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Term Life Insurance vs Universal Life Insurance

Compare and contrast term life insurance to Universal life insurance, but before we do that let me provide an outline of the two different types of policies.

Term life insurance has premiums that are level for a timeperiod (the term) then increase. At a certain age the policy expires. It’s about the purest form of life insurance you can get. No cash values, no investments, no bells and whistles.

Universal life insurance is effectively term life insurance plus an investment side account strapped to the side. There are two basic types of term policies that form the base of universal life insurance policies in Canada – YRT and Level. YRT means yearly renewable term. This type of term insurance has premiums that go up every year. Universal life insurance with ‘level’ term costs means the insurance section of the policy has level life insurance premiums for life. Premiums are not set – you pay whatever premiums you choose. Any premiums above the cost of insurance go into the investments. You should read our other articles on Universal Life insurance that go into how all these things interact.

Nevertheless, perhaps the most important distinction is in the intent of the two types of life insurance. Term life insurance works best for insurance needs with a timeframe that has an end date – even if that end date is 20 or 30 years in the future. Conversely universal life insurance is intended to be permanent life insurance – insurance you keep until you pass no matter how old. Buying term when you need life insurance forever, or buying universal life insurance when you don’t expect to keep it forever, are both nonsensical things.

With that baseline understanding, here’s a table comparing and contrasting attributes of term life insurance vs universal life insurance.

AttributeTerm Life InsuranceUniversal Life Insurance
Duration10, 20 or 30 years.Lifetime.
Premium structureIncreases at the end of the term. Premiums are not defined, instead are variable.
Insurance cost structureThe insurance cost is the premium.The insurance costs can be increasing every year, or level for life. You do not have to pay premiums tied to the insurance cost directly.
GuaranteesPremiums and coverage both guaranteed.Typically premiums and investments not guaranteed.
Investments/cash valueNone, no option.Optional side investment. Any premiums paid above the insurance cost are invested in a tax sheltered environment.
UsesCoverage for a pre-defined number of years. Often used for family coverage.Coverage for lifetime. Often used in complex estate and tax planning situations.

Further explanation of those attributes:

  • Duration. Term insurance is effective for a predefined term – often 10, 20 or 30 years. Universal life would be intended to be kept for life.
  • Premium structure. Term insurance premiums are level for the initial term – the initial 10, 20 or 30 years. After that the premiums increase to the point of being unaffordable. Universal life insurance premiums are variable and have flexibility. It’s possible to pay premiums for life, or front load heavier premiums resulting in a fully paid up policy when you’re older – again, very flexible.
  • Insurance costs structure. This is only worth mentioning because it’s not what you’d expect with universal life insurance. With term insurance, the premiums are the cost structure (which is what you’d expect – you’re paying the insurance costs). With universal life insurance, the costs are distinct from the premiums. YRT cost structure in universal life has insurance costs that increase every year (so you either need to pay those high costs later, or get enough into the investments to pay those costs later) or level for life.
  • Guarantees. Term life insurance is typically fully guaranteed, both premiums and coverage. With Universal life the interactions between the insurance costs, your variable premiums, and the investment portions with non-guaranteed returns, that there is effectively very little about a universal life policy that is guaranteed.
  • Investments/Cash Value. Term life insurance covers strictly insurance. There are no investments or cash values or surrender value. You pay the premiums, you’re covered. You stop paying premiums coverage ends. Just like car insurance. Universal life insurance however has a discrete investment component that you can direct some of your premiums into. A huge benefit of universal life is that those investments are generally tax sheltered – which has a big impact on your long term investment growth. Therefore universal life is often used in tax and estate planning (and less so for life insurance coverage). If you are considering such a strategy you need to have a clear understandings of the investment and insurance risks.
  • Uses. Term insurance works for short term family needs, coverages for loans, and similiar needs that have an eventual end date. Universal life insurance is well suited for permanent lifetime insurance needs and advanced estate and tax planning strategies.

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