Life Insurance: Encouraging Savings For A Secure Future

Life insurance is a financial product that combines the benefits of insurance and savings. It can be used as a financial asset during one's life, similar to an IRA or mutual fund. Permanent life insurance policies, such as whole life insurance and universal life insurance, can be used as an asset. These policies enable the owner to build cash value over time and provide access to this cash value. This cash value component can be used to supplement savings plans, investments, and retirement accounts. The ability to borrow against the policy, use it as collateral for a loan, or withdraw funds makes life insurance an encouraging savings tool.

Life insurance policies can be used as collateral for loans

Collateral assignment can be a useful option if you want to access funds without putting your assets, such as a car or house, at risk. It is also a credible choice if you have a low credit rating, which can make it difficult to find attractive loan terms. Since the lender can rely on the policy's death benefit to pay off the loan if necessary, they are more likely to offer favourable terms despite a low credit score.

There are, however, some potential downsides to using life insurance as collateral. If you pass away before the loan is paid off, the death benefit payout your beneficiaries receive will be reduced, as the lender has first rights to the benefits. Also, if you are using a permanent form of life insurance as collateral, there may be an impact on your ability to use the policy's cash value during the life of the loan. If the loan balance and interest payments exceed the cash value, it can erode the policy's value over time.

The process of applying for a loan using a collateral assignment of life insurance is as follows:

• Know the requirements: Lenders generally require an active life insurance policy with cash value. This means that a term life insurance policy may not qualify. However, exact requirements vary by lender.
• Fill out a life insurance application: Once you've found a policy that will meet a lender's requirements, you can apply for life insurance. You will likely need life insurance with cash value. Check with the lender to ensure the policy you're approved for qualifies for a life insurance collateral assignment before signing the contract.
• Fill out a collateral assignment form: Once you sign your life insurance contract and pay your first premiums, complete a collateral assignment form with your insurer. You will need to fill out your lender's contact details so your insurer can designate them as a collateral assignee while your loan is outstanding.
• Sign and submit the form: After completing the collateral assignment form, you and your lender must sign it. Your insurer may be able to provide electronic versions of the documents and e-signature capabilities to streamline the process.
• Apply for your loan: Wait for your bank to confirm that your insurer has made them the collateral assignee, then apply for your chosen loan and fill out any relevant life insurance policy information on the application form.

Permanent life insurance policies allow you to grow wealth on a tax-deferred basis

Permanent life insurance policies, including whole life insurance and universal life insurance, allow you to grow wealth on a tax-deferred basis. This means that you don't pay taxes on any interest, dividends, or capital gains on the cash value of your policy until you withdraw the proceeds. This is similar to the tax benefits offered by certain retirement accounts, such as IRAs, 401(k)s, and 403(b)s.

The cash value of permanent life insurance policies grows over time as you pay premiums. In the case of whole life insurance, the cash value grows at a rate guaranteed by the carrier and is not affected by market conditions. With universal life insurance, the cash value grows by earning interest or through investment options, such as mutual funds or exchange-traded funds (ETFs).

The ability to grow wealth on a tax-deferred basis makes permanent life insurance an attractive option for those who want to supplement their savings and investments with a tax-efficient vehicle. It's important to note that permanent life insurance policies typically have higher premiums than term life insurance policies, so it's crucial to consider your financial situation and goals when deciding which type of policy is right for you.

Permanent life insurance policies can be used to provide benefits during retirement

