What Is Whole Life Insurance?

Sean McGinn is assistant director of risk product positioning at Northwestern Mutual

You’ve come a long way since ramen noodle dinners in your college dorm room. Maybe you’re married. Perhaps you’ve purchased a home. You might have a few youngsters now who rely on you for everything. If any (or all) of these situations apply to you, odds are life insurance has come up in a conversation or two. 

As you start researching life insurance policies, you’ll likely come across two of the most common: term and whole life insurance. Term life insurance, which covers you for a limited timeframe, might catch your eye with its lower premiums. Indeed, premiums for a whole life insurance policy are typically more expensive, but there are several reasons why paying more might make sense. Here’s a closer look at what makes whole life insurance more valuable than a term life policy. 

What is whole life insurance? 

Similar to a term life insurance policy which will pay a death benefit to your beneficiaries if you die during the policy’s term (provided premiums are paid), a whole life insurance policy will also pay a death benefit as long as you keep your policy in place.  

In addition to the death benefit, whole life insurance also has benefits available to you while you’re still alive. Over time, your whole life insurance policy accrues cash value. This cash value can be accessed to help support other financial goals—like helping to pay for college or fund retirement2—making it a versatile addition to a financial plan.  

How does whole life insurance work? 

When you purchase a whole life insurance policy, you’ll pay premiums to keep the policy in place (much like you would for a term life insurance policy). Those premiums guarantee that your beneficiaries will receive a death benefit. Depending on the terms of your policy, the cash value of your life insurance policy will grow by a certain rate each year, increasing the overall cash value in your policy.  

Although they’re not guaranteed, your policy also has the potential to pay annual dividends (at Northwestern Mutual, we have paid a dividend every year since 1872). Often you’ll be given the choice whether you want these dividends paid to you or added to your overall insurance and cash value, compounding the growth of your policy over time.  

At what age should I buy life insurance? 

The cost of life insurance is primarily based on two things: your age and your health. The younger and healthier you are, the less expensive your policy will be.  

Particularly with whole life insurance, the sooner you buy it, the better. In fact, it’s not uncommon for parents (or even grandparents) to buy a policy for their children. Doing so guarantees they will have a death benefit for their loved ones someday, even if their health changes in the future. And the policy becomes an asset the children can access throughout their lives. 

Many adults get life insurance at key moments, like getting married or having children. This makes sense as it’s a time when you’re introducing people who will depend on you into your life. Whether someone bought life insurance for you when you were young, or you’re looking to add it as you get older, the answer to when to buy it is: as soon as possible. 

Many people begin with a term life policy because of its lower premium. But as you get older, it’s common to start to think more seriously about your long-term financial plan as a whole.  

How many years does it take to pay up a whole life insurance policy?  

How long you’ll pay a premium on a whole life insurance policy will depend on your policy. With some policies, you pay until you reach a certain age like 65 or 100. However, you may also be able to purchase a policy that is designed to have you pay for a set period of time, like 10, 15, 20 or 25 years. Once you reach the end of that payment period, the policy will stay in effect without you owing any additional premiums.  

Benefits of whole life insurance

Because of its lifelong coverage and cash value component, whole life insurance can be one of the most flexible parts of your financial plan. Here’s how:  

Whole life insurance covers you until the end  

So long as you pay your premiums for whole life insurance, your death benefit (the amount paid to your beneficiaries after your death) is guaranteed for life—whether you die at 30 or 105. If you purchase a $1 million policy, $1 million is paid upon your death (generally income tax-free). But depending on dividend performance, it could be more. If non-guaranteed dividends are used to increase your insurance amount along the way, your death benefit could go up. 

Term life insurance only pays a death benefit if you pass away within a predetermined window of time, say, 20 years. After 20 years, your policy simply expires, and that’s part of what makes term life insurance less costly than whole life insurance. In many cases no one will ever get the death benefit (because you outlive the policy). 

Whole life insurance is consistent 

With a whole life insurance policy, your premiums remain the same. What you pay today is what you’ll pay in 20 years.¹ So, if you purchase a whole life policy at age 30, you’ll pay a lower, fixed premium than someone who starts a similar policy at 45, for example.  

There are many other types of life insurance policies that allow you to adjust your premiums or death benefit as you go. There are also some hybrid offerings that combine elements of whole and term life insurance (where the premiums could change). But with whole life, the premiums and death benefit are predictable. 

