How To Borrow Against Life Insurance (2024 Guide)

To borrow against your life insurance policy, you must have cash value life insurance, such as universal or whole life insurance. With these policies, a portion of each premium payment goes toward building a cash value, which operates as a tax-deferred savings or investment account.

Once the cash value reaches a certain threshold, the policyholder can withdraw or borrow from that account. Keep in mind that it may take several years for your policy to accumulate enough value for a policy loan or withdrawal.

Not all life insurance policies have a cash value to borrow against. In fact, that is one of the main differences between term and permanent life insurance. While term life insurance expires after a certain time period and has no cash value component, permanent life insurance policies offer lifelong coverage and build cash value over time.

You cannot borrow against term life insurance, but you may be able to convert your term policy to a permanent one, which would open the door to borrowing money in the future. Speak to your insurance agent to see if your policy qualifies. If you have a convertible term life insurance policy, you can upgrade to whole or universal life insurance without undergoing a new health exam.

Life insurance policy loans allow you to borrow money from the insurance company using your policy’s death benefit and cash value as collateral. As long as you pay the loan back, the entire value of your policy stays intact. However, if you fail to repay the entire amount before you die, the insurance company will deduct the outstanding loan balance, including any interest owed, from the death benefit. As a result, your beneficiaries will receive a lower payout.

Borrowing against a life insurance policy does not require an income or credit check because the loan is fully secured, with the policy’s cash value serving as collateral. Policy loans also tend to have relatively low interest rates — particularly when compared to unsecured personal loans. Your credit score will not affect the loan approval or interest rate, and the loan application and repayment will not affect your credit score.

The cash value of your policy must exceed a certain amount before you can take out a policy loan. However, that minimum varies by insurer. You can check your policy documents or ask your insurance agent for specific details. The approval process typically involves submitting a simple form and verifying your identity.

Unlike most loans, policy loans do not have a fixed repayment schedule. However, that does not mean you should neglect repayment entirely. Here are a few tips for handling repayment:

• Ask how to make a payment: Make sure you have all the payment information on hand to make a payment promptly when needed. In particular, note your account number and the repayment address for your insurer. These details should be listed on your loan statements.
• Keep track of the interest: If the principal plus interest ever exceeds the cash value of your policy, your insurance will be at risk of lapsing. At this point, you will need to make minimum interest payments to avoid forfeiting your insurance coverage.
• Avoid policy lapses: Keep up with your premium and interest payments to avoid a policy lapse. If your policy lapses or you surrender it before repayment is complete, the IRS will recategorize your loan as taxable income.
• Set up automatic payments: Consider setting up automatic payments through your checking account. This will help you avoid missing an important payment.
• Make a plan: Decide whether you intend to fully repay the loan, pay the interest as it accumulates or do the bare minimum to avoid a policy lapse. Then, draft a repayment plan. Figure out how often you should make a payment and how much to pay to stay on track.
• Inform your beneficiaries: Discuss your decision with your beneficiaries so that they know what to expect. If your loved ones do not know about the loan or repayment plan, they may be blindsided by a significantly reduced death benefit.

One of the biggest advantages of borrowing from your policy is that policy loans have fewer credit and tax implications than other loan types. The IRS does not recognize policy loans as income, making them a tax-free funding source. You can use the money however you like, and you will not be tied to a strict repayment schedule. The loan will not affect your credit score, nor will your credit score affect the loan’s interest rate.

You can obtain a policy loan without undergoing employment verification or a credit check. You do not have to meet a certain income threshold or put up other assets as collateral. The only requirement is a minimum cash value. Because the lender faces almost no risk, you can typically score a lower rate than you would with a credit card or bank loan and the funds can be deposited into your account within a few days.

However, policy loans do come with a few disadvantages, starting with their effect on the face value of your permanent life insurance policy. During the repayment period, your coverage amount drops. If you die before repaying the loan, your loved ones will not receive the full death benefit of your policy.

