Life Insurance: Benefits While Living, Not Just After Death

Life insurance is often seen as a monthly bill from which the policyholder will never personally benefit. However, there are ways to use your life insurance while you're alive. Depending on your financial situation and long-term goals, you could benefit from a term, whole, universal, or variable policy. While term life insurance is the less expensive option, permanent life insurance has an investment component that allows policies to build a cash value over time. Permanent life insurance policies will allow you to access the cash portion of your account while you're alive. If you want to use your life insurance as a backup cash resource, you should avoid term life insurance.

Borrowing against your policy

Borrowing against your life insurance policy can be a quick and easy way to get cash in hand when you need it. However, it is only possible if your policy has a cash value. Term life insurance, which is cheaper and more suitable for many people, does not have a cash value. It is designed to last for a limited period, typically anywhere from one to 30 years. On the other hand, permanent life insurance policies, such as whole life insurance and universal life insurance, allow you to borrow against them.

With permanent life insurance, a portion of each premium payment goes towards building a cash value, which operates as a tax-deferred savings or investment account. Once the cash value reaches a certain threshold, you can borrow from that account. It is important to note that it may take several years for your policy to accumulate enough value for a loan or withdrawal.

The process of borrowing against your life insurance policy is straightforward. You can request a loan from your life insurance company for any reason, and there is no approval process or credit check required. The only requirement is that you have sufficient cash value to borrow against, and the minimum amount varies by insurer. The limit for borrowing is typically set at no more than 90% of the policy's cash value.

While borrowing against your life insurance policy offers several benefits, there are also risks to consider. One of the main disadvantages is the potential reduction in the death benefit. If you pass away with an outstanding loan balance, the insurance company will deduct the amount owed, including any interest, from the death benefit, resulting in a lower payout for your beneficiaries. Additionally, if the loan balance and accrued interest exceed the cash value of your policy, it may cause a lapse in coverage, leaving you without insurance. Furthermore, if your policy lapses during the repayment period, you may owe income tax on the amount borrowed.

Before deciding to borrow against your life insurance policy, it is essential to weigh the pros and cons carefully. Consult with a financial advisor or estate planning attorney to understand the tax implications and potential impact on your beneficiaries.

Claiming accelerated death benefits

An accelerated death benefit (ADB) is a benefit that can be attached to a life insurance policy. It allows the policyholder to receive a portion of their death benefit from their insurance company before their death. This is intended to help cover medical bills, the cost of care, or other expenses. ADBs are also referred to as "living benefits" or a "terminal illness benefit".

To qualify for an ADB, the policyholder must provide proof of a terminal illness, chronic illness, or critical illness. Some policies also allow policyholders to collect ADB if they are unable to perform several activities of daily living (such as bathing, eating, and getting dressed) without assistance, or if they are permanently confined to a nursing home.

The amount of money that can be collected through an ADB varies, but it is typically between 25% and 95% of the death benefit. The money is usually paid out in a lump sum, but some insurance companies offer monthly instalments. ADBs are usually tax-exempt for individuals expected to die within two years, but there may be tax implications if the benefit is paid in instalments.

There are a few potential drawbacks to ADBs. Firstly, they may affect the policyholder's eligibility for Medicaid and Supplemental Security Income (SSI). Secondly, the policyholder's beneficiaries will receive a reduced death benefit after the policyholder's death. Finally, ADBs are not a substitute for long-term care insurance coverage and are intended to supplement expenses not covered by a long-term care policy.

Policyholders should carefully consider the potential advantages and disadvantages of ADBs before deciding whether to claim this benefit. It may be helpful to speak to a financial advisor to understand how ADBs could impact their specific situation.

Cashing out your policy

If you have a cash value life insurance policy, you can access the cash value. One way to do this is to cash out or surrender the policy. If you choose to cash out your policy, you will receive the cash value minus any surrender fees. Surrendering the policy will end the policy.

Withdrawing Cash

You can withdraw cash from the cash value of your policy. You can withdraw up to the amount you've paid in premiums without paying taxes on the funds. Withdrawals will, however, reduce the death benefit. Withdrawals are not always tax-free. If you take a withdrawal during the first 15 years of the policy, and the withdrawal causes a reduction in the policy's death benefit, the withdrawn cash could be subject to taxation.

