Borrowing against your life insurance policy can be an attractive option when you need access to funds. But is it the right financing choice for you?
This in-depth guide explains everything you need to know about borrowing against life insurance in Canada.
We’ll cover:

- What policies allow you to borrow against life insurance
- How the borrowing process works
- The pros and cons of borrowing against your policy
- Alternatives to consider
- When borrowing against life insurance makes sense
- And much more
By the end, you’ll understand how borrowing against life insurance works, whether it’s a smart move for your situation, and what to consider before taking out a loan against your policy.
What Is Borrowing Against Life Insurance?
Borrowing against life insurance allows policyholders to access part of their policy’s cash value through a loan. This option is only available with permanent life insurance policies that build up cash value over time.
With whole life insurance and universal life insurance, a portion of your premium payments go toward building cash value that you can later access while still maintaining your coverage.
Term life insurance does not offer cash value accumulation, so you cannot borrow against term life policies.
Borrowing against your permanent life insurance policy provides access to funds while keeping your insurance coverage intact. The loan is collateralized by your policy’s cash value rather than requiring a credit check.
Here’s an overview of the differences when it comes to borrowing against life insurance:
Policy Type | Cash Value? | Ability to Borrow Against Policy |
---|---|---|
Term Life | No | No |
Whole Life | Yes | Yes |
Universal Life | Yes | Yes |
Why Do You Need To Borrow Against Life Insurance Policy?
There are several situations where borrowing against your permanent life insurance policy can be useful:
- Quick access to funds: The life insurance loan process is often much faster than taking out a traditional personal loan or home equity loan. Within just days or weeks, you can have funds deposited into your bank account. This speed makes it advantageous when you need money urgently for something like medical bills, emergency home repairs, or other unexpected costs.
- Lower interest rates: Interest rates on life insurance policy loans are typically lower compared to other options like credit cards, personal loans, or home equity loans. The lower interest rate helps save money over the duration of repaying the loan.
- Maintain credit score: Because a life insurance loan does not require a credit check, it does not impact your credit score. This can be useful if you already have a lot of outstanding debt or loans and don’t want further credit checks to negatively influence your credit profile.
- Tax-advantaged: Current tax laws allow life insurance loan proceeds to be received free of income tax. This differs from withdrawing cash, which may trigger tax liability. The tax-free nature provides financial leverage.
- Flexible repayment terms: Most life insurance policy loans do not have a set repayment term. This gives you flexibility in repaying the loan on a timeline that matches your financial situation. There is no pressure of a fixed monthly loan payment.
- Final expense planning: The funds from borrowing against your permanent life insurance allow you to pay for financial needs now while still preserving the death benefit payout to your beneficiaries. This maintains protection for dependents while accessing funds for current obligations.
- Supplement retirement income: The tax-advantaged funds borrowed can provide income now while maintaining the death benefit to cover final burial/cremation expenses.
Overall, borrowing against a permanent life insurance policy creates unique financial flexibility that may suit specific borrowing needs or situations. It can serve as an advantageous financing option compared to alternatives in many cases.
How Does Borrowing Against Life Insurance Work?
If you have a whole life insurance or universal life insurance policy, here is an overview of how borrowing against it works:
Cash Value Accumulation
- As you pay your policy premiums, a portion goes toward building cash value that you can eventually borrow against.
- Whole life insurance policies offer guaranteed cash value growth at a set interest rate.
- With universal life insurance, the cash value growth depends on the performance of the investments you select.
Loan Request and Approval
- You can request to borrow against your cash value once it reaches the minimum threshold set by your insurer. This often takes at least 10 years.
- The amount you can borrow is typically a percentage of your cash value, usually up to 90%.
- The insurer will review your request and policy details before approving the loan. There is no credit check.
Receiving the Loan
- Once approved, the loan funds are deposited into your chosen bank account, usually within a few days.
- You can use the money for any purpose without tax implications.
Repaying the Loan
- Interest accrues on the outstanding loan balance. The interest rate is specified in your policy loan agreement.
- You’re not required to repay the principal or interest within a set timeframe.
- If you die before repaying the loan, the balance plus interest will be deducted from the death benefit paid to beneficiaries.
- Defaulting on the loan could result in your policy lapsing if the debt exceeds the cash value.
What Are the Pros and Cons of Borrowing Against Life Insurance?
Borrowing against your life insurance policy has advantages and disadvantages to consider:
Pros of Borrowing Against Life Insurance
- Quick access to funds: You can often have funds deposited in your bank account within days of requesting a policy loan.
