Life Insurance not only provides you with life cover, but it also acts as a financial instrument to build a corpus. The benefits don’t end just there; many life insurance policies also help the policyholder to avail a loan. Life insurance companies are making life insurance policies a more flexible financial investment option. Opting a loan against a life insurance policy is also known as pledging, where loan can be issued by the insurance companies itself, or any other financial institutions.
Let’s understand the benefits of opting loan against a life insurance policy.
Benefits of choosing life insurance to get a loan
- Provide Security – Act as collateral. No need to provide any other assets as collateral
- Instant Approval – You get an instant approval for a loan on the surrender value of the policy
- Lower Interest Rates – The interest rates are comparatively lower than a personal loan
- Value Stays Constant – The policy value does not change over time nor with the market, unlike in the case of loan against gold
- Tax Benefits – Since the loan amount is not recognized as income by the Income Tax authorities, it is tax exempted
Let’s see how to avail a loan against their life insurance policy.
Eligibility of Life Insurance Policy
There are various types of life insurance policies, such as Term Life, ULIP, Endowment, Whole Life, Money Back, etc. But not all life insurance policies qualify to avail a loan. For instance, Term Life plans are not qualified to get a loan against the policy as it does not accumulate cash value or surrender value.
In case of another type of policies, one has to ensure and verify that the policy is eligible. If your life insurance policy is eligible, then you can avail loans provided you have paid regular premiums for at least three years. However, some companies may have a criterion of 6 months paid premium instead of 3 years before you can avail a loan.
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Loan Amount on Life Insurance
The policyholder doesn’t have to undergo intense scrutiny for loan approval. Because the loan amount is 80-90% of the surrender value in the plans having guaranteed returns. In case of ULIPs, not all ULIPs qualify for loan facilities. However, in the case where they are approved, then the loan amount is the current value of the corpus.
On loan approval, the policy is transferred to the lender; and after the policy transfer, the loan is sanctioned to the borrower. One needs to keep in mind that, in a case where the interest due on loan exceeds the surrender value, there is a risk of losing insurance cover.
The interest rate charged is depended on the paid premium and the number of premiums that have been paid. Higher the premiums paid and the number of premiums, the lower is the charged interest rate.
First and foremost, the policyholder would have to contact the insurance company for eligibility, approval, process, and documentation. And since the life insurance policy would act as collateral until the loan is paid back, the policyholder would have to sign a deed of assignment declaring the policy and its benefits being transferred to the lender during the loan policy term.
The policyholder needs to understand even though the policy is transferred in the name of the lender and so, the benefits, policyholders still need to continue paying premiums. In case the policyholder discontinues to pay, insurers may terminate the policy. Moreover, the loan amount should be repaid during the policy tenure. If the principal amount is not paid during the tenure, the same will be deducted from the cover amount.
In case the policyholder dies while the policy is still active, the pending loan amount will be deducted from the sum assured at the time of claim filed by the nominee. And the amount left after deduction will be the only amount paid to the nominee.
Before you choose
The policyholder should understand that life insurance is primarily meant for providing financial security to their dependents in case of his or her untimely death. Also, once the loan is taken against the policy, the nominee won’t be the sole beneficiary in case of policyholder’s premature or untimely death. Thus, opt for a loan against life insurance only if urgently required and where other options are not available.