Differences between Permanent Life Insurance and Term Life Insurance
Contents
Term life insurance vs. permanent life insurance[edit]
Life insurance policies are generally categorized into two types: term and permanent. Both forms provide a death benefit to beneficiaries, but they differ in duration, cost structure, and the presence of investment components. Choice of policy usually depends on the financial goals and the age of the applicant.
Term life insurance[edit]
Term life insurance provides coverage for a specific period, typically ranging from 10 to 30 years. It is designed to offer financial protection during years when financial obligations are highest, such as when a mortgage is active or children are young. If the policyholder dies during the term, the insurer pays the death benefit to the beneficiaries. If the policyholder outlives the term, the coverage ends unless it is renewed at a higher premium or converted to a permanent policy.
These policies do not accumulate cash value. Because the insurer only pays a benefit if death occurs within a limited timeframe, premiums are significantly lower than those for permanent policies. According to the Insurance Information Institute, term life is the most affordable way to obtain a large death benefit.[1]
Permanent life insurance[edit]
Permanent life insurance provides coverage for the entire life of the insured, provided premiums are paid. Unlike term insurance, it includes a "cash value" component. A portion of the premium is placed into an account that grows over time on a tax-deferred basis. Policyholders can borrow against this cash value or withdraw it, though doing so reduces the final death benefit.
There are several variations of permanent life insurance:
- **Whole life insurance**: Features fixed premiums and a guaranteed death benefit and rate of return on cash value.
- **Universal life insurance**: Offers more flexibility, allowing policyholders to adjust premiums and death benefits as their financial situation changes.[2]
- **Variable life insurance**: Links the cash value to investment options such as stocks and bonds, which carries higher risk but potentially higher rewards.
Comparison of features[edit]
| Feature | Term life insurance | Permanent life insurance |
|---|---|---|
| Policy duration | Set period (e.g., 10, 20, or 30 years) | Lifelong (until death or lapse) |
| Premium cost | Lower; increases at renewal | Higher; usually remains level |
| Cash value | None | Yes; accumulates over time |
| Main purpose | Income replacement for a specific period | Lifetime protection and wealth transfer |
| Flexibility | Limited; fixed terms | Higher; options to adjust or borrow |
| Complexity | Simple contract | Complex; involves investment rules |
Cost and tax considerations[edit]
The initial premiums for permanent life insurance are often five to ten times higher than for a term policy with the same death benefit. This is because the insurer is guaranteed to pay the benefit eventually, as long as the policy remains active.
Taxation is a significant factor in policy selection. Death benefits from both policy types are generally received by beneficiaries income-tax-free. However, the cash value in permanent policies grows tax-deferred. If a policyholder surrenders a permanent policy, they only pay taxes on the portion of the cash value that exceeds the total premiums paid.[3]
