Everything You Need to Know About Borrowing from Life Insurance.

Borrowing from life insurance allows you to access money quickly and for any reason, whether you use the money to buy a vehicle, put a down payment on a home, start a business, take a vacation, or cover an emergency expense. Borrowing from life insurance gives you more freedom than borrowing from a traditional lender who may or may not be willing to loan you money, and where the terms of repayment are already set.

What Type of Policies Can I Borrow From?

You can borrow from any policy which has cash value, this includes whole life insurance and universal life insurance which are both classified as permanent life insurance products. You cannot borrow from term insurance because it is not a permanent product and does not build cash value.

How Do Life Insurance Loans Work?

 When a bank loans money, they must have collateral for the loan. With a car loan, the car is held as collateral. With a mortgage, the house is held as collateral. When you borrow from life insurance, you are not actually borrowing money from your policy, you are borrowing money from the life insurance company. The life insurance company uses your policy as collateral to secure the loan. You’re not really borrowing from life insurance, you’re borrowing against life insurance, using your policy as collateral.

There are two types of policy loans you can take. Direct loans, and Automatic Premium Loans (APL).

Direct loans are requested directly by the policy owner. These loans do not affect your credit score, and there are no restrictions on how the money must be used or when it must be repaid. Policy loans are interest-only loans, so only the interest is required to be paid. 

If the policy premium is left unpaid by the policy owner, there can be an “automatic loan” taken against the policy to pay its own premium. This is called an (APL) Automatic Premium Loan. If a policy is neglected by its owner, Automatic Premium loans may be taken to cover the premium and the interest on the growing loan, until there is no more available cash value. If the owner doesn’t resume premium and loan interest payments, or make loan repayments, the policy will lapse and coverage will cease.

If the policy lapses due to such negligence there may be a tax liability. If the amount of the policy loan was greater than the cost basis (cost basis is the total amount paid by the policy owner in premiums) the difference will be taxable as income. 

How Does Borrowing from Life Insurance Affect the Policy?

Because you aren’t actually borrowing your own money out of your life insurance policy, but using it as collateral to borrow the insurance company’s money, the cash value in your policy continues to grow.

There are two types of policy loans: direct recognition and non-direct recognition. Recognition status determines how dividends are paid. With direct recognition status, policies that have outstanding loans may receive a smaller portion of dividends than policies without an outstanding loan. With non-direct recognition status, all policies will receive the same dividend percentage regardless of the loan status. 

Some people very much want a policy with a non-direct recognition company so they don’t receive less dividends if they have an outstanding policy loan. This is understandable for someone with limited knowledge, but there are more factors that should be part of making this decision in our opinion. One of those factors would be that direct recognition companies generally pay higher dividends because they can take into account every policy’s loan status.  We personally own policies with both types of companies they are both good if the policy is designed well.

Ways to Pay Back a Loan

Paying back a policy loan is similar to paying back a car loan or paying on a mortgage except a policy loan only requires that you pay the interest on the loan It’s up to you to set your repayment schedule, and you get to decide how quickly you pay your loan off. Technically, you never have to pay off a policy loan. As long as you pay the interest on the loan, you do not have to pay off the principal.

What Happens if I Can’t Pay Back a Life Insurance Loan? 

You aren’t required to pay back a policy loan, it is an interest-only loan. The least you must pay is the interest. If you can’t pay the interest, the insurance company will increase the loan amount on your policy to cover the interest. This arraignment can work short term, but it is not a good long-term solution because the increased loan balance will cause additional interest to accumulate.  

If a policy loan gets out of control, or the policy owner would like to get rid of the loan, they have a few options. They can execute a 1035 exchange, they can convert to Reduced Paid Up (RPU), or they can partially, or completely surrender the policy, or allow the policy to lapse.