• Withdrawal: Policyholders can withdraw funds from the cash value of their permanent life insurance policy. However, withdrawals may reduce the death benefit, and if the withdrawal amount exceeds the policyholder's investment gains, taxes may apply.
• Loan: Policyholders can take out a loan against the cash value of their policy. The loan can be repaid with interest, which will preserve the original death benefit. Alternatively, the policyholder can choose not to repay the loan or the interest, in which case the death benefit will be reduced by the loan amount.
• Surrender: Policyholders can choose to terminate their policy and receive the entire cash value, minus any applicable surrender charges. However, this option will result in the loss of life insurance coverage and the end of premium payments.
• Ongoing retirement income: Some whole life policies allow policyholders to receive regular payments instead of a lump-sum distribution. These payments are generally tax-free if they do not exceed the total premiums paid for the policy. However, utilising this option will reduce the death benefit for beneficiaries.
• Cover long-term or critical care costs: Hybrid permanent life insurance policies allow policyholders to convert their cash value to pay for long-term care, such as nursing home or skilled nursing services. This can address a significant financial gap that many retirees face.
• Accelerated death benefit: Policyholders can access a portion of their death benefit during their lifetime if they experience a specified condition, such as a heart attack, stroke, or critical illness. These benefits are typically tax-free and can help cover medical expenses or improve quality of life.
• Annual dividends: Owners of whole life policies may receive annual dividends, which can be taken in cash, applied to premium payments, reinvested to build cash value, or used to purchase additional coverage. These dividends are tax-free if they do not exceed premium payments.
• Tax benefits: The cash value in a permanent life policy grows tax-deferred, and it can usually be accessed tax-free. Money withdrawn or borrowed from the policy is generally not taxed as long as the policy remains in force. Additionally, beneficiaries typically do not owe income taxes on the insurance payout they receive.

While permanent life insurance policies offer benefits during retirement, it is important to consider the potential downsides. Permanent life insurance policies often come with higher premiums compared to term life insurance. For most individuals, there may be more advantageous ways to invest for retirement. Additionally, accessing the cash value of a permanent life policy through withdrawals or loans will reduce the death benefit for beneficiaries. Therefore, it is essential to carefully evaluate one's financial situation and goals before deciding whether a permanent life insurance policy is the best option.

Life insurance policies can be used to receive accelerated benefits during the policyholder's lifetime

Accelerated benefits are typically not taxed as income, but they can have an impact on an individual's tax situation and eligibility for Medicaid. To qualify for accelerated benefits, the policyholder must provide proof of their illness. Taking accelerated benefits will reduce the amount of money that beneficiaries will receive.

The amount of cash that can be withdrawn early depends on the policy, but it can be anywhere from 25% to 100% of the policy's value. The money can be used for treatments, surgeries, and other costs needed to stay alive, as well as end-of-life or permanent institutional care.

The accelerated death benefit provision in a life insurance policy is also known as a "living benefit" rider or "terminal illness benefit". This benefit was originally introduced in the late 1980s to alleviate the financial pressures of those diagnosed with AIDS.

When deciding whether to include an accelerated benefit rider in a life insurance policy, it is important to consider the potential impact on beneficiaries and tax situations. Additionally, the cost of adding this benefit can vary depending on the insurance company and policy.

Life insurance policies can be used to supplement other savings, investments, and retirement accounts

The cash value of permanent life insurance policies can serve as a useful financial tool during the policyholder's lifetime. It can be borrowed against to fund significant expenses, such as buying a home or paying for college. Additionally, the cash value can be used to pay premiums in the later years of the policy. This feature provides flexibility and can help individuals manage their finances effectively.

Permanent life insurance policies also offer the advantage of guaranteed coverage for life, as long as the premiums are paid. This is in contrast to term life insurance, which covers a set period. The permanent nature of these policies ensures that individuals with lifelong dependents, such as children with disabilities, have peace of mind and financial stability.

Furthermore, the cash value of permanent life insurance policies can provide a source of retirement income. The funds can be accessed to supplement retirement savings or to cover expenses during retirement. This feature makes these policies particularly attractive to individuals who have already maximised their contributions to other retirement accounts, such as 401(k)s or IRAs.

It is important to note that permanent life insurance policies tend to have higher premiums than term life insurance. Therefore, individuals should carefully consider their financial goals and needs before selecting a policy. Permanent life insurance may not be the best option for those who do not require lifelong coverage or those who prioritise maximising investment returns. Nevertheless, for individuals seeking a combination of death benefits, tax advantages, and the ability to build cash value, permanent life insurance can be a valuable tool to supplement their savings, investments, and retirement accounts.

Frequently asked questions