At IBUSA, we partner with insurance providers that offer both term and permanent coverage, because the most suitable life insurance company for you will depend on your individual needs, goals, and objectives.
In this article, we will define permanent life insurance and provide several scenarios where it may be preferable to choose permanent life insurance over term life insurance.
What is Permanent Life Insurance?
When defining permanent life insurance, it’s crucial to distinguish it from term life insurance. Permanent life insurance falls under a broad category of life insurance that provides ongoing benefits for the life of the policyholder. In contrast, term life insurance offers benefits for a limited period.
Permanent life insurance provides a permanent death benefit, which is paid out once the policy premium is completely paid (or paid up), and also includes an accumulation of cash value within the policy.
The two defining features that differentiate permanent life insurance from term life insurance are the permanence of the policy’s benefits and the accumulation of cash value.
Permanent Life Insurance vs. Term Life Insurance
Buying vs. Renting a Death Benefit
When deciding between term life insurance and permanent life insurance, it’s important to understand that term life insurance does not offer a permanent death benefit. Instead, it provides a specified amount of death benefit for a set term, with the cost determined by factors such as the length of the term, the amount of the death benefit, and the applicant’s age and health rating.
Unlike permanent life insurance, term life insurance does not include any cash accrual or other permanent benefits. As a result, term life insurance rates are typically lower than those of any type of permanent life insurance.
This lower cost is why some financial experts suggest that individuals should “buy term and invest the difference.” However, it’s essential to carefully evaluate your individual needs and circumstances before making a decision between term and permanent life insurance.
Different Types of Term Life Insurance
Term life insurance comes in different lengths, ranging from 5 to 40 years, with 5, 10, 15, 20, 25, 30, 35, and 40 year level term policies being the most common.
These level term policies offer coverage at a fixed premium for a specific period. However, after the term expires, the premiums for the coverage typically increase significantly, making the policy impractical to maintain. In such cases, it’s advisable to purchase a new term policy.
Another option is annual renewable term insurance, which provides coverage for one year at a time, with premiums gradually increasing each year.
Convertible term life insurance allows the policyholder to convert their temporary term policy into a permanent life insurance policy during the policy period if they choose to do so.
We highly recommend this approach because it preserves the option to convert from temporary to permanent life insurance for various reasons. For example, if a person’s health deteriorates, they may no longer qualify for renewable term insurance, and a permanent life insurance policy may be necessary.
2 Types of Permanent Life Insurance
There are two broad categories of permanent life insurance: whole life insurance and universal life insurance. These two types of permanent life insurance differ both philosophically and practically.
As an analogy, if most universal life products can be compared to thoroughbred racehorses, most whole life products can be likened to Clydesdale workhorses. However, guaranteed universal life (GUL) is an exception, as it offers conservative cash value growth similar to that of whole life, although properly designed whole life policies can generate higher cash value growth than GUL.
The primary difference between whole life insurance and universal life insurance is how the life insurance assets are invested and the level of guaranteed growth within the policy. Additionally, flexibility of premiums is an important factor to consider when distinguishing between these two major types of permanent life insurance.
Whole Life Insurance vs. Universal Life Insurance
Whole life insurance policy returns are conservative and based upon the insurance company’s pool of extremely conservative investments and thus are guaranteed at rates which have been relatively consistent over the last 200 years.
In addition, if the whole life insurance company’s pool of investments performances well, then policy holders, in a mutual whole life insurance company, will receive a higher return, project as non-guaranteed, which is based upon a return of premiums to policy holders.
Within the arena of whole life insurance, policies mostly differ in terms of the “bells and whistles” attached and what the company chooses to offer policy holders.
Some companies, for example, will offer better options for paid up additions riders in order to facilitate cash value accumulation strategies such as infinite banking.
Design Matters
Whole life policies may also differ in design depending upon the goal sought by the policy applicant.
If a permanent death benefit and lower costs is preferred, then the policy will NOT be designed to enhance cash value accumulation AND vice versa if cash accumulation is sought over permanent death benefit.
Universal life insurance policy returns depend upon the type of product selected and may be either guaranteed, tied to a market index OR depend upon the success of the financial markets, and investments vehicles such as mutual funds.
Policies often offer a floor, to prevent market losses of greater than zero AND may cap gains at a certain rate depending upon the risk of the given index.
