you may just want to go with the basics of covering your family’s major expenses if you should die during your main earning years of life.
Paying off your home and having enough money for your children to attend college may be enough if your spouse has a job and other savings to cover living expenses.
Other things to account for include:
- Probable future debts for your family, along with income and assets.
- Final expenses your estate will owe after you die, including credit card debts, mortgage payments, funeral and other things.
- How your spouse and children will support themselves without your salary.
- The standard of living you want your descendants to have.
- Hidden income such as retirement fund matches, health insurance subsidies and other fringe benefits.
Insurance companies recommend having enough life insurance to cover 6 to 10 times the amount of your annual salary Another suggestion to multiple your annual salary by the number of years left until you retire: This is the amount of coverage you will want.
Costs for life insurance with children vs without
Once you’ve determined what type and how much insurance you need, you can more easily shop for it and get life insurance quotes.
For millennials and Gen Z with or without children, term life is probably the best option. It’s cheaper than whole life and will protect your family during most of your working years or at least until your children are old enough to move out on their own.
Having children won’t increase your premium, but it will mean that you’ll want more coverage: college, living expenses and other costs of living should you die while they are young. Instead of a $250,000 policy for 20 years, you may want a $500,000 or $1 million policy for the same term.
Here is an example of monthly policy costs from U.S. News & World Report for a non-smoking woman in average health.
| Policy | Age 30 | Age 40 | Age 50 |
|---|---|---|---|
| 10-Year Term | $36.20 | $50.96 | $108.13 |
| 15-Year Term | $44.94 | $65.64 | $141.11 |
| 20-Year Term | $51.26 | $80.21 | $173.64 |
| 30-Year Term | $83.58 | $130.91 | $294.81 |
| Whole Life | $706.25 | 1,061.95 | $1,709.76 |
This clearly shows how whole life insurance is significantly more expensive, and how buying at age 30 is cheaper than waiting 10 years.
It also shows how the cost of a long term policy increases, that it’s still affordable, and that having a long term to take care of children isn’t out of reach.
Bottom Line
Of all of the things you shop for, try not to let life insurance intimidate you. This is financial protection for your family and a good insurance agent or financial adviser can help you determine how much coverage you need, and from there you can shop for the best prices.
Term and whole life policies have their own advantages and disadvantages, so decide if you want a whole life policy that’s an investment vehicle for your entire life, or if you only need term life coverage for a certain number of years.
It’s a decision your family will thank you for. And hopefully, it will be a long time from now.