Life insurance doesn’t just give you and your family peace of mind in case tragedy strikes. It can also help you put down roots and buy that dream home, too.
Do you already have a life insurance policy in place? Are you thinking of investing in one? Here’s what to know about using it toward your home purchase.
Disclaimer: The information in this blog was not written by a financial, legal, or insurance professional. Before you make any decisions about taking out a life insurance loan, obtain direction from your insurance broker, financial advisor, or tax advisor.
What Type of Life Insurance Will I Need?
The first step is to have the right type of policy. In order to use your life insurance policy toward your home purchase, it needs to be what’s called “permanent” life insurance. This essentially means it covers you for the entire length of your life — as long as that may be and as long as you are up to date on your premium payments. Permanent life insurance is also sometimes called “whole” life insurance.
Permanent life insurance is designed to accumulate a cash value over time. The more premiums you pay, the bigger that value is. Once it reaches a decent balance, you can tap that value and borrow against it — just like you would a credit card or loan. And just like with these other types of financing, borrowing against your life insurance policy will cost you. You’ll pay interest month over month (or out of the policy’s death benefit) until the debt is repaid.
Some insurance companies also offer what’s called “universal” life insurance, which allows you to put extra money toward the policy. That means a bigger cash value and more cash to tap later on and over time. Variable life insurance policies can also be used toward your home purchase. The cash value of these tends to fluctuate with the market.
The one type of life insurance you can’t use toward your house? That’d be “term” life insurance. These policies do not have a cash value and can’t be borrowed against.
Life Insurance as a Liquid Asset
There are two ways having this type of cash-value life insurance policy can help you buy a loan. First off, these policies can be considered liquid assets — something mortgage lenders place a high priority on when evaluating borrowers.
Permanent life insurance policies and other liquid assets mean easy, almost instant access to cash. If the borrower were to fall behind on their mortgage payments, they’d easily be able to borrow against that life insurance policy and use the funds to get current with their lender. Naturally, this sort of safety net gives lenders more confidence in a potential borrower, and it may even mean offering that borrower lower interest rates as a result.
In summary: A permanent life insurance policy equals an easier mortgage application, a higher chance of approval and maybe more affordable rates to boot.
Life Insurance As a Down Payment
A cash-value life insurance policy can also help with your down payment and closing costs. Homebuyers with permanent or whole life insurance can borrow against their policy and secure the amount needed for a down payment, closing costs or any other up-front fee the home purchase might come with.
As an added bonus, a higher down payment can mean lower interest rates, a more affordable monthly mortgage payment and more loan options — all of which have long-term benefits for a homeowner.
Since permanent and whole life insurance policies can easily be borrowed against, you can also use them for things like the home inspection, repairs or renovations before move-in or even things like furniture, decor or moving costs.
In summary: A permanent life insurance policy can help you cover your down payment and other up-front purchase costs.
Possible Cons and Quick Tips Before Moving Forward
Before making any big decisions, ask your insurance agent or financial advisor to run what’s called an “in-force illustration.” This will show you exactly how taking a life insurance loan will impact your policy. There can be many hidden costs, tax implications, and you can even risk losing your policy if you don’t handle things correctly.
Borrowing from a permanent life insurance policy can be appealing because you don’t technically have to pay back the loan. Any money you take out and don’t pay back will just get deducted from the death benefit your beneficiaries receive. There is still, however, interest on the loan — and that’s where things can get messy for many people. If you don’t pay back the loan, the interest starts to accrue…and then the interest will increase your loan amount and you’ll be paying interest on your interest.
The loan doesn’t have to be paid, but the interest does. If the amount borrowed plus interest starts to exceed the cash value of your life insurance policy, you risk losing the policy completely. If you try to pay the interest with dividends or taking more from your policy, you could end up with a big tax bill from the IRS for borrowing from your policy.
Needless to say, borrowing against your life insurance policy to buy a house can be wonderful and life-changing — but it is definitely not a decision you should make on your own without the help of a financial or insurance professional. There are just too many risks and opportunities to get into trouble.
Also, keep in mind that some policies may have restrictions on what the money can be used toward, so get in touch with your insurance agent if you’re not quite sure about the details.
Need Home Buying Guidance?
Whether you’re looking for help with your down payment, need advice on mortgage or financing products, or just want some personalized guidance, the Embrace Home Loans team is here to help. Get in touch with your local loan officer today, and we’ll point you in the right direction.