When it comes to permanent life insurance, financial experts often talk about death benefits and cash value. While many people know what a death benefit is, the cash value aspect of a permanent life insurance policy is less understood. So, what exactly is cash value life insurance, and why is it sometimes more desirable than other types of life insurance?
What is cash value in life insurance?
Cash value in life insurance is a savings vehicle within a policy that earns interest. You could think of cash value as your life insurance policy’s savings account.
If you have a permanent life insurance policy – such as a whole life or indexed universal life policy – a portion of your premium payments is put toward your policy’s cash value. Your cash value grows with each premium you pay, so the longer your policy is active, the bigger your cash value will be.
Your policy’s cash value also grows outside of your premium contributions. Depending on your life insurance policy type, it may accumulate a set interest or be invested in the stock market. This allows the cash value to compound in growth over time (similar to a retirement fund).
Life Insurance with Cash Value FAQs
The following are some commonly asked questions about life insurance with cash value.
Which type of life insurance policy generates immediate cash value?
There are several popular types of life insurance with cash value:
● Whole life – This is the most basic form of permanent life insurance. Your contributions to your policy’s cash value will grow at a preset interest rate. Certain types of whole life policies can also earn annual dividends as a bonus if the life insurance company overperforms financially.
● Universal life – This type of policy works similarly to a whole life insurance policy’s cash value. However, universal life insurance is more flexible in that you’re able to adjust the amount of your death benefit and premiums over the lifetime of your policy.
● Variable universal life – This is a variation of universal life insurance where insurance companies invest the policy’s cash value in equities. Similar to standard investment accounts, the cash value can gain or lose money depending on the overall market performance.
● Indexed universal life insurance – Another variation of universal life insurance where the cash value is invested in an equity-based index fund. However, there are caps on earnings that can limit the cash value’s growth – but these caps also prevent the cash value from losing value.
As a general rule, only permanent life insurance policies have cash value; term life insurance policies do not carry a savings vehicle.
How can cash value be used?
There are four ways you can use the cash value of your life insurance policy:
- Pay for your premiums – Once the cash value is substantial enough, you can use it to pay your policy’s premiums. When your cash value balance is enough to cover your premiums, the policy becomes a self-sustaining asset.
- Borrow against it – You can take out loans against your policy’s cash value. Many people use these loans to finance large family purchases – like a home remodel or purchasing a new vehicle – while others use these loans for other pursuits – such as buying rental properties or starting a business – without the hassle of securing a loan through a bank. One big advantage of borrowing against your policy’s cash value is that the interest rate is likely to be much less than what a commercial lender would offer.
- Make a withdrawal – If the policy agreement allows, you may be able to make partial withdrawals from the cash value of your policy.
- Take the surrender payment – If for some reason you need to withdraw the entire cash value balance, you can. This would result in a surrender value cash payment – the balance of the cash value minus any fees – and the cancelation of your policy.
Is the cash value of life insurance taxable?
For as long as the cash value stays inside the life insurance policy, you will not be responsible for paying any taxes on its growth. Using the cash value to pay for the premiums and loans made against it will also not trigger any taxes.
If you make any withdrawals or cancel the policy to take the surrender cash value payment, however, this is considered a taxable event. Taxes will be due on the withdrawn amount minus any tax contributions you’ve made up to that point.
What happens to cash value if you default on / end your policy?
When you miss or default on your payments, most insurance providers will continue to pay for the premiums using the cash value. Once the cash value is no longer sufficient to cover the premiums, your policy will lapse and you will no longer be covered. Again, if you formally end the policy, you can request a surrender value cash payment. The surrender value is the total sum of your cash value minus any surrender charges.
Do beneficiaries receive the cash value?
No. Your beneficiaries are only entitled to the death benefit of your insurance policy. They will receive this amount minus any outstanding loan balances against the cash value. The cash value is forfeited to the insurance company when a person passes away.
The best way to utilize your cash value to benefit your heirs would be to borrow against your cash value to purchase valuable assets you can then pass on to your heirs. Additionally, if you have universal life insurance with a flexible death benefit, you could raise the death benefit and use the cash value to pay for the increased premiums.
Best Cash Value Life Insurance Policy for You
With all of the many permanent life insurance options out there, understanding the ins and outs of various life insurance policies and cash value components can get complicated. To ensure you’re getting the right type of policy with the correct amount of coverage and cash value component that fits your life, it’s important to talk to an experienced life insurance advisor.
Principled Life’s independent insurance advisors are fully licensed insurance brokers who know the market and can help you find the best life insurance policy with cash value from a top life insurance carrier. Let us help you find peace of mind knowing that you have both coverage for your family and financial security for the future. Give us a call today or request a free and easy quote on our website to get started.
