Using Life Insurance: Benefits While Alive

Life insurance is often regarded as a financial safety net for loved ones after the policyholder's death. However, depending on the type of policy, it can also be used to access funds while the policyholder is still alive. This can be used to pay down debt, make mortgage payments, or finance major expenses. Permanent life insurance policies, such as whole, universal, and variable life insurance, allow policyholders to access the cash portion of their account. On the other hand, term life insurance does not offer this feature. It's important to note that accessing life insurance benefits early will affect future payouts and reduce the death benefit for beneficiaries. Before making any decisions, it is recommended to evaluate your financial needs, research different options, and consider seeking advice from a financial advisor.

Borrowing against your policy

Borrowing against your life insurance policy can be a quick and easy way to get cash when you need it. However, there are a few things to know before borrowing.

Firstly, you can only borrow against a permanent life insurance policy, such as a whole life insurance or universal life insurance policy. These policies are more expensive than term life insurance but have no predetermined expiration date. If sufficient premiums are paid, the policy is in force for the lifetime of the insured. While the monthly premiums are higher than term life insurance, money paid into the policy that exceeds the cost of insurance builds in a cash value account that is part of the policy. This cash value can be borrowed against, but it usually takes a few years for this cash value to build up sufficiently to take out a loan.

There is no approval process or credit check for a loan against your life insurance policy, and you do not have to explain how you plan to use the money. The loan is also not recognised by the IRS as income, so it remains free from tax as long as the policy stays active. Interest rates for life insurance loans are generally lower than those for personal loans and credit cards, typically ranging from 5% to 8%. However, it is important to pay the loan back in a timely manner on top of your regular premium payments, as interest accrues and can cause the loan to exceed the policy's cash value, resulting in a lapse of the policy. If this happens, you will likely owe taxes on the amount borrowed.

If the loan is not paid back before the insured person's death, the loan amount, plus any interest owed, is subtracted from the amount the beneficiaries are set to receive from the death benefit. This reduces the death benefit and can significantly impact your beneficiaries. Therefore, it is important to carefully consider the pros and cons of borrowing against your life insurance policy before taking out a loan.

Claiming accelerated death benefits

• Review your policy: Check if your policy includes accelerated death benefits and carefully review the conditions to understand if you meet the qualifications.
• Understand the eligibility requirements: Most policies require you to be terminally ill, severely disabled, or permanently confined to a nursing home to access these benefits. Some policies may also offer benefits if you have a critical or chronic illness that shortens your life expectancy or requires an organ transplant.
• Determine the amount available: Accelerated death benefits typically grant a portion of your total death benefit, usually ranging from 25% to 95%. Your policy terms will specify the maximum amount you can receive.
• Understand the impact on your policy: Any benefits received before your death will be deducted from the death benefits that your family will receive in the future.
• Apply for benefits: Submit an application to your insurance company, along with any required medical documentation, to claim the accelerated death benefits.
• Use the benefits wisely: These benefits are intended to help cover challenging circumstances, such as medical care or improving your quality of life during your final days.
• Understand tax implications: While accelerated death benefits are typically tax-exempt, there may be tax consequences if you choose to receive the benefits in installments rather than a lump sum.
• Consider alternatives: Explore other options for generating cash flow before making a decision, as claiming accelerated death benefits will reduce the future death benefit for your loved ones.

Cashing out your policy

Cashing out your life insurance policy is one of several methods for accessing your life insurance funds while you are still alive. It is important to note that not all policies allow you to do this. Term life insurance, for example, does not offer this feature, but permanent policies do.

Understanding the Consequences

If you cash out your policy, your beneficiaries won't receive any death benefits after you die. This is an important consideration, as it means that your loved ones will not receive the financial support you had intended for them.

Review Your Policy

Some policies require you to hold them for a certain number of years before you can cash out. Additionally, there may be fees associated with accessing your funds early. Make sure you understand the terms of your policy before proceeding.

Consider the Alternatives

Cashing out your life insurance policy is a big decision. Think about whether there is another way to get the money you need, such as selling some other investments or personal property.

Consult a Financial Advisor

A financial advisor will be able to assess your situation and offer guidance on the best course of action. They will have expert knowledge to help you make a wise decision.

Contact Your Insurance Company

If you decide to go ahead and cash out your policy, inform your insurer of your intention. They will then process your request, and the cash-out should be completed within a few weeks.

Receive the Payment

You will receive your funds via electronic transfer or by check.

Understand the Tax Implications

You may owe taxes on the cash value from your policy. Consult your accountant or financial advisor for more information and guidance on this.

Using living benefits

Living benefits are a feature of life insurance policies that allow you to access funds from the policy's death benefit while you're still alive. These benefits are typically attached to permanent life insurance policies in the form of riders, which provide coverage in the event of chronic or terminal illness, hospice care, or general medical care.

