What Are the Tax Implications of a Life Insurance Policy Loan?
How Much of a Policy Loan Is Taxable?
The money you borrow isn’t taxable, as long as it’s equal to or less than the sum of the insurance premiums you have paid when the policy terminates. A taxable amount equals the amount of the gain realized, which is any amount you received from the cash value of your policy minus the net premium cost, or the total of premiums paid minus distributions received.
Let’s say, for example, that you have a life insurance policy with a cash value of $400,000. You paid $100,000 in premiums but have a $300,000 balance on an outstanding policy loan with no distributions. If your policy lapses, the amount you have to claim as income on your taxes is $200,000.
This may be a problem for those whose interest was paid with dividends or the cash value of the policy, rather than out of pocket. Out-of-pocket interest payments aren’t tax deductible, so taxes are already paid on that amount.
But interest payments not made out of pocket often do not cover the entire amount of interest due, resulting in compound interest being added to the principal. If your loan sits untouched and accrues interest for decades no credit check payday loans in Hannibal with minimal interest payments made when a taxable event occurs, you may end up owing taxes on a balance that is substantially more than what you originally borrowed.
Other Considerations for Policy Loans
Getting a policy loan is usually quick and easy. You don’t have to go through an approval process because you are borrowing against your own assets. You can use the funds in any way you wish. Finally, you don’t have a repayment schedule or repayment date. Indeed, you don’t have to pay it back at all.
