What is cash value life insurance? | (2024)

If you’re in the market for a life insurance policy or looking to switch to a different one, you’ll soon discover plenty of choices, including life insurance with a cash value attached. When searching for life insurance, the term cash value might come up, and you might wonder how this applies to your coverage.

You’ll also need to consider the type of policy you want because not all cash value policies are the same. Some garner traction early on, while others won’t begin to obtain cash value for years after purchasing the policy. It all depends on the type and amount of life insurance you need.

How Cash Value Life Insurance Works

Cash value life insurance is a type of permanent life insurance, life insurance that stays with the policyholder their entire life. It comes with the ability to utilize the attached cash value as a savings account. The cash value accumulated can be used to pay bills or be put towards a loan.

As with most permanent life insurance policies, the premiums tend to be higher since the payout is significantly greater than a standard term life insurance policy. Interest will accrue on a life insurance policy’s cash value, meaning a policy’s overall cash value will increase as time goes on.

Examples of Cash Value Life Insurance

An example is a cash value life insurance policy with a $25,000 death benefit. Assuming you don’t take out a loan or withdraw, the cash value accumulates to $5,000. After the policyholder’s death, the insurance company would pay out the full death benefit, which would be $25,000.

The cash value becomes the insurer’s property, meaning the unused $5,000 goes to the company rather than the beneficiaries. With a cash value life insurance policy, the risk rate decreases as time goes on because the cash value offsets the payout.

Learn More: Term vs. Permanent Life Insurance

Advantages and Disadvantages of Cash Value Life Insurance

The greatest advantage of this type of life insurance policy is the cash value. Policyholders can withdraw money for loans or to pay their premiums. Plus, taxes get deferred while the cash value is unused, meaning you aren’t taxed based on the amount you accumulated.

More cash value life insurance pros include:

• Borrowing against the accumulated cash value to pay bills or the insurance premium
• Accumulated cash value isn’t taxed
• Longer time frame for paying back loans

Another benefit is that you might receive unlimited withdrawals, depending on your insurance company and your policy type. Always double-check to ensure there’s no limit so you don’t hit the minimum allowed early in the year and end up needing the funds later.

Cash value life insurance also has some other downsides, including:

• Paying the interest associated with the cash value you borrow against
• Monetary limits on how much you can withdraw
• Risk of reducing the death benefit

There are also higher premiums associated with this policy type. However, those high premiums often offset the fact that you save a portion of your payments.

When looking into cash value life insurance, always ensure you know the policy details before buying coverage. Each policy comes with different rules. For example, some insurance companies require interest repayment — if it doesn’t get paid, the company can deduct the interest from the remaining cash value.

Read More: Which type of life insurance policy offers immediate cash value?

The Risk of Withdrawing Money From Cash Value Life Insurance

You can take money from your policy’s cash value to pay the policy premiums, other bills, or loans. However, when you withdraw money from the cash value of your life insurance policy, your death benefit will decrease. If you make a withdrawal for the entire amount, your policy will end.

You must pay back what you take out to ensure that you have both the death benefit and the cash value without any outstanding loans.

Making withdrawals can be seen as an advantage in terms of taxes because the IRS deems them as a return of the amount you’ve paid for the policy itself. You won’t pay taxes on the amount you’re withdrawing, but gains from any life insurance dividends earned would be taxed.

Case Studies: Exploring Scenarios with Cash Value Life Insurance Policies

Case Study 1: John’s Financial Security

John is a 35-year-old professional who is looking for a life insurance policy that offers both protection for his loved ones and a potential source of savings. After carefully considering his options, he decides to purchase a cash value life insurance policy with a death benefit of $500,000.

Over the years, John diligently pays his premiums, and the policy’s cash value begins to accumulate. At the age of 50, John faces an unexpected financial emergency and decides to withdraw a portion of the cash value to cover the expenses.

Thanks to the cash value component of his policy, he can access the funds without having to take out a high-interest loan or disrupt his long-term financial plans. Although the death benefit decreases by the amount withdrawn, John feels secure knowing that he had the flexibility and financial support when he needed it the most.

Case Study 2: Sarah’s Retirement Plan

Sarah is a 45-year-old professional who is actively planning for her retirement. She understands the importance of having a diversified portfolio that includes various investment vehicles.

In her search for long-term financial security, Sarah comes across cash value life insurance. Intrigued by its potential benefits, she decides to purchase a cash value life insurance policy with a death benefit of $1 million. Sarah views the policy’s cash value component as an additional retirement savings account.

Over time, as the cash value grows, Sarah can use it to supplement her other retirement income sources. By leveraging the cash value, she can enjoy a comfortable retirement while still having the peace of mind of a substantial death benefit for her beneficiaries.

Case Study 3: Mark’s Legacy Planning

Mark is a 60-year-old individual who wants to leave a lasting legacy for his children and grandchildren. He wants to ensure that his loved ones are financially protected even after he is gone.

To achieve this, Mark decides to explore cash value life insurance. He purchases a policy with a death benefit of $2 million, which will provide financial security to his beneficiaries. Mark understands that the cash value of the policy is separate from the death benefit and can be used during his lifetime.

However, he plans to leave the cash value untouched, allowing it to accumulate and provide a significant financial asset to his family upon his passing. Mark’s cash value life insurance policy not only offers him peace of mind during his lifetime but also serves as a means of creating a lasting financial legacy for future generations.

When to Buy Cash Value Life Insurance

You may want a cash value life insurance policy if you want a more permanent insurance solution. It can also help if you need a way to keep money in a savings account or simply want an additional reserve fund for emergencies.

Compared to other types of life insurance, you should consider a cash value life insurance policy if you need some form of savings or a reserved fund. The amount can develop over the years, spanning decades. Some people choose to use this to accompany their retirement plans.

However, you should note that most cash values won’t accrue until a few years after you’ve purchased the policy.

Double-check with your chosen insurance company on the details of the cash value life insurance policy you research. You’ll want to know whether the policy terminates once you withdraw the entire cash value and if there are limits to how much you can take out at a time.