Life Insurance Living Benefits: 8 Ways to Use Your Policy While Still Alive

Written by ChoiceLifeQuote

Many people shy away from conversations about the need for life insurance because of the sobering nature of the topic. But, life insurance living benefits can be a different story.

Let’s face it… Considering the possibility of not being here for our loved ones is not pleasant.

However, there are instances were life insurance pays off even if YOU LIVE!!

The intent of this article, Life Insurance Living Benefits: Ways to Use Your Policy While Still Alive, is to provide an overview of the various living benefits associated with modern life insurance policies.

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Introduction to Life Insurance Living Benefits

Most of the life insurance policies purchased in the marketplace are intended for financial protection, in the form of the policy’s death benefit. These policies provide income protection for growing families, mortgage protection for homeowners, continued charitable donations from benefactors, ensure business continuation for small businesses, and provide financial security in several other facets. The emphasis on a policy’s death benefit is traditionally considered how life insurance works.

In fact, life insurance is the only financial vehicle that pays a predetermined tax-free amount at an individual’s death, regardless of the total premiums previously contributed.

However, not all benefits associated with life insurance policies are tied to a death benefit. Many policies offer a variety of living benefits which can be utilized during a primary insured’s lifetime. Life insurance living benefits may include a range of policy features from accelerated benefits to a policy’s cash value, and other valuable options.

8 Types of Life Insurance Living Benefits

There are a number of life insurance policies offering living benefits available in today’s marketplace. The policy features and options discussed provide information related to common living benefits, and the financial options they provide. Living benefits highlighted include accelerated benefits, cash accumulation value, policy dividends, policy loans and withdrawals, nonforfeiture values, collateral assignment, policy exchanges, and viatical and life settlements.

1

Accelerated Benefits

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Accelerated benefits associated with life insurance policies have become increasingly popular in recent years. Essentially, accelerated benefits are any policy feature that allows access to a portion of the death benefit prior to the primary insured’s passing.

Not all life insurance policies offer accelerated benefits, so care should be taken to research the options available with specific policies. Popular life insurance accelerated benefits include chronic illness, critical illness, and terminal illness benefit features.

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    Chronic Illness Benefit – A chronic illness benefit is a feature which allows an insured to collect a portion of the original death benefit if he or she is diagnosed with a chronic illness. This accelerated benefit is normally triggered by an insured’s inability to perform a specific number of activities of daily living, or severe cognitive impairment. The portion of the original death benefit that may be accessed due to chronic illness can vary greatly by insurance company, but may possibly be up to 100%. The intent of a chronic illness feature is to provide the insured with access to policy benefits at a potentially critical time during chronic illness.
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    Critical Illness Benefit – A critical illness benefit is a feature which allows an insured to collect a portion of original death benefit if he or she is diagnosed with a critical illness. This accelerated benefit is normally triggered by an insured’s diagnosis with a condition such as a heart attack, stroke, cancer, renal failure, major organ failure, ALS, and other critical diagnoses. As with chronic illness, the portion of the original death benefit that may be accessed due to critical illness can vary greatly by insurance company, but may possibly be up to 100%. The intent of a critical illness feature is to provide the insured with access to policy benefits at a potentially critical time during critical illness.
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    Terminal Illness B​​​​enefit – A terminal illness benefit is a feature which allows an insured to collect a portion of original death benefit if he or she is diagnosed with a terminal illness. This accelerated benefit is normally triggered by an insured’s diagnosis with a life expectancy of 12, or with some companies 24 months. As with chronic and critical illness, the portion of the original death benefit that may be accessed due to terminal illness can vary by insurance company, but may possiblybe up to 100%. The intent of a terminal illness feature is to provide the insured with access to policy benefits at a potentially critical time when diagnosed with a terminal illness.
NIH

According to the National Institutes of Health, approximately 38% of men and women will be diagnosed with cancer at some point during their lifetime.

2

Cash Accumulation Value

A life insurance policy’s cash accumulation value is likely the most well-known of living benefits, traditionally associated with permanent, or cash value life insurance. Cash value life insurance policies may include whole life, universal life, indexed universal life, variable life, variable universal life, and others.

These types of policies accumulate cash value as premiums are paid and interest is credited, while expenses such as the cost of insurance and administrative charges are periodically deducted. Additionally, based on current tax guidelines life insurance cash values accumulate on a tax-deferred basis. This status allow a policy owner’s cash accumulation value to potentially grow faster than fully taxable financial products. 

Given time to accumulate, a life insurance policy’s cash accumulation value can grow into a substantial asset for the policy owner. Subject to surrender charges and other policy restrictions, life insurance policy cash accumulation values can be accessed or utilized in several ways.

Cash value options for policy owners include: 

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    Continue to accumulate within the policy
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    Borrowed against through policy loans
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    Withdrawn in the form of cash
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    Payment of future policy premiums
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    Used to purchase paid-up policy
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    Exchanged for another policy (1035 Exchange)
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    Policy cancelled receiving surrender value
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    Assigned as collateral for a bank loan

3

Policy Dividends

Policy dividends are payments made to owners of participating life insurance policies which serve as a potentially reoccurring living benefit. Traditionally, associated with whole life policies issued by mutual insurance companies, policy dividends are the result of favorable financial outcomes on the part of the insurer. In such instances, the insurance company may elect to pay dividends to policy owners.

Policy dividends are traditionally determined and paid annually, but are not guaranteed. In most instances, policy dividends are not taxable since they are considered a return of premiums paid. However, dividends can be taxable when payments exceed total premiums paid. Also, when dividends are left to accumulate interest the interest earned is considered taxable income. 

