Life insurance comes in many different shapes and sizes, with values, terms, and details varying by policy. The decision to surrender–or give up–your life insurance policy can have a significant impact on your personal finances, and those of your family. Here is what you need to know if you are considering surrendering your life insurance policy.
Like other types of coverage, life insurance exists to provide a benefit payment if an incident or accident occurs. Unlike other types of insurance, the policyholder is not designed to be the beneficiary. However, when you surrender certain types of life insurance policies, you may receive some compensation.
How Does Life Insurance Work?
Life insurance is meant to provide a death benefit to your chosen beneficiaries. These funds are intended to help your family transition to life after you are gone, paying for both current and future expenses.
Life insurance can generally be split into two distinct types of policies: whole life insurance and term life insurance.
(1) Whole life insurance: Whole life insurance never expires. As long as you keep your policy current and make your premium payments, your beneficiaries will receive a death benefit.
This death benefit is predetermined and does not change during the life of your policy. The benefit will be disbursed to your beneficiaries either in a lump sum (the most popular option) or via regular payments.
Whole life insurance has a cash value as well (see below). This pot of money gains value as you make your premium payments, and these monies will also grow at a fixed rate that the insurance company guarantees.
Because it never expires–and because of the cash value–whole life insurance is more expensive than term life insurance.
(2) Term life insurance: Unlike whole life insurance, term policies will expire. Term life insurance is generally purchased at intervals of 10, 20, or 30 years and is meant to help those with dependents offset costs such as mortgage payments, the loss of income streams, and future educational expenses.
Term life insurance is a relatively straightforward financial product. Because it will only be triggered if the policyholder dies during the agreed-upon term, it shares numerous similarities with car, home, and health insurance.
Term life insurance does not have a cash value. If the policyholder outlives their policy, their beneficiaries will not receive a death benefit. There is also no surrender value if you elect to end your policy before the term is up.
What Is the Cash Value?
The cash value component of a whole life insurance policy grows over time. Cash value is a living benefit that policyholders can access themselves.
This can come in the form of a loan or a withdrawal. The cash value of a life insurance policy can sometimes even be used as collateral for taking out loans from alternative sources of financing.
There is a catch, however. If you remove funds from your cash value or take out a loan that you do not repay, this will decrease the death benefit that will eventually be paid to your beneficiaries.
The cash value gives whole life insurance a residual value, allowing you to recoup some of the monies you have contributed if you elect to surrender your plan.
What Is the Surrender Value?
The surrender value of your whole life insurance plan is the amount of cash you will receive if you elect to end your coverage.
It is equivalent to the amount of money that you have built up in your cash value, minus any fees or cancellation costs that the insurance company charges for ending the policy.
The surrender policy generally starts relatively high and can reach upwards of 35% of your cash value. However, this will decrease as the years go by, and usually, after 15 years, most policies will remove it entirely.
At this point, the surrender value will be equivalent to the amount of cash that you have accumulated in your cash value. This will be the payout that you will receive if you elect to surrender your life insurance.
Should You Surrender Your Life Insurance?
For those with whole life insurance, surrendering your policy will depend on both your current finances and the status of your beneficiaries.
At the most basic level, you should consider surrendering your policy if you are having difficulty keeping up with the payments or if you need an infusion of cash to meet your current needs. It is also possible that you may need the money to help fund your retirement costs.
Beyond these more obvious scenarios, you might also weigh canceling your policy if your beneficiaries will not need the use of a death benefit to help them transition to life without you.
This decision requires a balance between your current needs, your capacity to pay any premiums due, and the future circumstances of your family.
Conclusion: Thinking About Today and Tomorrow
Financial planning is the art of simultaneously taking care of your current needs and planning for your future goals. Life insurance alters this equation slightly, by placing the focus solely on your family.
Surrendering a whole life insurance policy can be the right decision, though this depends on your current situation and your family’s future needs. It all comes back to balancing your needs today, along with caring for your family after you are gone.
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