The case for combining term and perm

By Shelly Gigante
Shelly Gigante specializes in personal finance issues. Her work has appeared in a variety of publications and news websites.
Posted on Jan 9, 2018

That term life insurance policy you purchased in your late 20s was a good first step toward insulating your family from financial uncertainty, but three kids, two jobs and one big mortgage loan later, it may no longer provide the type or amount of coverage you need.

Indeed, life insurance is rarely “a set it and forget it” solution. At every life stage, financial professionals suggest reviewing your policy to determine whether more or less coverage may be appropriate.

As your needs and financial goals mature, they suggest multiple policies — specifically a combination of policy types such as term or whole life insurance – may be necessary to provide the maximum protection for your loved ones at the most affordable price.

“When you bought your term life policy, you were in one place, but you may now have more money or have bought a beach house, or started living better and you want to protect that,” said Peter Glassman, in an interview, the founder and chief advisor of Arx Wealth Management in Vienna, Virginia.“If you are five years into a 20-year term policy, you may need to reevaluate. Life insurance is not a static, one-time decision.”

Understanding term life insurance

As you assess your coverage needs, it is important to understand the two basic types of life insurance — term and permanent — and how they can potentially work in tandem to help you meet your goals.

A term life insurance policy, for example, provides coverage for a limited period of time, such as 10 or 20 years. If you die while the policy is still in force, your beneficiaries would collect a death benefit as long as you were current with premium payments. If you outlive the term and doesn't continue the policy (at typically much higher premiums), no death benefit is paid out.

Term life policies have no cash value component and, because the coverage is only temporary, the premiums are typically far lower than the same amount of coverage would be for a permanent life insurance policy.

A 20-year, $500,000 term life policy for a 35-year-old non-smoker in standard health, for example, can cost about $339 per year, according to online insurance marketplace Quotacy, while that same non-smoking male might pay roughly $6,800 per year for the same coverage amount under a permanent whole life policy.

Why so much higher? Because permanent life insurance, as the name implies, provides coverage for life. If you kept up with your required premium payments, your beneficiaries would be guaranteed to receive the payout, or benefit, whenever you die rather than just for the period of time covered by a term policy.

Permanent life insurance policies, including whole, universal, and variable life, generally include some type of cash value component. Depending on the type of policy you select, a certain increase in your cash value can be guaranteed.

Some permanent life policies also offer the potential for dividends, which could increase the policyowners’ cash value and size of their future death benefit.

While the primary purpose of permanent life insurance is to provide a death benefit to your heirs, the cash value you accumulate can also potentially be borrowed against (tax free during your lifetime) for any reason, such as to pay for an emergency expense, to help cover college expenses, or to supplement retirement income.

Of course, access to cash values through borrowing or partial surrenders will reduce the policy’s cash value and death benefit. It also increases the chance the policy may lapse and could result in a tax liability if the policy terminates before the death of the insured.

Mixing term and permanent life insurance

Term and permanent life insurance, however, are not mutually exclusive. Many policyowners have one (or more) of each, depending on their financial needs. Some may also own multiple term and/or whole life, policies, as appropriate.

“Most individuals cannot afford all the coverage they need in permanent insurance,” said Paul Tokarz, a financial advisor and partner with Hoopis Group in Chicago. “By having a hybrid of products, it allows them to have the benefits of some permanent insurance, while ultimately protecting their family with the correct amount of overall death benefit by adding cheaper term insurance.”

There are no restrictions on how many life insurance policies you may own, and policyowners may purchase from the same insurance company, or several different ones.

For many policyowners, coverage needs peak during their 30s and 40s, when a sudden loss of their income might impact their family’s ability to maintain their standard of living the most.

Young families, for example, may require from $500,000 to $1 million or more in coverage to provide for their children’s education, pay off the mortgage, and supplement their surviving spouse’s living expenses in the event they should die prematurely.

Such coverage amounts may be unaffordable under a permanent policy, however, so the primary wage-earner may instead opt for a less expensive term life policy with a larger death benefit until their youngest child, for example, is out of college. (Need advice? Contact us)

As your income climbs, you have children, or you buy a house, it may also make sense to build a life insurance ladder, said Glassman, whereby you purchase additional 10- or 20-year policies to supplement your original term life policy during the years when your financial obligations are greatest.

