Jim Lorenzen, CFP®, AIF®
People often purchase cash value permanent insurance, throw the policy in a drawer or filing cabinet, and forget about it. This could be a big mistake.
Most all permanent insurance has a cash value and that cash value has real value you shouldn’t ignore! First a quick word about what permanent insurance is.
Term vs Permanent
The terms themselves should tell you something. Term insurance is simple: You’re renting death benefit protection from an insurance company. It’s like a lease, in a way. You’re premiums stay level until the end of the lease. You can renew your lease, but the rent will be higher. How high depends on the length of the initial lease. If you’re 40 years of age, and in good health, the purchase of a 20-year term policy means the ‘lease’ will be up when you’re age 60. If you no longer need the death benefit, you simply let the policy expire. If you do, you’ll either have to renew at what will likely be a much higher rate or buy a new policy, which means re-qualifying health-wise. You might be able to convert to a permanent policy with the same company if your term policy offers that feature, but you’d still be paying the higher premiums.
Permanent insurance isn’t a rental. This is a purchase on a sort-of installment plan. Examples are whole life, universal life, and many other iterations that are now available. In most policies, premiums do not increase and your protection doesn’t go away unless you fail to maintain the policy. These policies have cash value and that brings us back to our topic.
Cash Value has Value!
Someone will end-up with the policy holder’s cash value:
A)The policy holder
B)The policy holder’s beneficiaries
C)The insurance company
If the policy holder dies before accessing cash value, the answer is C! The insurance company pays out the death benefit but will keep the cash value.
What can you do to make sure you make the most of your cash value? Here are some simple strategies you might consider:
- Use your cash value to make premium payments
Why not use your cash value for premium payments to keep ‘paid-up’? You’ll not only save money each year, but maintains your death benefit protection.
- Increase your death benefitUse your cash value to purchase a larger death benefit! Life insurance death benefits generally go to beneficiaries income tax-free! If you have a $500,000 insurance policy with $250,000 in cash value, you might want to take your cash value to zero and increase your heirs death benefit to $750,000. Better that than your heirs getting $500,000 and the insurance company taking $250,000 (which means they had only $250,000 ‘at risk’).
- Take a loanYou can borrow against your policy’s cash value at rates lower than your typical bank loan. In some cases, the net loan interest rate might be close to zero (the cost of the loan could be close or equal to the policy’s interest crediting rate). Here’s the good part: You’re not obligated to pay back the loan since, in effect, you’re borrowing your own money (you should know that any amount you borrow, plus interest, will be deducted from the death benefit when you die). Here’s a smart strategy many people use: They borrow money from policy cash values to pay cash for their new car, the make ‘car payments’ back to the policy. The money they borrow is tax free. And, in many policies, the money they took out to buy the car is still ‘on the books’ in their policy for interest crediting. Every five years or so, they buy a new car almost interest free.
- Withdraw the moneyYou can withdraw your cash value—which could reduce or eliminate your death benefit. Don’t do this without checking with your agent. Calculations may not be dollar-for-dollar.
- Surrender the policyNo more death protection, however.
- Supplement retirement incomeThis is a 10-15 year strategy that can provide excellent benefits and protections. Talk to your advisor—preferably someone who is independent of the companies and a CFP® professional. Now, if we only knew where we could find one…..
Jim Lorenzen is a CERTIFIED FINANCIAL PLANNER® professional and an ACCREDITED INVESTMENT FIDUCIARY® serving private clients since 1991. Jim is Founding Principal of The Independent Financial Group, a registered investment advisor with clients located across the U.S.. He is also licensed for insurance as an independent agent under California license 0C00742. The Independent Financial Group does not provide legal or tax advice and nothing contained herein should be construed as securities or investment advice, nor an opinion regarding the appropriateness of any investment to the individual reader. The general information provided should not be acted upon without obtaining specific legal, tax, and investment advice from an appropriate licensed professional.