  • For all you real estate people, A 1035 exchange is similar to a 1031 exchange in real estate. The policy loan is completely paid off, and the remaining equity is rolled into a new life insurance policy. The new life insurance policy retains the cost basis of the original policy for tax purposes. This option requires the insured to go through underwriting for the new policy.
  • With the Reduced Paid-Up option, the insurance company offers to reduce the size of the policy and make it paid up. This option will significantly reduce the size of the policy, but it will wipe out the policy loan. The policy owner will no longer pay premiums because the policy will be completely paid up (think paid off).
  • With a partial surrender, the policy owner can surrender the portion of their policy that was being held as collateral for the outstanding loan. This will eliminate the policy loan, but it will also reduce the coverage their policy provides.
  • Fully surrendering a policy, or allowing it to lapse, will eliminate the loan and terminate the contract. Any surrender value will be paid to the policy owner.
  • Allowing a policy to lapse ends the contract, however, a lapsed policy can be reinstated.  The difference between a lapse and a surrender is that a lapsed policy did not receive the necessary funds to continue, so it lies dormant and can be resumed if certain terms and conditions are met, Terms would include the payment of back premiums and interest conditions would be that the insured is still in a similar health condition. A lapsed policy does not pay out any surrender value.  A surrender can only be completed when the policy owner specifically requests to cancel the policy.

*Caution should be used with all these options as a taxable situation could occur. If you have questions, we can help you. 

Pros & Cons of Borrowing from Life Insurance


  • Quick access
  • No restrictions on how money must be used
  • Interest only loan
  • Does not affect credit score
  • No penalties
  • Cash value continues to grow
  • Generally low-interest rate


  • Badly managed policy loans could create a tax liability
  • Outstanding policy loans may impact dividends
  • Not always the lowest interest rate

Alternatives to Borrowing from Life Insurance

Borrowing from a policy doesn’t always make sense. Depending on the economic environment, you may be able to borrow money at a lower interest rate from a bank. But even if you are taking a traditional loan, it is nice to have money readily accessible in your life insurance which you could borrow at a moment’s notice if necessary.

Life insurance cash value can also be collaterally assigned to a bank or lending organization to secure a loan. Once the loan is paid off, the collateral assignment can be removed from the policy and a new beneficiary can be assigned.

How Much Money Can I Borrow from My Life Insurance Policy?

To answer this question here’s another question. Q: How much money can you withdraw from your bank account? A: As much as you put in. The amount of money you can borrow from your life insurance depends on how much you have put it but there is also a time factor with Life insurance. In the first few years, the cash value of a whole life insurance policy will only be a fraction of the total amount paid in premiums. But if the whole life policy was well designed the cash value will, over time, surpass the total premiums paid and you will be able to borrow more money than you have paid in premiums for the policy. 

How Soon Can I Borrow Against My Life Insurance Policy?

Immediately! A few days after you pay your first premium, there will be cash value in the policy you can borrow against.

Cash value won’t be nearly as much as you’ve paid in premium for the first few years. It takes time to build the cash value in a policy. But as a well-designed whole-life policy becomes older, the cash value amount will increase by more than the policy’s premium every year. It is exciting to see how quickly a well-designed whole life insurance policy’s cash value will grow.


Borrowing from life insurance gives you the freedom to borrow money for any reason, and pay it back at your own pace, often at a better interest rate than you can get elsewhere.

The insurance policy is held by the insurance company as collateral for the loan, and your policy’s cash values continue to grow whether you have an outstanding loan or not.

While a mismanaged policy loan could get out of hand and create a tax liability, if you know what you are doing, or consult us if you have questions, this can be a non-issue for you.

Cash value in a well-designed policy will grow over time and become greater than the amount paid in premiums, which means eventually you can borrow more money than you’ve paid in premiums to fund your whole life insurance policy.  In addition to this life benefit, you will also have a death benefit that will fully collateralize any loan you take against your policy and then some.

Borrowing from your life insurance will not affect your credit score nor will it affect your tax rate.

If you want to purchase a well-designed life insurance policy that you can borrow against, contact our office: 702-660-7000 we can help you.

Get a Free
Life Insurance Quote

Happy Insured Family

Get My Quote »



Quick Start Guide
Getting Started and
Getting Results with the
Perpetual Wealth Code™

Quick Start Guide