Life Insurance: Your Personal Asset And Financial Security

Life insurance is a necessity for most people, but only some types are classified as an asset. Term life insurance, which covers you for a set period, is not an asset because it doesn't have a cash value component. However, whole life insurance and other types of permanent life insurance with a cash value component are considered assets because you can withdraw funds from your policy while you're alive.

Whole life insurance as a personal asset

Life insurance is a necessity for most people, but only some types are classified as an asset. An asset is something you own that has economic value and is expected to provide a future financial benefit.

Whole life insurance is considered an asset because it is a type of permanent life insurance with a cash value component. This means that you can withdraw funds from your policy while you are alive. A portion of your premiums goes into a tax-deferred savings account, which earns interest over time. The cash value of a whole life policy typically earns a fixed rate of interest.

There are several ways to use whole life insurance as an asset:

• You can borrow against the cash value of your policy.
• You can use your policy as collateral for a loan, which can make it easier to get approved or get a better rate.
• You can withdraw funds from your policy.
• You can receive "accelerated benefits" from your policy during your lifetime if you have an unexpected or extreme medical emergency.
• You can surrender your policy (cash out) and get back the cash value you put in, less any fees.

It's important to note that withdrawals and outstanding loan balances reduce death benefits. Additionally, whole life insurance is generally more expensive than term life insurance and has limited investment options and high fees.

Universal life insurance as a personal asset

Universal life insurance is a type of permanent life insurance that, like other permanent insurance, has a cash value element and offers lifetime coverage as long as you pay your premiums. It is more flexible than whole life insurance and generally has lower premiums. You can adjust the policy and even the amount you pay as your life changes, but that will cause the death benefit to fluctuate.

Universal life policies function similarly to whole life – they allow policyholders to grow an asset by accruing interest over time that can be borrowed against. Keep in mind that, with universal life policies, the premiums aren’t set, which means they are subject to change, and there’s also no guarantee on the rate your money will earn over time.

Under the universal life umbrella is something called “variable universal life insurance,” which enables policyholders to invest their earnings into the accounts of their choosing (including mutual funds), so you have the potential to earn more over time.

Universal life insurance can be used as a personal asset in several ways. You can borrow against the cash value of your permanent life insurance policy, use your policy as collateral for a loan, withdraw funds, receive "accelerated benefits", or surrender the policy (cash out).

Borrowing from your life insurance policy

With whole life and universal life insurance policies, a portion of each premium payment goes into a cash value account that is part of the policy. This cash value can be borrowed against, but it usually takes several years for this cash value to build up sufficiently to take out a loan. The interest rate on these loans is typically much lower than on a bank loan or credit card, ranging from 5% to 8%. There is also no approval process or credit check, as you are essentially borrowing from yourself.

When you take out a loan against your life insurance policy, your insurer lends you the money and uses the cash in your policy as collateral. This means that the policy's cash value can continue to accumulate, but it's important to understand how interest and any dividends will be determined and paid. Policy loans do not affect your credit score and are not recognised by the IRS as income, so they remain tax-free as long as the policy stays active. However, it is expected that a policy loan will be paid back with interest, and there is no mandatory monthly payment.

If you do not pay back the loan before your death, the loan amount and any interest owed will be taken out of the death benefit, reducing the amount your beneficiaries receive. Additionally, if you do not keep up with interest payments, the interest will be added to the loan balance and may cause the loan to exceed the policy's cash value, resulting in a policy lapse. In this case, you may owe taxes on the amount borrowed. Therefore, it is important to pay the loan back in a timely manner and keep up with your regular premium payments.

Using life insurance as collateral

Life insurance can be used as a financial asset during your life, and not just for the benefit of your loved ones after you're gone. Permanent life insurance policies, such as whole life insurance and universal life insurance, can be used as an asset because they allow the owner to build cash value over time. This cash value can then be used as collateral for a loan.

Using your life insurance policy as collateral can be a great option to finance your business or other investments. It involves using the cash value of your policy as security for a bank loan. This type of arrangement is called a collateral assignment, which is essentially a lien against the proceeds of the insurance policy. If the borrower dies before the loan is repaid, the lender gets first dibs on the death benefit to cover the outstanding loan balance, and any remaining amount goes to the policy's beneficiaries.

There are several benefits to using life insurance as collateral. Firstly, it can make it easier to get approved for a loan or secure a better interest rate. Secondly, your personal property and assets are protected because the lender will only claim the cash value of the policy if you default on the loan. Additionally, the loan proceeds are typically tax-free, and you can often get affordable interest rates due to the secured nature of the loan.

However, there are also some risks associated with using life insurance as collateral. If you outlive your projected death date, the lender may ask for additional collateral or early repayment. Interest and return rates can change, affecting your ability to keep up with loan repayments. There is also a risk of your policy being cancelled if you don't repay the loan, leaving your family without coverage. Furthermore, your death benefit could be reduced or eliminated entirely if the lender claims the full amount from the policy to cover the outstanding loan balance.

Overall, using life insurance as collateral can be a viable option for those seeking financing for their business or other investments. It is important to carefully consider the benefits and risks before making any decisions.

Withdrawing funds from life insurance

Whether you can withdraw funds from your life insurance policy depends on the type of coverage you have. Term life insurance only provides a death benefit to your beneficiaries after you pass away and does not have a cash value component. On the other hand, permanent life insurance has both a cash value and a death benefit. The cash value of a permanent life insurance policy grows over time as you pay your premiums. If your balance is large enough, you can withdraw money from your policy. However, doing so will leave less for your heirs after your death.

• Withdraw the funds: When the cash value of your policy is large enough, you can withdraw part of it and use the money to cover expenses. Withdrawals up to the amount you've paid in premiums are generally tax-free. However, if you withdraw more than you've paid in, your withdrawal may be taxed as income.
• Surrender the policy: You can cancel your coverage and take the surrender value of the policy, which is generally less than the value in your cash account due to surrender fees. Surrendering the policy will result in no payout for your beneficiaries after your death.
• Take out a loan: You can borrow money from the insurer, using your policy as collateral. There are no credit checks, and you can repay the funds at your convenience. Interest rates are usually lower than those charged by other financial institutions. However, if the amount you owe is greater than the cash value of the policy, the policy may lapse.
• Apply the cash value to your premium: You can use the cash value of your policy to pay for part or all of your premiums, freeing up money in your budget for other expenses.

It's important to carefully consider the pros and cons of each option and how it may affect your financial future before deciding to withdraw funds from your life insurance policy. Additionally, there are alternative options to access cash, such as personal loans, credit cards with 0% APR, home equity loans, or borrowing from a retirement account.

Frequently asked questions