Can You Take a Loan From Life Insurance?

Life insurance policies offer a death benefit for beneficiaries and, in certain types, a source of funds during the policyholder’s lifetime. A life insurance policy loan allows individuals to borrow money using the accumulated cash value within their policy. This provides liquidity without fully surrendering the policy.

Policies That Allow Loans

Only specific types of life insurance policies are eligible for loans. Policies that accumulate cash value, such as whole life, universal life, and variable universal life insurance, enable policyholders to borrow against this accumulated sum. Term life insurance, designed solely to provide coverage for a defined period, does not build cash value and therefore does not offer a loan feature.

Cash value represents a portion of premium payments that grows over time on a tax-deferred basis. This value forms the basis for a policy loan, typically accessible after a few years of premium payments. It generally takes two to five years for a policy to build enough cash value to borrow against, though this varies by policy design.

How Life Insurance Loans Function

A life insurance loan is essentially a loan from the insurance company, using the policy’s cash value as collateral, rather than a direct withdrawal of the cash value itself. The funds for the loan come from the insurer’s general account, meaning the policy’s cash value continues to grow, though the portion used as collateral may earn interest at a reduced rate. This arrangement ensures the policy remains in force, provided premiums are maintained.

Interest accrues on the loan balance, and typical interest rates for policy loans range from approximately 5% to 8%, which can be fixed or variable depending on the insurer and policy terms. Unlike conventional loans, a credit check is generally not required to obtain a life insurance loan, and the funds can be used for any purpose. Policy loans are typically not considered taxable income, provided the policy remains in force and the outstanding loan amount does not exceed the policy’s cost basis if the policy lapses. If the policy lapses with an outstanding loan exceeding the cost basis, the loan amount may become taxable as ordinary income.

Applying for a Policy Loan

Obtaining a life insurance policy loan is managed directly with the insurance provider. Before requesting, policyholders should gather their policy number, desired loan amount, and personal identification. Bank account information is also needed if direct deposit is preferred.

The request can typically be submitted by contacting the insurance company through various channels, such as phone, online portals, or mail, to request a loan application form. After submission, the insurer will review the application, primarily verifying the available cash value to ensure it can collateralize the loan. Processing times can vary, but policyholders can generally expect funds to be disbursed within a few days to a few weeks following approval.

Loan Repayment and Policy Consequences

Repayment of a life insurance policy loan is flexible, often without a fixed schedule. Policyholders can repay in installments, a lump sum, or not at all. However, interest accrues on the outstanding balance. Unpaid interest can be added to the principal, increasing the loan amount.

An outstanding loan has direct implications for the policy’s death benefit. If the policyholder passes away before the loan is fully repaid, the outstanding loan balance, plus any accrued interest, will be deducted from the death benefit paid to beneficiaries. A more significant consequence can arise if the total outstanding loan balance, including accrued interest, grows to exceed the policy’s cash value. In such cases, the policy may lapse, leading to the loss of coverage. Furthermore, if a policy lapses with an outstanding loan amount that exceeds the premiums paid into the policy (cost basis), the difference can be considered taxable income by the Internal Revenue Service.