Insurance policies that provide permanent protection, as opposed to protection for a certain period, are called ‘whole life’ policies. Permanent life insurance policies of this type are often characterized as contracts that will surely pay (provided premiums are paid as contracted), ... the question is just WHEN, as opposed to term policies that terminate at a certain age without paying any benefit if the insured person was lucky enough to live beyond that age. Disability policies are never for the whole life. In other words, no insurance company bets on anybody’s work income earning potential till death, ... our disability to earn an income after a certain age (usually age 65 is used as a cutoff point) is taken as normal. However, one can buy whole life (permanent) protection against the financial burden of certain critical illnesses, or the need for long term care. With the latter, protection towards the end of life is the essence of the protection, while with critical illness insurance, whether one is going to buy a term or a permanent policy is usually a function of one’s resources, since whole life C.I. policies are definitely more expensive than term policies.

Talking about only life insurance now, the main question one should answer when deciding about the type of insurance one will buy concerns the time horizon, or the duration of time one needs the protection. If the reason  for seeking life insurance is to protect someone or something (children, spouse, a business, etc.) for a limited time, term life insurance makes sense. On the other hand, if the protection is needed / wanted for a very long time, or permanently, some kind of permanent policy should be the right choice. The often mentioned ‘buy term and invest the difference [that you save in premiums] ’ argument against permanent policies is usually a lame one, even if we consider (and we should!) the time value of money when comparing various premium payment temporal patterns.

There are basically three types of permanent life insurance policies:

  • ‘Term to age 100’ (or simply T100) policies without cash value. These polices pay a fixed benefit amount whenever the inured person dies, without providing any financial backup resource during lifetime.
  • Classic ‘Whole life’ policies’ that have some cash value, accessible during lifetime as partial withdrawal, policy loan, collateral asset, or cash surrender value. The reason for the availability of the cash value is that there is a built-in investment component in these policies. Accordingly, this is a more expensive type than a pure protection T100.
  • ‘Universal Life’ (or simply UL) policies are a variant of the classic whole life policy, whereby the investment component is clearly separated from the protection function, resulting in much more accountable and flexible policies. Investments within life insurance policies are tax-advantaged, and it made UL policies very useful for many people and for many purposes. However, they are quite complicated and definitely not for everyone.

From the very simple example below for comparing the costs of various policies, you can get some impression of the importance of clarifying what is your time horizon, when shopping for life insurance, and also a few tips on how to buy term policies.

Mary (30 years old, nonsmoker, healthy) can select from a very wide range of choices if she wants to buy term insurance. Policies that provide pure protection can be yearly renewable, 5 year term, 10 year term, other term products, or even Term 100 type of policies, the last one being actually a whole life policy in the sense that it pays not "if" the insured dies, but "when" the insured dies. With all these policies, except the Term 100, the premium is level for a certain period (1 year, 5 years, etc.), then it increases to a new level for a new period. (Provided, the policy is renewed for the new period.) With T100, the premium is higher first, but it stays at that level, thus on the long run it is usually the cheapest of all. An important question to decide on., therefore, is: for how long the policy will be needed. Before going into some other aspects, let's see some excerpts from the multi company search that can be done for Mary.

 One year renewable policies:

The initial annual premiums (prices) of the 9 products available spread from $227.00 to $327.50. The effect of different changes at various products in later years can be seen from the price comparison of the 5 products with the cheapest initial premiums:
CURRENT Annual Premiums 
------------------------------------------------------------------------------------- 
Year   Policy 1      Policy 2       Policy 3      Policy 4       Policy 5
 

 1     227.00         237.50        242.50         252.50        255.00
 
 2     237.00         300.00        280.00         255.00        272.50
We can see that in the second year already, the ranking order of the policies has been changed. Policy #2 became the most expensive in that year. Similar changes occur later as well, therefore it is not a bad idea to look at the accumulation of the premiums paid at the end of various time periods.

 3     244.50         332.50        295.00         260.00        272.50
 
 4     252.00         362.50        340.00         267.50        272.50
 
 5     262.00         380.00        377.50         275.00        277.50
 
Accum.1,222.50       1,612.50      1,535.00       1,310.00      1,350.00
Just after 5 years, #2 became ranked 6th, and #3 became ranked 5th. Let's project further ahead in time.

 6     272.00         410.00        410.00         282.50        300.00
 
 7     282.00         442.50        447.50         290.00        315.00
 
 8     292.00         470.00        480.00         300.00        335.00
 
 9     304.50         507.50        480.00         310.00        355.00
 
10     314.50         550.00        480.00         320.00        377.50
 
Accum.2,687.50       3,992.50      3,832.50       2,812.50      3,032.50
 
11     424.50         580.00 *      480.00         332.50        395.00
After ten years, an * appeared in the survey. It indicates that for one of the policies (#2) the price given here is what the company currently charges for $250,000 coverage for a 41 year old nonsmoking healthy female, but it is not guaranteed that this price will be applied for Mary in 11 years if she choses this particular product. Let's skip years 12 to 20 now, and have a look only at the total amounts payable for these various policies during a 20 year period:

