When you first start thinking about insurance, the inevitable first decision is whether to buy term life or whole life or a combination of the two. The problem in this is making a mistake at the beginning can have serious effects on financial planning further down the line. So, let's start with a couple of definitions and then get serious about which to prefer and why. The standard term life policies are a legalized form of betting. If you die during the term, your dependents collect on the policy. But if you are still hale and healthy at the end of the term, you lose all the premiums you have paid. Permanent or whole life policies not only pay a guaranteed amount, but also include a "cash value". This is an investment element that increases the amount payable. The two are added together for payment to your dependents. Or you can withdraw some or all of the cash during your life (usually as a loan).

Because of the need to fund the investment element, the premiums on whole life policies are higher. The longer you pay into the investment account, the more significant the value as interest and dividends are added. This means the decision about whether to buy a whole life policy is always focussed on the amount the investment element pays back. Because the majority of insurers offer a guaranteed minimum return, their investment strategies are very conservative. They do not want to take risks with "your" money. So, if you go through a period of boom, the return on the investment is likely to be far less than you would get if you had direct investments. But if you go through a period of bust, you are likely to do better than the ordinary investor. In this, a significant advantage is the effect of inflation. What may start off expensive will slowly become more affordable as the years go by. Equally, the value of the investment will always slightly exceed inflation so you will keep the value of your investment.

When planning, look at how much you can afford now and what you are likely to need over the years. If the need for insurance is short-term, buy a term policy. If you have long-term commitments, whole life will be better. Now think about the amount your dependents might need should they lose your income. With your current income, it might only be possible to provide that guaranteed minimum on a term basis. Life insurance is not straightforward and it is always better to have independent advice on planning. A compromise can be to buy renewable or convertible term coverage. This gives you the option of upgrading to a whole life policy when you have the income available. Remember, life insurance is not a good investment in its own right. You should always be able to beat the returns produced by insurers if you manage your own investments. But there are tax advantages to holding insurance, even though you will pay commissions and fees for the management of the policies you hold. Getting the right balance is essential to protect your assets, get the best tax outcomes and protect your dependents.