Should You Borrow from the Cash Value in Your Life Insurance Policy to Pay Off Debt?

Key Takeaways
  • Not all insurance policies allow you to borrow against your cash value or death benefit.
  • Owning a permanent life insurance policy could mean you can tap into the policy’s cash value to pay off debts.
  • Cancelling your life insurance policy or borrowing money against your cash value could leave you without adequate life insurance should you die unexpectedly.

Our strong economy reflects high consumer confidence, record low unemployment, and rising consumer debt. In March 2019, according to The Balance, consumer debt rose by 5% over the previous month. When you feel good about the economy, it is easy to rack up more personal debt because you are confident you can make the payments. Unfortunately, too much debt can lead to high credit card balances and a struggle to keep up.

When you have too much debt, you search for solutions that deliver fast results. One you might consider is a loan against the cash value of your life insurance policy.

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Do you have cash value available? Not all insurance policies have a savings feature. Less expensive term policies only provide life insurance without any additional benefits. Permanent insurance policies, such as Whole Life or Universal life, contribute a small percentage of each premium towards the cash value balance. After years of paying premiums, you might have enough savings built up to use.

Review your policy to see if you own a permanent life insurance policy and the cash value available.

The Cash value and death benefit are not the same. You might have a $100,000 death benefit and only $10,000 in cash value.  The death benefit is the amount paid to heirs at the time of death. The cash value is the amount of savings you contribute to the investment portion of the policy. Most policies allow you to borrow against the cash value while you are alive.

Before borrowing from your life insurance policy, consider the following:

Costs of Borrowing Against Your Life Insurance Policy

Using the cash value can reduce the death benefit. When you borrow against your life insurance, the death benefit decreases until you repay the debt. Life insurance loans do not establish a set repayment schedule, which means your heirs could receive a lower death benefit if you have an outstanding loan at the time of death.

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Typically, people buy life insurance for the death benefit, which could leave a spouse, dependent children or other heirs, with less money than you planned.

The company could cancel your policy. Even though a loan against the cash value of your life insurance policy does not require a set schedule for repayment, interest accrues on the outstanding debt, leaving you with a growing balance. If the amount due ever exceeds the value of the policy, the company could cancel, leaving you with no life insurance.

Benefits of Borrowing Against Your Life Insurance Policy

Life insurance is an attractive option because it is easy to qualify for the loan, provided you have accumulated enough cash value in the account. The insurance company will not pull your credit or verify income to prove you can repay the debt.

Final Thoughts

While it is easy to get a loan against the cash value of your insurance policy, it is almost always a bad idea. You are transferring debt, rather than paying it off at the risk of reducing or even losing the life insurance your family needs.

The reason you buy life insurance is to help heirs financially after your death, not as a source of funds to pay off high-interest credit cards. There are almost always better options available.