As you shop around for life insurance and continue to educate yourself on the details of life insurance policies and the factors and considerations involved in making a decision, you may come across the concept of “partial surrenders.” This article will walk you through what a partial surrender is, how it differs from a full surrender, which policies allow for partial surrenders, and what the purpose of a partial surrender is.
What is a Partial Surrender of a Life Insurance Policy?
A partial surrender is different from a full surrender of a life insurance policy. When you initiate a full surrender of a life insurance policy, you are agreeing to stop paying premiums for the policy in exchange for forfeiting the life insurance coverage, also known as the death benefit; in short, a full surrender terminates your life insurance policy. You won’t be able to collect any of the death benefit of the policy or get back the premium payments made, but depending on the type of policy, you may receive some cash value from the policy.
A partial surrender, contrastingly, does not terminate your life insurance policy. Instead, a partial surrender involves “surrendering” part of the life insurance policy’s cash value, leaving the policy intact and in force. Essentially, you can think of this as a withdrawal from your policy’s cash accumulation fund.
Because the cash accumulation fund is something only offered by some types of life insurance policies and not others, partial surrender is only relevant and possible for certain types of policies.
What Type of Life Policy Allows a Partial Surrender?
The type of policy that allows a partial surrender is a permanent life insurance policy. These are life insurance policies that provide you with lifelong insurance coverage in the form of a death benefit, as well as a cash value that accumulates with interest on a tax deferred basis.
These are the major advantages of permanent life insurance over term life insurance, which only provides coverage for a specified period of time and accumulates no cash value. Therefore, partial surrenders are allowed for permanent life policies, but not term life insurance policies.
Permanent life insurance can be further broken down into two major policies types: whole life insurance and universal life insurance, each of which will have different guidelines for how a policy owner can access funds, depending on the specific policy type and insurance company.
Life Insurance Policy Cash Value
The cash value of a permanent life insurance policy can be a very useful financial tool. It is money tied to your life insurance policy that gains value as you make your premium payments and grows over time with interest on a tax deferred basis.
The cash value is also referred to as a living benefit. In contrast to the death benefit of a life insurance policy—the main coverage part that is paid out to your beneficiaries only when you die—the cash value of the life insurance policy can be leveraged in several ways while you’re still alive.
A partial surrender gives policyholders the ability to withdraw a portion of the cash value while the insured is still alive. This benefit can be a tremendous asset as your family’s life circumstances and goals change over time.
Whole Life Insurance Partial Surrender
As a form of permanent life insurance, partial surrenders are allowed for whole life policy owners. If you initiate a partial surrender of your policy, you are withdrawing part of the policy’s cash value. There may be limits to how much a policy owner can withdraw and when, as well as other considerations like penalties and tax consequences.
Partial surrenders on whole life policies also may reduce the death benefit of the life insurance policy, which is one reason why it’s very important to understand the details of how a partial withdrawal of cash works for your specific life insurance policy.
These details can be explained to you by a life insurance agent while you’re in the application process and they will be spelled out in the policy documents you receive when you purchase a policy.
Universal Life Insurance Partial Surrender
Universal life is the other main form of permanent life insurance, meaning that it, too, allows the policy owner to initiate partial surrenders.
One of the general differences between whole life and universal life is that universal life insurance policies tend to allow for more flexibility in the way you manage the policy and its benefits. For instance, you can choose to raise or lower the premiums and death benefit of your universal life insurance policy over the course of your lifetime as your financial means and needs change.
What this means for partial surrenders is that you typically have more flexibility in withdrawing portions of cash from your universal life policy, as compared to partial surrenders with a whole life policy. However, it’s still important to talk to an agent and read your policy details to make sure you understand how partial surrenders work for your specific policy.
Important Considerations When Making a Partial Surrender
As mentioned, initiating a partial surrender of your life insurance policy, whether it’s whole life or universal life, comes with restrictions and consequences that vary by policy. Three of the big ones to consider are withdrawal restrictions, penalties, and tax implications.
How A Policy Owner Withdraws Money
The restrictions on partial surrenders for a life insurance policy dictate when you can initiate a partial surrender and how much you can withdraw at a particular time.
Most permanent life policies have a minimum waiting period before you can make your first partial surrender. For instance, the rules of your policy may state that you are unable to initiate a partial surrender on your policy until after the first year or the first two years of your policy. Again, this particular time period can vary by policy.
There may also be restrictions regarding how frequently you can take partial surrenders. In other words, if you take a partial surrender, you may have to wait some specified amount of time before you can make your next partial surrender.
Life insurance companies also set rules in the details of their policies regarding the maximum partial surrender amount. This may correspond to a certain percentage of the cash value or be based on the premium or death benefit amounts.
Penalties
Penalties can be thought of as the cost of initiating a partial surrender. For instance, if your policy states that there is a 5% penalty on partial surrenders and you withdraw $200 in a partial surrender, you would only receive $190 because you would be charged a penalty of $10 for making the withdrawal.
Many policies will have different potential charges corresponding to different periods in the life of the policy. For instance, a policy may stipulate that there is a 10% penalty on partial surrenders within the first 2 years of the policy, which drops down to only a 5% penalty after 5 years into the policy. After a certain number of years into the policy, you might be able to make partial surrenders without any penalty.
Tax Consequences
The cash value of a permanent life insurance policy accumulates interest on a tax deferred basis. However, if you withdraw some of that cash value in a partial surrender, that withdrawal counts as income that would be subject to taxation. Usually, you would only pay taxes on the portion of the cash value that was earned through interest, as opposed to the full amount of income from the withdrawal.
A life insurance agent, financial advisor, or tax professional are all people who you can speak to for help understanding the benefits, potential charges, and specific tax consequences of accessing money your life insurance policy.
Talk to an AmFi Agent About Universal and Whole Life Insurance
Submit a request to talk to one of our agents today to learn more about our universal life and whole life insurance policies, which allow for partial surrenders. They will be able to answer more in-depth questions you may have after reading this article.
