Unlike term insurance, permanent insurance policies protect the policyholder for the duration of their life. There’s no expiry date and the premiums stay the same. It comes with a death benefit payable when the insured passes away. 

It’s important to determine what your insurance needs are prior to making a decision to purchase one over the other. A strong insurance advisor should be able to guide you to the correct decision. It all depends on the duration you need the insurance for, your need for a death benefit, your interest in tax-free investment options, and your ability to pay premiums. 

Permanent life insurance policies are unique in that they can be designed with premiums only payable for a limited time frame. They can also grow in tax-free interest or dividends. Within the permanent life insurance option, there are two primary types: Whole life insurance and Universal life insurance.

Whole life insurance covers the policyholder for their entire lifetime. It comes with a death benefit which can increase with paid-up additions. The Canadian market has a long relationship with whole life policies in which it’s considered stable and trustworthy.

Whole life policies contain an investment fund called a Par Fund. It’s structured quite conservatively, similar to a balanced fund. The fund invests into assets such as bonds, mortgages, real estate, alternative fixed income, and a small percentage in stocks. There’s very little volatility because the returns are smoothed, or amortized. You can expect a consistent rate of return which is appealing to risk-averse investors.

There are two ways whole life policies are issued, participating and non-participating. Although they have similar structures, there are some major differences. 

In participating policies, an annual dividend is paid. This is also known as a “current dividend scale”. These policies are offered by a number of different insurance companies in Canada such as SunLife, Canada Life, Manulife, and Equitable Life, to name a few. The dividend scale includes the mortality of all the other policies within the Whole Life block of business. It’s more common for people to live longer today, so companies haven’t had to pay claims that they originally anticipated. So, there’s a mortality gain element in the dividend scale.

Non-participating policies are offered by a few companies such as BMO Insurance and Manulife. These policies guarantee the cost of the insurance and each policy earns performance credits instead of policy dividends. Where a participating policy includes all changes to mortality in the block of business, a non-par policy is only based on the investment fund. 

When interest rates decrease, the dividend scale and performance credit declines. However, in both participating and non-participating policies, the gains and losses are amortized over time, smoothing. So, the policy rate lags behind the current market rates. With a whole life policy, you’re guaranteed a positive rate of return. 

For over 125 years, major insurance companies have declared whole life dividends, even through both world wars and the 2008 financial crisis. 

When the policyholder receives dividends paid, they have a few options. Often, they will use the dividends to buy “paid-up additions” (PUAs). PUAs are a form of insurance in addition to your regular coverage. They increase the growth of the policy and earn more dividends as more PUAs are purchased.

With a rising dividend scale, policies may be able to be placed in premium offset sooner than expected. This is due to the higher cash values and higher death benefits. On the other hand, a declining dividend scale causes lower cash values and death benefits. It can even delay the usability of premium offset.

The dividend scale lags behind the investment climate because of the smoothing of performance in the investment fund. When interest rates for bonds decline, the dividend scale also declines but far slower than the interest rates. Likewise when interest rates increase. Smoothing reduces volatility and sharp changes from short-term moves.

There are three options for premiums in a whole life insurance policy. The first is Basic Premium Only. The second is Basic Plus Term Option. This is the combination of basic and term option to allow the policyholder to buy more coverage. It’s essentially whole life and term that reduces over time. In this option, premiums must be paid for longer. The third option is Basic Plus Deposit Option. In this option, there’s an additional premium that allows the policy to be paid in full sooner. This results in higher policy values, despite the maximum deposit which ensures the policy stays tax-exempt.  

The cash value of a whole life policy combines guaranteed cash and excess cash which varies depending on the dividend scale. Policies can be designed to include a number of premiums paid over a set number of years. Once these years have passed, the policy can enter premium offset which means the policyowner doesn’t need to pay any more premiums. All future premiums get paid by the policy and PUAs get surrendered with all dividends to pay those future premiums.

There are three typical whole life policy cost structures. They could have a life-pay which means they’re paid for the duration of the holder’s lifespan. The other cost structures are the 10-pay and 20-pay which means the holder doesn’t have to pay anything for the insurance until 10 or 20 years have passed. The 10-pay and 20-pay have higher premiums and lower cash values in the beginning.  

Whole life policies can also be designed with either high early cash and death benefit values, or high long term cash and death benefit values. The crossover point when the high long term values exceed the early values is approximately in year 20. When your policy has a high early value, it provides better balance sheet management. By the policy’s 7th year or so, the cash value is the same as or exceeds the premiums paid. The high long term value policy is most suited to those who want to capitalize long-term values and don’t desire early cash values.

Designed in the 1990s, the universal life insurance plan offers immense flexibility and control for the policyholder. Every aspect of the policy, including investment options and policy fees, are identifiable. One strategy for using a universal policy is to only pay the cost of the insurance so the policy acts as a term-to-100 policy. This means there’s no cash value or increasing death benefit. Another strategy is for the policyholder to deposit premiums that exceed the cost of the insurance. The extra premiums can get invested in one of the policy’s investment options. In this case, the death benefit will be equal to the amount of the policy in addition to the investment, also called Face Plus.  

Income earned from universal policy investments is tax-free. However, if the excess premiums are invested in non-guaranteed funds, the policy can have negative rates of return. Policyholders can avoid negative rates of return by investing deposits in guaranteed interest rate accounts. Universal policies come with many investment options that vary by risk-tolerance. The policyholder can decide which options are best suited to their investing style.

There are two types of guaranteed insurance costs: level cost of insurance (LCOI) and yearly renewable term (YRT). With YRT, the early years of the policy have low costs of insurance. As life expectancy approaches, it increases sharply. The low insurance costs produce higher early cash value. In later years, the cash values or premiums will need to cover the inflated insurance costs.

Before committing to a policy, examine the expected rate of return. With universal life insurance, you can alter your premiums over the years as long as the cost of insurance is covered.