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Borrowing against life insurance: How it works

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You may be able to benefit from your life insurance policy while you’re still alive. If you own a permanent life insurance policy, it will accrue a cash value over time. This makes borrowing against life insurance possible.

Permanent Life Insurance vs Term Life Insurance

Before you can borrow against your life insurance, make sure you have the right type of policy.

There are many types of life insurance policies, but they typically fall into two broad categories: term and permanent.

  • Term life insurance policies cover a predetermined period of time. After the term ends, the policy no longer provides coverage. For example, a term life insurance policy with a 20-year term will cover you for 20 years. If you die during that time, your beneficiary will receive a payout, as per the terms of the policy. If you die after the 20-year period has lapsed, no benefit will be available. These policies do not accrue a cash value – their sole purpose is to provide a death benefit if the insured dies during the coverage period.
  • Permanent life insurance does not have an expiration date. Policies stay in force as long as the policyholder keeps paying the premiums. These policies can also accrue a cash value policyholders can access during their lifetimes. Like term life insurance, permanent life insurance provides a death benefit. Although these policies tend to be more expensive than term life insurance policies, they are also more versatile.

If you want to borrow from your life insurance policy, you need a permanent life insurance policy with a cash value component. However, since there’s more than one type of permanent life insurance, you’ll need to consider your options carefully before taking out a policy.

Whole vs Universal Life Insurance

Once you’ve decided you want to buy a permanent life insurance policy that accrues a cash value and makes life insurance policy loans possible, you need to decide on the best type of permanent life insurance policy for your needs. The two main options to consider are whole life insurance and universal life insurance.

  • Whole life insurance provides stability. These policies come with fixed premiums and guaranteed cash value accumulation. This results in regular and predictable costs and coverage. The cash value typically grows at a fixed interest rate. Whole life insurance policies sometimes pay dividends, although this is not a guarantee.
  • Universal life insurance provides flexibility. If you have a universal policy, you may be able to adjust the premiums and death benefit as your financial needs change. If the cash value is large enough, you may even be able to skip your premium payment or increase the death benefit. The cash value accrues interest – the amount of growth is subject to the market.

Life Insurance Policy Loans

You won’t be able to borrow money against your life insurance policy immediately. If you buy a permanent life insurance policy, it will build a cash value over time. Once it has a cash value, borrowing against your life insurance policy becomes possible, as per the terms and conditions of the policy.

How long this will take depends on a few factors. Some policies only take a couple of years to build a cash value, but other policies take a few years or even longer. Since universal life insurance policies have a variable interest rate, the amount of time required to build a sufficient cash value can vary, depending on market conditions. Since whole life insurance policies accrue interest at a fixed rate, the amount of time required to build a sufficient cash value is more predictable. If you are interested in borrowing against your life insurance, you should consider the amount of time it will take to build a cash value when comparing your life insurance options.

You can use your life insurance loan for any purpose and will not typically have to pay income taxes on the loan. However, you will be charged interest on the amount you borrow.

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How much can you borrow from life insurance?

How much you can borrow will depend on the amount of cash value your policy has. You will be unable to borrow more than the current cash value. The life insurance company will probably set a maximum amount for life insurance loans as a percentage of the cash value.

For example, let’s say your life insurance company allows you to borrow up to 90 percent of the cash value – this is fairly typical. If your policy currently has a cash value of $10,000, you can borrow up to $9,000.

Paying Back a Life Insurance Loan

When you take out a loan, you normally need to repay it. Life insurance loans are a little more complicated. Although it’s possible to take out a life insurance policy loan and not repay it, this strategy could put your coverage in jeopardy.

For example, let’s say you don’t repay the loan amount or the interest that accrues on your loan. Eventually, the loan amount and the accrued interest exceed your policy’s cash value. Your policy lapses and you no longer have coverage. Your beneficiaries will not receive the death benefit.

Another possibility is a policyholder could die before being able to pay back the loan. When this happens, the unpaid loan may reduce the death benefit. There can also be tax consequences when you don’t repay your loan. It’s important to consider these possibilities when deciding whether you want to borrow against your life policy.

Other Options for Accessing Your Policy’s Value

Taking out a life insurance policy loan is just one way to tap the cash value of your permanent life insurance policy during your lifetime. For instance, you can:

  • Withdraw money from your cash value life insurance policy. When you withdraw money, you are not expected to repay anything. However, you will be unable to withdraw more than you have paid into your policy through premiums over the years. Additionally, your withdrawal may impact the death benefit.
  • Cancel your life insurance policy. This is often called surrendering your life insurance policy. If you cancel your cash value life insurance policy, you can receive the cash value. However, since you’ve canceled your policy, you won’t have coverage anymore and your beneficiaries will not receive a death benefit. You may be charged a surrender fee, which will be deducted from the cash value you receive. Surrender charges can be quite high, so be sure to check this and ask if the surrender fee can be waived before cancelling your policy.
  • Sell your policy. If you can find an investor who wants to buy your life insurance policy, you may be able to sell it for more than the surrender value.
  • Skip or reduce payments. If you still want life insurance but money is tight and you can’t afford the premiums, you may be able to skip or reduce your premiums while maintaining the policy. With universal life insurance, it’s often possible to adjust the premiums, although this may impact the death benefit. You may then be able to use the cash value to cover your premiums. With whole life insurance, you may be able to use the dividends you receive to pay for your premiums.

Which type of life insurance is right for you?

Life insurance can be a smart investment, but the type of policy you buy will determine what you can do with your policy. Borrowing against life insurance may make sense for you, but another option may better suit your needs. A licensed insurance agent can help you review your options before you buy a policy. Your agent can also help you decide on the best way to leverage your policy’s cash value. Learn more.


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