for your remodeling plan
11. Cashing in
on cash-value life insurance
Cash-value life insurance policies,
called whole life, universal life and variable life policies, or "permanent" insurance,
create pools of money. As you pay into the policy, part of the premium goes toward
a cash reserve. The insurance company invests that reserve and it grows tax free.
The reserve is meant to subsidize your premiums later in life when insurance is
more expensive as a way to keep your policy costs consistent. Yet you often can
borrow from that reserve and generally at a much lower rate than a bank might
The main drawback, Ferrara says, is that, typically,
loans from insurance policies have no repayment schedule -- you can pay it back
at whatever pace you deem appropriate. However, interest accrues every month and
you receive an invoice every year for that interest. If you fail to pay it back,
it gets rolled back into the loan, and your principle amount grows. "You
end up with interest compounding the wrong way," Ferrara says.
If the loan grows larger than the cash value, the policy could lapse and you could
be hit with a big, unexpected tax bill. And, if you die before the loan is paid
back, your death benefit shrinks by the amount still outstanding on the loan plus
interest. Glink is opposed to the policies altogether. Term life insurance rates
have plummeted in recent years, calling into question the wisdom of buying higher-priced
policies. "When you borrow against your policy you are still required to
pay it back unless you lower your death benefit," she says. "I just
think this is a terrible idea."
12. Take it out of your 401(k)
retirement plans allows participants to withdraw loans for five years with no
tax implications. Some policies allow you to withdraw the money for any reason,
while others limit loans to health-care emergencies, to pay for education or for
home improvements. While borrowing from yourself may seem like a wise money move,
financial advisers uniformly denounce the idea.
against the 401(k) option for home remodeling because, he says, people
don't save enough as it is. Even though you are paying yourself back with interest,
you miss the chance to compound that money over the five years it is out of your
account. Depending on how much you borrowed and how far you are from retirement,
that lost compounding could translate into tens of thousands of dollars in lost
income. "It really is the absolute worst thing you could do," Glink
says. "That should be reserved for life-threatening situations."
Aside from the lost compounding, if you are fired or leave your job the loan comes
due in full with interest. If you can't repay it, you get hit with an additional
10 percent early withdrawal penalty.
"That would really
be my very last choice," Glink says. "I would rather not renovate than
borrow from 401(k) to do it."