What Are Nonforfeiture Options in Life Insurance?

Life insurance policies that accumulate cash value offer a built-in safety net for policyholders. This accumulated value grows over time, providing a financial component beyond the death benefit. Should a policyholder stop paying premiums, nonforfeiture options protect some of this accrued value from being lost. These provisions are an established feature within permanent life insurance contracts.

Understanding Nonforfeiture Options

Nonforfeiture options are contractual provisions found in permanent life insurance policies, such as whole life or universal life. These clauses specify how the accumulated cash value within a policy will be utilized if premium payments cease. Their purpose is to prevent policyholders from losing all the financial value that has built up over years of premium contributions. These options come into effect when a policy lapses due to non-payment, or if the policyholder decides to discontinue the policy.

Reduced Paid-Up Insurance

Reduced paid-up insurance is a nonforfeiture option where the existing cash value of an original policy is converted into a new, smaller, fully paid-up life insurance policy. No further premium payments are required for this new policy. The death benefit of the new policy will be less than the original, but the coverage typically continues for the insured’s lifetime.

The calculation of the new, reduced death benefit considers the policy’s cash value, the policyholder’s age, and the duration premiums have been paid. This option maintains lifelong coverage, albeit at a lower face amount, without any additional cost to the policyholder.

Extended Term Insurance

Extended term insurance is another nonforfeiture option that uses the accumulated cash value to purchase a term life insurance policy. This new term policy maintains the original death benefit amount. The cash value determines the length of the term for which this coverage will remain in force, with no further premiums due.

The duration of the extended term coverage is calculated based on the policy’s cash value and the insured’s current age. For example, a policy with a substantial cash value might provide extended term coverage for many years, while a policy with less cash value would offer a shorter term.

Cash Surrender Value

The cash surrender value represents the amount of money a policyholder receives when terminating a permanent life insurance policy. This option effectively cancels the insurance coverage and its corresponding death benefit. The amount received is the policy’s accumulated cash value, less any applicable surrender charges and outstanding policy loans or unpaid premiums.

Surrender charges are fees that insurers levy when a policy is terminated prematurely, typically designed to recover initial expenses. These charges often start high in the early years of a policy and gradually decrease over time, commonly phasing out after 10 to 15 years. Any outstanding policy loans, including accrued interest, are also deducted from the cash value before the surrender payment is made. Receiving the cash surrender value can have tax implications if the amount received exceeds the total premiums paid into the policy.