Two of the most well-known life insurance types are whole and term life insurance. Each pays out a substantial death benefit to the policyholder’s loved ones if the policyholder passes away. With this death benefit, their loved ones can replace the policyholder’s income and pay off debts.

However, the similarities end there. Each policy differs when it comes to coverage length, costs, and wealth-building potential. This article will explain how whole and term life insurance work, then discuss some key differences between each.

How does whole life insurance work?

Whole life insurance is a policy that covers the policyholder for a lifetime. This policy also comes with a cash value growth component. Part of each premium the policyholder pays goes into this component, which grows tax-deferred at a fixed interest rate.

Policyholders can withdraw from or borrow against the cash value once it grows to a certain point. They also can receive the full amount minus surrender charges if they surrender the policy.

How does term life insurance work?

Term life insurance covers policyholders for a fixed time, with term length options of 10 to 30 years. Longer term lengths require higher monthly premiums. When coverage expires, the policyholder may be able to renew their policy or get a new policy to continue coverage.

Key differences between whole and term life insurance

Here are some differences between whole and term life insurance policies:

1. Coverage length

Term life insurance does not last forever. Many insurers allow policyholders to buy coverage lasting 10 to 30 years;some policies shorter than 10 years may even be available. On the other hand, all whole life insurance policies offer permanent coverage. That means they last for life as long as the policyholder stays current on their premiums.

2. Premiums

Term life insurance premiums tend to be lower for the amount of coverage they offer. This is because term life insurance can expire. On the other hand, whole life insurance charges higher premiums than term life insurance to account for lifelong coverage.

According to Forbes, the annual cost of a $500,000 30-year term life insurance policy for a 30-year-old male is just $357. Meanwhile, a 30-year-old male will pay an average of $4,323 for a $500,000 whole life policy. In this case, the whole life policy costs over 10 times as much as the term life policy.

3. Cash value

While whole life insurance offers the cash value growth component, term life insurance comes with no cash value. This prevents term life insurance policyholders from building wealth through their policy and simplifies the policy.

The bottom line

Whole life insurance costs more but lasts for a lifetime and has cash value. This can make it more suitable for policyholders who want guaranteed lifelong coverage and have more complex financial needs.

Meanwhile, term life insurance has no cash value and expires, but premiums are much cheaper. As a result, life insurance shoppers on a budget or with simpler financial goals may like term life insurance better. No matter which policy type a prospective policyholder chooses, it’s smart to shop with multiple insurers to find the best rates on the coverage they need.