What is whole life insurance?
Whole life insurance is a type of permanent life insurance policy that provides coverage for the entire lifetime of the insured as long as premium payments are made. It includes both a death benefit and cash value. It’s different from term life insurance that only covers a specified number of years and does not generate cash value. It is also different from universal life insurance that has premiums and expenses that can change over time.
In addition to providing a death benefit to your named beneficiaries, the cash value component can grow over time on a tax-deferred basis.
How whole life insurance works
With whole life insurance, a part of your premium goes toward insurance costs while the rest is invested into the policy’s cash value. The cash value grows slowly at a guaranteed rate of return, accumulating on a tax-deferred basis. This means you won’t pay taxes on the gains unless you withdraw the money.
You can borrow against the cash value or surrender the policy for the cash at any time. However, if you take a loan, it will accrue interest, and any unpaid amount will reduce your death benefit. If you surrender the policy, you’ll receive the accumulated cash value, but your coverage will end.
Types of whole life insurance
There are several types of whole life insurance, including:
- Traditional Whole Life: The most common form, it offers a guaranteed death benefit and cash value that increases at a guaranteed rate, as long as premiums are paid.
- Variable Whole Life: Here, you can invest the cash value in subaccounts (similar to mutual funds) with potential for higher returns. However, the death benefit and cash value may fluctuate based on investment performance.
- Graded Benefit Whole Life: This policy is typically purchased by older customers or higher risk customers. It provides limited death benefits, generally a refund of premium plus interest, in the first two or three years. The full death benefit is paid if death is caused by accident or if death occurs after the first two or three years.
- Final Expense Insurance: Also known as burial or funeral insurance, it offers a small death benefit, typically used to cover funeral costs.
