Term and cash value are the two main categories of life insurance. The best choice for your circumstances is likely to depend on how much you are willing to pay for premiums and how long you believe you will need the insurance. With both term and cash value policies, your beneficiaries receive death benefits free of income taxes. Depending on what your needs are will decide if term life insurance vs. cash value is better in your situation.
Term Life Insurance Basics
Term insurance, which typically is less costly, provides a death benefit in return for premiums paid. The length of time (or term) that the policy is in effect is specified in the policy. According to the Insurance Information Institute, the most popular type of a term life insurance policy is for a 20-year term. In many instances, consumers are not able to buy policies for a term that extends beyond their 80th birthday.
The cost of term insurance frequently rises as the policyholder gets older. Level-term policies, in which the annual premium remains consistent throughout the term, are available, but premiums frequently increase when the policy is set to expire and the policyholder seeks to renew for an additional term. The policy has no cash value or investment component. If a claim is not filed within the specified term and the policy is not renewed, the policy lapses and the policyholder receives no cash benefit.
When is Term Life Insurance Better
Term insurance may be an appropriate choice if you want to keep premiums as affordable as possible. Just be aware that if you want to remain insured beyond the term specified in the policy, affordability could become an issue. If term insurance appeals to you, consider a guaranteed renewable policy that you can renew regardless of your health status at the end of the term. Also, term insurance may be worth considering if you expect to need insurance for a limited period of time (for example, before retirement when you anticipate receiving pension benefits) and do not need coverage for your lifetime.
Cash Value Life Insurance
Cash value insurance, in contrast, combines term insurance with a savings component. Cash value is likely to be more expensive than term insurance but typically remains in effect throughout a policyholder’s lifetime at a level premium. A portion of the premium is used to fund a savings or investment component that the policyholder can access by borrowing against it or by cashing in the policy. If a policyholder cashes in the policy, it is no longer in effect but the policyholder receives the cash surrender value.
Interest and other earnings that are credited to the cash value are not subject to income taxes. When a policyholder borrows against the cash value, interest is charged as it would be with most types of loans. The loan is treated as a debt and is not considered a distribution for income tax purposes.
Cash value insurance may be attractive if you anticipate needing insurance throughout your lifetime, if you can afford the higher premiums, and if the option of borrowing against the cash value appeals to you.
This article was prepared by Standard & Poor’s and is not intended to provide specific investment advice or recommendations for any individual. Consult your financial advisor or me if you have any questions.
photo credit: spike55151
This post was feature in the Best of the Best Finance Carnival.
Securities offered through LPL Financial, Member FINRA/SIPC.
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Great post on the difference between term and cash value life. My husband and I originally got cash value when we were first married. It’s nice, I guess, since it will cover us forever. But we are glad they are small policies, since I’m not sure we would have got them if we had known a little more. But now I also have a larger term policy — that costs less, and will cover me until my son is grown.
Miranda´s last blog ..Saturday Staples: Personal Finance Posts
Miranda,
If you are unhappy with your Whole Life, you can probably transfer it into a policy that requires no more premiums (obviously for the sacrifice of some of the death benefit).
Evan´s last blog ..Buying Life Insurance on a Child’s Life
Cash value life insurance has become a popular topic since the return on many policies has now outperformed the stock market over the past 10 and 20 years, thus disproving the old saying “buy term and invest the rest”. Be sure to check the rating on the insurance companies you look at to help make sure they will be around.