What insurance is appropriate – term or whole life – and why?

For the great majority of people, term life insurance is the best way to go. It’s not just less expensive than whole life, but a lot less expensive because you’re buying pure insurance without any investment component. Ballpark is something on the order of ten percent of the cost of a whole life policy.

The primary reason for the difference in price is the fact that whole life insurance includes an investment provision. On the surface, that may seem like a winning combination. You’re not only maintaining life insurance for your family, but you’re investing at the same time. However, the investment provision with whole life insurance involves a lot of fees. The fees are heaviest in the first few years of policy, which also means that your cash value accumulation is minimal and usually includes a surrender charge to cover the costs of issuing the policy, which means that whole life insurance policies work against you for the first few years.

In most cases, you would do far better if you purchased the less expensive term policy, and invested the difference. The common rule of thumb is “buy term and invest the rest”. By investing the difference between the cost of the term insurance and the whole life policy in a low cost S&P 500 index mutual fund, you can outperform whole life investment component.

The lower premium will also enable you to purchase a much larger amount of life insurance. That’s incredibly important, because you can fight the effect that inflation will have on the purchasing power of any death benefit by buying a larger policy earlier.

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