Life Insurance vs Pension – which is best for you?

August 19, 2015

It can be confusing when you begin to look at products like life insuranceannuities and pensions and what benefits they offer. Here we go through the different options available to you and what you need to do to make sure you get the best deal.

For more information, visit our life insurance page.

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The difference between a pension and an annuity

As a general definition, a pension is the money that you save throughout your working life to provide yourself with an income when you retire. An annuity is a different type of financial product which you can buy with your pension pot. An annuity basically guarantees that you'll get the income for as long as you live.

As they are very similar, it's not hard to see why there is often confusion between the two, and how life insurance can further confuse the situation.


 As well as the State Pension you are paid by the government when you reach a certain age and retire from employment, you may also have a private pension or a company pension -  a pot of money that has been invested on your behalf while you've been employed. 

 Your private or company pension is there to supplement the State Pension, and the rules on what you can do with your pension pot are always changing - but one of the many things you can still do with it is buy an annuity. 


 An annuity is a form of insurance that you pay for with your pension pot. You hand over all or some of your pension pot to an annuity provider and they will provide you with an income for as long as you live. The provider will use all it knows about you to calculate how much to pay you every month in exchange for your pension pot. In that respect it is very similar to life insurance, but uses your pension as the 'premium' it charges you and you get the pay out in the form of an income during your retirement. 

Life insurance vs pension - which is the best option for you?

History is littered with epic battles, normally fought between right and wrong, good versus evil, superheroes versus baddies, the puritanical versus the megalomaniacal, and so on and so forth.

Having said that certain facts need to be decided between two non-warring parties, who are not so indifferent in their values and morals as they represent different things on the surface and appeal to different sector of society. Like life insurance v pensions for example.

At first glance two seemingly closely-related personal policies which provide varying degrees of financial safety for people from all walks of life. Yet as we know with Thor and Loki, those born in similar environments often go very separate ways thereafter, offering followers’ comprehensively different outlooks.

Before we take a look at which would come out tops in a right royal ding-dong, we should first remind ourselves of the key differences between typical life insurance policies and pension plans, so as to get a fuller picture.

Essentially a life insurance policy affords the policyholder’s family a financially secure future for the most part, ensuring that dependents are not left wanting for anything fiscally-speaking in the aftermath of the insured party’s death. Split into the three types, life insurance packages cater for all comers and all passages of time, short, medium or long term, with the latter – namely whole life insurance – enduring as long as the lifetime of the policyholder in theory.

Alternatively a pension plan is something which is more often than not provided by the company of which you are an employee; or if not, sourced independently, tailored to service your own individual needs and long-term circumstances. With regards the former the individual, as well as their employer, can pay into a pension plan, as much and as regular as they like. When you retire you get the option of releasing the accrued funds in one lump sum, or instead opt for monthly repayments.

Round one goes to life insurance policies

So now that we’ve established the basics, the question remains as to just which is the best for you? It’s really a case of horses for courses, in as much as what might work best for one person might not for another. With this in mind it’s in everyone’s best interests to look at the pros and cons of both life insurance and pension plans and then arrive at your own conclusion.

Taking life insurance first – and pondering the pros – and peace of mind must come somewhere near the top of anyone’s wish list. Peace of mind that is for those you leave behind when the time comes, knowing that you’ve been responsible and forward-thinking enough to not only cover the costs of your own funeral and any outstanding debts you might have had but also enough funds to ensure that your nearest and dearest remain financially buoyant thereafter.

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This money will not be contested like traditional last wills and testaments of the deceased normally are, instead paying out to the policyholder’s survivors swiftly after the event in the pre-determined form of monthly repayments of one lump sum.

It’s fairly straightforward to set-up with a life insurance provider as there’s no approval process, credit check or income validation (like personal loans and mortgages) as essentially the would-be policyholder is borrowing against their own assets (i.e, themselves staying alive).

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Cons of life insurance policies are at first glance a bit more fact heavy. For a start premiums can be expensive if the would-be policyholder suffers from bad health or is perhaps considered as ‘high risk’ by the insurance provider for other reasons, such as the proposer’s particularly dangerous hobby (base-jumping, canonying etc... would probably result in increased premiums for fear of the insurer having to pay out quicker than they’d imagined). The policyholder could, effectively, outlive the term of their life insurance policy, if for example they took it out over a shorter termed pre-defined period (term insurance products, namely, whereby your life is covered for a specified term, say 30 years), which means nobody will financially benefit in that instance. Save for the insurer of course, whose pockets you’ve lined as part of this calculated risk.

Then there’s the cost of signing up to a life insurance policy in the first place. Depending on which one you plump for, obviously. If the more popular whole of life package gets the nod (which makes sense in the longer run), the policyholder would have to stump up more from day one than the equivalent term insurance policyholder.

