4 Types Of Life Insurance Compared: Term Life, Whole Life, Variable Life, And Universal Life

Life insurance is a confusing topic.  You’ve got death benefits, life expectancy, surrender penalties, term risk, and any number of contract riders to obsess over and worry about.  That said, there are four major types of life insurance.  While each type can have a lot of internal variation regarding the specific details, each type of life insurance is pretty standard as a general rule.

The 4 Types Of Life Insurance

Term Life Insurance

Term life insurance is the simplest, most common, and in my opinion most attractive type of life insurance.  Term life is simple:  you purchase coverage for a specific period of time (or term, usually 20 or 30 years).  If you die during the specified period of time, your beneficiaries receive the value of your policy.  If not, the contract becomes worthless and you can’t get your life insurance premiums back.  There is no investment component and very few applicable riders.  Term life is likely the best choice for probably 95% of all Americans due to their simplicity and inexpensive coverage.

Whole Life Insurance

Whole life insurance is similar to term life insurance except, as the name suggests, the policy lasts for life rather than a specific term.  Since eventual payout is virtually certain, premiums are generally significantly higher for whole life than term life;  however, most whole life policies have an investment component whereby the life insurance company offers a low “guaranteed rate of return” on the policyholder’s premiums.  Of all the various types of life insurance, whole life is perhaps the most attractive to many consumers because of that “guaranteed rate of return.”  If you decide to cancel your policy, the logic goes, you can at least get back your premiums along with a minimum return.  Unfortunately, whole life policies are rarely as attractive in real life as in theory.  The various costs and restrictions associated with these policies often completely wipe out any benefit from the investment component and then some.  Still, the idea of getting your premiums back is powerfully attractive to many.  Remember, if something sounds too good to be true, it usually is.  Tread very carefully if you decide to purchase whole life insurance over term life.

Universal Life Insurance

Universal life insurance is probably the most convoluted and confusing of the 4 major types of life insurance.  The basics are that you can decide how much to contribute above and beyond a set minimum life insurance premium in an investment vehicle chosen by the insurance company, which is usually restricted to bonds and mortgage-backed securities (danger, danger).  The investment returns then go into a cash-value account which you can use to pay premiums, accumulate value, or even use as collateral to borrow money.  The rules determining how exactly returns are calculated are indecipherable unless you’re a contract lawyer, and the investment options generally carry exorbitant expense ratios, lining the insurance company’s pockets instead of your own.  I highly advise against universal life insurance in practically all situations.  There may exist some specific situation where it makes sense to purchase a universal life policy, but so far I haven’t seen it.  It is almost always preferable to keep your insurance and investing activities separate.

Variable Life Insurance

In essence, a variable life policy is simply a universal life policy with a much wider array of investment options, sometimes including a self-directed option.  Variable life policies have all the disadvantages of universal life policies as well as a few of its own.  I know of absolutely no situation where variable life insurance makes sense for any investor, ever.  If you know of one, I’d love to hear it.

And The Best Type Of Life Insurance Is…

In case you’ve missed it, I heavily favor term insurance over any other form in all but the most unusual of circumstances.  Whole life insurance comes in a distant second, if only because the for-life aspect of these policies require you to continue paying premiums long after it makes sense for you to do so (for instance, life insurance is probably unnecessary unless you have dependents).