What Is Whole Life Insurance?

As its name implies, whole life insurance provides coverage for your entire life. The policy pays a death benefit to your beneficiary no matter when you die, whether it’s tomorrow or in 50 years.

Whole life is the most well-known type of permanent life insurance, but it’s not the only one. You can also choose universal life or variable life, as well as other types of life insurance within those categories, including the increasingly popular indexed universal life.

Before you delve into the types and features of permanent life insurance, though, determine whether it’s right for your situation. Most people who need life insurance are best served by a term policy.

» MORE: Life insurance definition

Perm vs. term life insurance

Unlike permanent life, term life insurance is temporary. Your policy covers you for a certain amount of time, such as five, 10, 20 or 30 years. It pays a death benefit if you die within that term. If you’re still alive at the end of the term, it pays nothing.

Term life insurance rates are far cheaper than permanent life insurance because the death benefit isn’t guaranteed and policies don’t build cash value.

Whole life insurance and other types of permanent life insurance feature an investment component. Part of your premium goes into a pot of money — the cash value — which grows slowly. Once the cash value has built up, you can borrow from it or surrender the policy for the cash.

“It’s an emergency cash cushion,” says Marvin Feldman, president and CEO of Life Happens, an insurance industry group.

Some of Feldman’s clients have borrowed from their cash value accounts to pay medical bills or pay their children’s college tuition. They then repaid the loans as they were able.

Who needs whole life insurance?

Although term life is sufficient for most life insurance buyers, permanent life insurance meets important needs for others who need life insurance.

“Permanent policies are best suited as estate planning tools for the very wealthy who are facing estate tax situations, or for sophisticated charitable intentions,” says certified financial planner Andy Tilp, president of Trillium Valley Financial Planning near Portland, Oregon.

Federal estate taxes apply only to estates worth more than $5.43 million per person and $10.86 million per married couple in 2015. The thresholds change each year, depending on the rate of inflation. Most estates are too small to be affected by federal taxes.

But if you’re among the Americans with such a large estate, a permanent life insurance policy could help your heirs pay the estate taxes. Otherwise they might have to sell off part of the estate — like a precious piece of property that’s been in the family for generations, or a part of a business — to pay Uncle Sam. Or it could mean selling a home in a distressed market in order to meet the tax deadline, instead of waiting until market conditions improve.

Permanent life insurance might also be a good idea if you need to leave behind a large amount of money for a lifelong dependent — for example, life insurance for parents of children with special needs.

Finally, some people choose permanent life insurance so that they can leave a legacy, either to family members or to a charity.

Your choices for permanent life insurance

Here are the main types of permanent life and how they work:

  • Whole life insurance: Whole life insurance is the most straightforward type of permanent life. Everything is guaranteed. Your premium stays the same as long as you live, your death benefit is guaranteed, and your cash value account grows at a guaranteed rate. As a result of the guarantees, whole life is typically more expensive than other types of permanent life insurance.
  • Universal life insurance: Flexibility is a major selling point of universal life. You can change your premium payments, and as long as you meet a minimum amount, your death benefit stays the same. You may choose to pay more in premiums if you want to build up the cash value account, or you could pay less if you’d prefer to just maintain insurance protection. A universal policy is likely to be less expensive than a whole life policy, but you don’t get the certainty you get from whole life, Feldman says.
  • Indexed universal life insurance: This type of policy lets you tie the interest gains in your cash value account to a stock market index, such as the S&P 500. If the index goes up, then the cash value rises, although there is a cap. Investors might also be guaranteed some growth — or at least that they won’t lose money — if the market goes down. Indexed universal life is growing in popularity, but it’s a complicated product and not for everyone.
  • Variable life insurance: Variable life policies let you decide how a portion of your cash value is invested. You allocate the money to sub-accounts, which include stocks and bonds. Variable life might be an attractive option if you want to maximize the cash value and have the time and expertise to choose and track investments, Feldman says.

Rate samples: Universal life and whole life insurance

We looked at sample rates for universal life and whole life policies. As you can see, the guarantees within whole life insurance increase the cost.

Sample annual premiums for a healthy 30-year-old nonsmoker
Product Men Women
$500,000 universal life policy, level premiums to age 120+ $2,031 $1,711
$500,000 whole life insurance $4,978 $4,385

Source: NerdWallet research, June 2015

Talk to a financial advisor if you think you need a permanent life insurance policy. These are complex products, so it’s worth your while to get advice. Make sure you understand the policy illustration provided by the agent; this document explains how your policy works and how the cash value account might perform. Get a second opinion if you’re not sure.

Updated June 26, 2015

Barbara Marquand is a staff writer at NerdWallet, a personal finance website. Email: bmarquand@nerdwallet.com. Twitter: @barbaramarquand.