How To Obtain Money From A Life Insurance Policy
There are six alternatives for obtaining cash now from a life insurance policy which are listed here in no particular order:
Cash Value Loans
- Permanent life insurance policies have a "cash value" feature which is like a savings account. A part of your premium goes to pay for pure life insurance and another part goes into savings.
- You can borrow against the cash value for any reason, with no questions asked, whenever you want.
- Cash value loans usually have a low rate of interest which is spelled out in the policy.
- Generally it is your choice whether to pay all or part of the loan back -- and if so, when.
- If you do not pay the loan back, the amount of the loan plus any outstanding interest is deducted from the death benefit before it is given to your beneficiary.
- If you are not sure if your policy has a cash value, look for words such as "cash value" or "cash build up."
Living Benefit (also known as "Accelerated Death Benefit")
- A living benefit is a feature in life insurance policies under which a life insurance company advances a part of the death benefit to an insured who has a short life expectancy -- generally an expectancy of two years or less. The difference between the amount of the advance and the death benefit is given to your beneficiary upon death.
- Since these provisions are fairly new, a Living Benefit may have been added to your policy without your knowing it. If you don't see one in your policy, call the insurance company and ask if they will add one for you. Many companies will. There is usually no cost to you when an insurer adds a Living Benefit to a policy.
- There is no risk to calling the insurance company and letting them know about your health condition unless you didn't tell the truth on the application.
- NOTE: If your policy has a living benefit, and you are intent on selling the policy, consider getting the living benefit from the insurance company, then selling the difference between the amount of the living benefit and the amount of the death benefit. For example, you have a policy with a $100,000 death benefit and a Living Benefit which allows you to receive a maximum of 60% of the death benefit while you are alive. You can receive $60,000 as a Living Benefit ($100,000 x 60% = $60,000). You can sell the other $40,000 ($100,000 - $60,000 = $40,000). You will receive something less than the $40,000 because it is a sale.
Loans from friendly sources
- One way of obtaining money from a life insurance policy is through a loan from a friendly source using the death benefit as collateral for the loan. Friendly sources include family members, friends and current or past employers.
- If you need money to keep the policy in effect, your beneficiary has a self interest to encourage him or her to lend you the money.
- Generally the lender is named as beneficiary of the policy -- at least to the extent of the amount of the debt plus interest. What's left over can be payable to anyone you like.
- There are people who feel uncomfortable about purchasing a policy from somebody they care about because they didn't want to make money from the death of that person. Yet they do feel comfortable making a loan using the policy as collateral to repay the loan. Friends tend to think of a loan more as a standard business transaction.
- Proceeds from a loan are not subject to tax. This can be a major advantage compared to a sale as a Viatical Settlement or a Life Settlement if the proceeds from all or part of your sale would be taxable. Even if both a loan or a sale would be tax free for you, another advantage to consider about a friendly loan is that should you die, any remainder above the principal and interest would be paid to your designated beneficiary. With a sale, the difference is paid to the purchaser, not your beneficiary.
- On the downside, with a sale, you do not continue to pay premiums. With a loan, you have to agree to continue to pay premiums and not cancel the insurance as long as the loan is outstanding.
- Note: If the loan is interest-free and over $100,000 there could be tax owed on what is called the "imputed interest."
- If you want to consider a loan from a friendly source, see tips at: Friendly Loans Against Your Life Insurance Policy.
Commercial loans from a bank or other institution
- The proceeds from a commercial loan, like any loan, are tax-free. At the insured's death, the beneficiary receives what remains after repayment of the loan amount plus fees and interest.
- When you obtain a loan against your life insurance, you have to continue to pay the premiums to keep the policy in force. On the other hand, if you sell the policy, you no longer have any responsibility with respect to the policy, including the obligation to pay premiums.
- To the best of our knowledge, there are no banks which directly offer loans against life insurance policies. However, there a few companies that offer a line of credit using your life insurance as collateral. If you are interested in learning more about this process, see Commercial Loans Against A Life Insurance Policy.
- A cash surrender feature is contained in many life insurance policies. It gives you back money if you cancel ("surrender") the policy.
- Since the policy will terminate, and no one will have any further interest in it, this is the last alternative to consider.
- To determine if your policy has a cash surrender provision, look in your policy for a provision with a name like "cash surrender" or "termination." There is usually a chart which shows how much you will receive if you cancel the policy in various years.
Sale of a life insurance policy (Viatical Settlement, Life Settlement or Senior Settlement)
A sale of a life insurance policy is a sale of all rights and obligations in exchange for cash. Sales which involve a life expectancy of two years or less are known as Viatical Settlements. Sales due to age and a longer life expectancy are known as Life or Senior Settlements. To learn more, see: Sale Of A Life Insurance Policy.