Guaranteed Universal Life Insurance ties policy cash value growth to a fixed interest rate of return
Indexed Universal Life Insurance ties policy growth to a selection of market indexes such as the S&P 500
Variable Universal Life Insurance ties policy growth to investments in the financial markets such as mutual funds or even hedge funds
So the key with universal life, is that a policy can be designed to accommodate the level of risk, reward that you’re seeking.
If you have more of a risk taking preference, then a variable policy may offer the chance for greater market returns with the greater risk of losses.
Thus, the potential opportunity for higher returns due to stock market investing should be weighed against greater stability and predictable returns year after year.
Top 5 Reasons to Choose Permanent Life Insurance
Permanent life insurance offers benefits that term life insurance by nature cannot offer. Let’s review:
- Permanent death benefit
- Peace of mind if health changes
- Accruing cash value for secure retirement and/or investing
- Tax advantaged growth and leverage
- Asset protection
Permanent Death Benefit
As long as you make your minimum required premium payment, your permanent insurance policy will remain in force, making it so you cannot outlive permanent life insurance.
And based on how your policy is designed, your premium can remain fixed for your entire life.
Peace of Mind
If you have a permanent life insurance policy, then no matter what happens in life, whether sickness or disease, your insurance provider cannot cancel the policy.
Retirement or Investment Funds
By nature, term life insurance cannot contribute to funding retirement or providing future capital for investment because it doesn’t build cash value.
Permanent life insurance can do this by allowing cash value to building inside the policy in a tax advantaged environment.
This is a key aspect of cash value life insurance AND can be applied as part of a retirement planning with life insurance strategy OR as a way to create private financing for real estate or other investments.
Tax Advantages
When cash value accumulates inside a permanent life insurance policy, tax advantages are allowed under current rules because it is a life insurance policy.
Rather than having taxable gain on 100% of the growth of your accounts, your life insurance cash value can grow tax free, increasing you overall financial leverage AND return on investment return on investment.
This is allowed due the payment of whole life dividends which are basically defined as a “return of premiums” to the policy holders rather than regular income.
And this is a potential key benefit to ALL permanent life insurance but particularly traditional whole life insurance policies.
Asset Protection
In many states, permanent life insurance, along with a number of other asset classes, gets special asset protection under state laws.
This means that the cash value in your policy NOT ONLY gets special tax treatment, but may also get protection from lawsuits and rogue creditors.
This benefit also relates back to retirement planning, and helping you create a secure future.
Final thoughts…
Permanent life insurance may be a suitable option for some individuals, but it is not the best choice for everyone. It is ideal for those who require lifetime coverage, have long-term financial needs, or wish to build cash value over time.
Permanent life insurance also offers flexibility in terms of premium payments and the ability to borrow against the cash value. However, it is generally more expensive than term life insurance due to the investment component and lifetime coverage. Those who only need coverage for a specific period, such as to pay off a mortgage or to provide for children until they become financially independent, may find term life insurance to be a more affordable and practical option.
Ultimately, the decision to purchase permanent life insurance should be based on individual circumstances, financial goals, and personal preferences. It is important to consult with a qualified financial advisor to determine the best type of life insurance policy for your unique needs.
Frequently Asked Questions
What is permanent life insurance?
Permanent life insurance is a type of life insurance policy that provides coverage for the entire lifetime of the insured person, as long as the policy premiums are paid. Unlike term life insurance, which provides coverage for a specific period of time, permanent life insurance offers a death benefit that is paid out to the beneficiary upon the death of the insured, regardless of when that occurs.
In addition to the death benefit, permanent life insurance also has a cash value component that accumulates over time, allowing the policyholder to access funds for various purposes such as retirement, emergencies, or education expenses.
The premium payments for permanent life insurance are typically higher than those for term life insurance due to the lifetime coverage and the investment component. There are several types of permanent life insurance, including whole life insurance, universal life insurance, variable life insurance, and indexed universal life insurance, each with its own features and benefits.
What are the two main types of permanent life insurance?
The two main types of permanent life insurance are whole life insurance and universal life insurance. Whole life insurance is a type of permanent life insurance that provides a fixed premium and a guaranteed death benefit, as well as a cash value component that grows over time at a fixed rate of interest.
Universal life insurance, on the other hand, provides more flexibility in terms of premium payments and death benefits, allowing policyholders to adjust their coverage and premium payments as their needs change over time. Universal life insurance also typically has a cash value component that can earn interest at a variable rate, depending on the performance of the underlying investments.