Accum.6,932.50     12,982.50      14,120.00       7,217.50      9,195.00
It seems that Policy 1 kept its position, and Policy 2 climbed back from the last place to the 4th. However, if we consider not the current but the guaranteed rates of Policy 2 for the second decade, that gives a final twist to this simple comparison. The differences in the guaranteed rates become quite significant in those later years, an in the final summary, Policy 2 can be ranked as the worst choice. (Again, it should be emphasized, that a real comparison should be based on not just prices; but for simple term products this simplification is acceptable to underline the importance of looking beyond initial premiums. In our case, the prices of these 5 products were quite close in the first year, but during 20 years Mary may have to pay more than twice as much for Policy 2 than Policy 1. See the guaranteed rates for the second decade below:

11     424.50       1,037.50        480.00         332.50        395.00
 
12     424.50       1,042.50        480.00         347.50        425.00
 
13     424.50       1,050.00        685.00         365.00        460.00
 
14     424.50       1,062.50        685.00         385.00        497.50
 
15     424.50       1,085.00        685.00         407.50        545.00
Accum.4,810.00       9,270.00      6,847.50       4,650.00      5,355.00
 

16     424.50       1,120.00        685.00         437.50        617.50
 
17     424.50       1,172.50        685.00         472.50        695.00
 
18     424.50       1,242.50      1,967.50         510.00        767.50
 
19     424.50       1,322.50      1,967.50         552.50        842.50
 
20     424.50       1,407.50      1,967.50         595.00        917.50
 
Accum.6,932.50     15,535.00      14,120.00       7,217.50      9,195.00
One more thing can be noticed form the lists above: Policy 1 and Policy 3 cease to be annually renewable after some years; they can be continued only as 5 and 10 year term policies. Actually, the choice of the available 5, and especially 10,  year term policies is much larger, as we can see below.

Five year term policies:
Twenty five 5 year term policies are available for Mary. From an analysis similar to the one above, let's look at only two lines. The first line shows the initial prices of the five cheapest policies:

Year   Policy 1      Policy 2       Policy 3      Policy 4       Policy 5
 
 1     215.00         220.00        220.00         225.00        240.00
... and the line below shows how much Mary should pay for these policies in a 20 year period:

Accum.8,750.00       6,325.00      6,325.00       7,050.00      6,350.00
Again, we can see that ranking in the first year changes on the long run; what seemed to the cheapest turns out to be the most expensive. The bad news regarding the final good position of Policy 2 and Policy 3 is that these accumulated amounts are not based on guaranteed premiums; there is no guaranteed premium whatsoever for these policies for Mary after a few years. In the light of this, Policy 5, that was the most expensive at the outset, seems to be the best choice from these 5 policies on the long run.

Ten year term policies:
There are Sixty two 10 year term products we can choose one from for Mary. The initial prices range from $195 to $457.50. Let's look only at the initial best 5 premiums, and the accumulated premiums in 20 years:

Year 1  200.00     212.50     215.00     217.50     217.50
 
Accum. 5,250.00   5,600.00   6,775.00   7,725.00   6,950.00

In this case, all the prices are guaranteed for the whole period.

Instead of repeating the same comparisons with other term policies, it is time to have a quick look at the comparison between policies that are fixed for different time periods. The best 20 year accumulation occurred with 10 year term policies; and this is usually the case for not just Mary. The computer makes it quite easy to make comparisons across the various categories. If we do such a comparison for a 20 year period, those two best policies in the 10 year term category are the winners. However, if we choose a different time frame, we receive different results. For example, during the next 30 years, a policy with $275 initial premium would be the cheapest for Mary from the 10 year term category; but it would be surpassed by four other term products that offer fix premiums until age 65 and 75. Again, only the initial premiums and the accumulations at year 20 and year 30 are given below:

year 1        370.00    377.50     387.50      390.00      275.00
 
Accum - 20   7,400.00  7,550.00   7,750.00    7,800.00    6,075.00
 
Accum - 30 11,100.00  11,325.00 11,625.00  11,700.00  12,000.00
Term to 100 policies:
If even longer time periods are considered, T100 policies prove to be the best buy. Mary can choose from 27 such products. Annual premiums, that stay at that level for the whole life of the policy (and the whole life of the person insured!), range from $610.00 to $850.00.

In sum, if Mary is convinced that she will need that policy for only a short period, probably one of the 10 year term policies should be her choice; if she is not so sure about the limited duration of the need for insurance, she is usually better off with a T100 policy. Although she pays more in the first years, it is contractually guaranteed that she will have to pay considerably less in later years.

In our simplified comparisons above, we didn't consider the time value of money, that is the fact that to pay a dollar today is a bigger burden than to pay it a year from now. If we quantify this, the advantage of T100 policies on the long run doesn't seem to be so obvious, from a strictly premium-saving perspective. However, if we dig a bit deeper, we can find that the cost of T100 policies can be significantly decreased. The general name of the category that offers such advantage (beside several other advantages) is universal life insurance. Mary should join Olga and {get acquainted with universal life policies before the final decision}. Even if it doesn't seem to be the choice right now, because, e.g., she cannot afford more than a bare minimum of premium, Mary should select a term policy that is convertible to a good quality universal life policy later when she can take advantage of it.

Staying with 5, 10 or 20 year term policies, renewability at guaranteed prices are usually the basic requirements one should look for, beside competitive initial premiums. It's also important to watch until what age a certain term policy can be renewed, what kind of riders and options are available and at what prices, and whether there are various sub-categorizations of insureds one can take advantage of (e.g., preferred rates for extra-healthy persons, laxity at the definition of smoking).

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