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Whole life vs. term: There’s a clear winner here

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Editor’s Note: At the author’s request, this article was updated on Aug. 18, 2016.

From 1940 to 1970, it was very common for people to purchase whole life insurance. A policy could secure income for their family in case of an untimely death and also help supplement their retirement planning. Term insurance wasn’t very prevalent in those days.

Then, in 1981, the Tax Equity and Fiscal Responsibility Act (TEFRA) became law, and many insurance companies and banks became interest sensitive. People started questioning why they would put their money in permanent life insurance products when they could put it in the market and get rates of return at upwards of 10 to 12 percent.

Many started putting the bulk of their money in the market and then purchasing term life insurance for protection. The shift led many life insurance agents to focus on selling term insurance instead of solving the actual lifelong life insurance need.

What’s the difference between whole life and term?

BenefitsWhole life policies have living benefits, and a cash account that grows tax deferred.* Clients don’t pay taxes on the gain each year, and that money can be used in retirement to supplement retirement income. If structured properly no taxes will be paid on the supplemental income from the life insurance policy.  No such benefits are available with term insurance. Term insurance only has the term period coverage (yearly renewable term or level premium term of 5, 10, 15, 20, or 30 years), and does not have any cash value. The cost for the term policy is the cost of insurance for the death benefit based on the health of the insured.

If you plan on selling life insurance, make sure you can communicate its value.

Longevity: Term life policies are sometimes referred to as temporary life. There is a fixed period of time when the premium is level, but after that time, either the premium increases yearly to the point where it becomes unaffordable or the policy terminates. The premium can eventually get so high that people have to terminate it, so the product may not be around at the very time it is needed — death.

Whole life also has a level premium. This policy can be around for the whole of your life because as long as the policy premiums are paid it will never lapse. If people can afford the first-year premium, they typically can afford it in the future. It’s similar to a mortgage payment — the first is always the worst, but people get used to it eventually.

Dividends: A whole life product pays dividends, which are not guaranteed.  These dividends are declared annually by the company’s board of directors and paid out annually to the policyholders. Dividends are declared when the insurance company’s investments do well, it’s mortality experience improves (less people dying), and its expenses are properly managed. Dividends can be used to reduce the premium or build up the cash inside the policy and grow the death benefit. Term life insurance has little or no dividends.

Today, if a prospect is young and starting her career at 25 years old, the need for life insurance is typically high but the cash flow is usually low. A lot of times in the financial industry, people are trained to sell term life insurance because the cost is lower. The problem is, even though many term life insurance policies can be automatically converted to whole life without an exam, people almost never do it because they weren’t properly educated in the benefits of whole life insurance.

For example, in a 20 year level term policy, when the client’s term policy expires, the client will have to buy another term policy at a much greater expense with no cash value to show for it. However, if the policy has a conversion feature it can convert the term to whole life with the same underwriting class as when the original term policy was purchased, even if the insured becomes uninsurable.  This can occur because the insured is older and could have developed major health conditions.

As an industry, we need to take the time to properly solve the life insurance problem with each of our clients to determine what policy is best suited for them throughout their whole lives. When a client is looking to solve his or her life insurance need, a complete set of financial facts must be determined prior to any purchase. A full and in-depth financial fact-find can help you discover what your clients’ assets are, their long-term goals, how much money they are saving yearly and what they are putting into a retirement plan.

Education is key

Once you acquire those key pieces of information, you must educate your clients about the options available. Many consumers purchase life, homeowners and car insurance, but they don’t completely understand the policies’ purpose. This is especially true when it comes to life insurance. Many think it is simply to protect their mortgage, car loan and any current debt, but it is foremost to protect the income their families were anticipating from them.

When consumers don’t understand the value of life insurance, they don’t believe their life insurance need is quite as high as it actually is. Also, unlike consumers’ perception, their life insurance need does not always vanish as they grow older. Help your clients understand that a term life policy will solve their current problem. Then, at their regular review, their need must be reassessed to make sure their families remain well-protected. The regular review is the time when the conversion to permanent products should be discussed, a discussion for which they should have been properly educated from the beginning of the relationship.

Before moving forward with the sale of a life insurance product, ask yourself, “Am I having my client buy enough life insurance, and did I bring up the idea of whole or term insurance?” You must explore the various options with your client and present them properly.

Our industry is making it very easy for consumers to buy products, but few people understand what these products actually do. It is up to the financial industry to better educate clients about whole life and term insurance, to help them make better life insurance decisions. By joining a financial organization, such as the Million Dollar Round Table (MDRT), you can have the opportunity to access resources to help you educate yourself and your clients.

For more on whole life, see:

Keep participating whole life on your short list

Expanding the whole life conversation

Whole Life Insurance: The Financial Foundation Asian Americans Are Seeking?

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