There are also other variations of permanent life insurance, such as variable life insurance and indexed universal life insurance, that offer different investment and premium structures, but whole life and universal life are the two main categories.
What is the difference between whole life insurance and universal life insurance?
Whole life insurance and universal life insurance are two different types of permanent life insurance with some important differences.
Whole life insurance provides a fixed premium and a guaranteed death benefit, as well as a cash value component that grows over time at a fixed rate of interest. The premium payments for whole life insurance are typically higher than those of term life insurance because the policy provides lifetime coverage, builds cash value, and offers a guaranteed death benefit. Whole life policies also usually have a fixed rate of return on the cash value, so the policyholder knows exactly how much they will earn over time.
Universal life insurance, on the other hand, provides more flexibility in terms of premium payments and death benefits. Policyholders can adjust their coverage and premium payments as their needs change over time, and they have the ability to access the cash value of the policy while they are still alive. Universal life insurance also typically has a cash value component that can earn interest at a variable rate, depending on the performance of the underlying investments. This means that the policy’s cash value can potentially grow more quickly than that of a whole life policy, but there is also more risk involved.
In summary, whole life insurance provides a fixed premium, guaranteed death benefit, and a fixed rate of return on the cash value, while universal life insurance provides more flexibility in terms of premiums, death benefits, and potential cash value growth, but with more investment risk.
How does permanent life insurance build cash value?
Permanent life insurance, such as whole life insurance and universal life insurance, builds cash value through a combination of premiums paid by the policyholder and investment returns generated by the insurance company.
When a policyholder makes a premium payment, a portion of that payment is allocated to the policy’s cash value account. The cash value then earns interest or investment returns over time, which are credited to the policy’s cash value account.
The insurance company invests the cash value in a variety of assets, such as bonds, stocks, and other investments, depending on the type of policy and the insurer’s investment strategy. The investment returns earned on the cash value are tax-deferred, meaning that the policyholder does not pay taxes on them until they withdraw the money from the policy.
The cash value can also be used by the policyholder to pay premiums or to borrow against the policy. If the policyholder borrows against the policy, they must pay interest on the loan, but the loan does not have to be repaid until the policyholder dies or surrenders the policy.
It’s important to note that the cash value growth of a permanent life insurance policy is generally lower than the growth potential of other types of investments, such as stocks or mutual funds. However, the cash value provides a valuable source of funds for emergencies or unexpected expenses, and it can also be used to supplement retirement income or to pay for long-term care.
Can I borrow from the cash value of my permanent life insurance policy?
Yes, in most cases you can borrow from the cash value of your permanent life insurance policy. This is one of the features that sets permanent life insurance apart from term life insurance. The cash value of a permanent life insurance policy grows over time as you continue to make premium payments. This cash value can be borrowed against, usually at a low interest rate, to help you pay for things like a down payment on a home, college tuition, or unexpected expenses.
It’s important to note that borrowing against the cash value of your policy will reduce the death benefit that your beneficiaries will receive if you pass away before the loan is repaid. Additionally, if you are unable to repay the loan, it will be subtracted from the death benefit paid to your beneficiaries.
Is permanent life insurance more expensive than term life insurance?
Yes, permanent life insurance is generally more expensive than term life insurance. This is because permanent life insurance offers lifelong coverage and has a cash value component, while term life insurance only provides coverage for a specific term (such as 10, 20, or 30 years) and has no cash value.
The premium for permanent life insurance is typically higher because a portion of it goes towards building up the cash value component of the policy, which grows over time and can be borrowed against or used to pay future premiums. In contrast, the premium for term life insurance is usually lower because it only provides coverage for a set period of time and does not accumulate cash value.
However, it’s important to consider your individual needs and financial goals when choosing between permanent and term life insurance, as the right type of coverage for you will depend on your unique circumstances.
Who should consider purchasing permanent life insurance?
Permanent life insurance may be a good fit for individuals who have a long-term need for life insurance coverage and are comfortable paying higher premiums in exchange for lifelong protection and a cash value component. It can be a good option for those who want to leave a legacy or provide for their loved ones after they pass away, as the death benefit is guaranteed as long as premiums are paid.
Permanent life insurance can also be used for estate planning purposes or as a tool for tax-efficient wealth transfer. However, it’s important to consult with a financial advisor to determine if permanent life insurance is the right choice for your unique needs and financial goals.
