In sorting through all the elements of one’s financial life, life insurance is one of the more perplexing topics. The original intention of life insurance is to replace lost income: if the family’s breadwinner were to die suddenly, a life insurance payout would help the family stay soluble despite the loss of the steady paycheck. Thus, a nonworking spouse with no income does not need life insurance. And, after retirement, if company pension payments come with survivor benefits, there’s probably no need to continue paying life insurance premiums. The surviving spouse’s income is ensured regardless.

A term life insurance policy is designed to cover this basic need. For as long as the policy is active, the insured makes premium payments on a regular basis in exchange for a predetermined payout in the event of his or her death. To cancel the policy, simply stop making payments (and inform the insurance company); you’ll no longer be covered, and the premium payments you’ve been making to the insurance company over the preceding years — or decades — remain with the insurance company. There’s no reimbursement.

“Permanent life insurance” policies are another breed altogether. These policies — “whole life” and “universal life” being the most common varieties — also come with a death payout. However, they additionally hold cash value. With each premium payment, part goes toward paying for the pure death benefit. Part goes toward fees and overhead. And part goes into an investment account that belongs to the insured; this is referred to as the “cash value,” “fund value,” or “cash surrender value.” The cash value component will also accrue a return — a rate of interest — that is credited to the account each year.

A whole life policy is fairly straightforward. In most cases, the amount of the premium does not change over the life of the policy. Sometimes, premium payment periods are shortened to twenty years or even less, but in such cases the monthly premiums are much higher — they are squeezed into a shorter span of time. The cash value of a whole life policy can be used as collateral for a loan, and the insured can borrow from the insurance company against the cash value. Any amount that’s borrowed must be paid back with interest. And the cash value, with interest, builds up tax deferred.
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