What is a whole life policy, and how does it work?

Whole life insurance is, first and foremost, permanent life insurance protection that lasts your entire life; by contrast, term life insurance only covers you for a specific number of years. While there are other kinds of permanent coverage, whole life is the simplest. A whole life policy also has a “cash value” component – a life-long financial asset. Because life insurance protection is considered beneficial to society, it has been given tax benefits you won’t find with many other financial instruments.1

Every whole life contract is unique to the person insured, taking into account their mortality risk, desired coverage level, and optional features (for example, a cost-of-living adjustment rider).2 When you apply for a whole life policy, there’s an underwriting process in which you may undergo a medical exam. Then, based on your life expectancy, the insurer’s actuaries set four guaranteed values 3:

  • A guaranteed level premium: This is guaranteed never to change. As long as you keep paying premiums, the policy will stay in effect.
  • A guaranteed death benefit: The level of the death benefit (the amount paid to your beneficiaries) is guaranteed never to decrease.
  • A guaranteed cash value: A cash value that is guaranteed to grow at a set rate each year until it is equal to the face amount of the policy at a specified age, typically age 100 or 121.4
  • A guaranteed endowment: The death benefit is guaranteed to be paid if the insured is still living at the age specified in the contract, typically age 100 or 121.

A policy’s cash value can provide numerous benefits that you can use while you’re still alive. It can take time for it to grow into a useful amount, but once that happens, you can borrow money against your policy’s cash value, use it to pay premiums, or even surrender it for cash in retirement.5

Whole life policies can also earn dividends

If you purchase whole life from a mutual insurance company, such as Guardian, the cash value portion can also earn annual dividends 6 , which can increase your cash value beyond the guaranteed rate. While there’s no guarantee that dividends will be declared each year, Guardian has paid them every year since 1868, even during wars, pandemics, or stock market turbulence. Depending on your needs, you can opt to use your dividends in different ways.

One option is to purchase paid-up additions (PUAs).7 A PUA is guaranteed permanent, paid-up life insurance. This can provide you with a growing cash value and a death benefit that is guaranteed once purchased. Over time, the compounding accumulation of PUAs can help to offset the effects of inflation by providing a higher death benefit and cash value. Dividend accumulations can also be withdrawn tax-free, up to the policy basis (i.e., the sum of premiums paid to date). In addition to purchasing PUAs, Guardian offers policyholders these dividend options:

  • Receive in cash
  • Reduce premium
  • Purchase additional term insurance
  • Accumulate with interest
  • Apply to outstanding policy loans

Here’s how the death benefit of a whole life policy can grow with paid-up additional insurance purchased by dividends.

Protection from taxes

Life insurance contributes to the welfare of society by providing protection for surviving family members, so it is given the following tax benefits:

  • Income tax-free death benefits
  • A tax-deferred buildup of cash values inside the policy
  • The cash values of life insurance policy additions may generally be accessed on a tax-favored basis through withdrawals or policy loans

What are the different uses for whole life?

Whole life insurance gives families – and businesses – a way to protect themselves from the loss of a person whose economic contributions would be difficult or impossible to replace. It can also provide several other financial benefits.

Human life value protection

Most people see the importance of insuring the value of property, such as their home or car, so they purchase casualty insurance. The human life value 8 of an individual – one of the most valuable assets of a family or business – is also insurable. Whole life provides an effective way of permanently protecting a family or business against the loss of its most valuable asset.

Family protection

The death benefit of life insurance can help ensure the economic continuity of a family when it is faced with the death of a loved one, by helping provide funds that can be used for:

  • Payment of a mortgage
  • Education funding
  • Income needs
  • Time away from work to care for family needs

Business protection

Businesses looking to create a business continuity strategy in the event of the death of a partner or key employee have special insurance needs. Whole life can be used to help provide the capital needed to buy the interests of a deceased owner and indemnify the business against the loss of the services, expertise, and skills of a key person. Life insurance can help address four major areas of business strategies:

  • The funding of buy-sell agreements and stock redemption plans
  • The funding of supplemental retirement programs
  • Key person indemnification
  • Payment of loans and mortgages

Estate planning strategies

Planning for the orderly transfer of property at death can help to minimize taxes and provide for heirs in a way that reflects your desires. Whole life can play a vital role by offering:

  • Liquidity to pay estate and inheritance taxes
  • Assets to generate income for a surviving spouse and children
  • Estate equalization among heirs
  • Funding for special needs children

Asset utlization

One of the unique benefits of whole life insurance is the way that it can help enhance the value of other assets in your estate. It can enables the policy owner to use estate assets in ways that might not be possible otherwise. For example, it can be the "permission slip" that lets you utilize other aspects of your retirement income and personal net worth. It can give you the power to spend assets that may not otherwise be utilized.

A whole life policy may also serve as the basis for a charitable remainder trust. If you’ve built a successful business or investment portfolio, there can be capital gains taxes incurred when those are sold for retirement income. At the same time, you may want to support charitable causes that reflect your interests. With a charitable remainder trust, these two diverse needs can come together in a plan that may provide:

  • Lifetime income
  • A charity bequest 
  • Reduced capital gains tax 9
  •  income tax deductions

This can help make it possible to achieve your charitable goals while maintaining a legacy for your heirs.