For argument’s sake let’s say this whole of life had bagged £200,000 pounds worth of cover, this would cost them roughly £70 per month in premium payments; compared to the substantially less £12 a month premiums demanded of the term insurance policyholder who’d rubber stamped a 30-year term insurance deal. And think about this: you could, realistically, be paying for a whole of life insurance package whilst also contributing (or solely ploughing your own money into) a dedicated pension plan simultaneously.

That said, some life insurance policies promote limited payment terms, so once you reach a certain age the payments stop. And then there’s the more obvious con. Or rather rudimentary issue underpinning going down the life insurance policy route or not. You see, there’s no real need to go with a life insurance package – and therein insure against your own death - if you have no dependents to speak of who will subsequently inherit the funds, in which case a pension plan makes more sense as this benefits the individual who arranges it and the individual alone from the outset.

Pension plans sock it to life insurance policy opponent

So moving on to the above-mentioned pension plan, let’s familiarise ourselves with how and who this benefits most. By far the largest plus point is the underlying fact that you’ll get out of a pension what you put in, in terms of money.

Referred to as ‘compound profits’, this is the added interest as such that will accrue over a period of time as your pension fund accumulates. Multiply this annually over an estimated average working life and you’ll quickly see how much you could save for a rainy day. Or rather a retirement day. This reinvestment of profits is duplicated many times over during an extended passage of time, bearing in mind that an individual’s working life could be anywhere in the region of 30 – 40 years or more.

In addition to this little bonus your pension pot will ordinarily receive a tax relief status, with direct reference to your contributions. As a general rule of thumb this equates to those employed in the public sector/in receipt of an occupational pension having these deductions made from gross salaries over the course of the year, resulting in individuals avoiding income tax on said monies, whilst those debiting a personal pension plan can claim the tax relief back from the government as the money is classed as net (post-tax) salary.


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This fiscal fillip really makes a significant difference over time.

Then there’s the guaranteed income angle to not lose sight of. Once you reach the end of your working days pension-holders have the opportunity to purchase what’s called an annuity, which ostensibly affords them a steady income source (weekly or monthly) as they face up to the next chapter in their (newly-retired) lives. Meanwhile there is employer matched contributions, which sees many paymasters matching an individual’s pension contributions (up to a certain level) as part and parcel of a pre-agreed salary package, and in essence doubles your pension pot.

Turning our attentions towards the widely flagged up cons of pension plans (when comparing them to life insurance policies in particular) and the word ‘access’ regularly springs up. Or more pertinently, the lack of access to funds. Pensions are – by their very definition – put under lock and key until such time as the contributor or sole provider acknowledges a certain vintage; historically 55 years of age or older. Now while this puts a rod in a pickle for anyone who might be sorely tempted to dip in or out of a pension stash for the odd treat here or there (and thus quickly reduce the total sum at the end of the day), it presents something of a double-edged sword in as much as you are denied equal access should you wish to plunder your bounty in emergency situations.

Pension plans on the ropes as life insurance raises its game

Another potential downside to giving pension plans the benefit over any lingering life insurance doubts is that they are inextricably linked to investment risks. The performances of stocks and shares play a huge part in the way pensions shape up over the intervening years, as pensions largely contribute to the latter’s upkeep, so an element of risk is never really that far away. On a more positive note though the majority of pension funds follow the ‘life-styling’ investment protocol, which effectively transfers monies from high to low risk areas the closer an individual gets to retirement age.

The reality is that governance of your pension is out of your control for some parts if employer-bound, whereas those who opt for personal pensions can normally specify the level of risk they wish to take during the pension’s full lifecycle.

Another element to bear in mind is the cost of annuity. Despite it guaranteeing an income throughout retirement there’s often a price to pay for this; as in theory you could live well beyond the pension fund. The price you pay (more so if you elect to ring fence a partner or dependant in with you) is clearly up to the individual life insurance policy provider you decide to go with.

Another eventuality worth considering is that the pension fund which you’ve been constructing all your working life disappears the moment you’ve bought an annuity; so even if you were to die a mere 6 months into drawing your pension, the funds will thereafter cease to exist.

Finally, and still on the topic of annuity, you usually opt to have you monthly payments tracked to inflation (or not) once your annuity plan is triggered. However monthly payments will be lower, yet conversely remain at a similar value in what’s known as real terms as your retirement pans out. With this in mind, it’s probably wiser to sign-up for a tracker pension (which is geared up more towards people living longer and/or compensating for inflation peaks and troughs along the retirement journey), which ultimately means you’ll be protecting against the risk of the decreasing value of your then income.

So there you have it. Not the all-out battle you might have thought it would be from the start, instead a simple clarification of what’s what and why some of you may prefer the cut of a typical life insurance policies’ jib, whilst others would court the pension plan route to all but ensure retirement rest and relaxation; and the sort which won’t end up breaking the bank here and now nor too taxing in the longer run. The choice as they say, is all yours...

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