By Alexandra Macqueen, CFP® • Published December 15, 2022 • 5 min read
Before you buy insurance it's important to understand what will be included in your coverage so that you are confident in what you are spending your money on and that it is exactly what you need.
When you’re considering life insurance, you’ll notice that there are two categories to choose from: permanent insurance or term insurance. If you’ve gotten a quote for both of these types of policies you’ll probably realize something else; permanent insurance tends to cost more. But why is that? And what does the higher cost get you?
Here’s a review of the differences between term and permanent life insurance and some questions to help you select the best one for you.
Life Insurance Basics
At the most basic level, life insurance provides protection from the financial impact of your premature death, which could knock your family’s financial future off-track.
The cost of life insurance, whether term or permanent, is based on factors unique to you, such as your age, gender, health status and your habits like certain sports, smoking and drinking.
One thing to note about life insurance is that not everybody is insurable. There are instances where something like a pre-existing condition may affect your eligibility to buy life insurance. There are guaranteed acceptance policies, however, that may offer a lower death benefit to those individuals at a bit of a higher premium.
The amount that’s paid out by the life insurance company should you pass away – the death benefit – can help ensure your loved ones will be able to meet financial goals such as:
Paying for final expenses like a funeral
Paying off a mortgage
Covering the costs of raising children
Putting aside funds for retirement.
Comparing Permanent and Term Insurance
The two forms of insurance operate quite differently. Here’s a review of the differences.
How long does your policy last?
Permanent life insurance provides coverage for as long as you’re alive, no matter your age or health status.
Because of this feature, sometimes parents or grandparents buy permanent insurance on a child, and then give the policy to the child once they turn 18. That way, the life insurance coverage is in place in case, as they grow up, the child develops an illness or health conditions that would make them uninsurable.
Term life insurance, on the other hand, covers you only for a specific period, or “term,” such as 10, 20 or 30 years. As you get older, term insurance may be more difficult to qualify for and more expensive to buy.
What do your premiums pay for?
With both a term and a permanent insurance policy you’re entering into a contract with an insurance company to pay the death benefit you’ve agreed on if you die while the insurance coverage is in force.
In addition to the guaranteed death benefit, some permanent insurance policies, such as Universal Life and Whole Life, include an investment component. This component – technically called the embedded cash value – grows without being taxed each year.
You can use the cash value as an emergency fund by withdrawing or borrowing against it before the person insured under the policy passes away. If you withdraw or borrow from the policy, there might be some income tax payable.
When the person who is insured under the policy passes away, the beneficiary of the policy will receive a lump sum death benefit that isn’t taxable.
Depending on how hands-on you want to be in managing the cash value in your life insurance policy, there are different options available – ranging from very hands-on with Universal Life insurance, or you can be hands-off and let the life insurance company manage the assets in your policy.
How long do you pay premiums for?
Permanent life insurance premiums can be paid every month or year, just like term insurance.
Universal Life policies can be structured to “overfund” the policy in the early years, to offset the cost of premiums in the later years.
Whole Life policies can be structured to become paid-up after 10 or 20 years, or once the person insured under the policy reaches age 100. (Once a policy is “paid up,” it remains in force even though no more premiums are being paid.)
With term life insurance, you pay premiums over the term of your policy.
If you don’t pass away during your initial policy term, in some cases, the premiums renew, increasing on an annual basis. You may choose to cancel your policy after the initial term, in which case no death benefit is paid out, and your insurance costs end.
How Do I Know Which Is Right For Me?
While both permanent and term life insurance will provide a payout when the person insured by the policy passes away, depending on your financial situation, plans, and goals, you might want the additional benefits permanent life insurance offers.
Here are some questions to consider:
Do you want to ensure you have life insurance coverage in place for as long as you live, for the security of a guaranteed death benefit?
Are you concerned that you may become uninsurable over time, and do you want to make sure you have life insurance coverage in place, no matter what?
Are you looking for an additional tax-deferred growth opportunity to build up your savings, beyond your Tax-Free Savings Account and your Registered Retirement Savings Plan?
Are you more interested in ensuring you have affordable life insurance coverage in place, versus a product that combines insurance and investing?
Do you think you will only require life insurance coverage for a defined period of time? For example, you might want to ensure you have funds available to pay the costs of your child or children’s post-secondary education, or to cover your remaining mortgage balance.
A licensed insurance advisor can help you develop a personalized plan that will ensure you make the right choice for you, that’s consistent with your overall goals.
This article is intended as general information only and is not to be relied upon as constituting legal, financial or other professional advice. A professional advisor should be consulted regarding your specific situation. Information presented is believed to be factual and up-to-date but we do not guarantee its accuracy and it should not be regarded as a complete analysis of the subjects discussed. All expressions of opinion reflect the judgment of the authors as of the date of publication and are subject to change. No endorsement of any third parties or their advice, opinions, information, products or services is expressly given or implied by Royal Bank of Canada or any of its affiliates.
Any amount that is allocated to a segregated fund is invested at the risk of the contract holder and may increase or decrease in value. RBC Guaranteed Investment Funds are individual variable annuity contracts and are referred to as segregated funds. RBC Life Insurance Company is the sole issuer and guarantor of the guarantee provisions contained in these contracts. The underlying mutual funds and portfolios available in these contracts are managed by RBC Global Asset Management Inc. When clients deposit money in an RBC Guaranteed Investment Funds contract, they are not buying units of the mutual fund or portfolio managed by RBC Global Asset Management Inc. and therefore do not possess any of the rights and privileges of the unitholders of such funds. Details of the applicable Contract are contained in the RBC GIF Information Folder and Contract at www.rbcinsurance.com/gif.