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Borrowing Against a Life Insurance Policy
by InvestorGuide Staff (Write for us!)
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Borrowing Against Your Life Insurance
Because permanent life insurance policies result in the accrual of equity in a savings account, that account becomes an asset that may be used to acquire a loan. Unlike most loans, these are not accompanied by a schedule for repayment, and repayment is actually not required. If the loan is not repaid, the amount will simply be subtracted from the policy, reducing the death benefit. A loan against a life insurance policy is not the same as a withdrawal of funds from the account, and for that reason, the insurance company may charge interest on the money you receive from the loan. Despite this fact, a loan against your policy may still affect the dividend earned on your account.
It is usually possible to borrow up to the cash value of the policy. Interest rates vary widely for these loans and unexpected fees may appear during the borrowing process that will add to this baseline rate, so some policies may be more suitable for borrowing than others.
If you are not making sufficiently high payments on the loan to cover interest owed on the money, the interest will be added to the loan, and interest will continue to accrue at an even greater rate. If the cash value of the account is exceeded, the policy will eventually lapse. Obviously, this should be avoided, so it is important to devise a schedule for managing loan repayment on your own if you want to keep the policy and maintain the death benefit for your beneficiaries. The cost of interest on the loan may often be exceeded by the interest earned on the money remaining in the savings account. Applying these dividends to the loan interest can be an effective way to keep the loan balance in check.
Viatical Settlements / Accelerated Benefits
II. Choosing a Policy:
Because permanent life insurance policies result in the accrual of equity in a savings account, that account becomes an asset that may be used to acquire a loan. Unlike most loans, these are not accompanied by a schedule for repayment, and repayment is actually not required. If the loan is not repaid, the amount will simply be subtracted from the policy, reducing the death benefit. A loan against a life insurance policy is not the same as a withdrawal of funds from the account, and for that reason, the insurance company may charge interest on the money you receive from the loan. Despite this fact, a loan against your policy may still affect the dividend earned on your account.
It is usually possible to borrow up to the cash value of the policy. Interest rates vary widely for these loans and unexpected fees may appear during the borrowing process that will add to this baseline rate, so some policies may be more suitable for borrowing than others.
If you are not making sufficiently high payments on the loan to cover interest owed on the money, the interest will be added to the loan, and interest will continue to accrue at an even greater rate. If the cash value of the account is exceeded, the policy will eventually lapse. Obviously, this should be avoided, so it is important to devise a schedule for managing loan repayment on your own if you want to keep the policy and maintain the death benefit for your beneficiaries. The cost of interest on the loan may often be exceeded by the interest earned on the money remaining in the savings account. Applying these dividends to the loan interest can be an effective way to keep the loan balance in check.
Viatical Settlements / Accelerated Benefits
II. Choosing a Policy:
- How Much?
The correct amount of life insurance varies not only from one person to another, but also from one period in a given person's life to another. Insurance companies publicize a range of estimates for the proper size of a death benefit, ranging from 5 to 10 times annual salary, but it is almost always more appropriate to carefully calculate your individual needs, boost your estimate to account for uncertainty and purchase the right amount of insurance for your situation.
The first thing to consider is how much money you need to leave for your dependents. Obviously, this will be affected primarily by the cost of living for those dependents. They will need to pay your medical and funeral expenses, settle debts, acquire new benefits if your employer provided them, and maintain their current lifestyle. Remember also that some of these expenses are ongoing, and a subset of those will change in magnitude over time, complicating the calculation. However, a difficult calculation now is undoubtedly preferable to being underinsured or paying for coverage that you and your dependents do not need. If you are a primary caregiver for dependents, child-care expenses may arise following your death. If you have no dependents and no one relies on your income other than you, you probably do not need life insurance yet. Setting aside a small savings for funeral and estate expenses should suffice.
The size of the benefit required by your dependents can be reduced by your other savings. Also, Social Security money is paid to your dependents if you been employed for a sufficient period of time. If your spouse is also a wage earner, you may be able to be more conservative with your insurance estimate due to the costs than can be deflected by that continued source of income. A separate analysis of life insurance coverage should be performed for you and your spouse, however, because each of your deaths would probably affect the family finances differently. Also, if your spouse is not currently employed but is employable, a conservative estimate of the money that he or she could earn by returning to the workforce may be an appropriate consideration for lowering your own death benefit.
- Which Kind?
Choosing between term and cash value is the next step in the process of purchasing life insurance. As it happens, term life is simply the better choice for the majority of people. Term plans are significantly cheaper; cash value plans can be 5 to 10 times as expensive. They are also simpler, and this simplicity provides an added value in that comparison shopping can be based on quality of insurer and price since most term policies from different insurers will be very similar.
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