WHAT IS WHOLE LIFE INSURANCE?
Whole life insurance provides permanent death benefit coverage for the life of the insured. In addition to paying a death benefit, whole life insurance also contains a savings component in which cash value may accumulate on a tax-advantaged basis. These policies may be known as "traditional" life insurance.
Whole life insurance policies are one type of permanent life insurance. Universal life, indexed universal life, and variable life are others. Whole life insurance is the original life insurance policy, but whole life does not equal permanent life insurance.
UNDERSTANDING WHOLE LIFE INSURANCE
Whole life insurance guarantees payment of a death benefit to beneficiaries in exchange for level, regularly due premium payments. The policy includes a savings portion, called the "cash value." alongside the death benefit. In the savings component, interest may accumulate on a tax-deferred basis. Growing cash value is an essential component of whole life insurance.
To build cash value, a policy holder can remit payments more than the scheduled premium (known as paid-up additions or PUA). Policy dividends can also be reinvested into the cash value and earn interest. The cash value offers a living benefit to the policyholder. Over time, the dividends and interest earned on the policy's cash value will often provide a positive return to investors, growing largher than the total amount of premiums paid into the policy. In essence, it serves as a source of equity.
To access cash reserves, the policyholder requests a withdrawal of funds or a loan. Interest is charged on loans with rates varying per insurer. Also, the owner may withdraw funds tax-free up to the value of the total premiums paid. Loans that are unpaid will reduce the death benefit by the outstanding amount.
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Withdrawals and upaid policy loans reduce the cash value of the policy. Depending on the policy type and the size of its remaining cash value, a withdrawal could moreover chip away at the death benefit or even wipe it out altogether. While some policies are reduced on a dollar-for-dollar basis with each withdrawal, others (such as some traditional whole life policies) may actually reduce the death benefit by an amount greater than what is withdrawn.
Whole life insurance lasts for a policyholder's lifetime, as opposed to term life insurance, which is for a specific amount of years.
Whole life insurance is paid out to a beneficiary or beneficiaries upon the policyholders' death, provided that the payments were maintained.
KEY TAKEWAYS
Whole life insurance pays a death benefit, but also has a savings component in which cash can build it.
The savings component can be invested; additionally, the policy holder can access the cash while alive, by either withdrawing or borrowing against it, when needed.