Points to ponder on life-insurance policies

Q: I have always read that life-insurance policies should not be used as an investment vehicle, and that term life is best if you just want insurance, instead of investing in a "whole life" insurance policy. Recently, I was advised by a financial group that by buying and investing in a whole-life insurance policy, I can avoid paying taxes. What do you believe is the truth here?
J.H., via e-mail

A: The truth, according to Jane Ann Schiltz, vice president of marketing at Northwestern Mutual, is that the primary reason for buying life insurance should focus on the need for a death benefit. If there is no need for the death benefit, she thinks life insurance as a pure investment makes little sense.

If you decide you have a need for a death benefit, the next step is to determine which type of policy makes the most sense. There are two main flavors - term and permanent.

Term insurance is a pure death benefit and has no cash value except at death. Ms. Schiltz says term works best if a death benefit is needed only for a limited time. (Term policies often expire after 10 or 20 years.)

If your need for a death benefit is long-term, a permanent policy may be better.

Permanent insurance comes in many subvarieties, including whole-life insurance. It is also more complicated than a term policy.

Unlike term insurance, it will last as long as you pay the premiums, hence that "permanent" moniker. And it also can build up a cash value that can be tapped before you die.

Cash values on life insurance grow tax-deferred. This means that you pay no income taxes on the cash value of the policy as long as it stays in the policy. But if you surrender the policy, borrow from it, or take withdrawals, there may be taxes due depending on the contract.

A permanent life policy, including whole life, costs substantially more than term. But then, it has predeath value, can build up some investment profits, and has other advantages that term lacks.

Libraries and bookstores have plenty of books that explain the ins and outs of life insurance. And though they are creatures of the insurance industry, both the Insurance Information Institute (800-942-4242, www.iii.org) and American Council of Life Insurers (202-624-2000, www.acli.org) have some decent discussions on life policies.