 Personal Finance PowerPoint presentation, cash value, life insurance, prepare to get financially fit by practicing personal finance. Insurance is part of our long-term risk mitigation strategy where we follow the adage of measure twice, cut once, put in a formal process in place, look in something like set the goals, develop a plan to reach them, put the plan in action, review the results and repeat the process periodically. Most of this information can be found at Investopedia, Cash Value, Life Insurance, which you can find online. Take a look at the references, resources, continue your research from there. This is by Julia Kagan, updated May 23, 2022. In prior presentations, we've been taking a look at insurance in general, then moving on over to life insurance, looking at different components or kinds of life insurance in conjunction with that overall discussion, remembering that as we look at life insurance, I would be always thinking about the baseline life insurance being the term policy, which is basically pure life insurance, and then thinking about why I might want to deviate from that under what circumstances would I remove or leave from the adage of investing the cheaper, pure life insurance, the term life insurance, and then invest the difference in something like the stocks and bonds and whatnot and what kind of strategies would be in place for me to move from that, possibly tax strategies, possibly estate planning strategies, for example. So what is cash value life insurance? Cash value life insurance is a form of permanent life insurance as opposed to term or pure life insurance, lasting for the lifetime of the holder that features a cash value savings component. So if you're thinking about the tree of life insurance and you're doing it, you're putting together your little tree diagram, you've got the term or pure life insurance versus on the other side, you've got the permanent life insurance, and then under permanent life insurance, we're thinking about the different components or categories of permanent life insurance, cash value life insurance being on that category or on that side. The policy holder can use the cash value for many purposes, such as a source of loans or cash or to pay policy premiums. So as the cash value value builds up, we could think about that as kind of an investment component or feature of the life insurance as opposed to term insurance, which doesn't have that cash value because you're just buying the pure life insurance. What are the benefits of having the cash value? Well you might be able to use it in particular ways, possibly taking loans against it and you possibly could have tax value or benefits with relation to estate planning possibly for them. So the cash value life insurance works, how does it work? Cash value insurance is permanent life insurance because it provides coverage for a policy holder's life. So unlike the term insurance where you put it in there for a set term, 10 years, 20 years, 30 years, which is usually fairly good to do for life insurance because you can estimate when you're going to need the life insurance. In other words, when people are going to be dependent upon you. So that's usually going to be in the midst of your life when you don't have a lot of money, you possibly have debt that's going to be involved in people that are depending on your salary as time passes, you would expect then that you're going to pay off your debts hopefully and then you're not going to have so many people dependent upon you because they will be hopefully independent at that point in time. So in any case, traditionally cash value life insurance has higher premiums than term life insurance because of the cash value. So term life insurance, pure life insurance is typically cheaper because it's just purely life insurance doesn't have like this investment component to it. So cash value life insurance policies require a fixed level premium payment of which a portion is allocated to the cost of insurance and the remaining deposited into a cash value account. The cash value of life insurance earns a modest rate of interest with taxes deferred on the accumulating interest. So that's one of the benefits. You put money into the cash value side, it's got that investment component, you're making some interest on it, which might be tax free or at least tax deferred in a similar way as if you put money under the umbrella of say like an IRA or 401k plan, you might not be paying taxes at that point in time on the earnings. And then when you take the money out, then that's when you could have a tax benefit for it. So again, even on that strategy, you might be saying, well, why don't I just buy the cheaper term life insurance, for example, and then invest the difference in say an IRA or 401k. That would typically be a fairly decent strategy. If you can still put money into those into those items, or if you have not yet maxed them out, you know, that you could do that, or you can even even if you have maxed them out, you might still be able to put them in and have the earnings be deferred. Or else you might have some other tax strategy that you're basically put into play there or an estate planning strategy. Thus, the cash value of life insurance will increase over time. As the life insurance cash value increases, the insurance company's risk decreases because the accumulated cash value offsets part of the insurers liability. Example of cash value life insurance, consider a policy with a $25,000 death benefit. So that means at the point of death, $25,000 being paid out to the beneficiary. The policy has no outstanding loans or prior cash withdrawals and an accumulated cash value of $5,000. So there's a cash value kind of like the investment portion of it of the $5,000 upon the death of the policy holder, the insurance company, insurance company pays the full death benefit of $25,000 money collected into the cash value is now the property of the insurer because the cash value is $5,000. The real liability cost to the insurance company is $20,000, which is the $25,000 minus the $5,000 advantages and disadvantages of cash value life insurance. The cash value component serves as a living benefit for policy holders from which they may draw funds. So that could be used as kind of like a safety net component. So the