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What is cash value life insurance?

Many permanent life insurance products have a savings component called cash value. These products are often referred to as cash value life insurance. Whole life insurance, universal life insurance, and variable life insurance are examples of types of life insurance that include a cash value feature.

Where does the cash value come from?

When you pay your permanent life insurance policy’s premium payment, a portion is deposited into the cash value account. This amount earns interest and slowly grows over time.

Whole life insurance is the least risky type of permanent cash value life insurance. The guaranteed cash value grows at a contractually set rate of growth. Dividends are added to the cash values if it is a participating policy. The policy’s guaranteed cash value, if left untouched, is designed to equal the face amount once the policy reaches maturity—typically when the insured individual reaches age 100.

graph showing how the death benefit and cash value in a whole life insurance policy works

Elements of a Whole Life Insurance Policy

Variable life insurance has no guarantees of either interest rate or minimum cash value. Those who purchase a variable life insurance policy need to be comfortable with daily portfolio fluctuations. The cash value in variable life insurance has the potential to grow faster than whole life but there’s higher risk involved. Policyowners are able to choose their investment options (between stocks, bonds, treasury or money market funds) so they bear the brunt of this risk.

Universal life insurance has a set guaranteed interest rate and a current interest rate. The cash value grows at the higher of the two. There is also a guaranteed mortality rate and a current mortality rate. Policies use the lower of the two. The cash value growth therefore can fluctuate based on the company’s investment earnings and mortality costs.

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What does cash value do?

Permanent life insurance policies have essentially two parts: the insurance protection (face amount) and the cash value. Many of these policies have level premiums. In the early years of the policy, a good portion of the premium goes to the cash value because the actual cost of insurance for a younger individual is less expensive. As you get older, the amount that has been accumulated in the cash value pays for the now more expensive cost of insurance protection.

The insurance company is able to offer permanent life insurance with level premiums to so many people because they are able to invest a portion of these premiums. These investments help the insurance company make a profit in addition to being able to pay death benefit claims.

If desired, the policyowner has access to the cash value account via policy loans and withdrawals. But if the policyowner takes advantage of this, it means the insurance company has less money to invest. Therefore, the policyowner sees consequences such as reduced dividend payments (if the policy is participating) and a slower growing cash value account. It’s also possible that the cash value is reduced to such a low amount that the policy will be forced to terminate or the policyowner will need to pay higher premiums.

How do policyowners access the cash value?

It’s important to note that with level death benefit universal life policies and non-participating whole life permanent life insurance policies, the cash value can only be accessed while you are alive. The cash value does not get added to the death benefit when you die. If cash is needed, owners can access their life insurance policy’s cash value through policy loans and withdrawals.

Participating whole life policies provide the death benefit plus the dividends (if they are not taken out) at death. Universal life policies with an increasing death benefit provide the face amount of death benefit plus the cash values at death.

Policy Loans

A policy loan accrues interest like a typical loan. Typically up to 90% of the cash value can be borrowed against but if the balance and accumulating interest ever exceeds the policy’s total cash value then the policy will terminate.

You are not required to pay back the loan while you are alive, but the balance will continue to accrue interest. If you do not pay it back, the balance will be taken from your policy’s death benefit when you die. This reduces how much your beneficiaries receive.

Partial Withdrawals

You can make partial withdrawals from the cash value account in your policy. The amount you have paid into the policy (total premium amount thus far) is the maximum amount you can withdraw tax-free. Any amount over the cumulative premiums can be taxed.

Any partial withdrawal cannot be paid back. It’s permanently subtracted from the cash value and the death benefit. This means there is now less cash value left to earn dividends, accumulate, and borrow against.

Full Withdrawal (Policy Surrender)

You can take out all the money in your cash value account through a full withdrawal, but this then terminates your policy. This act is called a policy surrender.

The surrender value is your cash value minus any applicable surrender fees and outstanding policy loan balances. This surrender fee is determined by how long the policy has been active. It typically begins at 100% of the value for the first year and steadily declines until it disappears altogether after 10 or 20 years. After this period of time, you can surrender the policy with no fee.

Many insurance companies do not grant cash surrenders until after a certain number of years have passed, typically three years. If the cash surrender value is more than the total amount of premiums you’ve paid, the difference is considered income and taxed.

Is cash value life insurance worth it?

Most people don’t need permanent life insurance. Term life insurance is much more affordable and can provide the right amount of protection for families.

If you have a sizeable estate, a permanent life insurance policy is beneficial. The life insurance benefit can provide money to pay off estate taxes. If you have a high income and have already maxed out other tax-deferred accounts then permanent life insurance may be a wise decision. If you have a dependent who will rely on you their entire life (and need care even after you’re gone) then a permanent life insurance policy may be necessary.

Here at Quotacy we mainly advise and offer term life insurance, but if you’re interested in permanent life insurance we can help. Talk with one of our advisors to find out if permanent life insurance is a good choice for you and they can help you decide what type of permanent life insurance to buy.

