If you have permanent life insurance, like whole life insurance or universal life insurance, you know that your policy offers lifelong coverage and comes with a guaranteed death benefit. You might also know that the policy accumulates cash value that grows over time and that you can borrow against this cash value for any reason (though borrowing against the cash value will reduce the death benefit until you pay the loan back plus interest). So, when might it make sense to take out a life insurance loan? Let’s look at a few scenarios.
Thinking of making some changes to the bathroom or kitchen? Do you want to retile your floors? If you don’t want to go through the process of taking out a home equity loan, which can involve appraisals, closing fees, long application periods, and more, taking a loan out against your life insurance might be a sensible option. Given the long process and cost of getting a home equity loan, a life insurance loan can be an especially good option for smaller, more low-cost renovations.
While you might be able to plan and save cash up for a home renovation, home repairs can crop up unexpectedly. If you need to make a repair right away, it may be a long time before you see funds from a home equity loan, whereas the process of getting a life insurance loan is usually relatively quick. For these reasons, taking out a loan against your life insurance might be a good solution to unexpected home repairs. Like home renovations, a life insurance loan may also be a better option for smaller, lower-cost repairs.
Small business owners often choose to get life insurance as a way to keep their business going in the event of their death—the death benefit can provide extra cash flow and give the business a cushion while it recovers from the loss of an owner. Life insurance loans also may make sense for business owners—taking out a loan against the cash value can also provide much-needed cash flow to buy new equipment, make repairs, help the business grow, and more.
Borrowing against the cash value of a permanent life insurance policy can make a lot of sense for retired people. In the mix of tax-advantaged retirement accounts and other assets, a life insurance loan can provide extra cash flow or help manage taxes. This can be useful during market downturns when retirees might want to withdraw less from retirement accounts that rely heavily on the market.
When considering a life insurance loan, talk with your financial advisor.
The primary purpose of permanent life insurance is to provide a death benefit. Using permanent life insurance accumulated value to supplement retirement income will reduce the death benefit and may affect other aspects of the policy.
Loans taken against a life insurance policy can have adverse effects if not managed properly. Policy loans including any accrued interest, must be repaid in cash or from policy values upon surrender, lapse or the death of the insured. Repayment of loans from policy values upon surrender or lapse can trigger a potentially significant tax liability and there may be little or no cash value remaining in the policy to pay the tax. The policy will lapse if loans become equal to the cash value while the policy is in force and additional cash payments are not made. For all these reasons, it’s important to talk to your financial advisor and carefully consider whether a policy loan is right for your situation.