Taking a Loan

You can borrow money from your life insurance policy. You can either pay it back with interest or have the amount deducted from the death benefit your beneficiaries receive if you die without paying the loan back. Borrowing from your life insurance policy can be a fast and easy way to get cash for a purchase such as a car, for retirement income, or to help cover costs temporarily if you lose your job.

Surrendering the Policy

You can surrender your life insurance policy entirely to get the full cash value, minus any surrender charge. You will, however, have to pay taxes on any gains made on the cash value portion of the policy. Plus, you'll be giving up your life insurance coverage because surrendering a policy terminates it.

Selling the Policy

You can sell your life insurance policy to a third party for a lump sum that is greater than the cash value. This transaction is often called a life settlement. Although you'll continue making premium payments on the policy, if you die, the death benefit will go to the third party.

Selling your policy

Selling your life insurance policy could be a smart way to unlock value from an asset you no longer need. Permanent life insurance, such as whole or universal life, is usually more sought after in the secondary market. These types of policies are often more attractive to buyers because they build cash value over time, offer a longer coverage duration and guaranteed benefits. However, if you have a term life policy, don't rule out the possibility of selling it. In some cases, term policies can be sold if they include a conversion feature that allows them to be converted to permanent coverage.

• Hire an independent advisor: An advisor with expertise in life settlements can provide an accurate appraisal of your policy's value, help you understand potential tax consequences, and offer guidance throughout the process.
• Find a reputable, licensed broker: A life settlement broker may charge a fee, but they can often help you get the best possible offer by finding the highest bidder. Brokers typically operate in an auction-style environment, where they seek out multiple buyers and negotiate on your behalf.
• Get multiple offers: If you don't want to use a broker, you can go directly to life settlement providers – companies that purchase policies without a middleman. To make sure you're getting a fair deal, reach out to multiple providers and compare their offers.
• Round up your paperwork: Potential buyers will require access to your medical records to accurately assess your policy's value. Be prepared to sign a release granting the broker or provider permission to obtain these records.

Life settlements

A life settlement is the sale of a life insurance policy to a third party called a life settlement provider. The owner of the life insurance policy sells the policy and receives an immediate payment in return. The life settlement provider becomes the new owner of the policy, pays any future premiums, and receives the death benefit when the insured person dies.

Key considerations

• Tax implications: Not all proceeds received from the sale of your life insurance policy are tax-free. Selling your policy could result in ordinary income tax, long-term capital gains tax, or tax-free income.
• Creditor access: The proceeds you receive from a life settlement may be accessible by your creditors.
• Public assistance benefits: Selling your policy could affect your eligibility for public assistance benefits, such as supplementary social security, food stamps, or Medicaid.
• Resale of the policy: The life settlement provider may resell the policy to other parties, resulting in the disclosure of your medical information to multiple third parties.
• Health check-ins: The buyer of your policy may have the right to inquire about your health and life expectancy on a periodic basis.

Using cash value to pay premiums

Life insurance is often regarded as something that is left to beneficiaries after the policyholder's death. However, there are certain types of life insurance policies that allow you to access the cash value of your account while you are still alive. These are known as permanent life insurance policies, and they include whole life, universal life, and variable life insurance. Term life insurance, on the other hand, does not have a cash component that policyholders can access.

Permanent life insurance policies allow you to build up a cash value in your account over time. This is achieved by dividing your premium payments into three categories: the cost of insurance, fees and overhead, and the cash value. The cash value portion of your premium payments earns interest over time, causing it to grow.

One option for using the cash value of your life insurance policy while you are alive is to use it to pay your premiums. Variable and universal life insurance policies are often favoured for this strategy because they allow the cash value to be used for premium payments. This approach can help you maintain your coverage for years with little to no additional cost. However, it requires careful monitoring of the cash value to ensure it does not drop too low, as this could result in a loss of coverage.

Whole life insurance policies typically do not allow the use of the cash value to pay premiums unless you convert to a paid-up policy. A paid-up policy has a large enough cash value to cover premium payments, but this option is not offered by all insurers. Additionally, the cash value available for other purposes, such as policy loans, is reduced when opting for a paid-up policy.

In conclusion, while it is possible to use the cash value of your life insurance policy to pay premiums, it is important to carefully consider the type of policy you have and the potential impact on your coverage and cash value. Consulting with an insurance advisor can help you make an informed decision that aligns with your financial goals.

Frequently asked questions