Can You Cash Out A Life Insurance Policy
You can cash out a life insurance policy while youre still alive as long as you have a permanent policy that accumulates cash value, or a convertible term policy that can be turned into a policy that accumulates cash value.
In fact, you actually have several options for cashing out a life insurance policy such as withdrawing money from the cash value, taking a loan against this value, surrendering the policy to the insurance company, or selling it through a life settlement. The option thats best for you will largely depend on whether you want to maintain coverage and how much money you want to access.
Tax Impacts Of Surrendering Or Cashing Out Life Insurance
Not every insurance policy is the same, but your insurance agent, or a fee-only fiduciary financial advisor like Arnold and Mote Wealth Management, can help you determine any taxes or penalties you will face from liquidating your policy.
In general, there are 2 different fees or taxes that you may be subject to when cashing out a whole life, or universal life insurance policy:
Surrender Fees These are fees charged by the insurance company. These fees differ depending on the insurance company you are dealing with and the type of insurance you purchased. This fee will be a percent of the cash value of the policy, and will decline every year you own the policy.
For example, your policy may have a 12% surrender fee if you cash out of the policy after year 1, a 10% fee if you surrender after 2 or 3 years, a 7% fee if you cash out in years 4 or 5, and so on.
Federal Income Taxes Any earnings on the cash value of the insurance policy may be taxed as income. So, if you have had $10,000 in earnings in your policy and you are in the 22% tax bracket, cashing out the policy may result in $2,200 in income taxes.
Depending on your insurance policy, there may also be a separate 10% federal tax penalty on any earnings in your policy.
Option One: Getting Cash
Whether you have whole life or universal life insurance, either policy builds cash via a combination of premiums and earnings. This money goes into a cash-accumulation account within the particular plan you hold.
A cash-value life insurance account gives you access to these reserves via loans, withdrawals, or surrender of the policy. You may also sell your policy this option is a life settlement for whatever the cash amount is.
Depending on how you use this money, despite the financial difficulties you may face, there can be drawbacks to accessing this or that life insurance account.
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Does Your Life Insurance Have Cash Value
Not all life insurance policies have funds tucked away inside. To get cash out of your life insurance, it needs to be a permanent policy, such as whole life, that has had time to build cash value.
Term life insurance doesnt qualify. Its typically the most affordable type of life insurance, but the main trade-offs are that term life lasts for a limited time and has no cash value. You cant take money out of this type of policy.
Permanent life insurance often costs much more than term life, but part of the premium goes into an investment account that you may be able to tap. Whole life insurance, also sometimes called ordinary or straight life insurance, is the most common type of permanent policy. Other variations, such as universal life, variable universal life and indexed universal life, may also have cash value.
If your policy is relatively new, its unlikely to have much cash value yet. Building cash value is like growing a savings account with small deposits over time. Youll typically need to pay premiums for several years before theres enough cash value to be useful.
Also be aware that the cash value of your policy can be much less than the total premiums youve paid or the amount of insurance you bought. If your whole life policys cash value grows undisturbed, it should eventually reach the death benefit of the policy, but that may not happen until youre 100 years old.
Borrowing The Cash You Need
Rather than withdraw cash from your policy, you can borrow it.
A life insurance policy loan can be a fast and easy way to get cash for a purchase such as a car, for retirement income or to help cover costs temporarily if you lose a job.
Loans are the most common way policy owners access cash in a policy as they are completely tax-free, says Chris Abrams, founder of Abrams Insurance Solutions in San Diego .
Plus, you dont have to pay back the amount you borrow. But if you dont pay it back, the amount will be deducted from the death benefit that is paid to beneficiaries.
Like any loan, though, theres a charge to borrow. So the amount owed will grow over time due to interest charges.
The benefit of a participating loan is that you can continue to earn interest on the outstanding loan amount. For example, if the interest rate on the loan is, say, 5% and the return on your cash value is 7%, youd still earn 2% on the amount youve borrowed, Abrams says. On the flip side, if the rate of return dropped to 0% in a down market, youd have to pay the full 5% interest rate on the loan.
When borrowing from your cash value, you have to be careful not to borrow too much. If the amount of the loan plus interest owed reaches the total cash value of the policy, the policy can lapse.
