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Can you take a loan against variable life insurance?

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One way to use the cash value of a variable insurance policy is to borrow money from it, but there are some major risks associated with policy loans.

Rebecca Shoenthal author photo

Rebecca Shoenthal

Published October 13, 2020

KEY TAKEAWAYS

  • Life insurance policy loans are generally tax-free and have lower interest rates and quicker approval times than traditional loans

  • It can take years to build up enough cash value for a loan, so there are better loan options if you have a newer policy

  • If you die with an outstanding policy loan, the balance is taken out of the death benefit payment to your beneficiaries

Life insurance usually has one objective: serve as a financial safety net for your family. Term life insurance does this by providing a death benefit to your beneficiaries if you die while the policy is active. And most term policies are active while your family needs the money most: when you still have beneficiaries who rely on your income or when you have a mortgage or outstanding debt.

Permanent policies also offer a death benefit, but that lasts for a longer period of time. These policies are 5 to 15 times more expensive than comparable term life policies, but they also have a cash-value component that grows the longer you have the policy.

Variable life insurance is a type of permanent life insurance. Its cash value is held in a series of sub-accounts that grow at different rates. Like other permanent policies, it’s possible to take a loan out against that cash value once you’ve had the policy long enough.

What is a variable life insurance loan?

Variable life insurance, like all forms of permanent life insurance, has two components: a death benefit (that goes to your beneficiaries if you die) and a cash-value account. The cash value grows or shrinks over the life of the policy. Different permanent policies have different ways of handling the cash-value investment. Variable life insurance uses sub-accounts that are similar to mutual funds.

The cash value is key when talking about variable life insurance loans. You’re borrowing against the cash value that’s built up in your policy. That makes it different from term life insurance, which doesn’t have a cash component and consists solely of a death benefit. You can do a lot of different things with the cash value of a permanent policy. Taking out a loan is one of the most popular options.

Read more about life insurance loans.

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Typically, permanent life insurance policies allow cash value withdrawal up to a certain amount.

- Anthony He, Policygenius agent

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The pros of a variable life insurance loan

Taking out a loan against the cash-value component of a variable life insurance policy has three main benefits compared to a traditional loan:

  • You can get the loan faster
  • You can get the loan tax-free
  • You can (usually) get the loan at a lower interest rate

How much can you borrow from your life insurance policy? It depends on the cash value amount. “Typically, permanent life insurance policies allow cash value withdrawal up to a certain amount, depending on the size of the overall cash balance (up to about 95%),” says Policygenius agent Anthony He. “This is taken out in the form of a loan, with interest.”

There are fewer credit qualifications, so you won’t get turned away like you might for a traditional loan. Plus, you technically don’t have to pay the loan back, although there are consequences for that (which we’ll get into below).

The cons of a variable life insurance loan

Whether you’re taking a loan against a variable life insurance policy or any other permanent life policy, it’s important to understand your options and repercussions.

  1. A life insurance loan has its limits. It can take years to build up enough cash value to even take one out, so it's not guaranteed financing to plan on from Day One.

  2. The loan is tax-free, but taxes can accrue on the interest that builds up if you use policy dividends to pay it off. You might be expecting an easy low-interest loan and end up with a huge tax bill because you haven’t focused on paying the loan back.

  3. Most importantly, the loan affects the death benefit. If you die while the loan is out, the balance is taken from the benefit before it reaches your beneficiaries. The main purpose of life insurance is to provide a tax-free lump sum of money to your loved ones, and you’re putting that at risk when you take out a loan.

Additionally, if you take out a loan against – or withdraw – the entire cash value balance, you will forfeit your life insurance coverage altogether. This only makes sense if you need the cash or no longer need life insurance.

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How to take out a variable life insurance loan

If you have the cash value built up, taking out a loan with your variable life insurance policy can be an easy and smart financial move under the right circumstances. Plus, you pay more for a permanent life insurance policy compared to a term policy, so you might as well use the extra perks when needed.

But before you do so, talk to a licensed insurance expert or financial adviser. A life insurance loan has unique strengths, but also unique risks. Know what you’re getting into before deciding if this potentially useful tool is right for you. If you decide to take the loan, talk to your insurance provider about paperwork and next steps.

Variable life insurance loans FAQs

What can you do with the cash value of a life insurance policy?

Once you’ve accumulated enough, you can take out a policy loan (withdraw money), pay for premiums, or surrender your policy for the cash value.

How does a variable life insurance policy’s cash value grow?

Cash value is invested in sub-accounts offered by insurers that perform like mutual funds. The performance of the cash value is based on the returns of those sub-accounts.

What are the pros and cons of a variable life insurance policy?

A variable life insurance policy provides the same benefits of any life insurance policy: financial coverage for your loved ones. Beyond that, variable life insurance does not expire and includes a tax-free cash value component that can supplement traditional retirement savings accounts. However, it’s much more expensive than comparable term life policies and if you can’t keep up with the premium payments, you risk losing coverage. The cash value also has limited investment options, so you’d be better off investing your money elsewhere.

Insurance Expert

Rebecca Shoenthal

Insurance Expert

Rebecca Shoenthal is an insurance editor at Policygenius in New York City. Previously, she worked as a nonfiction book editor. She has a B.A. in Media and Journalism from the University of North Carolina at Chapel Hill.

Policygenius’ editorial content is not written by an insurance agent. It’s intended for informational purposes and should not be considered legal or financial advice. Consult a professional to learn what financial products are right for you.

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