Most term life insurance policies do not allow borrowing

Term life insurance is designed to provide a death benefit for a set period — typically 10, 20, or 30 years. Unlike permanent life insurance (whole life or universal life), term policies build no cash value while you are alive, which means there is nothing to borrow against. If you need cash and hold only a term policy, borrowing from that policy is not an option.

The reason is straightforward: term insurance is pure protection. You pay a premium, and in exchange, your beneficiaries receive a payout if you die during the term. Once the term ends, the coverage ends. No money accumulates in your account that you could access or use as collateral.

If you have held a term policy for many years and it is approaching the end of its term, you may have the option to convert it to a permanent policy without a medical exam. A converted permanent policy would then build cash value and could potentially be borrowed against — but that is a separate transaction and happens after conversion, not during the original term period.

Key Takeaways

  • Term life insurance policies have no cash value and do not allow loans or withdrawals while the policy is active.
  • Permanent life insurance policies (whole life and universal life) do build cash value and may allow policy loans.
  • If you need cash and hold a term policy, you would need to explore other borrowing options or convert the policy to permanent coverage first.
  • Policy loans from permanent insurance typically charge interest and reduce the death benefit paid to your beneficiaries.
  • Some term policies include a conversion rider that lets you switch to permanent coverage without re-may have access to medically.

How permanent life insurance policies work differently

Permanent life insurance — whole life and universal life — operates on a different structure. Part of your premium goes toward the death benefit, and part goes into a cash value account that grows over time, usually tax-deferred. This cash value is yours to access.

With a whole life policy, the cash value grows at a rate set by the insurance company. With a universal life policy, the cash value is tied to market performance or interest rates, depending on the type. In both cases, once the cash value reaches a certain level (usually after several years), you can borrow against it.

The insurance company essentially lends you your own money. You pay interest on the loan, typically at a rate specified in your policy. If you do not repay the loan, the unpaid balance and interest are subtracted from the death benefit your beneficiaries receive. If the loan balance grows large enough, it could eventually consume the entire cash value and cause the policy to lapse.

What happens when you take a policy loan

When you borrow from a permanent life insurance policy, you are not withdrawing the cash value — you are taking a loan against it. The cash value remains in the policy and continues to grow, but it now secures the loan you have taken out.

You will receive statements showing the loan balance, the interest rate being charged, and how much interest has accrued. The interest is typically lower than a bank loan or credit card, often ranging from 5% to 8% depending on the policy and the insurance company, though rates vary. You can repay the loan on your own schedule; there is no fixed repayment term.

The risk is that if you do not repay the loan, the balance grows. When you die, the insurance company subtracts the unpaid loan balance and all accrued interest from the death benefit. If you borrowed $50,000 and the loan has grown to $65,000 by the time you pass away, your beneficiaries receive $65,000 less than the stated death benefit.

Alternatives if you hold only a term policy

If you need cash and your only life insurance is a term policy, borrowing from the policy itself is not possible. Your options are to pursue other forms of credit: a personal loan from a bank, a line of credit, a credit card, or a home equity loan if you own a home.

You could also explore whether your term policy includes a conversion rider. This is an optional feature that allows you to convert some or all of your term coverage to permanent coverage without undergoing a medical exam. The conversion happens at a higher premium rate than your original term rate, but it would give you access to cash value borrowing in the future. Conversion is typically available within a set window — often within 10 to 15 years of the policy start date, though this varies by insurer.

Another option is to straightforward let the term policy expire if you no longer need the death benefit protection. This stops your premium payments and frees up that money for other uses. If you are younger and in good health, you could also shop for a new permanent policy, though the premiums will be higher than a term policy at the same age.

The tax treatment of policy loans

Policy loans are generally not taxable income. The IRS does not treat borrowing against your own cash value as a taxable event, because you are not receiving income — you are taking a loan that you are expected to repay.

However, if your policy lapses while you have an outstanding loan, the situation changes. If the cash value is not enough to cover the loan balance, the forgiven amount may be treated as taxable income. This is one reason financial advisors caution against letting a policy with an active loan lapse without a plan to repay it.

If you surrender a permanent policy (cancel it intentionally) while you have a loan outstanding, you will owe the loan balance when ready. Any remaining cash value after the loan is repaid is yours, but if the cash value is less than the loan balance, you will need to pay the difference out of pocket.

When a policy loan makes sense

Policy loans are most useful when you need cash temporarily and want to avoid the higher interest rates of credit cards or personal loans. Because the interest rate on a policy loan is typically lower and the loan is secured by your own cash value, it can be a reasonable option if you are confident you can repay it.

Policy loans also do not appear on your credit report and do not affect your credit score, since they are not traditional debt. If you are concerned about your credit utilization or want to avoid a hard inquiry, a policy loan sidesteps those issues.

However, policy loans are not a substitute for an emergency fund. If you find yourself regularly borrowing against your life insurance, it may signal that you need to build savings or reassess your budget. Additionally, borrowing reduces the death benefit protection you purchased the policy to provide, so it should not be a casual decision.

Frequently Asked Questions

Can I borrow from my term life policy if I have owned it for 20 years?

No. Term policies never build cash value, regardless of how long you have held them. If your term is still active, there is nothing to borrow against. If your term has ended and you want permanent coverage with borrowing options, you would need to purchase a new permanent policy or convert your existing term policy if that option is available.

What interest rate will I pay on a policy loan?

The interest rate depends on your specific policy and insurance company. Most policies charge between 5% and 8%, though some may be higher or lower. Check your policy document or contact your insurance company to find the exact rate. The rate is usually fixed for the life of the loan.

If I take a policy loan and die before repaying it, what happens?

The unpaid loan balance and all accrued interest are subtracted from the death benefit your beneficiaries receive. If you borrowed $40,000 and the loan has grown to $48,000 when you die, your beneficiaries get $48,000 less than the policy's stated death benefit amount.

Can I convert my term policy to permanent coverage so I can borrow from it?

Many term policies include a conversion option that allows you to switch to permanent coverage without a medical exam, usually within a set timeframe (often 10 to 15 years). The new permanent policy will have a higher premium, but it will build cash value that you can eventually borrow against. Check your policy documents or call your insurance company to see if conversion is available and what the important date is.

Is a policy loan better than a personal loan from a bank?

Policy loans typically have lower interest rates than personal loans and do not affect your credit score. However, they reduce your death benefit protection. A personal loan keeps your full death benefit intact but costs more in interest. The right choice depends on your situation: if you need temporary cash and can repay quickly, a policy loan may be cheaper; if you need long-term borrowing, a personal loan may be better.