What whole life insurance covers

The face amount is paid to the beneficiaries whenever death occurs, provided the policy is in force, after any outstanding loan and interest are subtracted. With paid-up additions from dividends the benefit grows above the face amount; with an unpaid loan it shrinks. Because the benefit is permanent, whole life is used where a benefit must exist at an unknown date: to pay estate tax so heirs do not sell the ranch, to fund a buy-sell agreement between business partners, to leave a set amount to a charity or an heir, or to provide for a dependant with a lifelong disability.

Cash value is the policy's savings component, growing at a rate the contract sets and on a schedule the contract prints, tax-deferred. It can be borrowed against at an interest rate the contract states, with no credit check and no fixed repayment, or withdrawn up to the premiums paid without tax. A loan reduces the death benefit until repaid and, on some policies, reduces the dividend on the borrowed portion. Early cash value is small, because the first years' premiums fund the carrier's costs, and a policy surrendered in its first decade usually returns less than was paid in.

On a participating policy the annual dividend depends on the carrier's actual experience, and the scale used in the illustration is the carrier's current rate, which it can lower. Using dividends to buy paid-up additions is the choice that compounds: each addition is a fully paid slice of insurance with its own cash value, and over a long period the additions can exceed the original face amount. Taking dividends in cash or against the premium keeps the cost down but leaves the policy where it started.

A policy that is stopped does not simply vanish. Nonforfeiture options in the contract let the owner take the cash surrender value, use it to buy a smaller fully paid-up policy for life, or use it to buy extended term coverage for the full face amount for as long as the value will carry it. Most whole life contracts have no separate surrender charge; the low early cash values do the same work. Surrendering for more than the premiums paid produces taxable gain.

Small whole life policies, sold as final expense or burial insurance, are written on simplified or guaranteed issue underwriting for older applicants, with a modest face amount and a graded benefit that pays only premiums plus interest if death occurs from illness in the first years. They are expensive per dollar of benefit and serve people who cannot qualify for anything else; for someone in reasonable health, an ordinary underwritten policy costs less for the same amount.