Permanent life insurance is a policy that pays a death benefit to your beneficiaries upon your passing. It also includes a cash value component, which allows you to save money that you can access while you're living. A permanent life insurance policy remains in effect until your death — there’s no set term of years. Hence the label, “permanent.”
How permanent life insurance works
When you purchase a permanent life insurance policy, you agree to pay the insurance company an annual premium. The amount of this premium will depend partly on the policy's value, so a policy with $5 million worth of coverage will cost more than a policy with $1 million worth of coverage. The premium amount may vary over the years, based on market factors that affect the insurance company’s business.
The insurance company will apply your premium payment to three things. First, a portion will help fund the policy's death benefit. This is money paid to your designated beneficiaries (usually your spouse and children, or perhaps a business partner) upon your death. Another portion will pay for administrative costs associated with the policy. The third portion of the payment will help fund the policy’s savings component, the cash value.
Understanding cash value
Your cash value will earn interest throughout the lifetime of the policy. How it earns interest depends on the specific type of permanent life insurance policy you buy (more about this later in the article). You can access this cash value either by taking out a loan against the policy or by making a withdrawal. A loan, of course, must be paid back. If you pass away with an outstanding balance, the insurer will deduct that amount from the death benefit. Withdrawals, meanwhile, may be subject to federal taxation — a tax preparer can advise you.
Note that there may be a waiting period before you can borrow or withdraw funds. This is to allow the cash value balance to accumulate. Early in the policy, a higher portion of your premium payments will help fund the death benefit. This will change over time, and proportionately more money will fund your cash value.
Permanent life insurance vs term life insurance
Permanent life is one of two main types of life insurance policies. The other type is known as term life insurance.
Unlike permanent insurance, term life insurance expires after a set term, say 10, 20, or 30 years. You choose your term when you buy the policy. Term life does not include a cash value feature either. It's strictly insurance. As with a permanent insurance policy, your beneficiaries will receive a death benefit if you die while a term life insurance policy is in effect.
Here's a summary of how permanent and term life insurance compare.
|Permanent life insurance||Term life insurance|
Stays in force until your death, unless canceled by you or the insurer for non-payment of premium.
Stays in force for a set term of 10, 20, or 30 years. You choose this term when you purchase the policy. You can cancel the policy, or the insurer can cancel it for non-payment of premium.
May vary over time based on business needs of the insurance company.
Remains stable each year of the policy term.
Paid to your beneficiaries upon your death.
Paid to your beneficiaries upon your death.
Part of your premium funds a cash value feature, which earns interest and can be accessed through a loan against the policy or a withdrawal.
No cash value feature.
Permanent life insurance policies cost more in premium.
Term life insurance policies cost less in premium.
Types of permanent life insurance policies
There are multiple types of permanent life insurance policies to consider. They include:
A whole life policy offers a fixed premium and fixed death benefit. Unlike with other life insurance types, the insurer cannot modify the premium based on market conditions or changes to your health. The cash value will accumulate at a guaranteed, though modest, rate.
A universal life policy offers a flexible premium and death benefit. This means you can adjust your death benefit (which will affect the amount of premium you owe) as your needs change. The insurance company can also modify your premium or charge fees based on their business needs.
The cash value of a universal life policy grows based on the performance of the stock market. Your potential earnings may be subject to a cap (maximum) and floor (minimum). While this minimizes your losses in down years for the market, it may also limit your earnings in years the market performs strongly.
Variable universal life
A variable universal life insurance policy offers greater control, as the cash value is invested in one of up to perhaps 30 investment options that you choose. These options are presented to you in a prospectus from the insurance company. Your returns may be subject to caps and floors. These policies are typically considered a bit riskier than indexed universal life policies. They’re also subject to higher administrative fees, as they’re considered securities.
A variable universal life insurance policy also offers the option to have the cash value paid out to your beneficiaries (along with the death benefit) upon your death. This option costs extra in premium.
Who needs permanent life insurance?
Permanent life insurance is usually recommended only for people who have maxed out their contributions to their other investment vehicles, and who might benefit from additional portfolio diversification. For those solely seeking a life insurance policy to protect their family’s finances in case of their death, a term life insurance policy may be a better way to go. A licensed insurance agent or financial advisor can provide personalized advice when making these decisions.
Frequently asked questions (FAQ)
What is the oldest age at which you can still get life insurance?
Each insurance company has its maximum age and may have a different maximum age for each type of policy. While it's not common, some companies offer policies to people up to age 85 or even 90.
Do whole life insurance policies earn interest?
Yes, whole life policies do earn interest. They have a cash value feature funded by the policy's premium. It earns a modest, though usually guaranteed, level of interest. In this way, a whole life policy can be used as an investment tool.
Are permanent and whole life insurance the same thing?
Permanent life insurance stays in effect until your death, pays a death benefit to your beneficiaries, and has a cash value feature that can help you save money. There are multiple variations of permanent life insurance; one of these is whole life.
A whole life policy is thus a type of permanent life insurance, but not all permanent life insurance policies are whole life.