Term life vs. universal life policy: differences, pros and cons
To put it simply:
Term life insurance =
life cover for a limited period of time
Universal life
insurance = life insurance + investment
How do they work?
Term life insurance provides life protection for a limited period of time. When the insured dies within the policy term, the beneficiaries will receive the amount insured. When the term of the policy is done, the policy terminates and there will be no payments forthcoming when the insured dies.
Term life insurance is characterised by the following:
- Temporary life cover
- Most affordable insurance (for persons that are healthy and young)
- No cash value involved
- May be renewable or convertible
Universal life insurance provides a combination of life protection and investment. A portion of the premiums are paid towards the life cover, while the rest is invested. Taxes are not levied on the investment income so that it is able to grow at a faster rate.
Universal life insurance is characterised by the following:
- Loans via the policy cash value
- Flexibility – Death benefit and premiums may be adjustable.
- Cash value or investment component
| Term Life Insurance | Universal Life Insurance | |
|---|---|---|
| Main advantage |
Affordability. Term life insurance is the cheapest for those who are young and are expecting to outlive the coverage term. |
Tax advantage. This provides you with an investment vehicle where taxes will be charged on a deferred basis. This means that your funds will grow faster since you don’t have to deduct taxes from the principal investment amount. |
| Purpose |
This insurance is for those who want to provide their families with security that they will be provided for in the event of the breadwinner’s death. |
Combines life insurance with investment. This carries separate accounts for the insurance component and the cash value component – unlike whole life insurance product where insurance and investments are bundled in one. |
| Cash value |
For the standard term life insurance, there are no cash values to speak of. Term life insurance is straight protection. Once the policy terminates, you will receive nothing from the premiums you paid. |
Has a cash value component that is used for investments. This means that in the event of an Insured’s death, the beneficiaries will receive the death benefit plus the amount in the cash value. Cash value:
|
| Premiums |
Cheaper when one is younger. For the standard policy, the premiums remain level until such a time when the policy is to be reviewed and premiums are raised. If the policy is renewable, the premiums will be higher due to your age and health. |
Remain level but is more expensive than term. As cash values accumulate, you can eventually opt to use these to fund the premiums. |
| Amount of insurance |
|
The amount of insurance is flexible throughout the life of the policy, you have the option to increase the coverage amount. |
| Length of coverage |
The coverage is only until the policy period. Once it expires and you don’t renew the policy, the coverage is ended. |
Lifetime coverage. If your cash value is enough to fund the premiums, you won’t need to pay the regular premiums and the coverage will continue until the end of the policy term. |
Introducing a Hybrid: Universal Term Life Insurance
Life insurance products are designed in response to the various needs of the market. And sometimes, market needs give rise to hybrid products, making use of existing life insurance products to result in a new one. Such is the story of the Universal Term Life Insurance product – which is a combination of term life insurance and universal life insurance.
It uses term life insurance (and its low premiums) with the investment component of universal life insurance. It can be said that it is a variant of “Buy Term, Invest the difference”. It provides more flexibility and transparency so that the policy owner knows exactly what’s happening to his policy – it’s like having an insurance policy and savings account/investment account in one.
The term component provides coverage for a specific term and the policy may be renewable after that term has expired. What happens is that the premiums you pay first goes towards paying for the insurance cover. Then an amount is deducted for fees. The remaining premium is used to build up a cash value which is in turn invested and interest is earned for that cash value so that as you keep on paying premiums and earning interest, the cash value of your policy increases.
Universal Term Life Insurance Benefits
Here are some of the advantages of a universal term life policy:
Transparency: You know how much goes to your premiums, what you pay for fees and how much is invested. You also get regular reports to show you how much your cash value earns. This in contrast with other cash-value policies where it is difficult to determine just how well your account is doing by way of the interest earned.
Tax-deferred investments: Because of the presence of life insurance, you get to take advantage of deferred taxes on the investment component. This allows the money to grow faster. Be sure to check with the insurance company how they report taxes with regards to the policy.
Guaranteed level premiums: Depending on how the policy is set of, the policy can offer level premiums for a specific number of years (10, 15, 20 or 30 years). And the premiums are priced competitively so that these can compare (and even offer better premiums) than a plain term life insurance policy.
Flexibility: This type of policy allows for you to increase or decrease your death benefit, up to certain limits. The lower your death benefit, the faster your cash value can increase.
Universal life insurance is a variant of cash value life insurance. To know more about cash value life insurance and its variants and how these compare to term life insurance:
Updated on: 05.06.2013
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