What is cash value life insurance?
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Key takeaways
- Permanent life insurance policies offer a cash value component that can function as an interest-accumulating savings or investment account that is funded in part by your premiums.
- You are able to utilize the cash value account prior to your death through a number of methods including a partial withdrawal or by taking out a loan against the value of the account.
- Cash value life insurance is typically more expensive than standard life insurance policies and the amount of death benefit paid out decreases if you take out money from your cash value account and don't return it.
A life insurance policy could offer peace of mind to you and your family by providing a payout, known as a death benefit, to your beneficiaries if you pass away. In addition to a death benefit, some life insurance policies also provide you with the ability to utilize some value from your policy while you are alive. A cash value life insurance policy takes some of your premium and sets it aside in an interest-bearing savings or investment account, which you can access before you pass away. Determining whether or not a cash value life insurance policy is right for you depends on the type of coverage that you require and how you might want to utilize the funds if you need them. It is worth considering the pros and cons of cash value life insurance before committing to a policy.
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Whole life insurance combines life insurance with an investment component.
- Coverage for life
- Tax-deferred savings benefit if premiums are paid
- 3 variations of permanent insurance: whole life, universal life and variable life include investment component
Term life insurance is precisely what the name implies: an insurance policy that is good for a specific term of time.
- Fixed premium over term
- No savings benefits
- Outliving policy or policy cancellation results in no money back
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How does cash value life insurance work?
A cash value life insurance policy operates similarly to a standard permanent life insurance policy in that you pay monthly premiums for a set death benefit that will be available to your beneficiaries after you pass away. However, a cash value policy will also divert some of your premium (which will typically be higher than a standard policy) and place it into a savings or investment account that you can access while you are alive.
The breakdown of your premium payment with a cash value policy is as follows:
- Cost of the insurance: Every month, part of your premium contributes to your death benefit, which will be paid out upon your death.
- Overhead and fees: You’ll also pay money towards the insurance company’s operating costs and you’ll pay fees associated with your cash-value account, just like with any other investment account.
- Cash value: Some of the money will be diverted into the savings or investment account associated with your cash value policy.
You can access the money set aside in your cash value account in a number of ways, including direct withdrawals or borrowing against the value of the account. It is worth noting that if you withdraw directly and don’t pay it back, then the death benefit payout will be reduced by the amount that you withdraw. Additionally, most cash value insurance policies do not add the cash value account to the death benefit, meaning if you do not use it while you are alive, the money will simply revert to the insurance company rather than to your beneficiaries.
Pros and cons of cash value life insurance
| Pros | Cons |
|---|---|
| You can spend from your cash value account while you’re alive. | You may have fees associated with your cash value account. |
| You can earn interest on a cash value savings account. | Cash value policies are more expensive than term policies. |
| You can earn returns on a cash value investment account. | If you remove money from your cash value account, your death benefit decreases. |
| You can overpay on your premium and divert more money into your cash value account. |
Types of cash value life insurance
If you’re looking for a cash value account to augment your life insurance policy, you may be wondering what policy types you can choose. Thankfully, you can get cash value life insurance with several different types of permanent life insurance, which is life insurance that does not expire as long as you pay your premium. Cash value accounts are not available with term life insurance, which is only available for a specific period of time.
Each type of cash value account is a little different depending on the type of life insurance you choose. Learn the differences so you can pick the best choice for you.
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A whole life insurance policy covers you for the full length of your life, from when you buy the coverage to when you pass away (as long as premiums are paid). You will pay a steady premium which will remain the same for the duration of your life, with a portion of the premium diverted into a cash value account that will accrue interest over time and can be accessed prior to your death.
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Variable life insurance allows you to adjust the death benefit and premiums over the course of your life. This allows you to make decisions based on your financial situation and how much coverage you may need at a given time. With a variable life insurance policy, you can set up a cash value account that will be funded by your premium and can be invested in the stock market or bonds rather than just sitting in a savings account. These accounts typically carry a higher monthly premium than other alternatives.
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Universal life insurance allows you some additional control over your coverage and premium. You can raise your death benefit if you need additional coverage. A cash value account on a universal life insurance policy is accessible once you meet a threshold for funds in the account. However, if you draw too much from your cash value account, your policy could lapse.
There are several types of universal life insurance, including variable universal life insurance policies, which offer the most flexibility of any permanent life insurance plan, with the ability to adjust the death benefit as frequently as you would like. A variable universal life policy also offers a cash value account that you can invest more aggressively, using the money to buy equities, bonds or mutual funds. This can create more variance as the markets can be unpredictable. As a result, these policies often come with a floor for how much you can risk in investment vehicles.
There is also the indexed universal life insurance policy, which will set up a death benefit and a cash value account. That account will be linked to an index of investments that may guarantee a certain interest rate for returns but also carries a cap for how much return your account can generate.
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How to use the cash value from your life insurance
If you’d like to use your cash value account prior to your death, you can do so in the following ways.
- Make a partial withdrawal: You can withdraw money straight out of your cash-value account, but there’s a catch: when you do, the amount of money your beneficiaries receive when you die decreases unless you pay it back. Even though it’s money that you deposited, if you use it and don’t pay it back, your life insurance policy’s death benefit will decrease.
- Take out a loan: You can take out a loan against the cash value you’ve built up. Just remember, you’re going to take out debt against money that is already yours, and you’re paying interest on top of it. Should you be unable to pay it back before you die, your death benefit to your family will decrease.
- Pay your premium: You can use the money you’ve accumulated in the cash value account to pay for your monthly premium. Depending on which life insurance company you work with, there may be a withdrawal fee to do so.
- Sell your policy: If you no longer feel as if there is a need to have life insurance, you can typically sell your policy for a cash settlement.
- Surrender your policy: Instead of selling your policy, you can instead surrender it. Any cash value you’ve built up over the years could be given to you after numerous fees are taken out. If the cash value is more than you’ve paid in premiums over the years (which is unlikely), you’ll be taxed on any profits you’ve made.
Frequently asked questions
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The best life insurance company will depend on a number of factors, including what type of coverage you need, what your budget is and how much you value different aspects of your insurance policy. In general, Bankrate’s research has found that Guardian and Mass Mutual are among the most highly-rated life insurance companies for many people. To find the best company for you, you may want to start by gathering quotes from several life insurance companies to see what options and pricing are available to you.
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The difference between term and permanent life insurance is that permanent life insurance will provide coverage for the entirety of your life as long as you make your premium payments. Some permanent life insurance plans also offer additional benefits such as a cash value account. Term life insurance, which is generally cheaper, is designed to cover a specific frame of time, say ten years, to provide a death benefit should anything happen to you within that time period.
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Typically, the insurance company will set a specific threshold that must be met within the cash value account before withdrawals can occur. You will have to pay a portion of your premium into the account in order to hit that minimum before you can withdraw from the account. Speak with your insurance agent to find out the specifics of your policy.
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