What are the benefits of whole life insurance?

  • A permanent estate: Whole life insurance provides a guaranteed death benefit for the entire life of the insured. As soon as the first premium is paid, the entire death benefit is set aside for your family.
  • Tax-free death benefit: The death benefit of a life insurance policy is not generally subject to federal income taxes. 
  • Tax-deferred growth: The growth of cash value inside of whole life insurance is tax-deferred while the funds remain in the policy.
  • Tax-favorable access to policy cash values through withdrawals: During the insured’s life, cash values can be accessed under favorable First-In-First-Out (FIFO) tax rules. This means withdrawals to the extent of cost basis are considered a tax-free return of cost basis.
  • Tax-favorable access to loans for any reason: During the insured’s life, loans taken against a whole life policy are not considered to be a taxable event, even though the policy may have a large gain in excess of premiums paid.
  • Self-funding: The policy can pay for itself over time by applying dividends to pay premiums.
  • Disability protection: A whole life policy can continue to be funded even if you are disabled. When you elect the Waiver of Premium rider 10, if you suffer a qualifying disability, your policy will continue to provide death benefit protection, have cash value growth, and pay dividends even while you aren’t paying premiums.
  • Liability protection: In many states, the benefits of life insurance are protected from the claims of creditors. 11 

Distribution: If properly executed, life insurance helps avoid probate and can provide beneficiaries with greater privacy than may be afforded by a will; a will becomes public once probated, whereas death benefit distributions are typically private, contractually driven transactions.

  • The ability to pay loans back from anticipated earnings: Once a policy loan has been taken, the annual dividend can be used to help pay back the policy loan.
  • Collateral for bank loans: Whole life may be used as collateral to obtain a loan from a bank at favorable interest rates, giving you significant financial flexibility. 

Read more about the benefits of whole life insurance. 

What are the different types of whole life policies, and what do they cost?

Features, provisions, and costs vary from one insurer to the next, and each whole life contract is unique to the policyholder. Generally speaking, there are two basic types of payment structures for whole life:

  • Level premium whole life: This is the most common type of whole life insurance. Guardian’s level premium policies go to ages 95, 99, and 121, making it easier to provide affordable lifetime insurance coverage with the knowledge that your premium will not change.
  • Limited payment whole life: This type of policy has a fixed level premium like a level premium whole life policy, but the premium is only payable for a fixed period of time. The advantage is that they are guaranteed to be paid up at the end of the payment period, so no payment is required at later ages.

Riders to customize a policy to your needs – now and in the future

Riders are optional provisions that can add flexibility and extra value to a policy while letting you tailor your coverage to your needs. In addition to the Waiver of Premium rider mentioned above, some other options offered by Guardian include:

  • Paid-Up Additions Rider: The PUA rider can help increase the accumulation of tax-deferred cash values and death benefit. The higher the premium paid into the rider, the greater the protection afforded by the policy.7
  • Index Participation Feature (IPF) 12This innovative feature  allows policyholders to allocate between 0% and 100% of their cash value of paid-up additions to receive a dividend adjustment based on the movement of the S&P 500® Price Return Index, subject to a cap and a floor. It gives you a unique opportunity for index-linked upside potential – and the floor ensures that your year-to-year downside market exposure is limited.
  • Accidental Death Benefit: Provides an additional death benefit if death occurs by accidental bodily injury. 
  • Accelerated Benefit Rider: Allows you to accelerate the benefits of a whole life policy for chronic and terminal illnesses. This rider is available at no additional premium.
  • Guaranteed Insurability Option (GIO): Gives the policy owner the right to purchase additional insurance without evidence of insurability. The GIO can become even more valuable in the event of disability: An insured who is disabled and has their premium waived may exercise the GIO rider, and Guardian will pay the premium on the new policy

Now that you know how whole life works, how do you get a policy that works for you?

A whole life insurance policy is one of the most important financial purchases you can make. You want to consider getting it from a company with financial strength 13. There are reliable, independent sources for financial strength ratings, such as A.M. Best, Moody’s, Standard & Poor’s and Fitch. Discuss your situation with an insurance professional or financial professional who understands whole life insurance and can guide you to the solution that best meets your needs. If you don’t know such a professional, ask a friend or colleague for a recommendation. Or, Guardian can connect you to a financial representative who can help. 

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Frequently asked questions about how whole life insurance works

Can you cash out of a whole life insurance policy?

Yes. A whole life policy has cash value that grows over time. You can cash it out to help pay for retirement, or borrow against it at any time, for any reason.5

What is cash value in whole life insurance?

Whole life policies have a component referred to as the policy’s cash value: A portion of your premium dollars can grow over time on a tax-deferred basis, so you don’t pay taxes on the gains.

What are the pros and cons of whole life insurance?