life insurance net cash value is what the policy holder or the beneficiary has left over once the insurance company deducts its fees or any expenses incurred during the ownership of the policy. There are several options for for accessing funds for most policies, partial surrenders or withdrawals are permissible, but these can reduce the death benefit. Taxes are deferred on the earnings until withdrawal from the policy and distribution. So as that's one of the tax benefits, you have the money in there. You might not have the earnings as something that would be taxable until the withdrawal or distribution. Once distributed, earnings are taxable at the policy holder's standard tax rate. So that's kind of similar to like an IRA, if you had money into the IRA or 401k plan, the earnings on it, you could have a benefit whereas obviously in the IRA, you might have a tax benefit when you put the money in to the IRA as well. But in any case, it's a form of deferral. And then when you take the money out, there might be tax consequences at that point. Some policies allow for unlimited withdrawals, while others restrict how how many draws can be taken during a term or calendar year. Some policies limit the amounts available for removal, e.g. a minimum of $500. Most cash value life insurance arrangements allow the loan allow for loans from the cash value. Much as with any other loan, the issuer will charge interest on the outstanding principal. With the outstanding loan amount will reduce the death benefit, benefit dollar for dollar in the event of the death of the policy holder before the full repayment of the loan. So again, this is kind of a tricky type of thing where you've got the cash value in there, which is which you're saying, okay, I can't take the cash value out, but maybe I can take a loan against it. Why can you take a loan against it? Because you're using the cash value as basically the collateral on the loan, the downside of course, if you take a loan out, then you're going to be paying possibly interest on the loan because interest kind of require a loan requires, you know, interest to be to be there. So it makes it accessible in that way, but you still have that kind of issue. Some insurers require the repayment of the loan interest and if unpaid, they may be deduct deduct the interest from the remaining cash value. Cash value may also be used to pay policy premiums. If there is a sufficient amount, a policy holder can stop paying premiums out of pocket and have the cash value account cover the payments, which can be nice. But obviously the cash value would have to accumulate in order for that to be applicable or be it worth able to do cash value life insurance, what are the pros can borrow against the cash so you can use that cash value possibly as an emergency kind of fund if necessary, can withdraw from cash value in a tax advantaged way, possibly a way that you might not be able to withdraw as easily if your money was under the umbrella of some other tax advantaged account like a 401k plan or an IRA. So that's one of the kind of advantages of the cash value there because you could take possibly a loan against or something like that as we looked at. So permanent life insurance, you got the life insurance for life as opposed to a term life insurance. Again, you got to measure whether that is a real pro or con because again, most people need actual pure life insurance for a term of their life in which they're going to have more debt, most likely more people are dependent on their current income. And later in their life, hopefully they have less debt and they have they're basically self-insured and they got less people that are dependent upon them. So cons, more expensive out-of-pocket premiums, withdrawals reduce death benefits, unpaid policy loans and interest deducted from death benefits. Why consider cash value life insurance at all? Policyholders of permanent life insurance, life insurance have the ability to borrow against the accumulated value which comes from regular premium payments along with interest and dividends credited to the policy. So should I look into buying a cash value life insurance policy, those looking to build a nest egg over a time horizon of several decades may want to consider cash value life insurance at a savings options alongside a retirement plan like an IRA or 401K plan. Be aware that cash values often don't begin accruing until two to five years have passed. So what about those high premiums though? They got high premiums. Yes, cash value policy premiums are typically higher than regular life insurance like term insurance because part of your payments are going towards savings. So what happens when you withdraw cash from your life insurance? If you make a withdrawal from the cash value in a life insurance policy, the death benefit will decrease. So now they're going to make a calculation on it, the death benefit because they're calculating the risk related to it. So the death benefit could be offsetting when you pull the money as a cash value. If you withdraw everything the policy terminates withdrawing money from life insurance is tax advantaged in that the IRS considers your withdrawal as a return of the premiums you paid for the policy. So meaning if you take the money out, it's basically a return of the payment or the premium that you put in therefore possibly not be an income at that point in time and possibly not having a tax consequence. So you can withdraw that amount of money without paying taxes. Any gains from dividends however, so the gains on it, the amount that you didn't simply put in but the amount of earnings that you had over and above what you put in which you didn't pay any taxes on it because you had the tax deferral of the gains, those would be taxed. But these would not occur until you withdraw all of your premium payments. So in other words, when you draw the premium payments out you might first try to think about what amount am I drawing out, am I drawing out the earnings or am I drawing out the actual cost that I put in and getting a return of the cost that I put in. If we calculated as the return of the cost that I put in, I'm just getting my principal back in other words instead of the earnings and therefore you might be able to not have the income which would be a taxable event.