That’s where life insurance comes into the picture.
A life insurance policy provides a monetary benefit to your heirs when you die. You may have had temporary or term insurance in the past, but now you’re looking at permanent life insurance.
Permanent life insurance also has significant benefits beyond the death protection for heirs – including the asset protection of cash value in many states and the tax-free growth of such values in all states. For these reasons, many physicians consider permanent life insurance as part of their overall portfolio.
However, there are many different variables to consider before you invest in a long-term life insurance policy. This guide explains everything you need to know about permanent life insurance to help you make an informed decision before you choose a policy to carry with you for the rest of your life.
Permanent vs. Term Life Insurance
As you research your life insurance options — whether with an insurance agent, financial advisor, or Google — you’ll see two main categories: permanent and term.
In 2023, the American Council of Life Insurance (ACLI)’s Fact Book reported that 39.3% of insurance policies sold in 2022 were term, while permanent (including whole life) coverage accounted for 60.7% of new purchases.
Although both types of policies provide a death benefit to the covered individuals, the similarities end there.
Term Life Insurance
Term life insurance covers the policyholders during a predetermined period — a “term.” Because it’s usually cheaper and you can often find a life insurance company that doesn’t require a medical exam, term coverage is popular with young families as a protective measure to cover mortgages, final expenses, and other immediate costs.
Many employers offer term insurance as an inexpensive benefit to employees, but the coverage is non-transferable if the worker leaves the job.
Traditionally, most term policies offer no protection if you outlive the covered date. However, some insurers today offer Return of Premium (ROP) or cash-back options through Cash Value Term (CVT) insurance for policyholders who don’t use their benefits.
One drawback of this type of coverage is that investing in permanent insurance or a new term policy can be expensive when the term ends. If the policyholder had serious medical conditions, the insurance company’s underwriter may not qualify them for coverage.
Permanent Life Insurance
Permanent policies are an umbrella category of insurance that includes multiple types of coverage.
While the details in each policy option vary, the overall similarity is that — provided the premiums are paid on time — all permanent life insurance coverage stays with you until your death.
In most permanent insurance policies, the premium stays the same throughout coverage. Premiums are determined by multiple factors such as:
- Current age
- Gender
- Whether or not you smoke
- Hobbies or professions
- Overall health
The desired death benefit also plays a significant role in the premium amount.
Your age is the primary deciding factor in premiums since it determines your life expectancy and how long you’re likely to pay premiums. The insurance company uses this number to calculate the costs through mortality tables, a grid of numbers that shows a set interval and the rate of a population’s death based on their current age.
Generally, the younger you are, the lower you can expect your premiums to be — another reason why investing in permanent rather than term while young is a wise financial decision.
As long as you remain with the same life insurance company, you’ll keep that low rate your entire life (regardless of changes in your health).
Types of Permanent Life Insurance
Once your financial needs move beyond the basic — as often happens with high doctor salaries — you need more dependable coverage: permanent life insurance that grows with you.
Whole Life
The most common permanent insurance policy category, whole life provides a death benefit and a savings account. The premiums are paid regularly (usually monthly) in exchange for a specific death benefit amount. The company pays the policyholder dividends based on the savings earned each year.
Universal or Adjustable Life
When flexibility in premiums or death benefits matters, universal (adjustable) life insurance is an option. These policies allow the insured to increase the death benefit if they pass a medical exam. They can also change their premium payments after enough money accumulates in the cash value account.
This is helpful if your financial situation changes and you don’t want to cancel your policy and start over. Instead, you can take advantage of the flexible premiums.
However, before you reduce premium payments for an extended period, talk to your financial advisor to determine how this may impact your cash value component and death benefit.
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Variable Life Insurance
Variable insurance policies integrate death benefits and savings. Policyholders can invest their cash value, placing the funds in things like:
- Stocks
- Bonds
- Mutual funds
This option can help the cash value grow faster, but it also comes with the risk of losing savings if the investments aren’t performing well.
When that happens, the cash value decreases. The death benefit can also decrease, but some policies offer protection, guaranteeing a minimum death benefit to your loved ones regardless of market behavior.
Variable-Universal Life
This policy combines variable and universal life insurance, providing the investment opportunities of variable insurance with the flexibility of universal life.
Equity-Indexed Universal Life (EIUL)
Another type of universal life is Equity-Indexed Universal Life, or EIUL. This insurance policy is tied to a market index (like the S&P 500) with a cap and a floor.
The EIUL provides more upside potential than traditional universal life with downside protection that variable products do not enjoy.
This insurance product is more complex than the average permanent life insurance. If you choose to invest in an EIUL, you should work with your financial advisor for guidance.
An EIUL, like all universal life insurance, builds a cash value that the insured can:
- Borrow against
- Invest with
- Use to cover increases in the cost of insurance
The latter could potentially eliminate out-of-pocket premium payments should the cash value overtake increases in insurance costs.
Tax Benefits For All Permanent Life Insurance Products
In permanent life insurance products, the cash values grow tax-free.
