All life insurance policies can provide peace of mind by helping provide financially for dependents and an estate. Some permanent policies also build cash value that you can borrow against while you are living.
Choose a Policy That Accumulates Cash
When you buy life insurance you generally choose between term coverage and permanent coverage. Term insurance covers you for a set period and only pays a death benefit if you die during that term; it does not accumulate cash value and cannot be used as collateral for a loan.
Permanent insurance, including Whole Life Insurance and universal life, accumulates cash value that grows tax-deferred over time.
Types of permanent policies
Whole policies tend to be the most conservative in how cash builds and follow a company-determined formula for growth.
Universal life accumulates cash value based on current interest rates, which can increase returns when rates are higher.
Variable policies invest in subaccounts similar to mutual funds, so the policy's cash value will fluctuate with investment performance.
How to Borrow Cash
After your policy has built sufficient cash value you may be able to borrow against it; in many cases it can take a decade or more to accumulate enough value while preserving a death benefit.
If you borrow, you will pay interest on the loan. For example, interest is often minimal if your policy is a Whole Life Insurance (Ordinary Life), and loans are generally tax-free while the policy remains in force.
If you die before repaying the loan, the outstanding balance is typically deducted from the death benefit paid to your beneficiaries. Loans from universal or variable policies may also include an opportunity fee based on the difference between any guaranteed crediting rate and the current investment or crediting rate.
Consider the Pros and Cons
Borrowing from a life insurance policy is usually easy and can be relatively affordable compared with some other loan types. However, premiums for permanent coverage are higher than for term coverage.
Carefully track outstanding loans so you do not borrow more than the policy's cash value and unintentionally reduce or eliminate the death benefit for your beneficiaries. Also remember that policy loan amounts can be subject to creditor claims in certain situations.
To understand which policy and strategy best fits your needs, consider discussing options and implications with an insurance professional; you can also talk to an agent for personalized guidance.
Frequently Asked Questions
How long before a policy has borrowable cash value?
It often takes several years and commonly a decade or more for permanent policies to build meaningful cash value while keeping a death benefit intact.
Are loans from a life insurance policy taxable?
Policy loans are generally not treated as taxable income while the policy remains in force, but a surrendered or lapsed policy with an outstanding loan can create taxable gain.
Will borrowing reduce the death benefit?
Yes; any outstanding loan balance plus interest is usually deducted from the death benefit when the insured dies.
Can creditors access money borrowed from a life insurance policy?
Policy loans and the cash value may be subject to attachment by creditors depending on state law and how the policy is owned.