What Is Whole Life Insurance – And Do I Need It?

Whole life insurance is a type of life insurance policy that will pay out no matter when you die so that your dependants, or ‘beneficiaries’, are guaranteed to receive a lump sum pay out.

This differs from term life insurance which will only pay out if you die within a specified period of time – the ‘term’.

Whole life plans are not intended to provide funds to settle debts and pay living expenses, although they may do so if the policyholder dies at a young age. Rather, they are a long-term financial planning tool. Term insurance, and its variants, are better suited to providing emergency funds after an unexpected premature death.

How does whole life insurance work?

If you decide to take out whole life insurance, you’ll choose what level of cover you want and then pay your insurer monthly or annual premiums. When you pass away, providing you’ve kept up with your premiums, your dependants can claim on the policy and receive a lump sum pay out.

Usually you will need to pay premiums for the rest of your life, but there are some types of whole life cover (such as over-50s policies) that allow you to stop paying once you reach a certain age while maintaining your cover until you die, whenever that may be.

What are the types of whole life insurance?

Most whole life insurance plans are linked to an investment fund and are known as investment-linked or unit-linked life policies. With this type of plan, part of your premium will be used to buy the core insurance cover and the remainder will be invested in the hope the returns generated will be high enough to deliver the targeted pay-out.

There are two main options for this type of plan, as follows:

Balanced cover

Also known as standard cover, balanced cover offers guaranteed premiums, which means your insurer sets a premium that remains the same throughout the policy, even as you get older and no matter what your health or longevity. A larger proportion of your premium will go towards buying the policy rather than being invested which means you are likely to get a smaller pay out than you would with maximum cover.

Maximum cover

This type of cover often starts off cheaper, but premiums rise over time. Your insurer will regularly review your premiums and may decide to increase the amount you pay for cover or reduce the size of the pay out, depending on how well the investments are performing. Because more of your money is invested, your final pay out is likely to be larger than for balanced cover.

Who is whole life insurance for?

Life insurance is important if you have children or other dependants who rely on you financially. If you want to ensure your loved ones would receive a guaranteed pay out no matter when you die, whole life cover might be for you.

It can also be worth considering if you are concerned about Inheritance Tax (IHT). If your estate is worth more than £325,000, IHT is charged at 40% of the value of the estate above that threshold. This will need to be paid before your loved ones can access the estate which can result in them having to stump up thousands of pounds in one go. The pay out from a whole life insurance policy written ‘in trust’ can help cover this IHT bill.  

When a policy is written ‘in trust’ the proceeds are excluded from you estate and pass intact to your beneficiaries straight away. Your insurance provider can arrange having the policy structured in this way, and it should require nothing more than a signature on your part.

If you only want life cover in place until. for example, your children are old enough to be financially independent, you might prefer to choose term insurance and only have cover up until a date that suits you.

How much does whole life insurance cost?

Whole life insurance is generally more expensive than term insurance simply because it guarantees a payment no matter when you die. With a term insurance policy, if you survive to the end of the term, the policy expires and has no value, and you receive nothing.

The amount you pay for your whole life policy will also depend on factors such as:

• your age
• your health
• whether you smoke
• the amount of cover you require.

Can I cash in my whole life insurance policy early?

In some cases you may be able to cash in your whole-of-life policy early. However, the level of pay out you receive, known as the ‘surrender value’, may be significantly less than the amount you’ve paid out in premiums, so it’s important to think about this option carefully. You may also be charged a fee on top.

What are the alternatives to whole-of-life insurance?

One of the main alternatives to whole-of-life cover is term life insurance which, as mentioned earlier, pays out if you die within a set term.

You can choose from:

• level term insurance: where the amount of cover and your premiums stay the same for the length of the policy
• decreasing term insurance: where the amount of cover falls in line with an outstanding debt such as a mortgage and is therefore a cheaper option
• increasing term insurance: where the level of cover increases over time to protect your policy’s value against inflation. Note that your premiums will also rise over time

Another option is family income benefit which pays out a monthly tax-free income to your family if you die within the term of the policy, rather than a lump sum. This can be a more manageable and more affordable option if you’re concerned about the cost of life insurance. You can read more about family income benefit in our guide.