- Lower interest rates: Interest charged on policy loans is usually lower compared to other financing options like personal loans or credit cards.
- Doesn’t affect credit score: Borrowing against the cash value does not require a credit check or impact your credit score.
- Tax-advantaged: Loan proceeds are not taxed as income under current tax laws.
- Flexible repayment: There is generally no set repayment schedule so you have flexibility in repaying the loan.
Cons of Borrowing Against Life Insurance
- Reduces death benefit: If you die before repaying the loan, the balance plus interest is deducted from the death benefit your beneficiaries would receive.
- Risk of lapse: A default on the loan could potentially cause your policy to lapse if the debt exceeds the cash value amount.
- Access limitations: You need to accumulate significant cash value before being able to borrow a substantial amount against your policy.
- Interest accumulation: Unpaid interest gets added to the loan balance, allowing it to grow quickly.
- Only for permanent policies: Borrowing is only available if you have a whole life insurance or universal life insurance policy.
Consider both the advantages and risks before deciding if borrowing against your life insurance is the right financial move for you.
What Are Some Alternatives to Borrowing Against Life Insurance?
Borrowing against life insurance is not the only way to access tax-advantaged funds from your permanent policy. Here are a couple of alternatives to consider:
Policy Withdrawals
Instead of taking out a loan against your cash value, you can withdraw funds directly from the policy. Any amount withdrawn above the cost basis (premiums paid) will be subject to income tax. Withdrawals also reduce the death benefit permanently.
Traditional Loan Options
You may want to explore borrowing against home equity or an unsecured personal loan rather than your life insurance. This avoids putting your policy and death benefit at risk. The interest rates may be higher, but it keeps insurance and financing separated.
When evaluating alternatives, think about your timeline, repayment plan, risks, and overall financial planning goals. Consulting an advisor can help identify the best funding option.
When Does Borrowing Against Life Insurance Make Sense?
There are certain situations where borrowing against life insurance may be a good strategy:
- Supplementing retirement income: Tax-advantaged funds can provide income now while preserving the death benefit to cover final expenses.
- Paying for college: The loan proceeds can help pay tuition while maintaining insurance coverage as the student becomes financially independent.
- Covering medical expenses: Critical illness can be expensive. A policy loan provides funds while keeping your beneficiary protected.
- Starting a business: The cash value can help get a new business up and running while the family remains covered.
- Consolidating debt: Paying off higher interest rate debts with a lower interest policy loan can make financial sense.
- Covering emergency costs: Quick access to funds in urgent situations may warrant borrowing against your permanent life insurance.
- Making mortgage down payment: Reluctant to tie up home equity? Using cash value funds can keep options open.
Think about your borrowing objective and timeline. A shorter repayment period where funds are used productively may be a better fit for borrowing against life insurance.
Full review: Family Life Insurance
Questions to Ask Before Borrowing Against Your Policy
If you’re considering a loan against your life insurance policy, here are some important questions to ask yourself:
- Why do I need to borrow money against my life insurance policy versus other options? What is my plan for repayment?
- How much cash value do I currently have in my permanent life insurance policy? How much can I borrow?
- How will borrowing against my life insurance impact the death benefit for beneficiaries?
- What is the interest rate on policy loans with my insurer? How does it compare to other financing options?
- Do I have other financial assets I can borrow against or liquidate instead?
- Does borrowing against my specific policy align with my overall financial goals?
- How much time will I have to repay the loan before it becomes problematic?
- What tax implications or risks could borrowing against my policy create?
Thinking through questions like these will ensure you fully understand the implications before moving forward with a life insurance loan.
Borrowing Against Life Insurance vs. Other Options
How does borrowing against your life insurance compare to other ways of accessing funds? Here’s an overview:
Loan Type | Interest Rates | Loan Amount | Repayment Timeline | Potential Downsides |
---|---|---|---|---|
Life Insurance Loan | Typically 5-8% | Up to 90% of cash value | No set repayment schedule | Reduces death benefit if unpaid when you die |
Home Equity Loan | Usually lower than personal loans | Up to 80% of home’s value | 1-10 years typically | Risk foreclosure if default on payments |
Personal Loan | Varies by lender | $1K to $50K+ based on creditworthiness | 6 months to 5 years usually | Higher rates and can damage credit score |
Evaluate the options based on your financial situation. Using home equity or getting a personal loan may be preferable depending on your goals, credit, and existing assets.
