Get cash from your life insurance
By Sandra Block
(Sandra Block is a senior associate editor for Kiplinger's Personal Finance)
To get at the cash, your options include partial withdrawals, policy loans, cashing in the policy and letting it lapse, trading your policy for an annuity or long-term-care policy, or selling the policy to a life-settlement company. A permanent life insurance policy "is like a Swiss army knife," says
Before you decide which tool to use, consider the tax ramifications; withdrawals on gains, beyond what you've paid in premiums, are taxable. And if you're thinking of surrendering or selling the policy, be careful. Don't underestimate the need to provide for your spouse, says
When one spouse dies, the survivor typically receives only the larger of the couple's two
"We still see a lot of policies that have returns ranging from 3 percent to 6 percent," he says.
TAP THE CASH VALUE
A permanent life insurance policy has two components: the face value, or the amount that will be paid to beneficiaries when you die, and the cash value -- a savings account that's funded by a portion of your premiums. With whole life and universal life, the insurance company usually promises that a minimum level of interest, after insurance costs and expenses are deducted, will be credited to your account every year.
You may earn more if its investments perform well. With variable universal life policies, you choose the investments and may not get a guarantee. With any kind of policy, if you surrender it, you'll receive the balance in the cash-value account, minus any loans or unpaid premiums.
If you've owned your policy long enough to have a good-size cash-value account, you have several options. If you're still paying premiums, you can use the funds in the account to pay them. If you need cash but don't want to surrender your policy, you can withdraw your basis -- the amount in the cash-value account you've paid in premiums -- tax-free. That's the simplest option. Withdrawals that exceed that amount -- your gains -- will be taxed at your ordinary income rate. The death benefit will be reduced by the total amount you withdraw.
Another way to get tax-free cash is by borrowing against your policy. A loan is a good option if you need occasional cash, and you won't have to undergo a credit check. Interest rates range from about 4 percent to 8 percent, depending on market rates and the type of policy you have. If you don't repay the loan, or you pay only part of it back, the balance will be deducted from your death benefit when you die.
Note that when you take a loan, you're not withdrawing money from your account. The insurance company is lending you money and holding your policy as collateral. Unless you pay the interest out of pocket, it will be added to the loan balance (you may be able to pay interest with the accumulated dividends or interest building up in your account).
If your loan balance exceeds the policy's cash value, your policy could lapse; but insurers give you plenty of chances to pay more money to keep the policy in force. If your policy does lapse, you'll owe taxes on the amount of the cash value, including loans that exceed the premiums you paid in -- a real problem if the money you borrowed is long gone. Policyholders who take out frequent loans may fall into this trap, known as a "surrender squeeze," says
Even if you avoid a surrender squeeze, loans could deprive your family of a tax-free inheritance when they're deducted from the death benefit. For that reason, you should only borrow money you intend to repay, says
Through what's known as a 1035 exchange, you can convert your life insurance into an income annuity without paying taxes on your gains. You'll give up the death benefit, but you'll no longer have to pay premiums, and you'll lock in income for the rest of your life (or a specific number of years). The conversion is tax-free, but you'll pay taxes on a portion of each payout, based on the proportion of your basis to your gains.
Shop around for the annuity provider that offers the largest payout.
"There's an amazing disparity among companies," says Singer. You can compare payouts at www.immediateannuities.com. A financial planner with experience in the insurance industry can also help you select the best payout.
You can also exchange a life insurance policy for long-term-care insurance tax-free. (Before 2010, when a new law took effect, you had to first cash out your policy and pay taxes on the gains.) And because long-term-care benefits aren't taxable, you'll never pay taxes on your gains, says Kitces.
Unfortunately, few long-term-care insurers allow you to pay for your coverage with a lump sum. That means you must arrange a partial exchange every year to pay the annual insurance premiums, and only a handful of long-term-care insurers -- including Genworth and Northwestern Mutual -- have systems in place to support partial exchanges.
Another option is to exchange your policy for one that combines life insurance with long-term-care coverage. Lincoln Financial's MoneyGuard Reserve Plus policy, for example, provides a pool of funds that can be used for long-term care or a death benefit. Individuals can purchase the policy with a 1035 exchange, says
"If you don't need long-term-care coverage, there's still a death benefit that's passed to heirs," says Hamilton.
Or you could exchange your policy for one that includes a long-term-care insurance rider. If you need long-term care, these policies will typically withdraw money from the death benefit. If that fund is exhausted, the rider kicks in, generally extending coverage for another two to four years.
Make sure you understand the terms of these policies, which may have restrictions. Long-term-care insurance typically becomes available once you need help with at least two daily activities, such as bathing and dressing. However, some long-term-care riders don't pay benefits unless a doctor certifies that you are terminally ill, says
A financial planner can help you find a policy that suits your needs. Look for a planner who works with more than one insurer and has experience in both long-term care and life insurance planning, says Hofmeister. You can also get information from a specialist at the
SELL THE POLICY
If you need money and don't need to preserve the death benefit, you may be able to sell your policy to an investor. These transactions, known as life settlements, have an unsavory past, but in recent years they've moved further into the financial mainstream.
Life-settlement companies buy life insurance policies for cash. They continue to pay the premiums, and they collect the death benefit when the insured individual dies. Life-settlement investors are primarily interested in buying cash-value policies or term policies that can be converted to cash-value policies.
The size of the settlement varies, depending on the size of the premiums and the policyholder's life expectancy, says
Here's an example, based on a recent settlement by the Lifeline Program, one of the largest life-settlement companies: A 73-year-old man had a universal life policy he purchased in 2003. The policy had a
If you're in your 50s and feeling fine, this isn't an option for you. Brokers are primarily interested in policyholders who are in their seventies, or younger if they have a serious illness, says
And that's the reason life settlements make many people uneasy. Investors profit from your death, and the sooner it occurs, the more money they make. You'll be asked to provide detailed information about your health and give the life-settlement company ongoing access to your medical records. It's important to work with a well-funded provider that has been in business for a long time, says
"People should not look at life settlement as an ATM," he says. "We create a long-term relationship." Katt says some of his clients decided against life settlement after they were told they would have to give investors the names of their doctors.
"Life settlement is an arduous process," he says. Also, taxation of life-settlement payouts remains murky, and legislation to clarify the issue has languished in
Most sellers work with an independent insurance broker, who negotiates with buyers on their behalf. A financial adviser with experience in insurance products may be able to refer you to a broker. Once you've received a referral, contact your state insurance department to find out whether the broker is licensed, a requirement in most states.
Your state insurance regulator can also tell you whether a broker has a record of complaints. Avoid brokers who base their commissions on the death benefit instead of the amount of the settlement. You should expect to pay about 10 percent of the settlement amount in fees, Bayston says.
If you're willing to do the legwork yourself, you can save money by contacting life-settlement companies directly. (Find a list of companies through your state insurance commission or at the Life Insurance Settlement Association’s Web site.) That's what
Selling the policy "took a lot of stress off of me," says Manfredi, 73. And because he dealt directly with Lifeline, he didn't have to give a broker or adviser a percentage of his payout.
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Comment by clicking here. All contents copyright 2012
Comment by clicking here. All contents copyright 2012
All contents copyright 2012