Ask Linda: Which type of life insurance should we buy?

Dear Linda,

My husband and I need life insurance. Should we purchase a Term Life or Whole Life policy to protect our young children? Please explain the difference.

Underinsured Uma

Dear Uma,

The purpose of life insurance is to protect those who are dependent on your income in the event of your death. A dependent can be a spouse or a young child, but it can also be a sibling or a parent whom you help financially. While there are exceptions, we typically recommend Term Life over Whole Life for the following reasons:

Whole Life is much more expensive.

Both Whole and Term Life premiums are fixed, but Whole Life premiums can be up to 10X more expensive. Given this price difference, many people simply can’t afford the amount of coverage they need if they purchase a Whole Life policy.

Life is unpredictable and you need flexibility.

Even if you can afford the higher premium associated with Whole Life today, there is no guarantee you can afford it in the future. Affordability is one reason why a quarter of whole life policies are terminated within the first 3 years and nearly half within the first 10 years. Think about how different your cash flow was 3 years ago. If money gets tight for whatever reason – a job change, a new baby, or a new car payment – you can stop contributing to your Roth IRA, 529 or 401k, but you can’t stop paying your insurance premiums without the risk of losing coverage.

The Whole Life investment component, or cash value, tends to be oversold.

Both Whole and Term Life have an insurance component (death benefit), but only Whole Life has an investment component (cash value). Whole Life is a poor investment if you end up canceling the policy in the first few years – the cash value will be eaten up by surrender charges and you shelled out higher premiums than if you purchased Term. You have to hold onto a Whole Life policy for about 16 years to at least break-even. If you die, the cash value goes to the insurance company, not your beneficiaries, unless you take action such as purchase an increased death benefit. And if you borrow from the cash value, the loan amount plus interest is deducted from your death benefit.

Term Life allows you to secure protection for the period you need it.

For example, you can choose 10, 20 or 30 years, which allows you to tailor the coverage to precisely the years you need it. For many, that is until they are retired, the mortgage is paid off, or the children are launched. You can also ladder policies – purchase multiple policies for different terms – since the amount of coverage you need will likely vary over time. Alternatively, Whole Life covers you until you stop paying premiums or reach a certain age, such as 100. Do your dependents really need coverage when you are in your later years? Many find that if they want to leave an inheritance, home sale proceeds and untapped investment accounts are sufficient.

There are situations where a Whole Life policy may make sense, such as if you have an estate tax issue or a special needs child, but the situations are limited. In our practice, Term Life is the best solution for most people because it allows you to obtain the life insurance you need, when you need it, and at a lower price.

“Ask Linda” is a monthly personal finance column where the founder of Planning Within Reach, LLC, Linda Rogers, picks one question from her readers and publishes a detailed answer. If you would like to ask Linda a question, email linda@planningwithinreach. Due to the volume of questions received, she may not be able to answer every question in a timely manner. For advice on your personal situation, schedule an initial call to learn about our services.

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