Failure to repay the loan could also have other consequences. As interest accumulates, it will be added to your loan balance. Eventually, the outstanding balance could exceed the cash value of your policy, causing a lapse that leaves you without insurance coverage.

If your policy lapses during the repayment period, you could end up owing income tax on the amount borrowed. To avoid this, consider at least making regular interest payments. Be careful to keep up with your premium payments, too.

The amount you can borrow against your life insurance policy depends on factors like how much cash value has accumulated and the policy’s terms and conditions. You can only borrow a significant amount if you have had your policy for a long time and regularly paid premiums.

It also depends on your insurer, as companies generally only allow you to borrow up to a certain percentage of the policy’s cash value. The amount you can borrow will be lower if you have any existing policy loans and interest has accumulated.

You can borrow against a permanent life policy with a cash value component, which includes whole life insurance, universal life insurance, variable life insurance and variable universal life insurance. These policy types differ regarding cash value accumulation and borrowing rules.

A whole life policy’s cash value grows over time and you can borrow against it. If you choose a universal life policy, the cash value will earn interest based on market trends or minimum interest rate.

The cash value of a variable life policy will likely grow quickly as it’s tied to investment options, but it’s generally riskier. A universal variable life policy is similar to a variable life policy regarding cash value accumulation but offers flexible premiums and death benefits.

You can borrow against a life insurance policy only after a substantial cash value has built up, which generally takes several years. The timeframe will depend on your policy’s terms, premium amount and performance if it’s linked to investments. Your insurer might also set a minimum cash value requirement for borrowing.

We recommend you review your policy’s details and contact your insurance provider or financial advisor to understand when and how you can start borrowing.

Before you apply for a policy loan, make sure you fully understand your options and the terms of your policy. You may be able to verify some details by reading through your policy documents carefully. However, if you have questions or simply want to be sure, you can always contact your insurance agent.

Here’s a specific list of steps to take before borrowing from your policy:

• Verify your policy type: Permanent policies generally have a cash value component, while term policies do not. If you have a term policy, you will not be able to borrow against it. However, you may want to consider converting your policy to whole life insurance to take advantage of this option in the future.
• Look up the current cash value: Find out how much your policy is currently worth. You should be able to look this up yourself by logging into your life insurance company’s website or mobile app. If you cannot find it, you can call the company or your agent directly to request documentation.
• Discuss the terms: Talk to your agent about how policy loans work with your specific insurer. Ask about the minimum cash value required and how much you can borrow. You can also ask about interest rates and any repayment terms.
• Weigh the alternatives: Policy loans are not the only way to access your policy’s cash value. For instance, you may be able to make a withdrawal. This option will likely reduce your death benefit but does not require interest payments. You may also be able to use the cash value to cover your policy premiums. If you no longer need life insurance, ask your agent about the cash surrender value of your policy

In addition to discussing your options with your life insurance agent, you may want to speak with a financial advisor or estate planning attorney about the tax implications of a policy loan. In particular, ask them to walk you through what might happen if you cannot repay the loan. Consider the impact on your beneficiaries if you die before repaying the loan and the impact on your personal finances if you fall behind on insurance or premium payments.

Taking out a life insurance policy loan could be a better option than using a credit card or applying for a personal loan to cover a large expense. However, it’s important to note that you can only borrow against your policy if you have a permanent policy with a cash value component, such as whole or universal life insurance. Term life policies do not qualify, as they do not have a cash value.

If your policy has adequate cash value, you can borrow against it with flexible repayment terms and low interest rates. Keep in mind that if you do not pay back the loan in full before you die, your death benefit will be reduced. Also, if your loan accrues interest to the point of exceeding your cash value, your policy could lapse.

Whether to borrow from your life insurance policy is a personal choice. Before deciding, we recommend that you discuss your needs and goals with a financial advisor or estate planning attorney. Make sure you fully understand the tax implications and potential impacts on your loved ones.

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