How to Cash Out a Life Insurance Policy

Life insurance policies offer financial protection to beneficiaries upon the insured’s passing. Certain types also accumulate a cash value during the policyholder’s lifetime, which can be accessed for various needs, providing a flexible financial resource beyond the primary death benefit.

Understanding Your Policy’s Cash Value

Cash value is a component of permanent life insurance policies, distinguishing them from term life insurance, which only provides a death benefit for a specific period. This value grows over time and can be accessed by the policyholder during their lifetime. Whole life, universal life, and variable universal life policies are common examples of permanent insurance that build cash value.

The cash value accumulates through a portion of the premiums paid, which is allocated to a savings or investment component within the policy. This portion grows on a tax-deferred basis, often enhanced by interest credits or, in the case of participating whole life policies, dividends. The rate of growth varies by policy type; universal life policies tie growth to an interest rate, while variable universal life policies invest cash value in sub-accounts, exposing it to market fluctuations.

To determine a policy’s current cash value, policyholders should review their annual policy statements. These statements typically provide a detailed breakdown of the policy’s financial components, including the accumulated cash value, death benefit, and any outstanding loans or charges. If a recent statement is unavailable or the information is unclear, contacting the issuing insurance company directly is the most reliable method to obtain an up-to-date cash value statement.

Accessing Cash Value Through Your Insurer

Accessing the cash value of a life insurance policy can be accomplished directly through the issuing insurance company using several methods.

Policy Surrender

Surrendering a life insurance policy involves terminating the coverage in exchange for its accumulated cash surrender value. To surrender a policy, contact your insurer for a surrender form. This form typically requires the policy number, personal identification, and instructions for fund disbursement, such as bank account details for direct deposit. Once completed, the form must be returned to the insurer, often requiring a notarized signature to verify identity and intent.

Upon receipt, the insurer processes the policy termination. The cash surrender value, which is the accumulated cash value less any outstanding loans, unpaid premiums, or surrender charges, is then disbursed to the policyholder. Funds are typically disbursed within a few business days to several weeks. The policy coverage ceases entirely once the surrender is complete.

Policy Loan

A policy loan allows a policyholder to borrow money using the policy’s cash value as collateral. This is not a withdrawal from the cash value itself but rather a loan against it, with the cash value continuing to accrue interest or dividends. To obtain a policy loan, contact your insurer to inquire about eligibility, maximum amount, and interest rate. Insurers typically provide a loan application form that requires the policy number, the requested loan amount, and disbursement instructions.

The loan amount is typically limited to a percentage of the cash value, often up to 90% or 95%. Interest accrues on the outstanding loan balance, and while there is no strict repayment schedule, any unpaid loan balance and accrued interest will reduce the death benefit paid to beneficiaries. If the loan balance, plus interest, exceeds the policy’s cash value, the policy may lapse. Funds are typically disbursed within a few business days to two weeks.

Partial Withdrawal

A partial withdrawal allows a policyholder to take a portion of the cash value from their policy, typically available with universal life policies. This action directly reduces the policy’s cash value and, consequently, the death benefit amount. To initiate a partial withdrawal, contact your insurer to ascertain the available amount, fees, and potential impacts on policy viability.

The withdrawal form requires the policy number, the specific amount to be withdrawn, and details for fund transfer. Policyholders should be aware that withdrawals can affect the policy’s ability to maintain its coverage in the future, particularly if the remaining cash value becomes insufficient to cover ongoing policy charges. Funds are usually disbursed within a similar timeframe as policy loans. The policy remains in force, but with a reduced cash value and death benefit.

Selling Your Life Insurance Policy

Selling a life insurance policy, often referred to as a life settlement, involves transferring ownership of an existing policy to a third-party investor. This option allows policyholders to receive a lump sum payment for their policy, which is typically more than its cash surrender value but less than the full death benefit. This process is distinct from accessing value directly through the insurer, as it involves an external transaction.

To pursue a life settlement, contact licensed life settlement brokers or providers. These entities act as intermediaries, soliciting offers from various investors on behalf of the policyholder. The policyholder will need to provide extensive documentation, including the original policy documents, medical records detailing their health status, and other personal financial information. This information allows potential buyers to assess the policy’s value and the insured’s life expectancy, which are factors in determining an offer.

Once the necessary documentation is submitted, brokers will present the policy to multiple qualified institutional buyers, who then submit bids. The policyholder can review these offers and choose the most favorable one. If an offer is accepted, a formal closing process begins, which includes signing transfer of ownership documents, such as an absolute assignment form, and notifying the insurance company of the change in ownership. The funds from the sale are typically placed into an escrow account and released to the policyholder once the ownership transfer is fully completed and verified by the insurance company. The process, from inquiry to receiving funds, can take several weeks to a few months.

Tax Implications of Accessing Policy Value

Accessing the value within a life insurance policy can have various tax implications, depending on the method chosen. The “cost basis” of a life insurance policy, which generally refers to the total premiums paid into the policy less any dividends or withdrawals, plays a role in determining taxability.

When a policy is surrendered, any amount received that exceeds the policyholder’s cost basis is typically considered taxable income. Partial withdrawals are generally treated as a return of premium up to the cost basis and are therefore tax-free until the total withdrawals exceed the cost basis. Once the cost basis has been recovered, any subsequent withdrawals are considered taxable income.

Policy loans are generally not considered taxable income, as they are treated as a debt against the policy’s cash value. However, if a policy with an outstanding loan lapses or is surrendered, and the loan amount exceeds the policy’s cost basis, the amount of the loan that exceeds the basis can become taxable income. This is relevant if the policy is classified as a Modified Endowment Contract (MEC), where all distributions, including loans, are taxed first as income to the extent of gain in the policy, and may be subject to a 10% penalty if the policyholder is under age 59½.

The sale of a life insurance policy through a life settlement also carries tax implications. The amount received from a life settlement that exceeds the policy’s cost basis is typically taxed as ordinary income. Any portion of the proceeds that exceeds the cash surrender value but is still below the death benefit is generally treated as capital gains. Policyholders should consult with a qualified tax professional to understand the specific tax implications for their individual circumstances.