What is Cash Value?
The cash value is a saving component within a permanent life insurance policy. Once the cash value reaches a certain amount, you can access that money for certain purposes — but doing so can decrease the death benefit your beneficiaries receive.
How life insurance cash value grows
Most permanent life insurance policies include a cash value component. When you pay your premiums, your life insurance company puts a portion of them into that cash-value account.
Beyond that, the cash value can grow based on the type of policy you have:
Whole life insurance cash value grows at a minimum guaranteed rate, which gets set when you buy your policy as well as dividends if your policy is what insurance providers call a “participating policy.”
Universal life insurance cash value earns a money market rate of interest.
Variable universal life insurance cash value grows depending on how you invest the money in the cash value account. In other words, if the investments you choose perform well, it grows faster. If they underperform, your cash value can decrease.
Indexed universal life insurance cash value grows based on specific indexes and will have a floor, so as to remove the risk of market falls. On the flip side, it also has a cap and participation rate, meaning that the growth will be limited when compared to a variable universal life insurance policy.
Ways to use the cash value
The cash value of a life insurance policy is a living benefit, which means the insured can tap into that money while they’re alive. You have several ways you can use the cash value component of your policy:
To take out a loan. Generally, these loans come with low-interest rates. And they won’t show up on your credit report, impacting your credit score. You can use the loan proceeds however you want. The main thing to note is that if you haven’t repaid the loan in full by the time you pass away, your life insurance company will deduct the outstanding balance plus interest from the death benefit they pay to your beneficiaries.
To make a withdrawal. If you no longer need the full death benefit you chose for your policy, you can withdraw your cash value. Your death benefit will be decreased by the amount you withdraw. If you withdraw growth (i.e., money beyond what you’ve paid into the cash value component of your policy), it may be subject to taxation.
To pay your policy premiums. Once your cash value reaches a certain threshold, you may be able to use it to pay your premiums. This can be particularly helpful during retirement. Keep an eye on your cash value, though, because exhausting it entirely can cause a policy lapse.
If you choose not to use your cash value while you’re alive, don’t expect it to go to your beneficiaries. They will get your full death benefit when you pass away, but the cash value becomes the property of the insurance company at that point.
That said, both whole life and all types of universal life insurance policies offer the ability to have your death benefit grow in relation to your cash value earnings.