Life Insurance: You Don’t Have to Die to Collect
Could you use a quick infusion of tax-free cash? Your life insurance policy may provide one. And you don’t have to die to collect.
To access money from your life insurance policy without dying, you must have the right type of policy—a permanent life insurance policy that lasts your entire life, such as whole life, universal life, variable life, or indexed universal life. A cheap term life policy doesn’t provide any lifetime cash benefits.
Permanent life insurance includes a savings component. The insurance company puts a portion of your premiums into a cash value account, and this sum grows over time on a tax-deferred basis.
There are several different ways to tap into your policy’s cash value while you’re still alive:
You can make partial withdrawals from your policy’s cash value account. Many insurers cap withdrawals at 75 percent to 90 percent of the total cash value. Withdrawals up to the account’s cost basis (total premiums paid) are tax-free. You pay tax at ordinary rates on withdrawals over your cost basis. You don’t have to repay the withdrawals, but they will reduce the policy’s death benefit.
You can surrender your policy to your insurer, who will pay the total amount of the cash value account, less fees (which can be substantial if the policy is less than 10 to 15 years old). The payment is taxable at ordinary income rates to the extent it exceeds the total premiums paid.
You can take out loans from your insurer using your policy’s cash value as collateral. Such loans often have lower interest rates than bank loans, and they are tax-free. Borrowing from your insurer does not affect your policy’s cash value—it will continue to earn interest and grow tax-free. You aren’t required to repay the loan, but if unpaid, it will reduce your policy’s death benefit.
You may be able to sell your policy to a third party, who will then make the premium payments and collect the death benefit when you die. This option is available only to older policyholders (over age 65) or those who are terminally ill or disabled. The sale proceeds for life settlements are taxable to the extent they exceed the premiums paid. But “viatical settlements” (those made by terminally ill or disabled policyholders) are tax-free.
If you want to discuss life insurance, please give us a call.