A life insurance surrender is a full cancellation of a life insurance policy, usually for the cash surrender value. You are allowed to surrender your policy at any time, though charges may apply during the initial policy years. Surrender does not affect your credit score, and a surrender of your policy will not affect your ability to get a new life insurance policy in the future. In permanent policies that have a cash value, the surrender charges are a percentage of the value of the policy. These are taken directly from the cash value before it is paid to the owner. A term life insurance policy does not have any surrender fees because it has no cash value.
People have many reasons to surrender a policy, though they should often reconsider before giving the policy up. Other times, there are good reasons to terminate the coverage. What happens a lot of times is that after owning life insurance for a number of years, people have financial changes in their lives. The changes are not always directly financial. For instance, sometimes people used to have children dependents that no longer require support. Sometimes things like divorce, death, financial windfall, or even a greater need for cash in hand contribute to people deciding they no longer need the protection afforded by life insurance.
The good news for people who are giving up their policy is that permanent forms of life insurance will build cash value over time as long as they are funded properly, and upon surrender, the policy owner receives these funds. The process to surrender a life insurance policy is relatively straightforward and simple, but if a surrender needs to happen fast it is best to understand the procedures so there are no hiccups. People should always carefully consider surrendering their policy because they may not be able to buy a new life insurance policy depending upon their age and health.
Reasons For Surrender
These are the biggest reasons that people would consider surrendering their policy. These reasons are not right for everyone, should you should always check with your life insurance agent or financial advisor.
The big advantage of surrendering a life insurance policy is the access to the cash value. When a policy is surrendered, it does not merely cease premium payments, it also releases all the saved value to the client (assuming they have not withdrawn or loaned it from the policy already). Generally speaking, the older a policy is and the longer it has been active, the higher the cash value will be. People often surrender their life insurance contracts as one of the first ways to pay unexpected expenses such as house repairs or to get through a period of unemployment.
People may also pay off high-interest rate debt with this money, such as a credit card. They can also pay emergency bills instead of using credit cards.
People also surrender life insurance contracts because sometimes they might not need the coverage anymore. Many people have owned whole life insurance policies for over 20 years. During this period of time, many life changes may have taken place. Children may have grown and are no longer dependent on their parents for support, marriages may end in divorce and life insurance is not needed to protect an ex-spouse, companies may be sold and key man insurance is no longer needed, or a beneficiary may predecease the insured and the coverage may be unnecessary.
The coverage can also become superfluous if another policy provides all the protection that is needed. A spouse may have a spousal rider for instance or coverage provided by work may give the insured person enough coverage.
Cheaper Coverage- Especially From Better Health
Sometimes an insured person may find less expensive coverage from another company. This may be because they never comparison shopped for insurance in the first place and ended up paying more than they should have, or it may be for other health-related changes. If the insured person goes through a major shift in health in a positive direction such as weight loss, a new policy may actually be less expensive than the old. While people can apply for a better health rating with an existing policy, they may not be granted a better rating.
Prices of term life insurance typically drop over time, because people live longer and die young less often. These improving mortality statistics have led to insurance companies dropping prices to be more competitive. A new policy may give the insured the opportunity to have the same coverage for less expense.
How To Surrender A Policy
Surrendering a life insurance policy is quick and easy in most cases. A life insurance company is limited by law to how long they can legally hold onto a client’s money after a surrender request is received. To surrender a policy, simply follow these procedures.
- Contact your insurance provider and inform them of your intent to surrender. Request a surrender form and ask if a letter of instruction will be sufficient to surrender the policy.
- Fill in the surrender form exactly as required, or write the letter of instruction.
- Send the surrender form to the company in a manner that can be tracked such as priority mail or registered mail.
- Call to confirm the company received the request after the tracking indicates that they have.
- Receive your funds in a short time.
A term life insurance policy does not necessarily need to be surrendered. You could always just stop paying it. Your coverage will expire and you will still be covered during the grace period, and after that, it will lapse. There are not really any negative consequences to doing this other than it won’t give you a pro-rated refund of pre-paid premium if the life insurance company is willing to refund the prepaid premium on a prorated basis, and they are not always willing to do this.
Reasons not to Surrender a Policy
While it may be tempting to surrender a policy people should always understand all of the options and consequences. There may be tax consequences, charges, and the lost coverage may be detrimental because the beneficiaries lose the protection. There may be other options besides a full surrender that works better for the owner.
Tax Consequences Of Surrender
Generally speaking, any financial gain in your policy will be taxed as income, at your marginal income rate of taxation. The amount of money you put into your life insurance policy, known as the cost basis, is not subject to taxation because after-tax dollars were used to fund the policy. Policy owners should always consult with a qualified tax adviser if they are concerned about possible taxation upon surrender of a life insurance policy. In certain situations, there may even be tax penalties.
Some life insurance policies, especially variable universal and universal life insurance policies, may have surrender charges for the first 10-15 years of the policy. A surrender charge is a charge from the cash value imposed by the insurance company for surrendering the contract early or withdrawing money early. Surrender charges can be very significant, especially in the early years of a policy. Always be aware of any possible surrender charges on your life insurance policy before you purchase the policy, and before you withdraw any money or surrender the contract in full.
While surrendering a life insurance contract may cost your beneficiaries lost death benefits, sometimes surrendering a life insurance contract is unavoidable or advantageous for the owner. It is a comfort to many to know that a readily available source of money is so easily accessible.
Alternatives to Full Surrender
There are options available for someone who would like to keep their coverage, but either can’t afford to keep it or need money from their policy. Depending upon the situation, a partial surrender may be helpful. A partial surrender can give the owner access to some of the cash, while also maintaining some of the coverage. This will also reduce the premium payment proportionally with the amount surrendered going forward. On a term life insurance policy, the owner could save with a “face amount reduction”. This reduces the amount of coverage but also lowers the premium payment.
Loans may also be helpful for someone who temporarily needs cash or can’t afford to pay for the policy. A loan can be used to pay the premium if someone temporarily can’t afford it, such as during a job change. A loan can also provide access to up to 80%-90% of the value of the policy for an owner who needs the cash.
If the policy pays dividends, keep in mind that dividend payments can be used to directly pay premiums. If someone is using the dividend to buy more paid-up insurance, this is a fantastic way to get the policy to pay for itself.
Should You Surrender Your Policy?
There is no right or wrong answer. People should consult with their financial advisor, accountant, and review all of the available options to decide if surrender is right for them! Feel free to reach out to us with questions or to compare rates on new policies.