Cash Surrender Value

A policyholder or annuity contract owner receives cash surrender value if their policy is voluntarily terminated before maturity or an insured event occurs. Most permanent life insurance policies, particularly whole life insurance policies, have a cash value as a savings component. It is also referred to as policyholder's equity.

Understanding Cash Surrender Value

The term "cash surrender value" refers to the savings component of whole life insurance policies that are payable before death. However, the savings portion of a whole life insurance policy provides very little return compared to the premiums paid in the early years.

The cash surrender value of a permanent life insurance policy is the accumulated portion of the cash value that is available to the policyholder upon surrender of the policy. The cash surrender value may be less than the actual cash value depending on the age of the policy.

Reduction of Benefits and Charges

Life insurance companies can deduct cash surrender fees in the early years of a policy. The cash value of a policy may be available to the policyholder during their lifetime, depending on the type of policy. It should be noted that surrendering some of the cash value reduces the death benefit.

Charges for partial and full surrenders may apply depending on the age of the annuity. Taxes are deferred until surrender, when an additional premature withdrawal penalty may apply based on the annuitant's age.

Cash Surrender Value vs. Cash Value

The cash value of most whole life insurance policies is guaranteed, but it can only be surrendered when the policy is canceled. Policyholders have the option to borrow or withdraw a portion of their cash value for immediate use.

The cash value of a policy can be used as collateral for low-interest policy loans. If the loan is not repaid, the death benefit of the policy is reduced by the outstanding loan amount. Unless the policy is surrendered, loans are tax-free, but outstanding loans are taxable to the extent they represent cash value earnings.

How Do You Determine Cash Surrender Value?

The cash value and the surrender value are not the same thing. You must consider any fees your company will charge for removing your money funds when determining your cash surrender value. To figure out how much money you'll get in a cash surrender, add up all of the payments you've made to the policy and then subtract the fees and possible penalty withdrawal charges.

For example, suppose you buy a $100,000 whole life insurance policy. You make payments for ten years and accumulate a cash value of $10,000. The surrender change, on the other hand, will cost you 30% of the cash value. You will have to pay $3,000 in fees and will only receive $7,000 from the cash surrender. What's the good news? You will almost certainly not pay taxes on the cash surrender because it is treated as a return of premiums on your account and is not taxed.

Special Considerations

The cash value of universal life insurance policies is not guaranteed. However, it can be partially surrendered after the first year. A surrender period is typically included in universal life policies, during which cash values can be surrendered, but a surrender charge of up to 10% may be applied. When the surrender period expires, which is usually after seven to ten years, there is no surrender charge. Policyholders are responsible for paying taxes on the cash value earnings portion of surrendered cash values.

In either case, there must be enough cash value in the policy to support the death benefit. Loans are not considered cash surrenders in whole life insurance plans, so the cash value level is unaffected. The cash value of universal life insurance policies is not guaranteed. If cash value growth falls below the minimum required to sustain the death benefit, the policyholder must reinvest enough money to keep the policy from lapse.

Which Kinds of Life Insurance Have Cash Surrender Values?

Whole, universal, variable universal, and indexed universal life insurance policies frequently include a cash value component.

Should You Get a Policy With Cash Value?

It all depends on your personal financial situation. If you've maxed out your retirement contributions, have a cash nest egg set aside for emergencies, and can afford the monthly premiums on whole or universal life insurance with a cash value benefit, they could be a good option. These accounts, however, are not recommended as an investment tool if you cannot afford a lifetime of high premiums and are struggling to save for retirement.

Can You Use the Cash Value and Still Keep the Policy?

In many cases, you can pay your premiums with the cash value in your account. You are preserving coverage for your beneficiaries by doing so. You can also borrow against your cash value while keeping the policy. Your death benefit may be reduced if you cash out the value.

Can You Sell Your Life Insurance Policy?

While it is not always advisable, you may be able to sell your life insurance policy for cash to a third party.

The Bottom Line

Only certain types of life insurance, such as whole and universal life, provide a cash value component. The transaction is terminated when you surrender the cash value in your life insurance policy. Your policy remains in effect if you borrow from the cash value. If you surrender your policy, you will forfeit the cash benefit and be subject to fees and other charges, especially if your policy is new and has little equity built into it. Furthermore, surrendering your life insurance policy will have an impact on your designated beneficiaries.

Whole life insurance guarantees a cash value, but it can only be surrendered when the policy is canceled. Universal life insurance has a more flexible cash value, allowing policyholders to partially surrender the cash after the first year of ownership. Overall, if you surrender your policy in order to access its cash, you will not receive the policy's actual cash value, but rather its surrender value, which will most likely be significantly less than the full policy value.