During their working years, many also take advantage of group life insurance coverage that may be available for free, or at discount rates, through their employer. In a 2015 report, industry research group LIMRA found that seven in 10 (more than 90 million) U.S. workers have life insurance available to them through their employer, and 80 percent participate. Also, half of U.S. workers have additional or supplemental life insurance benefits available to them through their employer and roughly 50 percent take advantage of it. 1

Yet, such coverage is often not enough. The Bureau of Labor Statistics found that private sector employees who participated in life insurance plans with flat-dollar amount formulas through their employer received a median benefit of $20,000. 2

It bears noting that those benefits generally disappear when the employee leaves their job, which puts them in the position of potentially having to purchase individual life insurance on their own years down the road, when premiums would likely be higher due to age and/or declining health.

As such, many working Americans with group life insurance benefits purchase a supplemental term life policy on the side to augment their employee benefit, lock in the lower premium, and provide for their families regardless of their future employment status.

Should I add permanent life insurance?

Those who wish to leave a financial legacy for the next generation, minimize the tax hit to their heirs, or build cash value that can potentially be borrowed against to meet other financial goals may separately purchase a whole life, or another kind of permanent life policy to provide guaranteed protection for life.

“You need to understand how permanent life insurance works in concert with everything else, including your investments and savings,” said Glassman. “You may be 30 years old today, thinking you only need insurance for a certain number of years, but you’re not yet thinking about what you’re going to want when you’re 60. That thinking is going to evolve.”

As with term insurance, premiums for permanent life policies get higher with age.

According to Tokarz, permanent life insurance is well-suited to those who desire a guaranteed death benefit, seek tax efficiency, and plan to leave a financial legacy either to their kids and grandkids or to charity.

Indeed, the death benefit from a life insurance policy is generally paid out income tax free. Most retirement plan proceeds, by contrast, are taxed when taken by beneficiaries. There are, however, certain instances where federal and state estate taxes become a factor for wealthy policyowners. Many people with those types of tax concerns opt to talk with a financial professional.

Survivorship life insurance policies, also called second-to-die policies, are also sometimes used as an estate planning tool by wealthy couples to reduce the tax burden on their heirs. Such policies, which can be whole life, universal life, or variable life insurance policies, pay a death benefit to the beneficiaries only after both policyowners have passed away. It’s money that can be used to cover any taxes or settlement costs due on their estate.

Survivorship policies could also make sense for those with smaller estates if one spouse has a medical condition that makes it cost prohibitive to purchase separate policies.

Others, who seek flexibility as their income and financial needs change, opt for a “convertible” term life policy, which allows them to convert to a permanent life policy during a specified period of time without having to show proof of good health.

“What most of our clients want out of life are options,” said Tokarz. “If they want to help their kids, or leave money for a cause they really care about, they can either take money from their investment portfolio or from life insurance. But if they don’t have life insurance, they don’t have that option.”

Keep in mind, one’s need for life insurance can potentially also decline as their children become financially independent and/or their financial resources climb. Those with savings sufficient to provide for their family if they should die prematurely may not require coverage at all.

Tokarz said he works with clients at every life stage to make sure they do not pay for more life insurance coverage than they need. “Most individuals should have from 3 percent to 10 percent of their income in whole life insurance,” he opined.

Life insurance products come in many shapes and sizes. Depending on your financial resources and goals, multiple policies — and even a combination of types — may be required to provide the protection you seek at a price you can afford.

“Every plan evolves with kids, kids post college, expenses, mortgages, etcetera,” said Tokarz. “As those items change over time, your need for certain life insurance could also change.”

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1 LIMRA, “Facts from LIMRA: Life Insurance Awareness Month, September 2015.”

2 Bureau of Labor Statistics, “Table 21. Life insurance plans: Flat-dollar amount benefit formulas, private industry workers, March 2016.”

The information provided is not written or intended as specific tax or legal advice. MassMutual, its employees and representatives are not authorized to give tax or legal advice. You are encouraged to seek advice from your own tax or legal counsel. Opinions expressed by those interviewed are their own, and do not necessarily represent the views of MassMutual.