7 Ways to Utilize Your Life Insurance Policy’s Cash Value

Live Off of It

A more tax-effective option is to withdraw only what you need each year. Howard recommends keeping some money for an emergency fund, perhaps 12 months of expenses, with the rest used to supplement your retirement income. Withdrawals draw down the tax-free premium payments first; taxes are owed only after you start withdrawing the gains.

Borrow Money

You can also tap the cash value through a policy loan. You won’t owe taxes for withdrawing gains this way. Plus, you’ll have the option to repay the money, whereas you can’t reverse withdrawals. If the money is not repaid, the death benefit will cover the loan balance when you pass away.

The insurer will charge interest for the loan. “The interest rate is determined by the policy contract and is carrier specific,” says Howard. “It’s typically 4% to 8% a year.” Policy loan rates don’t usually change with market conditions, he says, so don’t expect a deal today just because overall interest rates are low. Your remaining cash value can be used to pay the interest.

Exchange It for an Annuity

The IRS lets you swap your permanent life insurance for an annuity through a 1035 exchange, which is a tax-free transfer of one contract for another. This move can generate more retirement income. “Let’s say the max payout stream from a cash value insurance policy is $10,000 a year. Converting to an annuity might generate $12,500,” Chapman says. An annuity could also guarantee the payments will last your entire life, but you will be canceling your life insurance policy, a move that can’t be reversed.

Convert to a New Policy to Pay for Long-Term Care

If you’d like coverage for long-term care, consider converting your life insurance into another policy with a long-term care rider (if yours doesn’t have it already). You keep your life insurance, but part of the death benefit can be used to pay for long-term care expenses.

Use It as Collateral

The cash value is an asset that increases your chances of qualifying for a loan or mortgage from a lender. It can even serve as the loan’s collateral, but Chapman warns to structure the deal carefully, as there can be tax consequences. Always ask an insurance expert before using cash value this way.

Tap It to Pay for the Policy

The cash value can also be used to cover your life insurance premiums.

Leave It Alone

You aren’t forced to do anything with your cash value. Left alone, the cash value will continue to accumulate, leaving a larger inheritance for your heirs, as withdrawals and loans reduce the final death benefit.