Cash Value and Life Insurance: How to Pull Money Out of Your Policy

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Term life insurance expires once the term is up and doesn’t build cash value, but other types of life insurance last for life and do offer a cash value component. Whole life insurance, which is also called permanent life insurance, offers a death benefit and also accumulates cash value you can borrow against or use for other purposes.

“Cash value life insurance” serves multiple purposes. Not only does it protect your family in the event of your death, but it also serves as a financial resource you can lean on when it makes sense to do so.

Borrowing against or withdrawing from the cash value component of your life insurance is a decision that is dependent on individual circumstances and goals. To help you make an educated decision for yourself, we’ve built this guide. Our goal is to teach you the basics about your cash value life insurance options and how you can use the cash value component of your policy as a living benefit for yourself while protecting the death benefit for your loved ones.

It’s worth noting at the outset that life insurance policies that build cash value, such as whole life or universal life, are more expensive than term insurance policies for two reasons. First, part of that additional cost goes into growing cash value. Secondly, this is a permanent type of life insurance, unlike term life insurance, which expires at the end of the predetermined term (10 years, 20 years, 30 years, etc.).

Since choosing a life insurance policy with a cash value component requires a bigger investment, it’s important to understand how this aspect of your policy works and what your options are for using it.

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    In this article

      What is cash value?

      When you pay premiums toward a cash value life insurance policy, your insurer splits the money they receive from you. Part of your premium goes toward your death benefit and the other costs of maintaining your policy, while the other part goes toward your cash value.

      Cash value grows at different rates for different insurers and with different types of life insurance policies. The rate at which it grows is referred to as the rate of accumulation, or the ROA. For example, whole life insurance policies offer a fixed rate of return on your cash value, similar to the way an aggressive savings account guarantees you a specific, steady rate of growth on the money you have in that account. Variable universal life insurance policies allow you to choose how you invest your cash value, meaning you have a higher potential for growth but also face a greater risk for loss if your investments don’t perform well.

      In short, the easiest way to understand cash value is to know that it’s a part of certain life insurance policies that’s designed to grow for the policyholder (you) over time.

      How does cash value life insurance work?

      Your cash value life insurance policy accumulates value in a separate account within the policy. As we mentioned before, whenever a premium is paid, part of the money goes for the cost of the insurance, which is the amount of money necessary to provide the policy’s death benefit. That includes the fees and overhead, or the costs of the insurance company to provide the coverage. Cash value is actually an account within the life insurance policy separate from the death benefit.

      A beneficiary receives the death benefit but does not receive the cash value in the policy unless you’ve purchased an endorsement that mandates your beneficiaries get the accrued cash value. If you haven’t, any cash value that remains in the life insurance policy when you die is kept by the insurer.

      The cash value of a life insurance policy is the amount of money you would receive by surrendering the policy. But that’s not the only way to access the cash value your policy builds. The cash value serves as an investment that accumulates tax-deferred interest. We’ll show you how you can use your cash value in the “What can I do with cash value?” section of this guide.

      Types of Cash Value Life Insurance Policies

      Unlike term life insurance, a cash value life insurance policy is permanent and will last for the remainder of your life as long as the premiums are paid. Among the typical types of cash value life insurance policies are:

      • Whole Life Insurance – This builds cash value at a fixed rate decided by the insurer. You can also purchase participating whole life insurance, a policy that pays you dividends based on your insurer’s profit-generation performance.
      • Universal Life Insurance – This type of policy is based on market interest rates and how the insurer performs financially. Universal life insurance is flexible, allowing you to adjust your death benefit and premiums as your needs change through the years.
      • Indexed Universal Life Insurance – This type of policy is based on the performance of an index like the S&P 500. While whole life insurance’s cash value grows at the fixed rate your insurer determines, your indexed universal life insurance grows based on the performance of the market index to which it’s attached.
      • Variable Life Insurance – This type of policy is similar to a mutual find in that the insurer offers different options for investing cash value. You can choose how your cash value is invested and have the possibility to grow your money faster if you make good investment choices. On the flip side, you also have a higher risk for loss if your investments underperform.

      What can I do with the cash in cash value?

      If your loved ones are most likely not going to get the cash value of your policy at the time of your death (assuming you don’t buy an endorsement that says otherwise) then what’s the point? The cash value provides a living benefit, or a perk of your policy that you can use while you’re alive. Here’s a look at the ways you can use your accrued cash value.

      Make a withdrawal

      As unexpected financial needs arise, you might wish you had some money stocked away that you can use. With cash value, you do. You can withdraw a portion of your cash value account, but make sure to review how your policy works before you do so. Generally, withdrawing your cash value will reduce your death benefit.