Whole life insurance is the simplest form of permanent life insurance, with guarantees for the death benefit amount, premium costs, and cash value growth. Compared to universal life (another form of permanent coverage), whole life typically offers more guarantees but less payment flexibility. Compared to term life, whole life offers life-long coverage and cash value; but the cost for a given level of death benefit is typically higher.

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Disclaimer

Guardian The Whole Story of Whole Life Insurance Pub4085 (05/19) 2019-77738 (Exp. 05/21)

1 Guardian, its subsidiaries, agents and employees do not provide tax, legal, or accounting advice. Consult your tax, legal, or accounting professional regarding your individual situation.

2 Riders may incur an additional cost or premium. Riders may not be available in all states.

3 All whole life insurance policy guarantees are subject to the timely payment of all required premiums and the claims paying ability of the issuing insurance company. Policy loans and withdrawals affect the guarantees by reducing the policy’s death benefit and cash values.

4 Some whole life polices do not have cash values in the first two years of the policy and don’t pay a dividend until the policy’s third year. Talk to your financial representative and refer to your individual whole life policy illustration for more information.

5 Policy benefits are reduced by any outstanding loan or loan interest and/or withdrawals. Dividends, if any, are affected by policy loans and loan interest. Withdrawals above the cost basis may result in taxable ordinary income. If the policy lapses, or is surrendered, any outstanding loans considered gain in the policy may be subject to ordinary income taxes. If the policy is a Modified Endowment Contract (MEC), loans are treated like withdrawals, but as gain first, subject to ordinary income taxes. If the policy owner is under 59 ½, any taxable withdrawal may also be subject to a 10% federal tax penalty.

6 Dividends are not guaranteed. They are declared annually by Guardian’s Board of Directors.

7 Paid-up Additions (PUA) are purchases of additional insurance (death benefit) that have a cash value. These purchases are made with dividends and/or a rider that allows the policyholder to pay an additional premium over and above the base premium. This creates the growth of death benefit and cash values in a participating whole life policy. Adding large amounts of paid-up additions may create a Modified Endowment Contract (MEC). A MEC is a type of life insurance contract that is subject to last-in-first-out (LIFO) ordinary income tax treatment, similar to distributions from an annuity. The distribution may also be subject to a 10% federal tax penalty on the gain portion of the policy if the owner is under age 59 ½. The death benefit is generally income tax free.

8 The HLV Theory states that one should maintain life insurance equal to the present value of their expected future earnings. Life insurance companies place limits on life insurance available to consumers based upon this formula and have created age-based multiples of current income as a guideline. For example, a person in their 30s may be insured for around 30 times their annual income, 20 times for a person in their 40s and 10 times for people in their 50s. Age 60 and over about 1 times net worth.

9 Guardian, its subsidiaries, agents and employees do not provide tax, legal, or accounting advice. Consult your tax, legal, or accounting professional regarding your individual situation.

10 A Waiver of Premium rider waives the obligation for the policyholder to pay further premiums should he or she become totally disabled continuously for at least six months. This rider will incur an additional cost. See policy contract for additional details and requirements.

11 State creditor protection for life insurance policies varies by state. Contact your state’s insurance department or consult your legal advisor regarding your individual situation.

12 The Index Participation Feature (IPF) is a rider available with select Guardian participating whole life policies. With the IPF, policyholders can now allocate between 0% and 100% of the cash value of paid-up additions (PUA) to the IPF each year. The IPF provides an adjustment to the dividend paid under the policy. This adjustment, subject to the cap rate (currently 11%) and floor (currently 4%), may be positive or negative based on index performance. Adverse market performance can create negative dividend adjustments which may cause lower overall cash values than would otherwise have accrued had the IPF not been selected. While the adjustment provided by this rider is affected by an external index, it does not participate in any stock or equity investment of the external index. Rider Form Number: 15-IPR, 15-IPR MA.

The S&P 500 price return index is a product of S&P Dow Jones Indices LLC (“SPDJI”) and has been licensed for use by The Guardian Life Insurance Company of America (Guardian). Standard & Poor’s® and S&P® are registered trademarks of Standard & Poor’s Financial Services LLC (“S&P”); Dow Jones® is a registered trademark of Dow Jones Trademark Holdings LLC (“Dow Jones”); and these trademarks have been licensed for use by SPDJI and sublicensed for certain purposes by Guardian. The Index Participation Feature (“Product”) is not sponsored, endorsed, sold or promoted by SPDJI, Dow Jones, S&P, or their respective affiliates, and none of such parties make any representation regarding the advisability of investing in such Product nor do they have any liability for any errors, omissions, or interruptions of the S&P 500 price return index.  The cost of the IPF rider is currently 2% with a guaranteed rate of 3% on the IPF portion of the policy. Policy loans against, or withdrawals of, values allocated to the IPF could negatively impact rider performance. Selection of the IPF may restrict the use of certain dividend options.

13 Financial information concerning Guardian as of December 31, 2019, on a statutory basis: Admitted Assets = $62.2 Billion; Liabilities = $54.6 Billion (including $46.5 Billion of Reserves); and Surplus = $7.6 Billion.

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