Policy dividend options available include:

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    Accumulate at Interest
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    Paid in Cash
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    Reduce Policy Premiums
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    Purchase Paid-up Additions
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    Purchase Term Insurance
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4

Policy Loans and Withdrawals

As previous discussed related to cash accumulation value, policy loans and withdrawals are available to policy owners with sufficient cash value.

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    Policy Loans – Policy loans may be taken from the issuing insurance company using cash value as collateral. Policy loans normally have favorable interest rates since they are secured by the cash value, and are considered tax-free since the proceeds are loans and not income. Policy owners are also not required to pay back policy loans, however outstanding loan amounts will eventually be recouped upon the payment of a death benefit or policy surrender.
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    Policy WithdrawalsPolicy withdrawals, on the other hand, are considered a partial surrender to receive a portion of the cash accumulation value. These types of withdrawals are tax-free up to total amount of premiums paid into the policy. As a partial surrender, withdrawals reduce both a policy’s cash value and death benefit.

5

Nonforfeiture Values

Nonforfeiture values relate to benefits that an insurance company is required to provide if a policy lapses due to nonpayment of premiums. These values represent a portion of the policy’s cash value, and may be taken by the policy owner as paid-up insurance or the cash surrender value.

According to the International Risk Management Institute, “all states have enacted nonforfeiture laws that require that whole life insurance policies specify the nonforfeiture values in a schedule in the policy.”

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6

Collateral Assignment

Collateral assignment of a life insurance policy involves temporarily assigning rights associated with a policy to a third-party for the purpose of securing a loan. Depending upon the type of loan request, a lender may consider the life insurance policy’s cash value adequate security.

A collateral assignment does NOT require naming the proposed creditor as beneficiary of the policy. 

In the event of an untimely death the outstanding debt to the creditor would be repaid, and the remaining policy proceeds would be paid to the named beneficiaries. Also, once the debt has been paid in full the collateral assignment would be removed returning all policy rights to the policy owner.

It is recommended that policy owners considering a collateral assignment consult a qualified insurance and/or legal professional to ensure that they understand assigned rights under the proposed agreement.

7

1035 Exchanges

A 1035 exchange refers to exchanging one life insurance policy for another similar contract. This living benefit gets its name from the Internal Revenue Code (IRC) Section 1035 which addresses taxation of such exchanges. Essentially, the Internal Revenue Code states that, within specific guidelines, certain insurance products can be exchanged for other similar insurance products with no taxable gain or loss being realized.

Qualifying 1035 exchanges allowed for life insurance policies include exchanging a life insurance policy for another life insurance policy, an annuity contract, a qualified long-term care policy, or an endowment contract.

As a note, annuity contracts may only be exchanged for another annuity or for a long-term care policy, NOT a life insurance policy. 

These tax-free exchanges allow policy owners to realign policies as their coverage needs change.

8

Viatical and Life settlements

Viatical and life settlements refer to selling an in-force life insurance policy to a third-party on the secondary market. These arrangements allow policy owners to sell policies at a time when they need immediate cash, and serve as an investment for the companies purchasing the policies.

The difference between the two types of settlements is that a viatical settlement involves the sale of a policy insuring the life of someone who is terminally or chronically ill, whereas a life settlement involves the sale of a policy insuring an older individual who is not necessarily in poor health.

It is recommended that policy owners considering a viatical or life settlement consult a qualified insurance and/or legal professional to ensure that they understand the proposed transaction.


Life Insurance Living Benefits in Action

As previously discussed, living benefits provide opportunities for policy owners and/or insured individuals to benefit financially from a policy during their lifetime. Essentially, using their life insurance while still alive. Life insurance policy living benefits can prove extremely valuable features of a policy originally intended primarily for death benefit protection. The following case studies provide examples of living benefits in action.

Case Study #1

Critical Illness Rider

Frank is a 47 year old married father of three children, and provides the primary source of income for his family. Within the last year Frank survived a major stroke, but has been unable to work for several months. Ten years ago, Frank Purchased a $500,000 life insurance policy which included a critical illness rider. Based on his diagnosis, Frank collected a $375,000 critical illness benefit which was 75% of his policy’s death benefit amount. Life insurance living benefits have allowed Frank to continue providing for his family while undergoing therapy and recovering after a critical illness.

Living benefits critical illness
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    $500,000 life insurance policy
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    Critical illness rider pays up to 75%
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    Fred survives a severe stroke
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    In this case, Fred was able to continue providing financially for his family while going through recovering.

Case Study #2

Policy Loans

Linda is a 62 year old college professor who will soon be retiring from the classroom. In planning financially for retirement, she has fully funded her employer sponsored retirement plan each year. Additionally, when she was younger Linda purchased a cash value life insurance policy for income protection, and to accumulate supplemental money for retirement. After several decades, the cash accumulation value of this policy has grown to over $200,000. Linda plans to take policy loans in the amount of $12,000 each year to supplement her pension and other retirement income. Based on current tax guidelines the proceeds from these policy loans will not be taxed as income. Life insurance living benefits will allow Linda to supplement her retirement income, and fully enjoy her golden years.

Living benefits policy loans
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    Cash Value Life Insurance Policy
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    $200,000 in cash accumulation value
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    Non-taxable policy loans
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    In this case, Linda will be able to supplement her income in retirement.

NEED LIFE INSURANCE WITH LIVING BENEFITS?

Our team can assist you in choosing the right type of policy, appropriate amount of coverage, and best insurance company for your specific situation. Get the coverage you need, and save up to 73%. Give us a call at (800) 770-8229, or request an instant no obligation quote today!

Disclaimer: Information in this article is intended to be educational in nature and should not be considered tax and/or legal advice. It is recommended that individuals considering the use of life insurance living benefits contact a qualified tax and/or legal professional related to their specific situation.

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