How to Take Money From Your Life Insurance

Certain types of life insurance policies accumulate a cash value component that policyholders can access during their lifetime, in addition to providing a death benefit for beneficiaries. This cash value represents a portion of the premiums paid into the policy that grows over time on a tax-deferred basis. Policies like whole life, universal life, and variable universal life typically build this cash value, offering a living benefit that can be utilized for various financial needs. In contrast, term life insurance policies do not accumulate cash value, as they are designed to provide coverage for a specific period without a savings component. Understanding this cash value feature within permanent life insurance provides financial flexibility beyond the primary death benefit.

Using Policy Loans

Policy loans are a common method for accessing funds from a life insurance policy’s cash value. This involves borrowing money directly from the insurer, using your policy’s accumulated cash value as collateral. Interest accrues on the outstanding loan balance, and while there is no strict repayment schedule, any unpaid interest will increase the total loan amount. The cash value within the policy secures the loan, meaning the policy itself does not need to be surrendered to obtain the funds. This option typically becomes available once the cash value has grown to a meaningful amount, which may take several years after the policy is issued.

Policy loans are not considered taxable income if the policy remains in force. However, if the policy lapses with an outstanding loan balance that exceeds the amount of premiums paid into the policy, the difference can become taxable. Any outstanding loan balance, along with accrued interest, will reduce the death benefit paid to beneficiaries upon the insured’s passing. To initiate a policy loan, contact your insurance provider directly. They will require your policy number and the desired loan amount, and they will guide you through completing the necessary request forms.

Making Partial Withdrawals

Partial withdrawals, sometimes referred to as partial surrenders, offer another way to access funds within a life insurance policy. This involves directly taking a portion of the cash value from the policy, which permanently reduces the policy’s cash value. Unlike a loan, a partial withdrawal is not repaid and does not accrue interest. The amount withdrawn directly diminishes both the policy’s cash value and, consequently, its death benefit.

Partial withdrawals are tax-free up to the amount of premiums paid into the policy, which is known as your cost basis. Any amount withdrawn that exceeds this cost basis is taxed as ordinary income. Substantial withdrawals could lead to the policy lapsing if the remaining cash value becomes insufficient to cover ongoing policy charges. To request a partial withdrawal, contact your insurance company and provide your policy details. They will supply the required forms and guide you through the verification process.

Surrendering Your Policy

Policy surrender represents the complete termination of a life insurance policy in exchange for its accumulated cash surrender value. When a policy is surrendered, all life insurance coverage ceases, meaning no death benefit will be paid to beneficiaries. The policyholder receives the cash surrender value, which is the cash value accumulated in the policy, minus any applicable surrender charges and outstanding loan balances. Surrender charges are fees imposed by the insurer, especially if the policy is terminated during its early years, and these charges can significantly reduce the payout.

The tax implications of surrendering a policy arise if the cash surrender value received exceeds the total premiums paid into the policy, known as the cost basis. This excess amount is taxed as ordinary income, not as a capital gain. If the cash surrender value is less than or equal to the cost basis, there is no taxable gain. To surrender a policy, contact your insurance provider and submit a formal surrender request form. The insurer will also require identification and verification to finalize the policy termination and process the payment.

Utilizing Accelerated Death Benefits and Viatical Settlements

Accelerated Death Benefits (ADBs) allow a policyholder to receive a portion of their life insurance policy’s death benefit while they are still living, typically under specific qualifying circumstances. These circumstances often include a diagnosis of a terminal illness with a limited life expectancy, or a critical or chronic illness. The amount received is usually a percentage of the total death benefit, with the remaining portion paid to beneficiaries upon the insured’s death.

ADBs are generally tax-free under current tax law, particularly if the insured is terminally ill and meets specific criteria, such as having a prognosis of 24 months or less to live. However, for chronically ill individuals, the benefits may be taxable if they exceed certain IRS per diem limits or are not used for qualified long-term care expenses. Receiving ADBs will directly reduce the ultimate death benefit paid to the beneficiaries. To apply for ADBs, contact your life insurance company, provide medical documentation confirming your diagnosis and eligibility, and complete their specific application forms.

Viatical settlements offer another avenue to access funds from a life insurance policy, typically for individuals with a terminal or chronic illness. This involves selling the policy to a third-party company, known as a viatical settlement provider, for a lump sum payment that is less than the policy’s full death benefit. Once the sale is complete, the viatical settlement provider becomes the new owner of the policy, assumes responsibility for all future premium payments, and receives the entire death benefit when the insured passes away. This option is primarily available to individuals with a limited life expectancy, often defined as two years or less, although some providers may consider longer timeframes. The proceeds from a viatical settlement are generally tax-free if the insured is terminally ill, similar to accelerated death benefits, provided certain conditions are met. However, engaging in a viatical settlement means the death benefit is entirely relinquished to the new owner, leaving nothing for your original beneficiaries. To pursue a viatical settlement, research and contact reputable providers, obtain valuations for your policy, and then complete the necessary legal paperwork to transfer ownership.