What happens if you own a whole life policy and you don’t want to keep paying the premiums… and you don’t want the policy to lapse either? Or when you can’t afford the premiums any longer and still want coverage? Life happens—it’s the reason people tend to purchase insurance in the first place.
Yet, you can’t just quit paying premiums cold turkey. If you stop your payments without adjusting your policy or communicating with the insurance company, you could lose the policy. After all, a whole life insurance policy is similar to a mortgage in many ways. This includes the fact that homeowners who cannot make payments can go into foreclosure.
Why Save Your Life Insurance Policy?
You might be wondering why we’re driving this home, so here’s the thing…You actually have some options when making payments becomes difficult. These options are well-worth considering, especially because:
- If your policy lapses, and you want to reinstate your coverage later, you will likely pay more for the same amount of death benefit. This happens because a key factor in determining premium is age. If you intend to buy coverage later, letting your policy lapse could cost you more in the long run.
- If you have health problems now or in the future, you may not be able to get coverage again…at any price. Under your existing coverage, changes in your health do not affect your premium. Yet changes in your health can mean that you’ll be denied coverage later.
- There could be tax implications of policy cancellation. Cash value accumulates in your policy on a tax-deferred basis. However, if you terminate your policy and take the cash value (not the same as policy loans, which are generally not taxable), a portion of the cash value could be considered ordinary income and be taxed at your current tax rate.
- You probably obtained life insurance for reasons such as insuring your income, protecting beneficiaries or building up an emergency/opportunity fund. Those are important reasons that don’t just disappear. We urge you to find an affordable way to keep your policy in force.
So if you have a life insurance policy and can’t afford premiums (or simply don’t wish to make payments) don’t just quit. It’s crucial to seek additional support so that you can set yourself up for a better future. Rather than canceling your policy or letting it lapse, if you still want the life insurance policy, explore your options. And remember that whole life insurance is an asset. As such, it grows more valuable over time, not simply to beneficiaries, to the policy owner too. (If you want to learn how valuable whole life insurance can be, check out our Ultimate Guide to Whole Life Insurance.)
Can’t Afford Premiums Right Now?
Ready to save your life insurance policy, even if you can’t afford premiums? Here are seven ways to accomplish this, in descending order of flexibility and desirability:
1. Natural Vanish
“Natural vanish” literally means what it says. The policy premium “naturally” falls away because the policy has reached a certain state of maturity.
This is one of the best options in many cases. Yet it is not available until the policy has been in force for some time. This is because a natural vanish is only viable when you have accumulated a certain amount of cash value.
Here are some typical time frames from the start of a policy to natural vanish eligibility:
- 7-10 years if maximum PUAs (paid-up additions) have been utilized.
- 17-20 years if no PUAs have been utilized. (In this case, options 2, 3 or 4 may be worth your consideration.)
It’s possible to set up your policy with a natural vanish option, otherwise, you can convert it to one. Dividends, cash value, and death benefit remain intact this way.
2. Use Dividends to Pay the Premium
If you have a more mature policy that receives significant dividends, it’s possible to use them to pay premiums. This is a useful option when you wish to keep a policy, and don’t necessarily need the dividend payments. Many policy owners don’t realize this option is available. Often, the dividends get set to reinvest, or automatically add to the cash value.
3. Change to a Monthly Payment Plan
Sometimes, it’s difficult to make premium payments due to the schedule. If you’re finding it difficult to save the money in a lump sum for a quarterly or annual payment, you can ask your company to switch you to a monthly plan. While this increases your overall annual cost, many people find this to be a more effective way to make savings an automatic habit. You can make adjustments to your payment schedule through your company as desired. This means you can adjust to what fits your current situation best. Just keep in mind that an annual payment will be the overall lowest cost if you can manage it.
4. Automatic Premium Loan
An automatic premium loan is great to use when short-term cash flow issues make it difficult to pay. You borrow against the cash value to pay the premium, which raises the cash value and creates a loan against it.