» Compare: Whole life insurance quotes

Watch the Cash Value Life Insurance Video

Video Transcript

Welcome to Quotacy’s Q&A Friday where we answer your life insurance questions. Quotacy is an online life insurance broker where you can get life insurance on your terms.

I’m Jeanna and I’m Natasha.

Today’s question is:
what is cash value life insurance?

Some permanent life insurance policies not only provide a death benefit but also accumulate money in a separate account. These products are sometimes referred to as cash value life insurance.

The cash value account slowly grows over time.

With whole life insurance, the cash value builds at a rate set by the insurance company. It’s designed to match the death benefit amount at policy maturity, which is typically when you turn age 100.

The cash value of a universal life insurance policy grows based on market interest rates and the performance of the insurance company.

If you own a permanent policy that accumulates cash value, each time you make a premium payment some of the money goes towards paying for the actual cost of insurance, some goes towards administrative fees to the insurance company, and some goes into the cash value account.

The actual cost of insurance is where the death benefit comes from. The death benefit is the money your beneficiaries receive when you die. This is separate from cash value and most permanent products do not pay your beneficiaries the cash value amount when you die.

Because the cash value doesn’t get added to the death benefit, you may be wondering: What’s the point? What does the cash value do?

The cash value essentially helps pay for the actual cost of insurance in your older years.

When you buy a whole life insurance policy, for example, your premiums don’t increase. If you buy the policy and your premiums are $70 per month, they’re going to remain $70 per month until you die even if you live past age 100.

As you can imagine, the cost of insurance for a 100-year-old person is much higher than, for example, a 40-year-old since the 100-year-old is much closer to death. Instead of the insurance company raising your premium payments as you age, the accumulated cash value allows your premiums to remain level.

Cash value has another purpose. There are laws in place that allow you to claim a fair share of the value of your permanent life insurance if you decide to cancel it. This share is the cash value minus any applicable surrender charges or policy loans.

Another feature of cash value life insurance is its living benefits for the policyowner.

Typically life insurance only provides benefits to the policy’s beneficiary when the insured person dies. But if you own a life insurance policy that accumulates cash value you also have the option of taking out loans against the cash value or withdrawing cash.

However, in most cases, we don’t necessarily recommend taking out loans or withdrawing from your cash value.

When you take out loans against your policy, the balance accumulates interest until it’s fully paid back and if you don’t pay it back while you’re alive it’s then taken from your beneficiary’s death benefit. In addition, if the loan balance and interest ever exceeds your policy’s cash value your policy will terminate and then your beneficiaries will have nothing when you die.

Withdrawing from your cash value is different than taking out a loan against it. When you withdraw from your cash value you are permanently taking this amount from your policy. You don’t pay any interest, but it reduces both the death benefit and the cash value account.

» Compare: Term life insurance quotes

There are certain situations in which taking out a policy loan or making a withdrawal could make sense.

If you’re older, in retirement, and have beneficiaries that no longer financially depend on you a policy loan isn’t such a big deal. When you die and the balance is taken from your death benefit your beneficiaries won’t really financially suffer.

However, if you are in need of cash and you’re younger and think you’ll still be around for a while a withdrawal may be better so there is no interest that is adding up. But the withdrawal may affect your planned premium amounts so be sure to check in with your agent before you do so.

Some common reasons why some people may take out a policy loan or withdraw from the policy include paying for a child’s wedding, paying for child’s college tuition, funding a down payment on a mortgage, paying for an emergency expense, or supplementing retirement income.

Reasons to take out a life insurance policy loan or withdrawal:

  • Paying for a child’s wedding
  • Paying for child’s college tuition
  • Fund a down payment on a mortgage
  • Pay for an emergency expense
  • Supplement retirement income

Using the cash value as collateral for a loan is also popular. Banks love cash value life insurance. If you need a bank loan, many will approve your loan if you put up your life insurance policy as collateral. Because if you can’t pay back the loan, the bank is still paid back from your life insurance policy.

Whole life insurance and universal life insurance are the most common types of cash value life insurance. Most families only need term life insurance but if you’re interested in cash value life insurance you can find more information on our Term Life Insurance versus Whole Life Insurance page.

If you have any questions about life insurance, make sure to leave us a comment. And if you’re ready to get quotes, check out Quotacy.com. We’re here to help you find the best deal on the life insurance you want. Bye!

About the writer

Headshot of Natasha Cornelius, a life insurance writer, for Quotacy, Inc.

Natasha Cornelius, CLU

Senior Editor and Life Insurance Expert

Natasha Cornelius, CLU, is a writer, editor, and life insurance researcher for Quotacy.com where her goal is to make life insurance more transparent and easier to understand. She has been in the life insurance industry since 2010 and has been writing about life insurance since 2014. Natasha earned her Chartered Life Underwriter designation in 2022. She is also co-host of Quotacy’s YouTube series. Connect with her on LinkedIn.