Whole Life Insurance

Whole life insurance is one type of permanent life insurance that can provide lifelong coverage. It provides a variety of guarantees, which can be appealing to someone who doesn’t want any guesswork after finding and buying the best life insurance.

Whole life insurance combines an investment account called “cash value” and an insurance product. As long as you pay the premiums, your beneficiaries can claim the policy’s death benefit when you pass away.

What Is Whole Life Insurance?

Whole life insurance offers coverage for the rest of your life and includes a cash value component that lets you tap into it while you’re alive.

Whole life insurance companies offer three kinds of guarantees:

A guaranteed minimum rate of return on the cash value
The promise that your premium payments won’t go up
A guaranteed death benefit amount

Whole life insurance is more expensive than term life insurance because people with a whole life policy are guaranteed to have a death benefit when they die. Term life insurance, on the other hand, offers level rates for a specific period, such as 20 or 30 years. Term life policies are cheaper than whole life insurance because they offer only coverage, not cash value.

Types of Whole Life Insurance

Participating vs. Non-Participating Whole Life

Policyholders of whole life insurance are usually eligible for annual dividends from the life insurance company. If you’re buying whole life insurance, confirm that the policy is “participating” so that you can reap the benefits of dividends.

With a participating whole life insurance policy you are eligible to receive life insurance dividends from the insurer each year, which are essentially a refund of excess premiums paid by policyholders. Dividends are not guaranteed, but many life insurance companies are known for paying consistent dividends year after year. You can take the dividends in cash, use them to pay premiums, or use them to increase the face amount of your policy.
With a non-participating policy you won’t get any dividends.

Whole Life Insurance Payment Types

You may find differences in how you can pay for a whole life insurance policy.

Pay premiums on a regular basis: You’ll pay a fixed amount monthly, quarterly, semi-annually or annually.

Single premium: You’ll pay the entire cost of the policy upfront. Cash value will be available right away and you’ll have no further premiums to pay.

Limited payment: You’ll pay regular premiums for a set number of years, such as 10 or 20 years. After this time period, the policy is paid up and no more payments are required.

Modified premium: Modified whole life insurance policies require premium payments that will increase after an introductory period. Your premiums will be lower for a set number of years—such as the first three to five—and then higher for the remainder of your lifetime. The death benefit will not change.

How Does Whole Life Insurance Work?

Whole life insurance works by first selecting the amount of coverage that best suits your needs. Once you have a policy, whole life insurance can remain in-force for your lifetime—as long as you continue to pay the premiums. Also, a cash value component will accrue over time.

Cash Value Accumulation in Whole Life Insurance

Whole life insurance is a type of cash value life insurance. Part of the premium payments for whole life insurance will accumulate in a cash value account, which grows over time and can be accessed with a policy loan, withdrawal or surrender of the policy.

Similar to a 401(k) or IRA, the money in the cash value account grows tax-free. However, if you take out cash value that includes investment gains, that portion will be taxable.

The accumulation of cash value is the major differentiator between whole life and term life insurance. While actual growth varies by policy, some take decades before the accumulated cash value exceeds the amount of premiums paid. This is because the entire premium does not go to the cash value—only a small portion. The rest goes to paying for the insurance itself and expense charges.

Most whole life policies have a guaranteed return rate at a low percentage, but it’s impossible to know how much your cash value will actually grow. That’s because most insurance companies that sell whole life also offer a “non-guaranteed” return rate of return based on dividends. You can choose to apply your dividends to cash value every year, but you can’t know how much that will amount to over time.

It may take decades for a policyholder’s cash value to exceed what’s paid in premiums.

Using the Cash Value in Whole Life Insurance

You can tap into cash value with a withdrawal or a loan, or also by surrendering the policy. If you take a loan, it’s tax-free, and you can pay it back, with interest. There are no taxes as long as your withdrawal is less than the portion of your cash value that’s attributable to premiums you’ve paid. If your withdrawal is greater, you’ll owe taxes on the difference because those are investment gains.

Outstanding loans and withdrawals will both reduce the amount of death benefit paid out if you pass away. That’s not necessarily a bad thing. After all, one of the reasons to buy a whole life insurance policy is to get cash value, so why let the money sit there without ever using it?

You want to be sure that you know all the ramifications of accessing cash value prior to making any decisions.

Death Benefit and Choosing Beneficiaries

When you buy a policy, you’ll choose a life insurance beneficiary to receive the death benefit. You don’t have to split the payout equally among beneficiaries. You can designate the percentage for each, such as 75% to Mary and 25% to John.

It’s also a good idea to designate one or more contingent beneficiaries. These folks are like your backup plan in case all the primary beneficiaries are deceased when you pass away.

Designating beneficiaries is an important task, as is keeping your designation up to date with your wishes. The life insurance company is contractually obligated to pay the beneficiaries named on the policy, regardless of what your will says. It’s wise to check once a year to verify your beneficiaries still reflect your wishes.

Factors That Affect Whole Life Insurance Premiums

The coverage amount you choose will help determine your rate, along with:

Age and gender
Height and weight
Past and current health conditions
The health history of your parents and siblings
Nicotine and marijuana use, including nicotine patches and gum
Substance abuse
Credit
Criminal history
Driving record (especially DUI convictions and moving violations, such as speeding tickets)
Dangerous hobbies and activities (such as piloting planes or rock climbing)

With whole life insurance, there are a variety of other features and provisions that can affect costs as well, such as:

Payment period: You can choose to pay for the entire policy in a short time frame, such as 10 or 20 years. The premium would rise substantially given the front loading of payments.

Guaranteed return rate: Some companies offer a higher guaranteed return, which can result in higher annual premiums.

Dividend crediting: Many whole life policies pay out a dividend, and policyholders can choose how to receive it. Receiving your dividend payments as a credit toward premiums reduces your annual out-of-pocket cost.