How to Borrow Money Against Life Insurance

Borrowing money against a life insurance policy offers a way to access accumulated funds without liquidating other assets. This involves taking a loan directly from the insurance company, using the policy’s cash value as collateral. Unlike traditional loans, policy loans do not require a credit check or a lengthy application process. Understanding the specific policy types, steps involved, and financial implications is important for policyholders.

Eligible Policy Types and Requirements

Accessing funds through a life insurance policy loan is contingent upon the policy type and its accumulated cash value. Only permanent life insurance policies, such as whole life, universal life, variable universal life, and indexed universal life, feature a cash value component that grows over time. This cash value is a portion of the premiums paid that accumulates in a tax-deferred account, earning interest or investment returns. Term life insurance policies do not build cash value and do not allow for policy loans.

For a policy loan to be possible, the policy must have sufficient accumulated cash value. It takes several years of premium payments for the cash value to grow to an amount that makes a loan feasible. The policy owner is eligible to borrow against this value, provided the policy remains in force. Insurance companies allow policyholders to borrow up to 90% of the policy’s available cash value. The exact percentage and any minimum cash value thresholds can vary between insurers and policy contracts.

The Borrowing Process

Obtaining a loan against a permanent life insurance policy is a relatively straightforward process once sufficient cash value has accumulated. The initial step involves contacting the insurance company directly. Policyholders request a policy loan application or form to initiate the borrowing process.

Upon receiving the necessary paperwork, the policyholder completes it, providing details such as the desired loan amount and confirming policy specifics. This includes verifying the policy number and the policyholder’s identity. Unlike conventional loans, there are no credit checks or extensive financial evaluations required, as the loan is secured by the policy’s cash value.

After completing the application, it is submitted to the insurance company. The processing time for a life insurance policy loan is short, with funds often disbursed within a few business days. The funds are provided directly to the policyholder through direct deposit or a check, depending on the insurer’s standard procedures and the policyholder’s preference.

Loan Terms and Policy Implications

Interest accrues on the outstanding loan balance. This interest rate, often between 5% and 8%, is typically lower than those found on personal loans or credit cards. The interest may be fixed or variable, depending on the policy terms, and is paid back to the insurer.

Policy loans do not come with a mandatory repayment schedule, offering considerable flexibility to the borrower. Policyholders can choose to repay the loan in a lump sum, make partial payments, or even allow the interest to accrue and be added to the outstanding loan balance. However, it is important to manage the loan and its accumulating interest to prevent it from exceeding the policy’s cash value.

An outstanding loan balance, including any accrued interest, will directly reduce the death benefit paid to beneficiaries upon the insured’s death. This means the beneficiaries will receive the policy’s face amount minus the total outstanding loan amount. Not managing the loan risks policy lapse. If the outstanding loan balance, along with accrued interest, grows to exceed the policy’s cash value, the policy can terminate, leading to a loss of coverage. In such a scenario, the loan amount that exceeds the premiums paid into the policy may become taxable income, as the tax-free status of the loan is contingent on the policy remaining in force.