Whole life insurance is the only type of life insurance containing the guarantee that it will be in force when you die, provided premiums are paid as required. Whole life insurance is permanent insurance designed to be in force for a long time. Whole life insurance policies are of two principal types:
- ordinary life insurance
- limited payment life insurance
ORDINARY LIFE INSURANCE
Ordinary life insurance is permanent life insurance designed so that premiums will be paid for your entire life. Although ordinary life insurance is typically issued with premiums that remain level for your lifetime, two other alternative ordinary life insurance products are available that offer different premium arrangements:
- modified premium whole life insurance
- graded premium whole life insurance
The defining characteristic of ordinary life insurance is that it generally provides permanent life insurance protection at the lowest total premium outlay over the life of the policy.
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Modified Premium Whole Life
Modified premium whole life is life insurance that features a lower premium that remains level for an initial period, usually the policy’s first five years, and then increases to its ultimate premium and remains at that level for the remaining life of the policy. The initial premium is lower than the premium for an otherwise identical level premium ordinary whole life policy, and the ultimate premium is higher. It is best suited if you are unable to afford the needed amount of level premium ordinary life insurance but expect to increase your income before the ultimate premium level becomes effective.
As in level premium whole life insurance, the policy’s guaranteed cash value is exactly equal to the face amount when you reach the applicable mortality table’s limiting age.
Graded Premium Whole Life
Graded premium whole life insurance is life insurance under which premiums increase annually until they reach a particular level, usually after 10 to 20 years, at which time they remain level for the remaining life of the policy. The initial premium is normally quite low and could approximate the premium for a comparable one-year term life insurance policy. During the early policy years, the policy might not build much cash value, because the premiums are so small. When the premiums increase in later years, the policy’s cash value can build rapidly.
This coverage was designed in case your current income is limited. For example, if you are just beginning your career and anticipate higher earnings in the future and you eventually want permanent life insurance coverage. Like other whole life insurance policies, the policy’s guaranteed cash value equals its face amount at the applicable mortality table’s limiting age.
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LIMITED PAYMENT LIFE INSURANCE
Limited payment life insurance is also whole life insurance. However, just because whole life insurance protection extends for your entire lifetime does not mean that premium payments must also extend for your entire lifetime.
In an ordinary life insurance policy, premiums are designed to be payable throughout your entire life. At the applicable mortality table’s limiting age, premiums cease, and the death benefit—now equal to the policy’s guaranteed cash value—is payable to your as an endowment. Although an ordinary life insurance policy with its level premiums for life generally results in the lowest long-term premium level over the life of the policy, you may want to stop premium payments at or before the end of your working career. Limited payment life insurance was designed with this in mind. Typical limited payment life insurance policies are issued with a 10-year, 20-year, or to-age-65 premium payment period.
The policy that offers the shortest period during which premiums for a limited payment life policy are payable is a single premium policy. As its name suggests, there is only one premium payment.
The higher premium payments made under limited payment life insurance policies result in higher cash values in these policies during the premium-payment period. However, like other whole life insurance policies, the guaranteed cash value of a limited payment life insurance policy is equal to the policy’s face amount at your age at which the applicable mortality table assumes all people have died.
Whole life insurance, regardless of whether it is continuous premium ordinary life or limited payment life insurance, offers significant guarantees. Those guarantees apply to both the policy’s death benefit and its cash values. In return for the guarantees, whole life insurance policies tend to be somewhat inflexible.
For example, in a whole life insurance policy:
- Billed premiums must be paid within the grace period or the policy will lapse.
- Death benefit increases generally require the issuing of a new policy.
- Death benefit reductions normally require a distribution of cash value.
- Cash values can be accessed only through a policy loan or surrender.
Additionally, the long-term nature of the guarantees in whole life insurance policies requires that its assumptions concerning interest earned, expenses incurred, and mortality experienced be conservative. This is because a life insurance policy could be in force for 60 or 70 years. Because we do not know what economic conditions to expect so many years in the future, the assumptions used must be incredibly conservative or the insurer might be unable to meet its promises.
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