You may think of life insurance strictly as a legacy you leave for your family after you die, but your policy actually could help you live — if you ever need long-term care.
There are some ways to use money from your life insurance policy to help pay for an assisted living community, nursing home or other care facility. You may be able to do this without a hefty tax bill or sacrificing Medicaid eligibility.
[READ: A Checklist for Moving to Assisted Living]
Types of Life Insurance
The kind of life insurance policy you have will determine what you can do with it.
Term life insurance
A term life insurance policy is designed to provide coverage for a set period of time, generally between 10 and 30 years. If you have such a policy and pass away during the coverage period, your beneficiary gets the payout, which is typically tax-free. This type of policy generally is less expensive, but also less flexible, than whole life insurance.
Premiums will vary based on many factors, including the holder’s health and the length of the coverage period. These policies don’t have a cash value, so you can’t borrow money against them or cash them out for money. You may be able to extend the policy beyond the original time period, but it likely will result in higher premiums.
[See: Things You Should Know About Medicare]
Whole life insurance
A whole life insurance policy tends to be more expensive, but it can serve as an investment and a source of money if you need it for assisted living or nursing home care, for instance. With this type of insurance, you are protected for as long as you pay your premiums. Your premiums are also set and never go up, even if your health changes.
Over time, your whole life policy grows in value as you contribute to it — the same way a retirement fund grows. You can borrow money against your account, as long as you have enough funds in it to cover the loan. Generally, this loan is tax-free, and you can pay it back when you are able.
However, the insurance company will charge interest on the loan. So, the longer it takes you to pay it back, the greater the amount you will have to return. You aren’t required to pay back the loan, but the interest will continue to accrue. If at some point the loan amount exceeds the value of your policy, the insurance company can surrender the policy and all coverage will cease.
“This type of loan can be a viable option to help pay for long-term care if other resources are depleted,” adds Dave Meschel, Philadelphia-based principal owner of Meschel Wealth Management LLC.
[Read: 5 Steps for Picking a Medicare Plan.]
Cash Out or Sell Out
If you need more money to cover your care, you have some options.
Viatical settlements
If you are seriously ill and have a life expectancy of two years or less, Meschel says, you can opt to sell your life insurance policy for cash. This is known as a viatical settlement.
More specifically, in exchange for a lump sum and all future premium payments, an investor can buy your policy, typically through a broker. By making this sale, however, you relinquish your named beneficiary’s right to any death benefit, which is the payout they would have received when you die. Instead, the investor who bought your insurance would receive the full cash value of the policy when you pass away.
“Do your homework before you make a decision,” Meschel advises. “Your policy may have a cash value of, say, $35,000, but an investor might be willing to pay more if they think it is to their advantage. It is a matter of shopping around.”
Life settlements
If you aren’t seriously ill, you can still sell, or cash in, your policy with your insurance company for ready money. You will receive the accrued amount of the policy’s value, which is what you have contributed to date. This is generally referred to as a “life settlement.”
However, if you have taken a loan against the policy and not paid it back, this amount plus interest will be subtracted from your payout. This money, since it is exactly what you contributed without any earned interest, is tax-free. At this point, your policy is closed, and there is no death benefit available for your family or other heirs.
How to Sell
You may want to use a life settlement broker, usually regulated by the state, to help you navigate this process, sell your policy or obtain a viatical settlement. However, they will charge a fee for this service. You also can look on your own for companies that buy insurance policies. At any rate, it is best to start by contacting your state department of insurance to ensure you are following all designated laws and work with only authorized brokers.
If you are in a hurry for your cash, it may be quicker to surrender your policy to your insurance company. Selling your policy to a third party may get you more money, but because it is a more involved process, it is likely to take more time.
Whichever route you choose, make sure to weigh all the options, as well as the pros and cons, before you do anything, Meschel says.
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How Can Your Life Insurance Be a Source of Income? originally appeared on usnews.com
Update 09/15/23: This story was previously published at an earlier date and has been updated with new information.
