Yes, some types of life insurance can easily be cashed in before death for the accrued cash value. If you need the money and you have a life insurance policy with a cash value, there are ways to get the cash from the policy without the insured person passing away.
Typically, when someone thinks of life insurance, they think of a payout that only comes when there is a death involved. But when you have a life emergency or just need cash for an investment, home purchase or other reasons, receiving money from your life insurance policy seems like a pretty attractive option.
There are definitely allowances for withdrawing or cashing in a life insurance policy before death, but there is quite a maze of options to explore and several factors that affect whether you can withdraw the benefit, how much, and what it will do to your insurance coverage. This article will make all of this as easy as possible to understand so that you can decide whether or not you want to pursue this option.
Types of Life Insurance
The first thing that you need to know is that not every type of life insurance is going to allow you to cash it in before you die. The only types of insurance that you’re going to be able to do this with are the types that build the cash value with every premium that you pay. So for example, whole life and universal life insurance are both value building policies which means that down the road you could borrow from this type of policy. Here are some other things that you should know about cashing in a life insurance policy, including what the risks and benefits are.
Two Ways to Access Cash In Your Policy
If you have a policy with a cash value, there are two ways you can cash in the policy to access the value, and they both have different repercussions.
- A loan or a withdrawal from the cash value. Depending upon the type of policy that you have, you may choose to take a loan or withdraw money from your cash account. Whole life policies typically only allow loans, unless you wish to give up some of the death benefit. Universal policies will often allow both loans and withdrawals, but the repercussions of each choice is different. A withdrawal will usually require you to reduce your death benefit, where a loan often will maintain your death benefit. Both of those statements are general rules of thumb and are not always true depending upon your specific policy, and the amount of money that you have built up. Make sure to check with your insurance company about the repercussions of taking a life insurance loan before you choose to take a loan.
- Surrendering your policy completely. Surrendering your policy completely means that you will not be left with any life insurance (from the surrendered policy at least). Whatever cash value your policy has will be released to you, minus any surrender charges. Surrender charges can be significant, and usually diminish as your policy gets oldest. The newest policies have the highest surrender charges, so be sure that you are aware of any charges before you decide to surrender your policy. Sometimes even withdrawals carry surrender charges as well. While surrendering your policy is a great way to access cash, be sure that you have enough life insurance left to protect your family in case of need. Consider replacing a cash value policy with less expensive term life insurance if you are forced to surrender your policy.
The Benefits of Accessing Cash from an Insurance Policy
There are a couple of benefits to being able to access the cash value of your insurance policy. Obviously, the main one is that you want access to money if you have an emergency or need to make a large purchase for some reason. Another advantage is that you might not have to pay taxes on the amount that you get depending on the exact type of policy and because life insurance policies can be used as collateral for loans you may be able to qualify for loans that you normally wouldn’t be able to or even be able to build credit for the first time.
What you should know to start with is that while you can withdraw cash from many insurance policies, the amount differs based on many factors. The type of policy obviously plays a part but the own rules and regulations of the insurance company itself maybe even a bigger factor. But whatever the amount is going to be, you probably won’t have to pay taxes on it unless it is a modified endowment contract. With the advantages that come with being able to cash in on life insurance policies there are a number of risks and disadvantages that you should also be aware of.
The Risks and Disadvantages of Withdrawing Cash
The first thing that you are risking by withdrawing cash from your policy is a reduction of the benefit if you die, for the beneficiary that is receiving the payment. This might seem obvious, but it is definitely worth mentioning because there are different types of policies and some of them build cash value every time you make a payment on your premium. Also, keep in mind that these withdrawals aren’t always tax-free. There are several instances in which you will have to pay income tax on a cash withdrawal that comes from an insurance policy, and this can depend upon several things. One such example is when you take withdrawals before fifteen years have passed since you started the policy. If a withdrawal exceeds your basis in the policy then you will have to pay tax on any gains. A big financial advantage to life insurance is that the gain is the last money out. This is also known as LIFO accounting.
Another thing to keep in mind is with some universal life insurance policies you might actually have to pay a higher premium because you have withdrawn from the policy and lowered the cash value and in order to restore the amount of the death benefit, you will need to make higher premium payments for a period of time.
If you decide that you’re going to use your cash value in the policy to borrow money, be aware that the interest rate on the loan that you pay can have wildly fluctuating rates depending upon your particular policy and you should definitely talk to a financial advisor before you let anyone talk you into borrowing against your cash value insurance policy. But you won’t have to pay income tax on the amount borrowed which is a good thing (unless your policy is a MEC).
Of course, you should know that the loan balance is going to reduce your benefit and it could be by quite a bit. You have the option of not making the payments on the loan, which will continue to accrue interest, and that also reduces the value of the policy and the amount that your beneficiaries are going to receive.
There are two other things that you should know about cashing in your insurance policy before death. The first is that you have the option to cancel your insurance policy and if it is of value building policy you are going to receive that cash when you cancel the insurance. Now obviously, you are going to lose the insurance if you do that, but even more importantly, you could lose a significant portion of the cash value that you have built up depending upon when you take the cash and cancel the policy. If it is within the first 15 years, then there is a good chance you will have to pay hefty fees to cancel it.
Finally, there is the option to sell your insurance policy to a life settlement company who will give you cash for your policy – possibly even more cash than you would get by canceling – and then they would keep the policy and continue paying the premiums, collecting the death benefit when you die
So yes, you can cash in your life insurance policy before death in many cases but you have to evaluate your options carefully and determine whether or not it is a wise decision for you to make.