need quick cash? your life insurance policy may allow you to borrow money through a loan. Before you contact your insurance company, first take a few minutes to learn how life insurance loans work, how much they cost, and potential pitfalls. this little effort now could save you from unpleasant surprises later.
Read on for a tour of life insurance loans, including terms, tax consequences, loan limits, and pros and cons. With that knowledge base, you’ll be ready to decide if you should borrow money from your life insurance policy.
Reading: How can i borrow against my life insurance
can you borrow money from your life insurance?
Permanent life insurance allows policyholders to borrow money from their policy using the cash value as collateral for a loan with no strings attached. the base loan is not taxable and the policyholder can choose to pay it back at any time. however, life insurance loans accrue interest and if not repaid, the policy may default, which can result in loss of coverage, cash value, and a large tax bill.
What types of life insurance can I borrow from?
You can borrow from any permanent life insurance policy that has a cash value, including whole life insurance, universal life insurance, and variable life insurance.
When premiums are paid to maintain these policies, some of the money goes toward the cash value that is separate from the death benefit. The cash value of a policy is like a savings account that grows as you deposit money through premiums and interest earned over time. Similar to a savings account, policyholders can choose to withdraw or borrow money from the cash value.
How much can I borrow from my life insurance policy?
Most insurers will allow you to borrow up to 90% of your policy’s cash value, and the minimum threshold will depend on your insurer (some may not even have a minimum amount). the amount you can borrow depends on how much you have in your account. an insured with a cash value of $10,000 can borrow up to $9,000 while an insured with a cash value of $100,000 can borrow up to $90,000.
The amount you can borrow is determined by the cash value of your policy, but you’re not actually taking money out of this account. Instead, you’re taking out a loan from the insurance company and using the cash value as collateral. by doing so, the cash value can continue to grow from interest as you pay off the loan separately.
how to borrow from a life insurance policy
See also: Life Insurance Payouts Explained | Im Insured
Borrowing against your life insurance is easy. Usually, you just contact your insurer and apply for a loan. there will be no application or credit check. Since the insurer has the cash value of the policy as collateral, the process can be informal. You may need to confirm your identity, sign a document, or allow your loan application to be recorded in one call, but it won’t be more complicated than that. After the insurer receives the loan application, the money will be deposited into her account or you will receive a check within a few days.
terms for a life insurance loan
The interest rate on life insurance is typically low, often much less than what you’d see on credit card debt or an unsecured personal loan. most life insurance loans have an annual interest rate between 6 and 8%.
flexible payment schedule
Life insurance loans offer many payment options, including the ability for the policyholder to choose their payment schedule. Because the loan is backed by the cash value of the policy, it is a low-risk transaction for the insurer and will not require payments until the total balance (loan base plus interest) exceeds the cash value of the policy. however, once this occurs, the policyholder will have to begin making payments or risk defaulting on the loan, resulting in loss of insurance coverage, cash value, and a bill. irs taxes.
A life insurance loan is not taxable unless the loan amount is more than what you paid in premiums. however, and this is important, the loan will be taxable if you waive or cancel your coverage. Basically, if your policy is canceled for any reason, the IRS treats your loan and outstanding interest as ordinary taxable income.
how to pay off a life insurance loan
You can pay off a life insurance loan at any time, even if you are not required to make payments until the total balance exceeds the cash value of your policy. however, once payments are required, you must make ongoing payments to prevent the loan from going into default.
To pay off the loan, you’ll need to ask your insurer for the payment address and then set up automatic payments from your checking account. Although the insurer should send you loan statements periodically, don’t expect to receive bills with payment stubs. You can choose how much to pay, but the interest is compounded annually, so it’s a good idea to pay the interest plus some of the principal to reduce your balance over time. if you only pay the interest, the principal will remain the same, so you won’t pay back the loan.
Should I take out a loan against my life insurance policy?
Only you can decide if a life insurance loan is the right solution. Consider your goals for your life insurance, now and in the future, as you review the pros and cons below.
- life insurance loans are fast. must have the funds within a week.
- Life insurance loans do not require a credit check. Your insurer won’t care, or will charge you a higher interest rate, if your credit score dropped last week. the loan will also not appear on your credit report.
- Life insurance loans do not have to be repaid. The flexibility of a life insurance loan is an advantage if two factors are met. One, you must intend to continue paying your life insurance premiums indefinitely. and two, your family members will not need your full death benefit.
- your loan will be taxable if your coverage ends. Once you accept the loan, you agree to pay your policy premiums. Otherwise, your low-cost loan will become substantially more expensive when the IRS gets involved.
- the loan balance reduces your death benefit. You might think about how your beneficiary will be affected by the lower death benefit. however, this factor becomes irrelevant if you pay off the loan while you live.
- Life insurance loans do not have to be repaid. the lack of repayment requirements is a disadvantage in two scenarios. one, you can’t afford your premium payments. and two, your family members need your full death benefit.
alternatives to loan against life insurance
See also: How much is health insurance for a family of 6
Life insurance loans are quick and easy, but they force you to pay those premiums indefinitely. That could be a deal breaker if you expect your current cash flow crunch to continue. Fortunately, there are two alternative strategies for collecting cash from your life insurance. You can sell your insurance in a life settlement or return it to the insurer. both would completely eliminate your future premium payments.
1. life agreement
In a life settlement, you sell your life insurance to an outside investor for cash. The transaction takes a few months to complete, but you’ll get much more cash than is available to you through a policy loan. sales prices can range from 20% to 60% of the policy’s death benefit.
Once the transaction closes, the new policy owner will control the death benefit and cash value. that owner will also pay future policy premiums.
You may be eligible for a life settlement if you are at least 65 years old and your policy value is $50,000 or more. If you’re considering this route, contact Harbor Life Liquidations for a free policy review and estimate.
2. policy delivery
You can also return your policy to the insurer. this would cancel your coverage and the death benefit immediately. As part of that cancellation, the insurer would close your cash value account and send you a check for the balance, less any surrender fees.
Giving up your policy makes more sense when you’re too young for a life settlement and can’t afford to keep the policy in force. This is because a life settlement can generate two to four times more cash than a bailout. that difference can add up to tens of thousands of dollars. If he’s not yet 65, the possibility of a larger life settlement payment may convince him to keep his life insurance for a few years until he can sell it.
To learn more about life settlements and find out what your policy could be worth, contact Port Life Settlements today. our team is happy to review your coverage, answer your questions, and help you identify how to get the most cash out of your life insurance policy.
See also: When can I stop paying for mortgage insurance? – HSH.com