When Can You Borrow Against Life Insurance?

A life insurance policy loan enables policyholders to access funds from the accumulated cash value within their policy. Unlike traditional bank loans, these loans do not require a credit check or a lengthy application process, as the policy’s cash value serves as collateral. The primary purpose of such a loan is to provide flexible access to funds that have built up over time, without fully surrendering the coverage.

Understanding Eligible Policies and Cash Value

Cash value in life insurance represents a savings component that accumulates over time within a permanent life insurance policy. A portion of each premium payment contributes to this cash value, which then grows on a tax-deferred basis. This accumulation occurs because the premium is split, with one part covering the cost of insurance and administrative fees, and the remainder being deposited into the cash value account.

The growth of cash value varies by policy type.
Whole life insurance offers a guaranteed fixed interest rate for cash value growth, providing predictable accumulation.
Universal life insurance offers more flexibility, with cash value growth often tied to current interest rates, though some may include a guaranteed minimum rate.
Variable universal life insurance allows the policyholder to invest the cash value in various sub-accounts, similar to mutual funds, offering potential for higher returns but also greater risk based on market performance.
Indexed universal life insurance links cash value growth to a market index, such as the S&P 500, with caps on gains and floors on losses.

Policy loans are exclusively available with permanent life insurance policies that build cash value, such as whole life, universal life, and variable universal life. In contrast, term life insurance policies do not build cash value because they provide coverage for a specific period without an investment component. Term life is designed for temporary coverage and is generally more affordable as it focuses solely on the death benefit.

For a policy to be eligible for a loan, it must have accumulated sufficient cash value. Insurers typically allow policyholders to borrow up to a certain percentage of the current cash value, often around 90%. It usually takes several years for a policy to build enough cash value to support a meaningful loan, as initial years often see a larger portion of premiums covering policy costs.

Initiating a Policy Loan

To initiate a life insurance policy loan, contact the life insurance company that issued the policy. This can typically be done through their customer service line, online portal, or by reaching out to a dedicated insurance agent.

Upon contact, the insurer will generally request key information to verify the policyholder’s identity and policy details. This includes the policy number and the desired loan amount. While the reason for the loan is usually not required for approval, as policy loans use the policy’s own cash value as collateral, a specific loan application form may need to be completed, which can often be accessed online, mailed, or provided by the agent.

The submission process for the loan application varies by insurer but commonly includes online submission through a secure portal or mailing the completed form. Once the application is submitted and the policy’s cash value is confirmed as sufficient, the loan funds are typically disbursed. Disbursement methods often include direct deposit into a bank account or a physical check mailed to the policyholder. The general timeline for receiving funds after approval is usually a few business days, making it a relatively quick source of funds compared to traditional loans.

Understanding Loan Terms and Policy Impact

Understanding the interest rates is important when considering a life insurance policy loan. While policy loans typically offer lower interest rates than personal loans or credit cards, these rates can be fixed or variable, depending on the policy terms. Interest begins accruing immediately on the outstanding loan balance, and this interest is generally paid to the insurance company.

Policy loans offer flexibility regarding repayment. There is often no fixed repayment schedule, allowing policyholders to make payments at their convenience, pay interest only, or even let the interest accrue and add to the loan balance. However, any outstanding loan balance, including accrued interest, will reduce the death benefit paid to beneficiaries.

An outstanding loan also impacts the policy’s cash value. The loan uses a portion of the cash value as collateral, and if the loan balance, along with accrued interest, grows to exceed the policy’s cash value, the policy can lapse. A policy lapse due to an unpaid loan means the coverage terminates. Furthermore, if the policy lapses or is surrendered with an outstanding loan, the amount of the loan that exceeds the premiums paid into the policy can become taxable income. Policy loans are generally tax-free as long as the policy remains in force. Therefore, monitoring the loan balance and regular interest payments helps prevent adverse impacts on the policy’s continued viability and its ultimate payout.