3 Pros and Cons of Borrowing Against Your Life Insurance

Should you borrow against your life insurance? It's a mixed bag.

There are plenty of good reasons to get life insurance -- namely, to protect the people in your life who mean the most to you and who might struggle financially in the event of your passing. And if you buy a whole life insurance policy, you may get the option to borrow against it should a need for money arise.

But is borrowing against your life insurance a wise move? While there are benefits to going this route, there are some serious drawbacks to consider as well.

Pro No. 1: Easy access

There's a reason home equity loans are fairly easy to qualify for. Because they're based on equity that already exists, your credit score is less of an issue when it comes to getting approved. Similarly, when you borrow against a life insurance policy, the cash value your policy has accumulated serves as collateral for the loan. There's little risk to the company by letting you borrow against it because the money is there.

Pro No. 2: No negative credit impact

Borrowing money via a mortgage or personal loan could cause a ding to your credit score, even if a minor one. But borrowing against your life insurance policy shouldn't impact your credit, so if you're working on boosting that number, that's one less thing to worry about. In fact, with a life insurance loan, you generally don't even need a credit check at all.

Pro No. 3: Low interest

While you generally won't get an interest-free loan when borrowing against your life insurance, you'll usually pay a pretty low rate on the sum you borrow. Again, that has to do with the risk being taken on. You might pay less interest on a life insurance policy loan than on a home equity or personal loan.

Con No. 1: A reduced death benefit

Any sum you don't pay back to your life insurance company is deducted from your death benefit, leaving your beneficiaries with less money to collect in the event of your passing. Plus, if you die before repaying your life insurance loan in full, any interest accrued on that loan will also be taken out of your death benefit.

Con No. 2: The risk of a terminated policy

It’s possible that if you borrow a large sum against your life insurance and accrue a lot of interest that exceeds your cash balance, your policy could lapse and be terminated by its issuer. If that were to happen, you'd not only lose your policy, but your loan balance would then be considered taxable income. That could leave you with a large financial liability on your hands.

Con No. 3: You may have to wait a while to borrow against your policy

It takes time for a whole life policy to accumulate a cash value. If you need access to money early on after putting your policy into place, you may not be able to borrow what you need.

Clearly, the decision to borrow against your life insurance isn't an easy one. Consider the pros and cons carefully before making that call.