• Terminal illness rider: This allows you to receive a portion of your death benefit early if you are expected to pass away within a certain period, usually between six months to two years. This can help cover end-of-life care and other associated expenses.
• Chronic illness rider: This rider applies if you're diagnosed with a chronic illness that prevents you from performing at least two out of six "activities of daily living" (ADLs), such as bathing, eating, dressing, toileting, transferring, and continence.
• Critical illness rider: This rider covers qualifying illnesses that shorten life expectancy and have high medical costs, such as heart attack, stroke, and kidney failure.
• Long-term care rider: This rider is meant to cover the cost of in-home care or nursing home expenses as you age.

Living benefits can provide financial assistance in the event of unexpected illnesses or long-term disabilities. However, it's important to note that accessing these benefits may reduce the death benefit available to your beneficiaries when you pass away, and there may be tax implications depending on the circumstances.

Permanent life insurance policies, such as whole life and universal life insurance, offer the potential to build cash value over time. This cash value can be accessed in several ways:

• Loans: You can borrow money from the accrued cash value, but interest charges will apply, which can negatively impact your death benefits.
• Withdrawals: You can withdraw money from the cash value without interest charges, but this may result in higher premiums or a lower death benefit.
• Surrendering the policy: You can terminate the policy and receive the cash value, less any surrender charges and outstanding policy expenses. However, you will need to decide if you want to go without coverage or reapply for a new policy.
• Using cash value to pay premiums: Depending on the policy, you may be able to use the accrued cash value to offset the cost of your premiums, which can be beneficial for those on a fixed income or retirees.

Factors to Consider

When considering a life insurance policy with living benefits, it's important to weigh the following factors:

• Cost: Permanent life insurance policies with living benefits tend to be more expensive than term life insurance policies.
• Medical examinations: Permanent life insurance policies often require medical examinations, which may be a factor for some individuals.
• Growth potential: While permanent life insurance policies offer cash value growth potential, it may not grow significantly at the beginning of the policy.
• Impact on death benefit: Accessing living benefits will likely reduce the death benefit available to your beneficiaries.
• Tax implications: Some of the funds accessed through living benefits may be taxable, depending on the specific circumstances.
• Eligibility: Living benefits are typically available only in specific circumstances, such as a terminal or chronic illness.

In conclusion, living benefits can provide valuable financial support while you're alive, but it's important to carefully consider the potential impact on your death benefit, any associated costs, and the eligibility requirements before opting for this feature in your life insurance policy.

Selling your policy

Selling your life insurance policy

Selling your life insurance policy is a big decision and should be considered carefully. Here are some important things to know about selling your life insurance policy.

Who can sell their life insurance policy?

Generally, you can sell your life insurance policy if you are 65 or older, or suffering from a terminal illness. However, there are some additional criteria. For example, only term life insurance policies that can be converted to permanent insurance can be sold. This conversion then allows the policy to be sold.

How to sell your life insurance policy

There are two primary paths to sell your life insurance policy: a life settlement and a viatical settlement. Both allow you to sell your policy, but they are designed for different situations and offer varying payout amounts depending on your policy type and health condition.

A life settlement is typically for policyholders aged 65 or older who are experiencing a health decline. It is best suited for permanent policies that accumulate value over time and are in higher demand. Term policies can sometimes be sold, especially if they are convertible to permanent coverage or if the insured is terminally ill.

A viatical settlement is specifically for those with a terminal illness and a life expectancy of less than 24 months. It generally offers a higher payout since buyers expect to collect the death benefit sooner.

Tips for selling your life insurance policy

• Consider hiring an independent advisor to help you understand the value of your policy and the potential tax consequences.
• Find a reputable, licensed broker to help you get the best possible offer by finding the highest bidder.
• Get multiple offers to ensure you are getting a fair deal.
• Round up your paperwork, including your medical history, as this will play a key role in the selling process.

Tax considerations when selling your life insurance

The tax treatment of the money you receive from selling your life insurance policy depends on the type of settlement you choose.

If you are terminally ill and qualify for a viatical settlement, the money you receive is usually tax-free.

If you choose a life settlement, the money you receive can be taxed in three different ways: as ordinary income, as long-term capital gains, or as tax-free income.

Pros and cons of selling your life insurance policy

Pros

• Immediate cash flow: Selling your policy can provide you with a lump-sum payment.
• Relief from premium payments: Selling your policy can free you from the financial burden of monthly premium payments.
• More value than surrendering: A settlement usually offers a higher payout than simply surrendering your policy.

Cons

• Loss of death benefit: Once you sell your policy, your beneficiaries will no longer receive a death benefit.
• Possible tax implications: Proceeds from a life settlement could be taxed as ordinary income.
• Medicaid eligibility impact: Selling your policy could affect your eligibility for Medicaid.
• Health check-ins: The buyer of your policy may have the right to inquire about your health and life expectancy annually or even monthly, depending on the state's laws.
• Potential for multiple sales: The settlement provider that buys your policy may resell it, meaning your medical information may be disclosed to multiple third parties.

Frequently asked questions