Can You Cash Out Life Insurance When You Leave a Job?

Leaving a job often brings questions about the future of employer-provided benefits, including life insurance. Many individuals wonder if they can access funds from these policies as they transition from one employer to another. Understanding the nature of your employer-sponsored life insurance is the first step in determining what options are available when employment ends. Not all life insurance policies build a cash value that can be accessed.

Understanding Employer-Provided Life Insurance Types

Employer-provided life insurance typically falls into one of two main categories: group term life insurance or, less commonly, employer-sponsored permanent life insurance. Group term life insurance is the most prevalent type offered by employers across the United States. This coverage is usually provided for a specific period, often for the duration of employment, and generally does not accumulate any cash value. It primarily offers a death benefit to beneficiaries if the insured passes away during the term of coverage.

Employer-sponsored permanent life insurance, such as whole life or universal life policies, is far less common in an employment benefits package. Unlike term policies, permanent life insurance policies are designed to provide coverage for an individual’s entire life and typically include a cash value component. This cash value grows over time on a tax-deferred basis. The availability of this cash value is what allows for the possibility of “cashing out” a policy.

Options for Group Term Life Insurance

When an individual leaves a job, their group term life insurance coverage typically terminates. However, many group term life insurance plans offer a “conversion privilege,” which allows an employee to continue coverage. The conversion privilege enables a departing employee to convert their group term coverage into an individual permanent life insurance policy. This conversion usually occurs without the need for a medical examination or proof of insurability, which can be beneficial for individuals with health concerns.

The application for conversion must generally be made within a specific timeframe, often 30 to 60 days from the date employment ends. Converting to an individual permanent policy will result in significantly higher premiums, as the new policy is based on the individual’s current age and is no longer part of a group rate.

Accessing Cash Value from Employer-Sponsored Policies

Accessing cash value is only possible with permanent life insurance policies, which are less frequently offered as an employer-sponsored benefit. If an employer did sponsor such a policy, or if an individual converted a group term policy into an individual permanent one, several methods exist for accessing cash value.

Policy surrender is one option, where the policyholder terminates coverage for the policy’s cash surrender value. This amount is the cash value minus any applicable surrender charges, which can be substantial, especially in the early years of a policy. Another method is taking a policy loan, where the policyholder borrows against the cash value. The cash value serves as collateral for the loan, and repayment terms are often flexible, without the need for credit checks or a formal approval process. Any outstanding loan balance, including interest, will reduce the death benefit paid to beneficiaries if the loan is not repaid.

A third option is a partial withdrawal, which allows the policyholder to take out a portion of the cash value without fully surrendering the policy. While partial withdrawals can reduce the death benefit, they allow the policy to remain in force. To initiate any of these actions, contact the insurance provider to understand specific policy terms.

Tax Implications of Life Insurance Transactions

Understanding the tax implications of life insurance transactions is important, particularly when accessing cash value. Generally, the death benefit paid to beneficiaries from a life insurance policy is income tax-free.

However, accessing the cash value of a permanent life insurance policy through a full surrender or partial withdrawal can have tax consequences. If the amount received from a surrender or withdrawal exceeds the total premiums paid into the policy (known as the cost basis), the excess amount is typically taxed as ordinary income.

Policy loans are generally not considered taxable income, provided the policy remains in force. However, if a policy with an outstanding loan lapses or is surrendered, the unpaid loan amount, to the extent it exceeds the policy’s cost basis, can become taxable. Certain policies, known as Modified Endowment Contracts (MECs), have different tax rules, where loans and withdrawals may be taxable and subject to penalties if taken before age 59½. Consult a tax professional to understand the specific tax implications before making any decisions regarding your life insurance policy.