What's the Difference Between Term Life and Permanent Life Insurance?

Sean McGinn is an assistant director of Product Position in the Risk Products department at Northwestern Mutual.

When you research life insurance, you’re likely to come across a number of options and different types of policies. You may be wondering what’s right for you. You want to make an informed decision about something as important as life insurance, so let’s review the types of insurance and what they offer.

All life insurance policies will pay a death benefit if you die during the time the policy is in effect; however, there are important differences in policy types, particularly when comparing between term life insurance and permanent life insurance.

Term life insurance pays a death benefit if you die during the specified term of your policy (for example, 20 years), while permanent life insurance covers you for your lifetime¹ and has additional benefits (like cash value) you can use while you’re living. Permanent life insurance is a more robust and flexible asset in a long-term financial plan. It can include whole, variable and universal life.

Comparing term vs. permanent life insurance

Term insurance is often a more affordable, low-cost option allowing for a larger death benefit (or coverage) with the lowest premiums. This is because the policies offer little flexibility and expire, meaning it’s likely you may not have coverage down the road if you need it. There’s a possibility that your policy will never pay a death benefit, because the policy might expire before you die. And term life insurance does not build cash value.

Permanent life insurance has features that term life insurance doesn’t include, such as a lifetime death benefit that will be paid no matter how long you live while your policy is in place. Permanent life insurance also builds cash value that you can use during your lifetime (examples include an emergency fund, paying for a wedding or starting a business).² Some insurance companies also pay dividends. Although they are not guaranteed, they can add to the growth of your policy over time. The additional benefits that come with permanent life insurance mean that premiums are generally higher than those for term life insurance.

Term life insurance is usually best for you when you need a large death benefit for a situation that will end someday and when budget is also a concern. For example, if you have young children, you might choose a term that covers the time until they have completed their educations and started their careers.

You may wonder what will happen if you outlive your term life insurance. Unfortunately, in this situation your loved ones would not get a death benefit. At the end of term life insurance, the policy simply ends, and there is no payout or return of premiums. (There may be a possibility of renewing, but the premium may be higher because you are older and your health may have gotten worse.)

People also ask if they can “cash out term life insurance.” In fact, there is no option to cash out since it does not build cash value. The policy simply expires.

Because of the different features of each type of policy, many people own a combination of both—term policies covering short-term needs and permanent policies that provide an ongoing benefit and flexibility in a financial plan.

Types of term life insurance

Although all term life insurance lasts for a specified time period, there are different types of term life policies to consider.

Level term life insurance

With level term life insurance, you pay the same premium for the length of the policy (10 years, 20 years, to a certain age). You choose a term that works for you, and you can plan out your budget knowing the premiums won’t change.

If you expect your income to grow, the premiums will become more affordable over time, as a fixed premium becomes a smaller part of your budget when your income is rising. For example, Level Term 20 covers you for 20 years, and your premiums will not go up throughout the entire period. During that time, you may get promoted or take a new job at a higher pay.

Annually renewable term life insurance

Unlike level term life insurance, annually renewable term life has premiums that increase over time.
When you’re young, annually renewable term tends to be the most affordable type of policy, but as you reach the end of the contract duration, the premiums become more expensive. This type of policy is often best when you will need insurance for a long time because it gives you the most security and flexibility in your coverage options.

Types of permanent life insurance

Permanent life insurance gives you lifelong coverage and a cash value that can grow over the years. And like term insurance, there are different permanent policies you can choose.

Whole life insurance

With whole life insurance, the cash value component grows at a set rate that is determined by your insurance company. The cash value in whole life insurance is not affected by the markets and is guaranteed³ to grow over time (as long as you don’t make policy changes) . Your premiums will also remain the same for the life of the policy. Keep in mind that death benefit and cash value can grow more quickly through dividends.

When comparing whole versus term life insurance, the cash value is one of the biggest differences aside from lifelong death benefit coverage.

Universal life insurance

Universal life insurance is more flexible than whole life insurance and may be a good choice for someone with more sophisticated financial needs. With universal life, you have flexibility to adjust the amount of your premiums (within certain limits) and your death benefit. This can be particularly beneficial for someone who has uneven income.

• Variable universal life insurance⁴ gives you more control over how your cash value is invested. It gives you diversified options, including exposure to the stock market. You can adjust the amount of your premium payment (as opposed to having a fixed payment each year).

There may be years when you want to pay more into the policy than your minimum premium requires so that you can build more cash value. Some years, you may need to spend less on your premiums, which is OK as long as you have enough cash value to cover your policy expenses. 

Variable life insurance

If you’re looking for the type of permanent life insurance that offers the most flexibility in how your cash value is invested, variable life insurance⁴ may be a good option. Variable life insurance gives you the ability to choose investment options for your cash value. These options include funds that give you market exposure, which can help your cash value grow more quickly, but like any market-based investment, the value can also decrease. It’s different from variable universal life insurance (described above) because the premium payment is not as easily adjusted.

Is term life or permanent life insurance better for you?

When you’re considering whether term life insurance or permanent life insurance is best, consider how each type of policy fits into your overall financial plan.

And it’s not an all-or-nothing option. Many people get a mix of term and permanent insurance in order to get a large death benefit while still taking advantage of the additional benefits that permanent insurance offers.

You can convert term to permanent life insurance 

Many term policies include a way to convert some or all of your coverage into a permanent policy within a specified time frame. Although you could get a new policy, a term conversion can be easier and less expensive than a new policy.

That’s because many companies allow you to convert without undergoing another health examination. Your premiums will still be affected by your age but not by any changes in your health. A Northwestern Mutual financial advisor can help explain how term conversion works. 

Life insurance is a critical component to a financial plan. Each of us has different needs—in coverage, amount of time and additional flexibility for our goals. You don’t have to figure this out on your own. A Northwestern Mutual financial advisor can help you evaluate which features work best to support your financial goals. Let’s partner—your advisor can also take a broad look at your money and help you identify blind spots and opportunities that might otherwise be overlooked. You can see how to leverage multiple financial options that work together to help you protect and grow your wealth.

¹Assumes all premiums are paid when due.

² Utilizing the cash value through policy loans, surrenders or cash withdrawals will reduce the death benefit and may necessitate greater outlay than anticipated and/or result in an unexpected taxable event.

³Guarantees are backed solely by the claims-paying ability of the insurer.

⁴The underlying investment options are subject to market risk, including loss of principal, and are not guaranteed. No investment strategy can guarantee a profit or protect against a loss.