More on Life Insurance
More on Life Insurance
A one-time payment secures a single-premium insurance policy that guarantees a death benefit for life
The initial payment required can start at $5,000 or more
The policy comes with a cash value that accrues interest over time
You can withdraw money from a single-premium policy but it may be subject to taxes and penalties
Single-premium life insurance, also known as prepaid life insurance, is a form of permanent life insurance. Instead of paying a premium in monthly or annual installments as you would with other kinds of life insurance, you pay for the policy up front to secure a death benefit until you die. As with other forms of permanent insurance, your premium funds both the death benefit and a cash value amount.
The size of the death benefit depends on the amount of your initial payment, your age at the time of application, and your overall health. The cash value of a single-premium policy grows over time and can be borrowed against before you die. Read on to find out if a single-premium policy is right for you.
Most single-premium life insurance policies offer coverage for the rest of your life, guaranteeing that no matter when you die, your beneficiaries will receive a death benefit. It differs from whole life and term life insurance, both of which are paid in monthly or annual installments rather than in one large sum. While whole life also provides protection for the rest of your life, term life insurance expires after a set number of years.
The cash value of prepaid life insurance functions like an investment account, since it grows tax-deferred as long as the policy is active. You can draw upon the cash value before you die, with some restrictions, and pass any amount remaining to your beneficiaries tax-free.
As with other kinds of life insurance, the process of getting a single-premium policy begins with a quote and a conversation with an insurance agent or broker. You will be required to fill out an application and go through the underwriting process, which will also influence your coverage and rates. The coverage available to you will depend on your health, your age, your lifestyle, and the size of the premium you pay up front.
You’ll also need to decide what kind of single-premium insurance you want: whole life, variable life, or universal life. Which one you choose depends on how you want to grow the cash value of your policy.
There are three common forms of prepaid life insurance, which differ mainly in how insurance providers treat the cash value. Any prepaid policy can cover you for the rest of your life and provide a set death benefit after you die.
How the cash value component accrues interest and how much it’s likely to grow depends on the level of investment risk involved, and whether the insurer guarantees a certain amount of growth in the policy.
Single-premium whole life insurance includes a cash value that grows at a fixed rate set by your insurer. Many insurers will guarantee a minimum rate of return on your investment. This rate is generally lower than a standard investment account like an IRA or 401k, but higher and less variable than the rate of growth in other single-premium policies.
Single-premium variable life insurance offers options for investing your cash value. The choices differ by provider, but can include index funds, money market accounts, or bond portfolios. You cannot actively manage the investment yourself, and you will need to pay management fees to your insurer.
This option presents the greatest risk, since the cash value of your policy is subject to market volatility with no guaranteed return. But it also presents a greater potential reward if your cash value grows at a rate higher than that set by the provider in an equivalent single-premium whole life policy.
Unlike single-premium whole life, which covers you for a set number of years, single-premium universal life insurance covers you until a specific age, which you can set to span your lifetime. The insurer manages the cash value of your policy, offering investment options similar to those for a variable life policy.
The investment comes with a guaranteed minimum interest rate set by the provider. However, the minimum rate is typically lower than the guaranteed interest in prepaid whole life policies or the expected return on standalone investment accounts. And above that guaranteed minimum, the actual interest rate will fluctuate with the market.
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The lump sum required to fund a single-premium policy often starts at $5,000-10,000, though your quoted premium may be higher than that. Because this one-time payment immediately funds your death benefit and the cash value of your policy, it can cost much more than what you would pay over the span of an equivalent term life policy.
With regular term life insurance, you choose and pay for the death benefit you want, with variations in monthly premiums based on your health and age. The death benefit of a single-premium policy is much more dependent on how much you can spend up front, in addition to your age and health.
For example, a healthy 35-year-old who can invest $5,000 in a single-premium policy might receive a death benefit of $25,000, whereas a healthy 60-year-old who invests the same amount may receive a death benefit of $12,500. A healthy 35-year-old who can invest $50,000 might receive a death benefit of $250,000.
If you withdraw or borrow money from the cash value of your policy, it will cost you. First, any withdrawals from the cash value may be subject to taxes. Second, life insurance policies with a cash value component are often categorized as modified endowment contracts. Modified endowment contracts are life insurance policies that have been funded with more money than allowed by federal tax law.
In practice, this means that if your policy falls into this category, any time you withdraw from your cash value before the age of 59 ½, you owe 10% of the amount withdrawn to the IRS. Say at 45 your income tax rate is 14%, and you borrow $15,000 from your policy for medical expenses. The actual amount available to you after taxes would be $11,610. It’s best to consult with a financial professional if you plan to borrow from your policy.
Whether a single-premium policy is right for you depends largely on your financial situation, your age, and how beneficial the cash value component would be to your end-of-life planning.
If you can afford a large one-time premium and want to avoid shopping for life insurance in the future, a prepaid policy may be a good option for you. The policy provides an alternative savings option and a tax-free inheritance for your loved ones. This can be particularly important if you have dependents who would benefit from financial support after you die, like a child with special needs or with a health condition who may need specialized care into adulthood.
In an emergency, you can withdraw money from your policy, though you may need to pay taxes on the withdrawal. Some single-premium providers allow you to borrow from your policy tax-free to pay for long-term care. In those cases you would either repay the loan with interest or deplete the final benefits available to your beneficiaries.
For most, the initial investment is the biggest hurdle to buying single-premium life insurance. And for the average person, "you’re better off with a monthly or annual payment policy,” says Jake Herskovits, a senior sales associate at Policygenius. “The main benefit is knowing that you’re not burdened with the responsibility of paying the bill monthly or annually.” He adds that while paying in one lump sum might be beneficial in rare tax circumstances, if you pay the entire premium up front and then pass away while your policy is still active, you risk paying significantly more into your policy than you would have if you had paid monthly or annually.
Especially for older applicants and people with health concerns, a term life policy will likely offer equal or better coverage with more manageable monthly or annual payments. If you expect you’ll need to tap into the cash value before you die, other savings options might be easier to manage. And as an investment option, single-premium policies tend to be more complicated and yield lower rates of return than a standard IRA or 401k account.
Amanda Shih is an insurance editor at Policygenius in New York City. Previously, she worked in nonfiction book publishing and freelance content marketing. Amanda has a B.A. in literature and communication from New York University.
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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