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Whole life insurance, by definition, offers coverage for your entire lifetime so long as you continue to pay premiums. This policy is sometimes referred to as “guaranteed whole life insurance”, because insurers promise to keep the premiums constant over the life of the policy. Should you pass, and the policy hasn’t lapsed, the beneficiaries will receive a payout. In addition, whole life insurance is designed to offer tax benefits and have a cash value component which grows over time. This type of policy is good to consider if you're interested in not only the benefits of life insurance coverage, but also using the cash value as an investment vehicle to diversify your portfolio. How Does Whole Life Insurance Work? The Pros and Cons of Whole Life Insurance Should I Buy Whole Life Insurance? How Does Whole Life Insurance Work? Since whole life insurance is a type of permanent life insurance, you will continue to have coverage for your entire lifetime so long as the premiums are paid. In the case that you pass, the policy beneficiaries should file a claim with the insurer, after which point the circumstances of your death will be reviewed and receive the payout (also called a death benefit or the face value of the policy) so long as everything is in order. This process may sound simple but, for example, if your child doesn’t know they are the beneficiary to your life insurance policy, they may not be able to claim the payout should you pass, so make sure to keep your family informed. Each whole life insurance policy consists of a few key elements: Death benefit Also called the face value of the policy, this refers to the payout the beneficiaries will receive upon your passing. Death benefits are tax-free so long as you’re below federal and state estate exemption levels, which is the case for most households as the federal exemption level is approximately $5.5 million and only 18 states impose estate or inheritance taxes. Policy face values are typically available in increments of $50,000 or $100,000, though they can go up to several million dollars. Whole life insurance policies are generally more expensive than alternatives, such as term life insurance, and the death benefit directly impacts that cost, so it’s important to evaluate your family’s needs before deciding to purchase. You may see products, such as final expense whole life insurance, with death benefits as low as a few thousand dollars. These policies tend to be less expensive as they have a low face value and are designed to cover end-of-life costs. Given the average cost of a funeral is around $10,000, these policies can be incredibly valuable if your family doesn’t have an established emergency fund, or would be put in a difficult financial situation trying to cover burial expenses. Premium This is the cost of the policy, and can be paid annually, bi-annually, or monthly, depending on your insurer. Premiums are generally paid for the life of the policy, though some choose to pay a higher premium for a shortened period of time, such as 20 years, in order to make sure their policy doesn’t lapse later. This option can often be useful for people that currently have high incomes that can cover the costs, and want to lock-in coverage for their family no matter what happens to their income in the future. If you’re able to afford it, this can be a simple way to reduce your family’s financial risk profile. Cash value As with other permanent life insurance policies, whole life insurance accrues a cash value over time. The cash surrender value is what you get if you surrender the policy to the insurer. It is not added to the face value of the policy, which your beneficiaries get if you pass away. The cash value grows tax-deferred over time, and is guaranteed to grow at a particular rate in the case of whole life policies. This is why whole life insurance policies are often referred to as an investment vehicle. While the guaranteed rate of return on the cash value may be lower than other financial products, it can lower the overall volatility of a portfolio (though this benefit assumes you have a breadth of existing investments). The cash value can be used to: Pay premiums Purchase additional coverage Withdrawn (in certain cases) Provide a tax-free loan (for emergency expenses, a mortgage, or other needs) Keep in mind that if you’ve borrowed against the cash value of your policy and pass away, the loan will be deducted from the policy’s death benefit. Dividends Dividend paying whole life insurance, also known as participating whole life insurance, refers to policies offered by certain insurers that pay a dividend in the case that the insurer performs better than expected. Essentially, you, as a policyholder, get to participate in the profits of the company (as determined by the insurer once they’ve paid all death benefits and other business expenses). As a simplified example, if the insurer collected $90 in premiums and made $10 in other income, but only spent $95 in payouts and costs to run the company, the $5 remaining would be shared across the policyholders as a dividend. Given that dividends are dependent on your insurer’s performance, there’s no guarantee they’ll be paid each year, though some insurers have consistently paid dividends for decades. If you’re considering whole life insurance policies from two insurers with the same features and premiums, that one insurer offers dividends is certainly an advantage to note. Guaranteed acceptance & no medical exam whole life insurance While the medical exam isn’t actually a component of a life insurance policy, it’s a fairly standard requirement that goes alongside the underwriting process, both of which are used to evaluate your health and determine your premiums. Some insurers offer no medical exam, meaning you still have to answer questions about your health and medical history, but aren’t evaluated in-person. This option sounds great, as people often think of a long, in-depth exam in a doctor’s office. However, the exam is generally quite short (about 30 minutes) and can be scheduled at your work or home. What this means is that you’d be paying significantly higher premiums (since the insurer is taking on additional risk) to avoid a relatively painless medical exam. Similarly, guaranteed acceptance whole life insurance offers the ability to skip detailed health questions and the medical exam, but premiums will be even higher and the death benefit will be limited (typically less than $100,000). In addition, there’s generally a restricted period for the first few years of coverage, so if you pass during that time your beneficiaries won’t receive the full payout. Unless you have concerns regarding your ability to get coverage, such as if you’ve been diagnosed with a life-shortening condition like cancer, our analysis indicates this is a poor choice for most people.