Q. I have a whole life insurance policy with a death benefit of $500,000 and a cash value of approximately $100,000. I want to get rid of $30,000 in credit card debt, $20,000 in student loans, and a $50,000 home equity balance. Do I have to borrow or withdraw the cash value to pay it all back, especially with rising interest rates? Are there any tax consequences?
A. Yes, these rising interest rates are painful.
We’re sorry to hear you have so much debt, but it’s great that you’re looking for strategies to pay it off.
Before deciding to use the cash value of your life insurance policy, you should compare the interest rates on your unpaid debt and the interest you would pay for a loan on your policy, said Ed Gaelick, insurer Chartered Life and Chartered Financial Consultant with PSI Consultants. at Glen Rock.
He said you should compare rates to see if it makes sense to borrow against the life insurance policy, noting that might make sense for some but not all of your current loans. .
“And to clarify, you’re not borrowing from your whole life insurance policy,” he said. “You use the cash values of your whole life insurance policy to borrow from the insurance company. They use your policy values as collateral. That’s why there are interest charges on loans .
Repayment of a life loan is very flexible, which may be a benefit for some, but it could also be a detriment for others who may not be as diligent with repayment, he said. .
There are no tax consequences to borrowing money from your life insurance policy, Gaelick said, but if you surrender your policy, there would be income tax on any amount over your “cost”. basis” or the amount of premium paid on the policy over the years.
He offered this example. Let’s say your total cumulative premiums were $80,000. If you surrender the policy and receive $100,000, you will pay tax on the $20,000 gain.
“The tax rates would be your marginal or outer tax bracket. There is no capital gains tax treatment with a redemption,” he said. “Also, once you have surrendered your policy, there is no more death benefit. So if maintaining the benefit is important to you, don’t give up. Consider borrowing instead. Premiums will have to continue to be paid with a policy lent.
Gaelick had another note: If the lending rate on your home equity line of credit is more favorable than borrowing on your life insurance policy, maybe consider increasing that loan to pay off the debt. student and credit cards.
Consider meeting with a financial planner to see if there are any tax benefits to using the home equity line of credit, he said.
Send your questions to [email protected].
Karin Price Mueller writes the Bamboos column for NJ Advance Media and is the founder of NJMoneyHelp.com. Follow NJMoneyHelp on Twitter @NJMoneyHelp. To find NJMoneyHelp on Facebook. Register for NJMoneyHelp.comit is weekly e-newsletter.