The policy owner can access these savings tax-free through the return of capital and policy loans against the death benefit. If you withdraw any of the cash value, you will owe income taxes on the gains. But by taking the funds out as a loan, the money is accessible as income tax-free.
While it’s in your account, the cash value growth is tax-deferred. Your money can grow faster because it isn’t reduced by taxes. The interest made on the cash value is applied to the higher dollar value.
Permanent life insurance policies are a popular estate planning tool, as the death benefits are generally paid out to beneficiaries tax-free. Estate taxes may apply, but your financial advisor or estate planner can explain the strategies applicable to your situation that can help you avoid these taxes.
The policies can be exchanged from one to another without triggering any taxes on the gains in cash value under like-kind exchange rules.
How Permanent Life Insurance Works
The most common permanent life insurance policy is whole life. It’s easier to understand the other types by beginning with this one.
Whole life policies start with a chosen death benefit. The amount you pick, plus factors like your age and health, are sent to an underwriter, who determines whether your policy is approved.
Not all policies are streamlined for approval. Life insurance is often denied due to factors such as:
- Serious medical conditions, including a history of or active diabetes, cancer, heart disease, or major surgeries
- Genetic predispositions to certain serious diseases
- Lifestyle habits like tobacco use, excessive alcohol intake, history or current drug use, and participating in activities deemed as high risk (extreme sports, flying, skydiving, etc.)
- Dangerous occupations, such as military combat, piloting, firefighting, or law enforcement
- Financial instability or previous bankruptcies
- An unclean driving record with DUI convictions or multiple accidents
- Abnormal results or findings from the medical exam results
- Lying or misinformation on the application
If any of these factors keep you from obtaining an insurance policy, the underwriters may offer a compromise in the form of an exclusion. For example, if you have a dangerous hobby or occupation, death due to that activity would not be covered.
If you pass the underwriting stage, the next step is determining how long you want to pay your premiums. This might be a chosen duration, such as 30 years, or a set age. The cost of your policy is divided among these years, and that becomes your premium. You’ll only pay for your insurance for that period, although you’ll have lifelong coverage as long as there is no policy lapse.
Universal and variable life insurance work similarly but offer the different benefits discussed above, such as flexibility on premium payments and length.
Death Benefits and Cash Value
All permanent life insurance provides death benefits and cash value. The death benefit is straightforward: upon your death, the insurance company pays your named beneficiaries the death benefit.
Until you pass, your policy begins to accumulate cash value. You can access this money anytime, although it decreases the death benefit if you don’t pay it back.
You can take your cash value out like a loan. Instead of paying hefty interest rates, you use your cash value for the expense you need to cover, then choose to repay your insurance policy or have the money taken out of the death benefit. Ideal policies for cash value access have contractually guaranteed interest rates below 1%.
Whole life policies pay dividends, which increase cash value. They are the most conservative permanent policies in terms of returns. Also, the insurance carrier sets its dividend rate, and the policy owner has no control over the performance.
At the other end of the risk-return spectrum is variable universal life, in which the policyholder chooses sub-account investments. They have total control over the investment approach, but there is unlimited downside risk.
In the middle are EIUL policies, which allow the policyholder to choose from several index and timeframe options. These policies provide much of the upside of stock market indices, but the insurance carrier has a floor annual return below which the cash value cannot go.
Determining Which Permanent Life Insurance is Right For You
Permanent life insurance should be considered an asset that can grow in value. You might consider using a mix of term and permanent while you have a mortgage, high student loan debt, and other heavy financial needs.
Your financial advisor can assist you in finding the types of permanent life insurance policies that are right for your situation. This answer takes into account factors like:
- Any tax needs you have
- The best death benefit amount
- Your budget for your premium
You can adjust your life insurance costs by changing the number of years of payment or death benefit amount.
Permanent life insurance can also act as a part of a college tuition or retirement strategy. Your advisor can model out how cash values will grow over years and decades to be a source of tax-free income to pay for these or other long-term financial goals.
Conclusion
Whether term or permanent, life insurance is a vital part of any sound financial plan.
The type of coverage that works for your situation depends on your unique details. The policy’s cash value and accessibility could be a priority to you, or maybe premium flexibility is your main deciding factor.
No matter what matters most, protecting your loved ones and assets with a life insurance policy that offers a guaranteed death benefit gives you peace of mind that they’ll be taken care of when you’re gone.
Talk to our experts at OJM Group to find out whether or not a permanent life insurance policy is best for you.
Disclosure:
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This article contains general information that is not suitable for everyone. The information contained herein should not be construed as personalized legal or tax advice, or as a recommendation of any particular security or strategy. There is no guarantee that the views and opinions expressed in this article will be appropriate for your particular circumstances. Tax law changes frequently, accordingly information presented herein is subject to change without notice. You should seek professional tax and legal advice before implementing any strategy discussed herein.
Index Disclosure: An index is an unmanaged portfolio of specific securities, the performance of which is often used as a benchmark in judging the relative performance of certain asset classes. Investors cannot invest directly in an index. An index does not charge management fees or brokerage expenses, and no such fees or expenses were deducted from the performance shown. Index returns shown are price returns, which exclude dividends and other earnings.