Term insurance provides a preset amount of cash if you die while the policy is in force. For example, a five-year $130,000 term policy pays off if you die within five years -- and that's it. If you live beyond the end of the term, you get nothing (except, of course, the continued joys and sorrows of life itself). With term insurance, you pay only for life insurance coverage. The policy does not develop reserves.
Term insurance is the cheapest form of coverage over a limited number of years, especially when you're young. It is particularly suitable for younger parents who want substantial insurance coverage at low cost. Since the risk of dying in your 20s, 30s or 40s is quite low, the cost of term insurance during these years is as reasonable as life insurance prices get. Also, if you need insurance for only a short time, say to qualify for a business loan, term is your best bet. However, the older you are, the more expensive term insurance premiums become compared to the payoff value of the policy. This, of course, is understandable, as the older you are, the greater the chance you will die during the policy term.
Term policies offered by different companies have all sorts of differences, some fairly significant. For example, some policies are automatically renewable at the end of the term without a medical examination, often for higher premiums, and some are not. Some have premiums set for a period of years, but others guarantee a premium rate for only the first year. After that, the rate can go up. Some can also be converted from a term to whole life or "universal" policy during the term, again without needing to requalify.
But remember, with term insurance you never lock in the right to maintain the policy no matter how old you become. If you want to ensure that insurance will continue in force for your entire life, term isn't for you. Permanent insurance.
Permanent insurance is much more expensive than term insurance. Why buy it? Because it can never be cancelled as long as you pay the premiums, and because it's also an investment.
With a permanent policy, your premium payments for the first few (or more than a few) years cover more than the insurance company's cost of your risk of death. The excess money goes into a reserve account, which is invested by the insurance company. Unless the company is disastrously managed, these investments yield returns in the form of interest or dividends. A proportion of these are passed along to you. You can add these returns to your policy reserves or borrow against them, after a set time. And if you decide to end the policy, you can cash it in for the "surrender value."
Returns that accumulate are not taxable, unless the money is actually distributed to you. Certain partial withdrawals can even be made without paying tax. By contrast, the interest on bank accounts is subject to tax in the year it is paid, even if left untouched in the account.
However, although permanent insurance policies do function as an investment, maximizing your investment return is not the purpose of insurance. If that's what you want, you'd probably do better to buy cheaper term insurance and put the money you save in other tax-deferred investments.
Here are more details on several types of permanent life insurance.