You can do this for quite a few years if necessary. In fact, interest can be paid with that loan too. Though it’s better to pay the interest out of pocket so that you don’t continue to increase the loan. We cannot overstate that this is a good short-term solution, yet in the long-term is unsustainable. There’s no infinite money pool because you still owe money to the insurance company.
As discussed in our post, “Should Your Borrow Against Your Cash Value or Withdraw It?“, in most situations we recommend borrowing against your cash value rather than withdrawing, as it keeps growing and gives you the best options for the future. However, it is not best to borrow against cash value if you cannot pay it back. This can cause your policy to implode, which can also create a major taxable event.
5. Withdraw Cash Value to Pay the Premium
If you do not believe you can pay a policy loan back within a few years and do not wish to keep incurring interest, you can withdraw cash value to pay your premium, if this makes sense numerically. This may be an option in limited situations. For example, perhaps you are on a fixed income and close to having a paid-up policy or a natural vanish option available to you, yet do not wish to take a policy loan or reduced death benefit.
Keep in mind that once you withdraw from your cash value, you cannot “put it back.” For this reason, we recommend borrowing against a policy in many situations, especially as a first consideration.
6. Reduced Paid Up
Reduced Paid-Up is a permanent strategy. Whereas options #1-4 are temporary and changeable, withdrawing cash value or causing your policy to be “reduced and paid-up” is not.
A reduced paid-up does exactly what it says it will; it reduces the policy’s death benefit (though not the cash value) and pays it up permanently. You will no longer need to make any premium payments on this policy ever again. The death benefit also remains guaranteed.
This can be a good option when the policy-holder wishes to keep their cash value intact and stop making payments. While this limits what you pass to your heirs, it’s usually preferable to leaving no death benefit at all.
7. Re-arrange Your Cash Flow
Are you struggling to pay both your credit cards and your life insurance? You may be able to pay off a high-interest credit card with a policy loan at a lower rate (check with your insurance company, policy loans are currently around 5% to 8% for fixed rates). That’s a smart strategy even if you’re not struggling to make premium payments! You’re just refinancing your own debt at a lower rate, and with greater flexibility. (Just be sure to pay off the policy loan.)
Perhaps, you are in a cash crunch and can stop or lower your retirement contributions. A 401(k) doesn’t have the flexibility, liquidity, or death benefit of a life insurance policy, so you’d be wise to focus on the policy and resume your qualified plan contributions later, if you choose.
Look at your overall budget and determine if there is a way to re-arrange your cash flow to keep saving in your policy. Evaluate if your spending has fallen out of line with your long-term values and principles, or if you simply don’t have adequate cash flow.
As you can see, you have quite a few options of how to save a life insurance policy, even when you can’t afford the payments. And there is one more important option that may be preferable to letting the policy lapse (which will leave you only with the cash value.)
A Different Option: Selling the Policy
In the event that you cannot save your whole life insurance policy (or not in an acceptable manner), you may wish to explore selling. Selling it to a party with investment interest is only an option in very specific circumstances, such as when life expectancy is very short, in which case, the policy could be a desirable asset for a life settlement fund or direct fractional investment purchase. When a policy is desirable to investors, the policy owner will receive more than the policy’s cash value amount.
Selling a policy can also be a possibility to discuss with family and trusted friends, as there are situations when the best “win-win” is finding a private buyer, perhaps a family member or friend who could maintain the policy and become the beneficiary.
And Finally, If You Can’t Afford Premiums…Reduce Them!
Perhaps none of the above options work, for various reasons. Perhaps your dividends can’t cover the premium, you don’t wish to take loans, you’re too young to sell the policy and you don’t want to reduce a policy as much as a reduced paid-up would require.
Investigate to see if you can simply shrink your policy and, correspondingly, your premiums. Want to downsize your policy to two-thirds, half, or even less of the size of your original policy? Often it can be done. Just contact your insurance company and usually, they can work with you for a solution.
Do You Wish to Stop Your Policy from Lapsing?
Just because you can’t afford premiums at the moment, doesn’t mean you’re out of options. Contact us or email firstname.lastname@example.org with your questions, and we’ll be happy to help you evaluate your policy and your options. You can also contact your insurance company directly to discuss many of the options above.