Saving money is not easy for anyone operating on a tight budget. The unexpected expense and impulse spending makes it difficult for such people to save. Thus, it needs sacrifice, careful budgeting, discipline and commitment to be able to save any substantial amount.
But, the good news is that a life insurance policy can help you achieve this goal. Besides, it can to protect your family when you are gone. The policy comes with a cash value component enable the policyholder to save.
Types of Policies That Offer Cash Value
A cash value insurance policy is a permanent policy that helps the holder to save. It means that the policy must cover your entire life if the premiums are paid. The policies that offer such cash value policy are:
Whole life insurance- it allows the cash value to build at a determined fixed rate. The policy matures when one turns 100 years.
Universal life insurance- it offers a cash value policy based on the market interest rate and how the firm’s investments perform
Indexed universal life insurance – it is based on the performance of the index
Variable life insurance- its cash value is available to be re-invested in the aggregated portfolio. The portfolios are offered by insurance companies.
Note that term life insurance does not offer the cash value policy. So, anyone with this cover but who decides to surrender it, will not receive anything as it is in policies that offer cash value. This is the main reason why term insurance is less costly compared to other types of life insurance.
The Cash Value of an Insurance Cover
It refers to a life insurance policy that comes with both the death benefits and an accumulated cash value. The accumulated cash value is normally placed in a separate account but within the same policy. Every time one makes a premium payment, some money is deposited straight into this account.
Eventually, it results in accumulated cash value. Thus, the cash value of an insurance cover is an account within a policy that enables the policyholder to save money.
Notice that the cash value is different from the money that will be given to the beneficiaries as death benefits. Typically, the cash value is not given to your beneficiary when the policyholder dies. Instead, the insurance company keeps it. But, in the event you decide that you no longer want to continue with the policy, the insurance firm will refund the money in the cash value account.
Thus, it is a form of investment that grows tax-deferred. This money is always available and may be used as a security when seeking out a loan.
Note that in the earlier years of the policy, the cash value does not grow as fast as you would expect. The reason is that most of the amount you pay as a premium during this time caters for fees and the cost of the cover.
Also, it takes many years for the compound interest earned on this money to start growing. It implies that the cash value policy may be unsuitable for people who are fairly old.
How It Works
The policy provides long life coverage and investment. Part of the premiums go straight into your investment account and will start accumulating as the cash value. You can access this money upon surrendering the coverage to your insurer.
Besides, you can benefit from this cash at any other time as a loan. It can be used as collateral to guarantee you a loan. You are thus allowed to borrow using the accumulated cash value of the policy as security. The reason for borrowing need not be specified since it is like lending yourself some money.
What happens is that when you make such borrowing, it reduces your policy coverage until when you pay it back. It is critical to note that the cash value in your policy will only grow if the premiums are paid as required.
Participating in Cash Value Life Insurance Policy
Typically, mutual insurance companies are owned by policyholders. Sometimes, the companies make more money than what they need for their day to day operations. In such a case, the company policyholders become eligible to receive dividends.
Notice that the dividends are shared out to the policyholders as per the size of their cash value. These dividends can be drawn as cash or used to pay for premiums. It can also be used to buy another cover.
How to Take Advantage of the Cash Value
There are times when paying premiums can become incredibly expensive. When it happens, you may decide to take your cash out of the policy. It does not matter whether you are planning to rid yourself from the coverage or not.
Also, it does not matter whether you just want to take out a loan to use to sort out some emerging issues. You can do this through a variety of methods as long as you do not allow your policy to lapse.
When it is allowed to lapse, you lose the death benefits that your family was entitled to. Here are the ways you can utilize the cash value.
It can be used to pay the premiums
Both universal and variable life insurance policies enable you to utilize the insurance cash value money to pay for premiums. So anyone with a large cash value that earns a consistent return could be able to keep the cover running for many years. They can pay the premiums using the cash value or the returns from the cash value.
In some cases, you may not be allowed to pay premiums using its cash value. But if you choose a paid-up cash policy, it is possible to use it to pay the premiums. This means that you will not need to continue paying the premiums from any other source or out of pocket.
Besides, for a paid-up whole life policy, if you don’t pay the premiums, they are deducted from the benefits. It means that you will have a reduced cash value to use for other things like a car loan.
To secure the life insurance policy loan
This is a loan that can be secured from the insurance using the cash value as your collateral. The money may be used to pay for emergency expenses such as medical bills, school fees or even buying a car. The good thing about this type of loan is that you can keep it for a long period since there is no underwriting.
Also, no credit check is required before you are allowed to secure the loan. Delays in paying this type of a loan cannot make its way to your credit report. But if you die when the loan is still outstanding, its value will be recovered from the amount due to the beneficiaries.
Also, you can borrow against the policy cash value without being required to provide any other collateral. But you will be expected to pay the principal plus a small annual interest rate. In some cases, it may be necessary that you pay the interest out of pocket every year.
Also, you must keep an eye on the amount of the loan and the cash value of the policy. If you choose not to pay the interest, it will be included in your outstanding loan. So when the amount of your loan outgrows the cash value of your policy, the policy lapses. It means that with time, you may lose the coverage. When you lose the coverage, you will be required to pay an income tax on any unpaid loan.
Part withdrawal from the policy’s cash value
It is possible to withdraw a fraction of the covers cash value. When you do this, you receive some cash alright but it will reduce the death benefits. It is a good option to consider if your children have matured and are financially stable. In most cases, partial withdrawal may still leave something for your spouse. Here is how it works:
For universal and variable insurance policies, partial withdrawal is equated to being given a fraction of death benefits in advance. It reduces the future payout to the beneficiaries by the amount withdrawn. Also, you must ensure that you don’t withdraw any money above what you have paid as premiums. If this was to happen, you will be forced to pay an income tax.
For whole life insurance policies, partial withdrawal is discouraged. The reason is that it makes the insurer reduce the death benefits by an amount greater than what has been withdrawn.
Use the cash value to increase the death benefits
If the cash value is sizeable but you don’t want to utilize it, you may choose to use it to increase the benefits you will leave to people you have listed as beneficiaries. Unfortunately, this option is not always available. Thus, it may be necessary that you check with the insurer. It is one of the methods you can use to ensure that your family does not lose the cash value you have built over the years.
Even though you can use the policy’s cash value in many ways, you must speak to your insurance company. It helps you to understand the rules and will help you benefit the most from the policy.
Withdrawing the cash value
If you find it hard to continue paying premiums for permanent life insurance, you may need to surrender the policy. You will be allowed to receive your cash value as a lump sum. Unfortunately, it comes with the following caveats.
- The insurers charge a huge surrender fee. The fees are deducted from the cash value reimbursed.
- Many firms set the period the policy must be in force before you are allowed to draw the cash.
- You will be taxed on the saving if the amount of the cash value you want to withdraw exceeds the premiums paid.
- If you opt to take the life insurance cash the financial security you set out for your family is lost.
Taking a policy with a cash value confers a lot of benefits to the holder. The money can be used to pay for premiums or as a security for loans. Also, it can be withdrawn as cash when surrendering the policy. Lastly, the cash value can be used to increase the death benefits you leave behind to the beneficiaries.