What is Whole Life Insurance & How Does it Work?

By Sanford Ellowitz on April 11th, 2010

Whole life insurance is a type of insurance that remains in place for the lifetime of the insured individual. It does not expire, never needs to be renewed, and cannot be revoked. It features a level premium, which provides both cash value and a death benefit as long as the policy remains in force.

Cash Value

Another important feature of whole life insurance, which term insurance lacks, is cash value. Each time you pay your premium a portion of the proceeds are used to provide you with life insurance coverage; however, the rest of your premium payment is set aside and allowed to accumulate in what is called cash value.

The cash value can remain in your policy, where it continues to grow at a guaranteed minimum interest rate. You can also take a loan against the cash value, or it can be returned to you if you must surrender your policy. But if a loan against cash value is outstanding when the insured dies, the amount of the loan is deducted from the death benefit.

When the cash value grows to a certain level, your policy may be considered "paid up" because you can use the cash value to make your premiums payments. Your whole life insurance is also considered paid up when the cash value equals the policy's face value. Once your policy is paid up, you no longer have to make premium payments and you still maintain life insurance coverage.

Whole Life Insurance May Pay Dividends

Dividends are another benefit of whole life insurance. If your life insurance company has higher returns than anticipated or lower expenses, a portion of this money is returned to policyholders. If your policy is eligible for dividends, you can use them to purchase additional coverage, pay a portion of your premiums, or you can receive the dividends as a cash payment.

Whole Life Insurance Comes With Guarantees

Once your policy is issued, whole life insurance premiums remain level. They should not increase as you get older or if you develop medical conditions--no matter how serious.

The cash value of your policy is also guaranteed. Your policy states how much your cash value may increase over time, as well as the minimum interest that it may earn each year.

Finally, your death benefit is guaranteed to be the face value of the policy, no matter how long you live. The only exception is that the guaranteed death benefit is reduced if there are any outstanding cash value loans.

How Whole Life Differs from Other Types of Permanent Insurance

Whole life insurance is one of many types of permanent life insurance, including universal life, variable life, and variable universal life. All permanent life insurance policies share a common feature: As long as you pay your premiums your heirs are guaranteed to receive a death benefit.

Other forms of permanent life insurance may give you greater flexibility in premium payments and death benefits; however, other types of permanent insurance do not provide the assurances of a set premium, guaranteed death benefit, and guaranteed cash value.

The following are other types of permanent insurance and their features:

  • Universal Life: Universal life insurance, unlike whole life, allows a range of premium payments. There is a minimum premium that must be paid, as well as a maximum allowed amount. The death benefit of a whole life policy never varies, while the death benefit of a universal life policy can decrease, or in some circumstances, increase. Universal life insurance also provides a choice of two death benefits: face value, or face value plus the accumulated cash value
  • Variable Life Insurance: The difference between variable life and whole life is that variable life allows you to choose how your cash value is invested. Choices include fixed-income investments, stocks, and mutual funds. Death benefits and cash value are linked to the performance of these investments, so you bear the investment risk of the death benefit and cash value. A minimum cash value is never guaranteed, and although there is a minimum death benefit, you must pay extra premiums to fund it
  • Variable Universal Life Insurance: This is the most flexible kind of permanent insurance, but it comes with the most risk. It allows you to vary your premium payments and select how you invest your premiums and cash value. Adding to its flexibility is the choice of two types of death benefits: a fixed death benefit and a variable death benefit. The variable death benefit is equal to the cash value at time of death plus face value (the death benefit stated in the policy)

Whole Life Insurance Is for Almost Anyone

A whole life policy can help provide peace of mind for you and your loved ones. While many may think whole life insurance is for parents with young children, life insurance can be useful at any age--whether you're married or single, have children, earn a living, stay home, or even own a small business.

Replace Lost Income

A whole life insurance policy can provide beneficiaries with the cash they need to replace the income of the family breadwinner and pay off outstanding debts. While the need for coverage might be greatest when children are young, before a family has had time to accumulate savings, education expenses for children can continue far longer than you anticipate.

You should also account for the value of a stay at home parent. While caretaking parents might not earn an income, think about how costly it would be to hire someone, such as a full time nanny or housekeeper, to take over those responsibilities.

Lastly, don't think life insurance isn't for you if you're single. You might want to have a whole life policy if you support your parents or other family members.

Paying Estate Taxes

You worked hard all your life, but your heirs may be faced with the prospect of having a substantial amount of their inheritance diminished by estate taxes. One solution is to have a whole life policy, which can provide cash proceeds to pay taxes and other death expenses, thereby leaving your heirs' inheritance intact.

Leaving a Legacy

Your children may be grown, but the proceeds of a whole life insurance policy can help them, your grandchildren, or other family members get a head start in life. You might also want to leave behind enough money to help a family member with special needs. Alternately, if you have supported a favorite charity or your alma mater for many years, bequeathing the proceeds of a whole life policy can provide a lasting legacy and assist those who are less fortunate.

Small Businesses Can Also Benefit from Whole Life Insurance

Frequently small businesses depend on one or two "key" people. If a key person should suddenly die, the business might suffer greatly until a suitable replacement is found. Key person insurance, funded by a whole life policy, can be used to provide the money needed to keep a business going while a search is conducted.

Many small businesses are owned by two or three individuals. Should one business partner pass away, the others may have to share control of the business with the deceased owner's heirs, who may not want to be in the business. A buy-sell agreement, funded by a whole life insurance policy may solve that problem.

Whole Life Insurance for Peace of Mind

To find out how to secure your family's financial future with whole life insurance, compare whole life insurance rates from a variety of life insurance companies. Then select the policy that best suits your needs.

Whole life insurance is a type of insurance that remains in place for the lifetime of the insured individual. It does not expire, never needs to be renewed, and cannot be revoked. It features a level premium, which provides both cash value and a death benefit as long as the policy remains in force.

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