What Tips Should You Follow When Borrowing Against Life Insurance?
If you decide to take out a loan against your permanent life insurance policy, make sure you follow these tips:
- Review your policy thoroughly: Before even applying for a loan, understand your life insurance policy inside and out. Look at your contract to see your premiums, cash value accumulation, death benefit, and loan provisions. Know your current cash surrender value and how much you can borrow.
- Research interest rates: Interest rates on policy loans can vary by insurer. Compare rates not just across life insurance companies in Canada but also against other financing options like personal loans or home equity loans. This helps you maximize savings.
- Conservatively estimate longevity: If basing the loan amount on life expectancy, use a very conservative estimate of your lifespan. Assume you’ll live until advanced age, like 90 or even 100, to prevent the loan balance from growing too large.
- Pay interest annually: Make interest payments on the loan annually or as frequently as possible. This prevents the interest from being added to your principal loan balance and compounding rapidly.
- Consult a financial advisor: It’s wise to meet with a financial advisor to discuss your situation before deciding to borrow against life insurance. An advisor can review your finances and suggest the best funding options.
- Read the fine print: Don’t gloss over the loan agreement details. Read every word carefully to fully understand the interest charges, repayment terms, risks of default, and impacts on your policy.
- Use a fixed interest rate: Opt for a fixed interest rate over a variable rate. This locks in your low-interest cost over the duration of the loan.
- Have a repayment plan: Develop a clear repayment plan for the loan rather than just intending to pay it back eventually. Prioritize repaying the principal quickly.
- Review annually: Check the loan balance each year on the anniversary date. Make sure unpaid interest hasn’t caused it to balloon.
Following tips like these help mitigate risks and puts you in a stronger financial position when borrowing against your life insurance policy’s cash value. Being informed at all stages leads to smarter borrowing decisions.
The Bottom Line
Borrowing against your permanent life insurance policy provides access to tax-advantaged funds and avoids credit checks or damage. However, there are also risks to weigh when borrowing against your policy’s cash value.
Carefully consider your goals, evaluating both the benefits and drawbacks, before deciding if borrowing against life insurance is the right move for your situation.
The best next step is to get personalized quotes from Canada’s top providers to explore your policy and financing options. On LifeBuzz.ca, you can easily compare life insurance quotes in just minutes. Simply answer a few quick questions, and you’ll see rates from the nation’s leading insurers side-by-side. Comparing customized quotes is the best way to determine if borrowing against a new or existing permanent life insurance policy makes sense for your needs. With proper planning, borrowing against life insurance can be an optimal strategic use of your policy’s cash value. See how affordable coverage can be – get your personalized life insurance quotes now at LifeBuzz.ca.
Frequently Asked Questions About Borrowing Against Life Insurance
What types of life insurance allow you to borrow against the policy?
Borrowing against a life insurance policy is only permitted with permanent forms of life insurance like whole life and universal life. This is because permanent policies are the only ones that build up cash value, which is used as collateral for the loan. Term life insurance does not have a cash value component, so borrowing is not an option.
Can I borrow against my life insurance from the insurer or a third-party lender?
Policyholders can take out a loan against their cash value directly from the insurer. This is called a policy loan. It is also possible to get a loan from a financial institution like a bank using your life insurance as collateral. Both options allow you to borrow against your policy's cash value.
How much money can I borrow from my permanent life insurance policy?
In most cases, you are able to borrow up to 90-95% of your policy's cash surrender value. The exact amount will depend on factors like your insurer, policy type, cash value, and potentially your age or health. Older insureds may not be permitted to borrow up to the full threshold.
Does borrowing against my life insurance impact my credit score?
No, borrowing against your life insurance policy does not affect or require a credit check. Because the cash value acts as collateral, there is no need to assess your creditworthiness. This is a major advantage over traditional loans that do influence your credit profile.
Are life insurance policy loans taxable?
Generally, funds borrowed against a life insurance policy's cash value are not subject to income tax. Loan proceeds are only taxed if the amount borrowed exceeds your cost basis in the policy. This is one reason why borrowing can be tax-advantaged compared to other options.
What are the risks associated with borrowing against life insurance?
A few key risks include reducing the death benefit if the loan remains unpaid at the time of death, potential policy lapse if debt exceeds cash value, and owing income tax on gains if you surrender the policy. Unpaid interest accumulating can also allow the loan balance to grow quickly. While there are risks, they can be managed by borrowing conservatively and repaying promptly.
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