Permanent life insurance is one of the most confusing topics in personal finance. This makes a discussion of whether to buy term or permanent insurance a daunting task.
Let’s first define some terms:
Term insurance provides a level premium and a level-death benefit protection for a stated period of time, such as 10 or 20 years.
Permanent insurance typically provides both a death benefit and cash savings. There are different types of permanent insurance, including whole life, universal life, index-universal life, variable life and variable-universal life.
The initial premium for permanent insurance is higher than for term insurance with a comparable death benefit. A portion of the premium may be invested, eventually providing a buildup of cash value.
Pros and cons of term insurance. Term insurance can be a good fit for younger individuals and families, who need protection against the loss of income of a primary earner for a stated period of time, at an affordable cost. In most cases, a medical examination will be required.
Term insurance does not build cash value, so at the end of the term, the policy will have no value.
An additional benefit of term insurance is that it is a simple product, so comparison shopping is quite easy. The market for selling term insurance is competitive, presenting good values for consumers.
Brant Steck, director of client relationships for Brokerage Unlimited, Inc., in St. Louis, recommends buying a level term insurance policy and matching the length of the level premium period to the amount of time the need exists. At the end of the level-premium period, the policy should not automatically cancel (unless instructed by the policy owner), but the premium will likely increase quite markedly if you elect to continue the coverage. You should consider a term policy with a conversion privilege, which will permit you to convert the policy into permanent insurance, without proof of insurability, and lock in the rate class you had at the inception of the policy.
For many consumers, the only way they can afford the coverage they need, for the time when they need it, is through term life insurance. For those people, it’s the insurance product of choice. Jeremy Ragsdale, vice president, Life Insurance and Annuities at TIAA-CREF, notes that more than 85 percent of the policies sold by TIAA-CREF are term policies, although they represent a much lower percentage of total premiums.
Pros and cons of permanent insurance. Permanent insurance may provide protection for your entire life. If a guaranteed level premium is important to you, make sure your policy provides for one.
Permanent insurance accumulates a cash value, and the policy owner may be able to borrow against it tax-free or use it for retirement or other goals (like education). Premiums are initially higher than for term coverage.
Who should consider permanent insurance? According to independent insurance consultant Glenn Daily, permanent insurance can make sense for consumers who need to create liquidity in order to pay projected federal estate taxes. He also recommends permanent insurance to those concerned about asset protection, where state law provides that the cash value and death benefits of insurance policies are not subject to claims by creditors.
Permanent life insurance also has an element of forced savings that can be attractive. In this environment of low interest rates, Daily notes that some policies have been paying a tax-deferred return of 4 percent or more. Of course, mortality and administrative costs of the policy will still be deducted.
Steck notes another situation in which permanent insurance may be the preferable option. If you are a retired couple concerned about spending money because it will deplete the inheritance you wish to leave for your children, Steck recommends designating a small portion of available funds and buying a survivorship-permanent policy. This policy should have a no-lapse guarantee. Steck believes this kind of policy will assure the couple that their children will receive the intended inheritance, while allowing them to enjoy their retirement.