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Notes Of Caution About Cash Value Policies
Because some policies take a long time to build up any significant cash value, you could wait decades before you have a substantial amount to access. Other policies are designed to build up cash value more rapidly in the early years of the policy.
When you pass away, any cash value will usually revert to the life insurance company. Your beneficiaries receive the policys death benefit amount, minus any loans and withdrawals of cash value you made. Typically beneficiaries do not receive the death benefit plus cash value. For example, if you had $1 million in coverage and an outstanding loan of $20,000, your beneficiaries would receive $980,000.
Some companies offer the option for beneficiaries to receive the death benefit plus cash value, for higher premium payments.
If you need life insurance because you want to cover a specific debt or certain amount of time, look at term life insurance. It doesnt offer a cash value component but it will pay out a death benefit amount of your choosing if you pass away during the policys term, such as 10, 20 or 30 years.
Term life insurance is ideal for covering the years youre paying a mortgage, or the years until your children are expected to be financially independent. And it wont cost you an arm and a leg like some forms of permanent life insurance. If you dont need insurance for the duration of your life, term life insurance will give you more bang for your buck.
Can You Cash Out A Term Life Insurance Policy
Term life insurance cant be cashed out because these policies do not accumulate cash value during the limited time they provide coverage. However, some term policies have an option that enables the policyholder to convert them into a form of permanent life insurance. In some cases these types of policies are called convertible term life insurance, in other cases this option is available in the form of an optional rider for an added cost.
If you have a term life insurance policy and are wondering if it can be cashed out, you should review your policy documents or talk to your insurer to see if it can be converted.
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What Are The Tax Consequences Of Surrendering A Life Insurance Policy
In terms of tax on the surrender of a life insurance policy, it actually is not viewed much differently from regular income, so its subject to a marginal rate of taxation. If a policy ends after 20 or more years, the cash return is likely to be much higher. However, if the policy has only been in place for 10-15 years or less, your provider may issue surrender fees, similarly to if you were to pull out of an investment. If youre unsure about these fees, your broker will be able to set expectations and let you know where your policy currently stands.
Cancelling a life insurance policy you no longer want or need can be an excellent way to put extra cash in your pocket. You may need this money for cost of living increases or even to fund a long-dreamed of vacation.
For example, lets look at the tax implications of cashing out a whole life policy for you as the policy holder. When you cash out the whole life policy the money you receive in return may be taxed over a certain threshold.
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Which Is Better Term Or Whole Insurance
Term coverage only protects you for a limited number of years, while whole life provides lifelong protectionif you can keep up with the premium payments. Whole life premiums can cost five to 15 times more than term policies with the same death benefit, so they may not be an option for budget-conscious consumers.
How To Cash In Life Insurance While Still Alive
There are several ways that you can cash in your life insurance policy. This depends on several factors, like whether you want to keep the policy or not, the amount of money that you want to access, and various other factors. However, once you determine all your needs, there are three major ways to access the value of your life insurance policy while youre still alive.
If you have permanent life insurance and want to tap into the policys cash value, you can do it in three ways:
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Sell The Policy To A Third Party For Cash
Selling your permanent life insurance policy is generally not recommended. When you sell a life insurance policy, you get cash from a third-party broker or buyer that pays premiums and receives the death benefit when you die. The return on selling a permanent life insurance policy tends to be very low and is subject to additional fees.
How To Access The Cash Value In Your Life Insurance Policy
Premiums for cash value life insurance can be incredibly expensive, so its important to understand all the ways you can take money out of your life insurance policy. Whether you want to get rid of your coverage and cash out your life insurance or simply take out a loan, theres a variety of ways to take advantage of your policys cash value.
Even if you no longer want coverage, make sure not to let your policy lapse at any point. When a policy lapses, you lose the death benefit as well as any cash value you could have been paid.
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Face Amount Vs Cash Value In Life Insurance
You may have heard of the term face amount of life insurance, but dont confuse this term with cash value. The face amount of life insurance is actually just another term for the coverage amount purchased. The death benefit is the amount that a named beneficiary receives upon the death of the insured.
The death benefit could be more or less than the face amount . The cash value is an entirely separate benefit within the same policy.
