How to Take a Loan Against Life Insurance

A life insurance loan provides a way for policyholders to access funds from their permanent life insurance policy without surrendering the coverage. This financial tool allows individuals to borrow against the accumulated cash value within their policy, offering a source of liquidity for various needs. It uses the policy’s own value as collateral, providing a unique borrowing avenue.

Policies That Qualify

Accessing a loan against life insurance is exclusively available through policies that accumulate cash value, commonly known as permanent life insurance. These include whole life, universal life, and variable universal life insurance policies. A portion of the premiums paid into these policies is allocated to a cash value component, which grows over time on a tax-deferred basis. This accumulation allows policyholders to build a financial asset they can later borrow against.

In contrast, term life insurance policies do not build cash value. Term policies provide coverage for a specific period and typically do not offer a savings or investment component from which a loan can be taken. It generally takes several years for adequate cash value to build within a permanent policy before a meaningful loan can be taken.

Understanding Loan Terms

A life insurance loan is secured by the policy’s cash value, meaning the policy itself acts as collateral. Unlike traditional loans, these are typically non-recourse, which means the policyholder is not personally liable beyond the policy’s cash value. The interest rates on these loans can be fixed or variable, often ranging from approximately 5% to 8%, which may be more competitive than personal or home equity loans. Interest accrues on the outstanding loan balance, and this can either be paid periodically or added to the principal.

The cash value continues to grow even with an outstanding loan, as the loan is made by the insurer using the policy as collateral, not by withdrawing funds directly from the cash value. However, the loan balance, including any accrued interest, reduces the amount of cash value accessible to the policyholder. Any outstanding loan balance and accrued interest will be deducted from the death benefit paid to beneficiaries upon the insured’s passing.

Applying for the Loan

The process of applying for a life insurance loan is typically streamlined, especially compared to traditional bank loans. Policyholders can usually initiate a request by contacting their insurance company directly, often through customer service, an online portal, or via mail. There is generally no credit check or extensive approval process required, as the loan is secured by the policy’s existing cash value. This means that qualification for the loan is virtually guaranteed as long as sufficient cash value has accumulated.

Required information for the application typically includes the policy number and the desired loan amount. Some insurers may ask about the purpose of the loan, though this usually does not affect approval. After submitting the request, the processing time can vary, but funds are often disbursed within a few business days to a couple of weeks, typically via direct deposit or check.

Managing the Loan

After a life insurance loan is disbursed, policyholders have considerable flexibility in its repayment. There is typically no strict repayment schedule, allowing individuals to make payments as it suits their financial situation, whether through lump sums, partial payments, or even interest-only payments. While repayment is not mandatory, any unpaid loan balance, including accrued interest, will reduce the death benefit paid to beneficiaries.

Allowing interest to accumulate can lead to the loan balance growing significantly over time. If the loan balance, combined with accrued interest, eventually exceeds the policy’s cash value, the policy can lapse. A policy lapse with an outstanding loan can trigger adverse tax consequences, as the unpaid loan amount may be treated as taxable income to the extent it exceeds the premiums paid into the policy. To prevent lapse and preserve the full death benefit, policyholders should monitor their loan balance and consider making regular payments, especially interest payments.