      Use it to pay your premiums

      Some life insurance policies allow you to use your cash value to pay your premiums. Let your cash value accrue through the years and you’ll reach a point where the amount is sufficient to cover your dues to your insurer, meaning you can keep your coverage in place without cutting them a check on a regular basis.

      Transfer it to your death benefit

      If you’re late in life with a significant cash value attached to your life insurance account, call your insurer and ask to trade that cash value to increase your death benefit. That way, your beneficiaries will get a bigger benefit from your policy at the time of your passing.

      Borrow against it

      There are times when conventional loans or credit are just not an option, such as when your credit is poor. If your only alternatives are high-interest credit card advances, payday loans or high-interest personal loans, your life insurance policy may be your best option. Bear in mind that a conventional loan is often a better choice in the long run, especially if you can get at a low-interest rate loan.

      Borrowing against your cash value also makes perfect sense if you have a high cash value and are presented with an investment opportunity that generates a higher return than the interest on your loan. Of course, there really is no such thing as a risk-free investment; you should carefully weigh the risks and possible rewards before withdrawing funds.

      Other Ways to Get Money Out

      Loans are not the only way to access the accumulated cash value of your whole or universal life policy – they’re just the most common.

      Get paid dividends

      Many insurers pay an annual dividend to policyholders. Insurance dividends are usually the money that is left over from all the premiums collected after overhead expenses and claims are paid. They are non-taxable because the IRS considers them a return of premium rather than a traditional dividend so they are a great way to get some extra money out of your life insurance.

      Surrender it

      Another option is called surrender value. Generally speaking, after a policy has been in force for at least three years and has accumulated some cash value, you can cancel the policy and take the surrender value in a cash payment. In the early years of a policy, there are usually fees involved that will reduce the cash value.

      One other option is a life settlement, in which the policy is sold to a third party for a cash sale.

      The more important thing to remember is that surrender means giving up the insurance. You get the cash value, minus any fees, and the insurance is terminated. Unlike a loan, there is no interest or repayment – but there is also no death benefit. Consider surrender only as a last resort or if you have adequate life insurance in place elsewhere.

      FAQs

      A very common misconception about borrowing money from life insurance cash value is that it is free money. This is not true.

      Life insurance companies are in business to make money, and when you withdraw cash value from a policy, the insurance company no longer has that money available to invest, cover overhead or pay other beneficiaries’ claims, and so they charge interest to make up the difference.

      Unlike a bank loan, you are not obligated to pay back a loan against your cash value. The risk is that the loan never gets paid back. Interest on borrowed cash value will continue to accrue and eat away at your death benefit, further reducing what will be there for your loved ones when you are gone.

      Borrowing from the cash value of your life insurance does have some upsides, the biggest of which is the tax advantage. Withdrawals of any amount from the accumulated cash value of your whole or universal life policy are tax-free, up to the amount of the premiums you have paid. As a rule, “withdrawals” generally include loans.

      This tax-free status is a lifetime benefit, which means that it will continue to be untaxed as long as you live, even if you do not repay it. However, the tax-free status ends with your death; any outstanding balance at that time is taxable. It is always advisable to check with an accountant before moving forward. Tax laws and regulations are always changing and it is better to be on the safe side.

      Removing cash value from your life insurance policy may leave you vulnerable to life’s uncertainties. The whole point of life insurance is to provide some financial stability for your loved ones if you die unexpectedly. If you borrow too much against your policy, it could hurt this goal.

      However, one advantage of cash value beyond loans is that it can be used to pay premiums, and therefore keep your insurance in place when you’re unable to manage payments due to difficult financial circumstances.

      Cash value simplified

      One of the reasons you decided to buy a whole or universal life policy was because it builds cash value and you have the ability to borrow against it. The other reason, and perhaps the more important one, was to make provisions for those left behind after your death. So consider:

      • The type of cash value life insurance policy you buy. Different policy types will grow your cash value differently.
      • Your options for using your cash value. Only withdraw the money or borrow against it when you really need it because you risk reducing your death benefit for your loved ones.
      • Leaving your cash value untouched as long as possible so you can use it to pay premiums or transfer it to increase your death benefit later in life.

      With these considerations in mind, you’re well equipped to make the most of the cash value component of your life insurance policy.

      Reviewed by

      • Aylea Wilkins
        Aylea Wilkins
        Insurance Editor

        Aylea Wilkins is an editor specializing in insurance for The Simple Dollar. After getting a degree in European studies and editing from Brigham Young University, she worked as a writer and editor for a variety of small websites before transitioning to the insurance field.