Can you borrow against your life insurance? (Should you?)

Can you borrow against your life insurance? (Should you?)

On Behalf of | Jun 25, 2024 | Estate Planning

Times are tough, and just about everybody is feeling a little bit of a financial pinch these days – and it’s not easy to secure a personal loan if you have damaged credit or little in the way of collateral. 

This is where that whole life or universal life insurance policy you own may come in handy. Many people are unaware that those types of insurance policies actually build a cash value over time, which can be borrowed against – and that gives you a way to quickly access some much-needed funds without going through a traditional loan process. 

However, even though borrowing against your life insurance policy can be a viable option when you need a quick infusion of cash, it can have some drawbacks. Here’s what you need to keep in mind:

You could create problems for your estate 

Generally speaking, borrowing against your insurance policy allows you a lot of flexibility. The interest rates on such loans are typically lower than what you’d see on credit cards or personal loans, and the repayment schedule is pretty flexible. But this maneuver isn’t without some cons:

  • The death benefit will be reduced: If you die without fully repaying the loan, the loan balance and any accrued interest will be deducted from the death benefit paid to your beneficiaries. This means less for your loved ones – and that could make the provisions in your estate plan unequal and unfair. That could lead to interpersonal conflict within your family that you didn’t mean to create.
  • You risk a lapse in your policy: If the loan balance (with accrued interest) ever exceeds the policy’s cash surrender value, the policy can lapse – and that will leave you without coverage. Plus, the borrowed amount may then be considered taxable income, which can create an unexpected tax burden for you or your estate. You may also be depriving your loved ones of the cash they need to pay their bills while your estate is in probate.
  • You may leave unfulfilled financial goals: The intended purpose of your life insurance policy may be defeated, whether you wanted that money to pay off a mortgage for your spouse, fund your child’s education or simply cover all your unpaid bills so that the rest of your estate could go to your loved ones. 

An estate plan is something that has to evolve with your changing needs. If you have to take the step of borrowing against your insurance policy, consider updating your estate plans so that you take the current financial reality into account.

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