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Life Insurance

Whole Life vs. Universal Life Insurance

Permanent life insurance coverage is meant to be with you for life. Learn which type of permanent insurance product—universal life or whole life—is ideal for your needs.

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Life insurance provides financial aid to your beneficiaries and dependents when you die. There are two major types of life insurance: term insurance and permanent insurance.

Term insurance is an affordable option and provides a death benefit, but often doesn’t provide lifetime coverage. Permanent insurance provides a death benefit and lifetime protection, as well as a cash value component. With permanent insurance, the policyholder can accumulate a cash value that is accessible during the insured’s lifetime.

When it comes to permanent life insurance, there are two main types: whole life and universal life. Each has its own set of strengths and weaknesses. When it comes to universal life policies, an indexed option may give the policyholder holder a larger growth of their cash value account.

Whole Life vs. Universal Life Insurance At a Glance

Whole life and universal life policies both provide death benefits, tax deferments, and cash value accumulation.

With whole life policies, the premiums and death benefits do not fluctuate, and the cash value growth is guaranteed at a minimum rate. This is ideal for people who prefer a low-risk option and a set death benefit amount.

Universal life provides the policyholder with added flexibility. The premiums are not fixed, and the death benefit is adjustable. However, the cash value accumulation could be based on market trends and can be risky.

Insurance Policy InformationUniversal Life InsuranceWhole Life Insurance
Cash ValueLarger riskGuaranteed growth
Death BenefitFlexibleFixed
DividendsNoUsually; depends on the company
Frequent reviews required?Yes; preferableNo

Understanding Universal Life Insurance

Universal Life (UL) Insurance allows the policyholder the flexibility of adjusting their premiums and death benefits as needed. UL policies have two parts—the death benefit itself and the built-in cash value account.

In an indexed universal life, the cash value earns interest based on the current rate of the index it’s linked to such as the S&P 500. Since the cash value’s interest isn’t fixed, there is a level of risk involved for the policyholder. For example, if the market’s performance is poor, the policyholder’s cash value may not increase.

If the policyholder chooses a universal life policy that is not linked to an indexed account, they can expect their cash value to grow based on a fixed rate set by the life insurance company. However, not all companies provide a minimum interest rate and, if they do, the fixed rate is usually much lower than what can be earned in an indexed account.

With universal life, the premiums are not fixed, so the policyholder can pay more than the minimum amount. The remainder of the premium payment goes into the cash value account. There is also an option to have the cash value, once it’s accumulated to a certain amount, to pay the insurance premiums, so the policyholder doesn’t have to pay out-of-pocket. On the other hand, if the policyholder does not pay enough premium into the policy, the policy may become underfunded and lapse.

Advantages of Universal Life Insurance

Limited Tax Implications

Under most circumstances, universal life policyholders can borrow against their cash value without tax implications. This is an excellent option if the insured needs some quick cash for an emergency. However, the policyholder should keep in mind that the loan will need to be repaid or it will accrue interest that will be added to the loan. Should a policyholder surrender their policy before the loan is repaid, the loan amount may then become taxable.

Flexible Death Benefit

As you age, the cost-of-living increases. In other words, your initial death benefit amount might need to be increased to have the same spending power for your beneficiaries. Unlike the fixed death benefit of a whole insurance policy, with universal life, you can increase your death benefit amount to better suit your needs.

Savings Opportunities

With some universal life insurance policies, the policyholder’s cash value is earned by the interest made on a linked index account. Since cash value is accumulated as premiums are paid, this means that the more that is paid into the policy, the more interest can be earned. How much the policyholder can pay into the policy, will vary depending on that specific policy.

Disadvantages of Universal Life Insurance

No Dividend Payments

Many whole life insurance policies pay out dividends to their policyholders. With universal life, you can benefit from interest rates in favorable conditions as a tradeoff to dividend disbursements.

Active Participation

With universal life, the policyholder must monitor the cash value closely and adjust premiums as necessary. If not, the policy could become underfunded and possibly lapse.

Higher cost

Since the cash value of a universal life policy is linked to an indexed account, there are added policy charges and management fees.

Understanding Whole Life Insurance

Whole life insurance provides the policyholder with the dependability of a guaranteed premium, death benefit, and cash value accumulation rate.

The cash value of a whole life policy accumulates at a fixed rate. Since the rate of return is guaranteed, whole life policyholders will pay higher premiums than universal life policies. The higher premiums are a tradeoff for the security that comes with guaranteed rates.

Advantages of Whole Life Insurance

Cash Value

With a whole life policy, cash value accumulates at a fixed rate. Unlike with universal life, where the accumulation rate is dictated by other factors.

Potential Dividends

Depending on the insurance company, some whole life policies pay out dividends. These can be used to self-fund policy premiums or to purchase additional insurance.

Fixed Premiums

With a whole life policy, the amount you pay for the coverage remains static for the life of the policy. With universal life, the premiums can increase over time for many reasons.

Disadvantages of Whole Life Insurance

Higher Premiums

With a whole life policy, premiums are more expensive than a universal life policy. The cash value accumulation rate with a whole life policy is guaranteed. A universal policy’s accumulation rate fluctuates with the market and may actually be higher than that of a whole life policy, but is not guaranteed. Whole life premium’s steadier cash value growth rate means fewer unknowns and an overall more expensive premium.

Lack of Flexibility

Whole life policies lock the policyholder into a fixed death benefit amount and doesn’t allow for increases for cost of living. For example, a whole life policy with a death benefit of $200,000 won’t have the same spending power in 40 years.

Less Interest

Whole life doesn’t have the same risk factor as universal life, but the safety of fixed cash accumulation rates means you may earn less interest over the lifetime of the policy.

What to Consider When Choosing Universal vs. Whole Life Insurance

When it’s time to decide on whether a whole life policy or universal life policy is right for you, there are some things to consider.

Universal Life Insurance Considerations

Payments are flexible with a universal life policy. Once the cash value builds up, the policy can be structured so that premiums are paid from your cash value. However, if you can afford to pay more than your premium, the difference can accelerate your cash rate growth.

If you have long-term savings goals, such as purchasing a home, and need insurance coverage, a universal policy makes sense.

Policyholders averse to risk might prefer the stability of the fixed aspects provided by a whole life policy.

Universal life is far more complex than whole life. Since the cash value can be linked to an indexed account, the policy will need to be reviewed regularly to insure the policy’s cash value is growing.

Whole Life Insurance Considerations

With a whole life policy, the premium payment won’t fluctuate. For policyholders on a strict budget, this predictability can be a key determining factor.

With a whole life policy, your cash value rate increases based on a set percentage. There isn’t the same risk involved as with a universal policy and the policy doesn’t need to be reviewed as often.

A whole life policy is simple to understand, as opposed to a universal policy which has many more working parts.

Whole life insurance has higher premiums than a universal life policy. This is due to the guarantees associated with the whole life policy.