Cash value is money your life insurance policy builds up over time that you can borrow against or withdraw while you're still alive

Not all life insurance policies have cash value. Term life insurance — the most common and cheapest type — has no cash value at all. You pay a monthly premium for a set number of years (like 20 or 30 years), and if you die during that term, your beneficiary gets the death benefit. If you outlive the term, the policy ends and you get nothing back.

Permanent life insurance — which includes whole life, universal life, and variable universal life — does build cash value. Part of your premium goes toward the death benefit, and part goes into an account that grows over time. That growing account is the cash value. You can access it while you're alive by borrowing against it, withdrawing from it, or surrendering the policy entirely.

Cash value grows slowly at first. In the early years of a permanent policy, most of your premium pays for the insurance itself and the company's costs. After several years, the cash value starts to grow more noticeably. The growth rate depends on the type of policy and how the insurance company invests the money.

Key Takeaways

  • Cash value only exists in permanent life insurance policies, not in term life insurance.
  • You can borrow money from your policy's cash value, and the loan does not count as income for tax purposes.
  • If you withdraw cash value or surrender the policy, you may owe taxes on the amount above what you paid in premiums.
  • Borrowing against cash value reduces the death benefit your beneficiary receives unless you repay the loan.
  • Permanent life insurance costs significantly more than term life insurance because of the cash value component.

How cash value grows inside your policy

The cash value in a whole life policy grows at a rate set by the insurance company — typically between 2% and 4% per year, though this varies by company and policy. The insurance company guarantees a minimum rate, so your money will not disappear, but the growth is modest compared to stock market returns.

In a universal life or variable universal life policy, the cash value can grow faster because it's tied to market performance or interest rates. If markets do well, your cash value grows more. If markets perform poorly, your cash value may grow slowly or even decline. These policies offer more upside but also more risk.

Cash value does not grow tax-free in the sense that you pay no taxes ever. The growth itself is not taxed while it sits in the policy, but if you withdraw money or borrow against it, tax consequences may apply. This is different from a regular savings account, where you pay taxes on interest each year.

Borrowing against your cash value

Once your policy has built up enough cash value — usually after a few years — you can borrow against it. The insurance company lends you money using your cash value as collateral. You do not have to prove you need the money or explain what you'll use it for. The loan is not reported to credit bureaus and does not affect your credit score.

The interest rate on a policy loan is set by your insurance contract, typically between 5% and 8%, though this varies. You do not have to repay the loan on any set schedule. You can repay it whenever you want, or not at all. If you die before repaying it, the outstanding loan balance is subtracted from the death benefit your beneficiary receives.

If you borrow against your policy and then stop paying premiums, the insurance company may use the cash value to cover your premiums automatically. This keeps the policy in force, but it reduces your cash value and the death benefit. Eventually, if the cash value runs out, the policy lapses and you lose coverage.

Withdrawing cash value versus surrendering the policy

You can withdraw money directly from your cash value without borrowing. A withdrawal is different from a loan — you're taking the money out, not borrowing it. Withdrawals reduce both your cash value and your death benefit permanently.

If you withdraw less than the total amount you've paid in premiums, there are no tax consequences. If you withdraw more than you've paid in, the excess is taxable income. For example, if you've paid $50,000 in premiums over 15 years and your cash value is now $65,000, withdrawing $55,000 means $5,000 is taxable income.

Surrendering the policy means canceling it entirely and taking out all the remaining cash value. The insurance company may charge a surrender fee, especially in the early years of the policy. After the surrender fee, you receive the remaining cash value. Any amount above your total premiums paid is taxable income, and you lose all death benefit coverage.

When cash value makes sense and when it doesn't

Permanent life insurance with cash value is much more expensive than term life insurance. A 35-year-old in good health might pay $30 to $50 per month for a $500,000 term life policy lasting 20 years. The same person might pay $300 to $500 per month for a $500,000 whole life policy. That's a significant difference over time.

Cash value is useful if you want life insurance that lasts your entire life and you want the option to access money during that time. It's also useful if you've maxed out other retirement savings options and want another place to put money that grows tax-deferred. Some people use permanent policies as a way to leave money to heirs while also having access to cash if they need it.

Cash value is usually not necessary if you only need life insurance for a specific period — like while your children are young or while you're paying off a mortgage. In those cases, term life insurance is cheaper and does the job. You can buy a large term policy for a low premium and invest the difference in a regular investment account, which often grows faster than cash value and gives you more flexibility.

Tax consequences of accessing cash value

Loans against your cash value are not taxable. The IRS does not consider a loan to be income, so you do not report it on your tax return. This is one advantage of borrowing rather than withdrawing.

Withdrawals and surrenders are taxable on the amount above your basis — the total premiums you've paid. If your basis is $40,000 and your cash value is $60,000, withdrawing $50,000 means $10,000 is taxable income at your ordinary income tax rate. If you surrender the entire policy, any gain above your basis is taxable.

If you die with an outstanding policy loan, the loan balance reduces the death benefit, but the death benefit itself is not taxable to your beneficiary. The loan does not create a tax bill for your heirs.

How cash value affects your death benefit

In most whole life policies, the death benefit stays the same regardless of how much cash value you've built up. If your policy has a $500,000 death benefit, your beneficiary receives $500,000 when you die, even if the cash value is $100,000. The cash value is separate from the death benefit.

However, if you have an outstanding loan against the policy, the loan balance is subtracted from the death benefit. If you borrowed $30,000 and die before repaying it, your beneficiary receives $470,000 instead of $500,000.

If you surrender the policy or let it lapse because you stopped paying premiums, there is no death benefit at all. Your beneficiary receives nothing. This is why it's important to understand the consequences of accessing your cash value — it can affect the protection your family has.

Frequently Asked Questions

Can I use my cash value to pay my premiums?

Yes. If you stop making premium payments, most insurance companies will automatically use your cash value to cover the premiums. This keeps your policy in force, but it reduces your cash value and eventually your death benefit. Once the cash value runs out, the policy lapses if you don't resume payments.

Is cash value the same as the death benefit?

No. The death benefit is what your beneficiary receives when you die. The cash value is money you can access while you're alive. They are separate amounts. If you borrow against the cash value, the loan reduces what your beneficiary gets, but the death benefit itself does not change.

What happens to cash value if I stop paying premiums?

If you stop paying premiums, the insurance company uses your cash value to cover the costs of keeping the policy in force. This continues until the cash value runs out. Once it does, the policy lapses and you lose coverage. You can also choose to surrender the policy and take out the remaining cash value as a lump sum.

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

Technically yes, but it has consequences. If you die with an unpaid loan, the balance is subtracted from your death benefit. If the loan grows larger than your cash value, the policy may lapse. It's usually better to repay loans when you can, or to withdraw cash value instead if you don't plan to repay.

Do I pay taxes on cash value growth while the money is in the policy?

No. The growth inside the policy is not taxed each year like interest in a savings account would be. You only pay taxes if you withdraw money or surrender the policy, and only on the amount above what you've paid in premiums.