Are life insurance loans a bad idea? I'm in financial trouble and I desperately need some cash. Is it wise to borrow it from my insurance policy?
Money borrowed from whole-life (sometimes called permanent) insurance policies is called a life insurance loan. (Note that you cannot borrow from a term life insurance policy.) But while it goes by the name of a "loan," it doesn't really amount to a form of debt. You have accumulated these funds in the life insurance product, so they're technically yours any time you choose to cancel the policy.
In essence, then, you're borrowing from yourself, and there is a guaranteed method of repayment. If nothing else, the amount borrowed will be repaid from the proceeds of the life insurance policy when you die (a guaranteed event). Another guaranteed method of repayment is canceling or giving up the policy. You can, of course, elect to pay the money back yourself, in which case you will be charged interest at a rate specified in the insurance contract. This rate can be very low for older policies but fairly high and variable for new policies.
That brings up a related question: since repayment is not required, should you pay back a life insurance loan? This isn't easy to answer. The biggest variable in the equation is the insurance company itself. If you hold a policy with a good quality insurance company that has a strong history of increasing dividends (which are really returns of excess premiums) to policyholders, then repaying the loan makes good sense. Repaying will reduce your interest cost each year. It will also allow for a good tax-deferred buildup of cash within the insurance policy.
To sum up: if you have whole life insurance and need to borrow money for whatever purpose, then that is typically a good source. It's certainly better than a credit card loan or an installment loan with high interest costs. If you have borrowed money from a life insurance policy, it may make good sense to repay the loan if it will increase your dividends within the policy.
For additional help and information on this topic, we'd encourage you to consult the resources and referrals highlighted below. Or if you have relationship concerns and challenges associated with this situation, please don't hesitate to give our Counseling department a call.