Cash value life insurance lets you borrow against money that accumulates inside your policy while you're alive

Unlike term life insurance, which pays out only if you die, cash value life insurance has two parts: a death benefit and a savings component. A portion of your premium goes into an account that grows over time. You can borrow from this account, withdraw from it, or use it to pay premiums. The insurance company guarantees a minimum growth rate, though some policies also earn dividends or market returns depending on the type.

The catch is that cash value policies cost significantly more than term insurance for the same death benefit. You're paying for both the insurance and the investment piece. Whether that trade-off makes sense depends on your situation and how long you keep the policy.

Key Takeaways

  • Cash value grows tax-deferred inside the policy and you can borrow against it without triggering income tax on the gain.
  • Loans against your cash value don't require a credit check or approval process, but unpaid loans reduce the death benefit your beneficiaries receive.
  • Withdrawals above what you paid in premiums are taxed as income, while loans are not, making loans the cheaper option for accessing your money.
  • If you surrender the policy (cancel it), you owe income tax on any gain, and the insurance protection ends immediately.
  • Cash value policies are most useful if you plan to keep them for 10+ years and want permanent coverage, not as a short-term savings tool.

How the cash value account grows

When you pay your premium, the insurance company deducts its costs and the cost of insurance, then deposits the remainder into your cash value account. That account earns interest or investment returns, depending on the type of policy. With a whole life policy, the insurer guarantees a minimum interest rate and may pay dividends. With a universal life policy, your cash value is tied to market indexes or interest rates, so growth varies. With a variable universal life policy, you choose how the cash value is invested, similar to a 401(k).

Growth is tax-deferred, meaning you don't pay income tax on the earnings each year. That's different from a regular savings account or investment account, where you owe tax annually on interest or gains. Over decades, that tax deferral can add up.

The cash value is not may provide to grow at a particular rate in all policy types. Universal life policies especially can see cash value decline if interest rates drop or if you don't pay enough premium. Some people have found their universal life policies became too expensive to maintain because the cash value didn't grow as projected.

Borrowing against your cash value

Once your cash value reaches a certain level (usually after a few years), you can take out a loan against it. The insurance company lends you money and uses your cash value as collateral. You don't have to prove income, pass a credit check, or explain why you need the money. The loan is approved within days.

You pay interest on the loan, typically at a rate set in your policy contract. That interest is added to the loan balance. If you don't repay the loan, it stays outstanding and grows. When you die, the insurance company subtracts the unpaid loan balance from the death benefit your beneficiaries receive.

The major advantage of a loan is that it's not taxable income. You're borrowing your own money, so the IRS doesn't treat it as income. If you withdrew the same amount instead, you'd owe income tax on any portion above what you paid in premiums. For someone in a high tax bracket, that difference can be substantial.

Withdrawals versus loans: which costs less

You can also withdraw money directly from your cash value without taking a loan. But withdrawals are taxed differently. Any withdrawal above the total premiums you've paid is treated as taxable income. If your cash value is $100,000 and you've paid $60,000 in premiums, a $50,000 withdrawal means $40,000 is taxable income to you.

A loan avoids that tax hit entirely. You borrow the money, pay interest, and owe no income tax. That's why loans are usually the better choice if you need access to your cash value. The trade-off is that the loan balance reduces your death benefit, and you have to repay it or it compounds over time.

Withdrawals also reduce your cash value permanently, which means less money available for future loans and a smaller death benefit. Loans don't reduce your cash value—the money stays in the account earning interest while you're paying interest on the loan.

What happens if you cancel the policy

If you surrender (cancel) your policy, you receive the cash value minus any outstanding loans and surrender charges. The insurance company may deduct a fee for early termination, especially in the first 10 years. Any gain—the difference between what you received and what you paid in premiums—is taxable income.

Once you surrender, the death benefit ends. Your beneficiaries receive nothing if you die after cancellation. That's a permanent loss of coverage. If you later want life insurance again, you'll have to reapply and may face higher premiums due to age or health changes.

Some people use cash value policies as a long-term savings tool and plan to surrender them in retirement. Others keep them until death so the death benefit passes to beneficiaries tax-free. The decision depends on whether you still need the insurance protection and whether the cash value growth justifies the cost of the premiums.

When cash value policies make sense

Cash value insurance is most useful if you need permanent coverage (coverage that doesn't expire at a certain age), plan to keep the policy for 10 or more years, and can afford the higher premiums. It's also worth considering if you have a high income and want a tax-deferred savings tool alongside insurance protection.

It's usually not the right choice if you need coverage for a specific period (like until your kids finish college), want to minimize premiums, or can't commit to paying premiums for decades. In those cases, term life insurance is cheaper and simpler.

Some people buy a combination: term insurance for the bulk of their coverage and a smaller cash value policy for permanent protection and the savings component. That approach gives you flexibility and lower overall cost than a large cash value policy alone.

The cost of keeping a cash value policy

Premiums for cash value policies are typically 5 to 15 times higher than term insurance for the same death benefit, depending on your age and health. A 40-year-old buying $500,000 in coverage might pay $50 to $100 per month for term insurance but $300 to $600 per month for whole life.

Over 30 years, that difference adds up significantly. You're paying for insurance protection plus an investment account. If you stop paying premiums, the insurance company can use your cash value to cover the cost of insurance, keeping the policy in force. But eventually, if the cash value runs out, the policy lapses and you lose coverage.

Some people find that after 20 or 30 years, their cash value has grown enough that premiums are no longer needed—the policy pays for itself. Others find the cash value never grows as projected, especially with universal life policies during periods of low interest rates.

Frequently Asked Questions

Can I borrow from my cash value without paying it back?

Yes, but it reduces your death benefit. If you borrow $50,000 and never repay it, your beneficiaries receive $50,000 less. The loan also accrues interest, so the amount owed grows over time. If the loan balance eventually exceeds your cash value, the policy can lapse and you lose all coverage.

Is the cash value in my life insurance policy protected from creditors?

In most states, cash value in a life insurance policy has some creditor protection, but it varies by state and by the type of creditor. Judgment creditors may be able to reach it in some cases. Consult your state's insurance laws or a local attorney if you're concerned about creditor claims.

What's the difference between whole life and universal life cash value?

Whole life guarantees a minimum interest rate and typically pays dividends, making cash value growth more predictable. Universal life ties cash value to market interest rates or indexes, so growth varies and can be lower in years when rates are down. Whole life premiums are fixed; universal life premiums can increase if the cash value doesn't grow as expected.

Can I use my cash value to pay premiums?

Yes. If you stop making premium payments, the insurance company can automatically deduct the cost of insurance from your cash value to keep the policy in force. This is called a policy loan or automatic premium loan, depending on your contract. Eventually, if the cash value runs out, the policy lapses.

Do I owe taxes on the interest my cash value earns?

No. Interest earned inside the policy is tax-deferred, meaning you don't owe tax on it each year. You only owe tax if you withdraw money above what you paid in premiums, or if you surrender the policy and have a gain. Loans are never taxable.