Whole life insurance has cash value 

This is the biggest difference between term and whole life insurance. Payment of premiums on your whole life policy generates cash value that is guaranteed to grow over time. After your cash value has accumulated over several years, you can use it for any purpose that is right for you.² 

You can use your accumulated cash value to help pay your premiums. You can use it as collateral for a bank loan or take a life insurance loan from the insurance company³. You can even use the money to pay for tuition, a down payment on a house, unexpected medical expenses—anything, really (it’s your money). You can generally access your policy’s cash value tax free, as well. 

Finally, just like a selling house, you can fully surrender your policy and receive the accrued cash value.⁴ When you do that, you may owe tax, but generally cash value from a surrendered policy is only taxed when it exceeds premiums paid.  

Term life insurance, on the other hand, is more akin to renting an apartment. When your apartment lease is up, you pack up your stuff and move. Similarly, when a term life policy expires, that’s it. You simply aren’t covered anymore, and you don't receive any cash from what you've paid in. If you want to get new coverage, you’ll need to reapply and go through medical underwriting again, and if your health has changed, that could impact the cost—or your ability to get coverage at all. 

Whole life insurance may have dividends 

While they aren’t guaranteed, some insurance companies will pay annual dividends on your policy. You can simply take that dividend as cash (there may be tax consequences if you go this route). Or you can put those dividends back into your policy to grow your death benefit and cash value. 

Whole life insurance can help in retirement  

There are a lot of ways you can access your life insurance in retirement. For example, a whole life insurance policy can play an instrumental role in supplementing retirement income. The cash value in your life insurance policy is guaranteed to grow, but the stocks and bonds in your retirement portfolios will undoubtedly rise and fall. And if the market tanks, it’s costly to sell your investments at rock-bottom prices just to generate income.  

However, if you’ve accumulated enough cash value in a whole life policy, you can use those funds for retirement income while you wait for the market to recover.² Any time you plan to utilize your policy’s cash value, it’s a good idea to speak with a tax advisor to assess the pros and cons of your situation. 

Potential drawbacks of whole life insurance 

There are many benefits to a whole life insurance policy, so why doesn’t every have one? Whole life insurance policies have their own pros and cons. Whole life policies require larger out-of-pocket premiums than term policies, which can limit some policyholders from going that route. Additionally, whole life insurance policies can be more complex and generally require consulting to help design a policy in a way that best suits your needs.  

The next steps: how to get a whole life insurance policy 

Here’s the thing you’ll learn about life insurance: There is no “one size fits all.” Everyone is painting a different financial picture. No two families are alike. What works for your neighbor might not be the best option for you. One of the best places to start is with an online whole life insurance calculator, which will give you a rough approximation of how much insurance you might need.  

If you’re looking to add whole life insurance to your financial plan, a Northwestern Mutual financial advisor can walk you through life insurance options and help you determine which best suits your life situation. Your advisor can also show you how whole life insurance works alongside your investments and other aspects of your financial plan to help you feel more confident about reaching your financial goals.

¹ Certain product designs combine term insurance and whole life insurance, and may be subject to premium increases. 

² Your policy's cash value typically becomes a useful source of funds only after several years of premium payments, which allows the cash value to build up. Each method of utilizing your policy's cash value has advantages and disadvantages and is subject to different tax consequences. Surrenders of, withdrawals from and loans against a policy will reduce the policy's cash surrender value and death benefit and may also affect any dividends paid on the policy. Policyowners should consult with their tax advisors about the potential impact of any surrenders, withdrawals or loans. 

³ Loans taken against a life insurance policy can have adverse effects if not managed properly. Policy loans and automatic premium loans, including any accrued interest, must be repaid in cash or from policy values upon policy termination or the death of the insured. Repayment of loans from policy values (other than death proceeds) can potentially trigger a significant tax liability and there may be little or no cash value remaining in the policy to pay the tax. If loans equal or exceed the cash value, the policy will terminate if additional cash payments are not made. Policyowners should consult with their tax advisors about the potential impact of their policy loans. 

⁴ Cash value growth is not taxed if held until death. Generally, cash value from the surrender of your policy is taxed only when it exceeds premiums paid.