Retirement should be a period of relaxation after years of hard work. However, some retirees find themselves financially strained. The reality of insufficient income can bring significant stress and affect their quality of life, leading many to search for viable financial solutions. Interestingly, a valuable asset that often gets overlooked is a life insurance policy. While most people view life insurance as a safety net for their beneficiaries, it also holds substantial cash value that can be accessed during the policyholder’s lifetime. This blog entry discusses how seniors can unlock the value of life insurance policies to alleviate their financial stress.
So, what does it mean to cash in a life insurance policy? Simply put, it involves accessing a portion or the entirety of a policy’s value before the insured person’s death. The accumulated cash value of the policy determines the amount you can withdraw or borrow. Permanent life insurance policies, such as whole life and universal life insurance, typically gather this value over time. These policies accumulate a cash surrender value, which can be significant for those who have held them for many years. While term life insurance policies do not build a cash value, there are still ways to monetize these policies.
There are several methods available for policyholders to cash out their life insurance policies. These include:
1. Withdrawals from Cash Value Account: Permanent life insurance policies, such as whole life and universal life, have cash value accounts used for investing and savings. If your policy has accumulated cash in this account, you can withdraw it. It’s crucial to note that any withdrawn amount reduces the death benefit your beneficiaries receive. Term life insurance policies lack this cash value account, so term policyholders cannot use this option.
2. Borrowing from Cash Value: Policyholders with whole life or universal life insurance can take low-interest loans against their policy’s cash value. While borrowing is relatively straightforward, it’s vital to repay the loan to prevent the policy from lapsing. Term life insurance policies do not support borrowing against their value as they lack a cash value account.
3. Policy Surrender for Cash: This method involves surrendering your policy to the insurance company in exchange for the cash surrender value. This action terminates the policy and stops future premium payments. Only whole life and universal life policies can be surrendered because they accumulate a cash value. Term life insurance policyholders cannot surrender their policy for cash since it doesn’t gather value over time.
4. Accessing Living Benefits: For those diagnosed with a terminal illness, most life insurance policies have an accelerated death benefit feature. This provision allows policyholders to access a portion of their death benefit to cover medical expenses. While living benefits provide urgent financial relief, selling the policy might yield more money. Living benefits enable seniors to use some of their policy’s value without ending coverage, which can be a beneficial option for maintaining financial stability during severe health issues.
5. Selling Your Policy in a Life Settlement: Policyholders with whole, universal, or term life insurance can opt for a life settlement. This involves selling the policy to a third party for a one-time cash payment. Unlike surrendering, the life settlement provider takes over future premium payments and receives the death benefit upon the policyholder’s death. Life settlements often yield much higher payouts than the cash surrender value, averaging four times the amount.
A lesser-known but viable option is the viatical settlement, suitable for terminally or chronically ill individuals. This method allows the sale of a life insurance policy for immediate funds, typically used for medical expenses. Viatical settlements possess stricter criteria but can offer significant financial relief.
Policyowners contemplating cashing out often consider when to access this option. A few factors determining the timing include:
– Accumulated Cash Value: For permanent life insurance, it can take years to build sufficient cash in the policy’s account to make withdrawals or loans worthwhile.
– Health Condition: Accessing living benefits depends on being diagnosed with a terminal or chronic illness.
– State Regulations on Policy Sales: To protect seniors, many states require ownership of a policy for a certain period before it can be sold in a life settlement. This duration varies but usually ranges from two to five years.
Though term life insurance policies do not accumulate any cash value directly, they can still be sold in a life settlement, providing policyholders with a substantial cash payout. Some term policies may also be convertible to permanent policies, which can then accumulate cash value and be cashed out sooner.
Cashing out a life insurance policy has various tax implications. Withdrawals are generally not taxed unless the policy is an MEC or has been active for fewer than 15 years. Loans against a policy are not taxed if the policy is not an MEC. Cash surrenders might incur taxes on the gains received, classified as ordinary income. Living benefits are often tax-free, providing extra financial aid to those in poor health. Life settlement proceeds are typically tax-free unless the settlement payout exceeds the policy’s tax basis.
Evaluating the pros and cons of cashing out a life insurance policy is essential. Benefits include immediate access to funds, stopping premium payments, zero impact on credit score, and the potential for debt consolidation. However, cashing out may reduce or eliminate the death benefit for beneficiaries, incur potential tax consequences, result in the loss of life insurance coverage, and possibly involve penalty fees for early withdrawals.
The decision to cash out a life insurance policy is personal and requires careful consideration. Each individual’s financial situation is unique, making it crucial to seek advice from a qualified financial advisor. They can provide tailored, impartial advice on how to leverage your life insurance policy for the best financial outcome.
Understanding the potential benefits of life settlements, we are here to help you explore how much your policy might be worth. By providing detailed information and informed advice, we aim to support you in making the best decision for your financial future.
