Posted by Life insurance has become increasingly important for Americans in recent times. This type of policy can provide much-needed financial support for loved ones after the policyholder’s passing. The key benefit of life insurance is that it offers a financial safety net for dependents.
However, many people are unaware that life insurance can also provide cash value to the policyholder while they are still alive. This is possible with cash-value life insurance, a type of permanent policy. This option is typically more expensive than term life insurance, but the cash value component is one of the main advantages of a permanent policy.
While utilizing your life insurance to address your financial requirements may jeopardize your family’s financial stability or long-term objectives, it can serve as a valuable source of necessary income. There are several methods available for cashing out your life insurance policy. This article will guide you through each option with ease.
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With a cash-value life insurance policy, such as universal or whole life insurance, you can access the accumulated cash value. One option is to surrender or cash out the policy entirely, which will provide you with the cash value minus any surrender fees. However, this means the policy will be terminated. Alternatively, you can keep the policy active by taking out a loan against the cash value or making a partial withdrawal, without cancelling the coverage.
Can I Cash out a Life Insurance Policy?
To cash out your life insurance policy, you can surrender it by stopping premium payments and withdrawing the cash value. However, before doing so, it’s advisable to review your overall financial plan. If you have adequate funds to provide for your loved ones after you’re gone, here are some of the easiest ways to access all or part of the cash value in your permanent life insurance policy:
Make a withdrawal
As the policy owner, you have the flexibility to withdraw funds from the policy at any time. To do so, simply contact your insurance provider and specify the withdrawal amount. The money will then be deposited into your bank account or wired to you. It’s important to note that withdrawals are taken from your policy’s cost basis, which is the amount you’ve paid in premiums.
The withdrawal up to your cost basis is tax-free, as it’s considered a return of your own money. For example, if your policy has a $50,000 cash value and a $20,000 cost basis, you can withdraw $20,000 without incurring any taxes. However, if you withdraw from the earnings portion, you will owe taxes at your normal income tax rate. Keep in mind that any withdrawals will also reduce the death benefit that would be paid out to your beneficiaries.
Loan
Most cash value life insurance policies allow policyholders to borrow against the accumulated cash value in their policy. The loan amount is based on the policy’s cash value and the terms of the contract, rather than requiring a separate financial qualification process. However, there are some important considerations:
Loan interest rates may be variable or fixed, depending on the policy. And while the loan itself is typically tax-free, it will reduce the policy’s death benefit that your beneficiaries receive. Additionally, if the loan balance is not repaid, it can accrue interest and erode the policy’s cash value, potentially causing the policy to lapse.
For non-MEC (modified endowment contract) policies, the borrowed funds are tax-free, and you don’t have to make regular loan payments. You can repay the loan on your own timeline or have it settled when the policy terminates.
However, MEC policies treat loans as taxable distributions, which may incur penalties if taken before age 59 1/2. So the tax implications of a policy loan can vary significantly depending on whether the policy is classified as a MEC.
Overall, policy loans can provide valuable financial flexibility, but it’s crucial to understand the specific terms, tax consequences, and potential risks before borrowing against your life insurance cash value.
Surrendering your policy
You have the option to surrender the policy and receive the full cash value, but this will come with a surrender charge. Additionally, you may have to pay taxes on any gains earned on the cash value portion. Keep in mind that surrendering the policy means you will lose the insurance coverage entirely.
Alternatively, you could consider reducing the policy’s face value to lower your premiums. Another option is to use the cash value to convert the policy to paid-up status, which will allow you to maintain a good level of coverage. If you’re facing financial difficulties, you can also temporarily use the cash value to cover your premiums. However, be cautious not to deplete the cash value to the point where the policy lapses.
Sell Policy for Cash or Life Settlement
A life settlement allows you to sell your life insurance policy to a third party for a lump sum payment. This payment will be less than the full death benefit, but more than the policy’s cash value. The buyer then becomes responsible for paying the premiums on the policy. When you pass away, the buyer will collect the death benefit.
Life settlements may be an option if you urgently need financial assistance, and the need for the funds outweighs the need for life insurance coverage. To qualify, you generally must be 65 or older, or have a serious health condition. Younger individuals may also qualify if they are seriously ill.
It’s important to work with a reputable life settlement company and get offers from multiple providers, as there are fees associated with the transaction. Additionally, the lump sum payment from selling your policy may be taxable as income.
When can I Cash out my Life Insurance?
It’s generally advisable to wait 10-15 years before cashing out your policy to allow the cash value to grow. While cashing out may not always be the best option, we recommend speaking with your retirement specialist or insurance agent before doing so. They can help you evaluate whether cashing out is the right financial decision for your situation.
Is cashing out my Life Insurance policy a good option?
Cashing out a life insurance policy is not necessarily the best option. However, if you find yourself in a financial emergency that goes beyond needing basic insurance coverage, it may be a viable choice. Before pursuing this route, thoroughly review your policy contract to understand how it works and what fees or penalties may apply. It’s also recommended to consult your insurance provider for more detailed information.
If you prefer to avoid cashing out your life insurance, there are other potential solutions to consider. These include taking out a home equity loan, personal loan, or credit card with a 0% introductory rate. You could also look into borrowing from your retirement account as an alternative option.