In fact, the cost for a cash value life insurance policy is actually more expensive than a term life policy because part of the premium goes toward paying for the death benefit, while a portion goes toward the cash value growth. Check out our life insurance glossary of terms to better understand life insurance terms and definitions.
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And what if youre in a situation where you no longer need life insurance? If you have very little debt and no dependents, you may not need to maintain a policy at all. In this case, you shouldnt keep paying for a whole life insurance policy unless its part of a well-considered estate plan. If you dont need the policy anymore, call your insurance company to cancel it. Again, you can take the cash benefit your pocket and invest it for the future.
Whole life insurance policies are the best option for some people, especially those who will always have dependents due to disabilities and the like. But if youre paying for an expensive policy you dont really need, cashing out may be the best option, even if you have to pay fees and taxes. Just be sure you know exactly what those expenses will be before you initiate the process.
Finally, whole life and universal life policies can be extremely complicated. Any decision you make may have tax implications. The key is to seek the advice of a qualified life insurance specialist before making a decision.
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Strategy : Full Surrender
Of course, you always have the option to surrender your policy and receive the accrued cash value. Before taking this route, its important to consider many factors. First and foremost, youre relinquishing the death benefit when you surrender a life insurance policy, which means your heirs will receive nothing from the policy when you die. In most cases, youll also be charged surrender fees, which could greatly reduce your cash value.
Additionally, the cash you receive through the surrender is subject to income tax. If you have an outstanding loan balance against the policy, you could incur even more taxes.
Exploring Basis Vs Profit
After establishing the basis value of your policy, you will need to identify the current cash-surrender value. You can consult with your life insurance provider to determine what the current cash-surrender value of your policy will be. With this sum in mind, you can subtract the basis you calculated earlier to identify the exact amount of profit you will earn in the event that you complete the cashing out process.
It is critical that you take the time to incorporate any and all withdrawals or dividends received from the policy prior to cashing out, as this information can significantly affect the total amount of tax you will end up paying on the money you receive. As could be expected, the less profit you earn from your policy, the less tax you can expect to pay.
In the event that your basis is larger than the cash-surrender value of the policy, you will still receive the cash-out amount but will not be required to pay any tax on these funds. This is due to to the fact that you have technically earned no profit from cashing out the policy.
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How Long Does It Take To Build Cash Value On Life Insurance
The length of time it takes to build cash value on a life insurance policy depends on the type of policy you purchase. It can take decades to build up a substantial cash value, but some policies are designed to accumulate a cash value more quickly in the policys early years.
For example, New York Lifes Custom Whole Life policy is designed to accumulate cash value faster than a regular whole life insurance policy.
Can I Withdraw Cash From My Life Insurance Policy
One of the most significant benefits of permanent insurance is that it builds cash value that can be used to supplement income in retirement, to cover college tuition, as a down payment on a home, or other large purchases.1,2 But, how can you get the cash from your life insurance policy? This article will help answer three key questions:
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What Is Whole Life Insurance For Seniors
While seniors may qualify for a variety of policy types depending on their age and health, final expense policies are often referred to as senior policies. Thats because theyre available to those who are too old or in too poor health to buy other insurance. Even those in their 70s can find coverage, with many policies only requiring a brief health questionnaire rather than a physical exam.
What Is Cash Value Life Insurance
Cash value life insurance refers to any life insurance policies that not only have a death benefit but also accumulate value in a separate account within the policy. Each time you make a premium payment, the money is split among three different categories:
- Cost of insurance: the amount required to fund the policys death benefit
- Fees and overhead: the insurance company’s operating costs and fees
- Cash value: your account within the policy, which accumulates value
A life insurance policys cash value is separate from the death benefit, so your beneficiaries would not receive the cash value if you passed away. Any cash value thats left in your life insurance policy when you die is kept by the insurer. A life insurance policys cash value is essentially the amount of money you would receive if you decided to give up the policy to the insurer, or surrender your coverage. The cash value behaves like an investment as it grows tax-deferred with interest, as determined by the type of policy, and can be used as collateral for a loan.
Even though the cash values growth is tax-deferred, it will still take several years of compound interest to grow meaningfully. Plus, for the first several years of coverage the majority of your premiums are eaten up by the cost of insurance and fees, so cash value accumulation is slow.
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