When And Why To Consider a Loan Against an Insurance Policy

What is a loan against an insurance policy?

As its name suggests, a loan against an insurance policy is like availing a loan using your insurance policy as collateral. These loans can be availed by the policyholder who is in immediate need of money from their insurance provider against the policy's surrender value. Loans against insurance policies can be availed only on policies that have a savings component and have accumulated surrender value². These options are available in money-back or endowment plans that have acquired a surrender value² by payment of premiums for a specified tenure.

 

How Does a Loan Against a Life Insurance Policy Work?

A loan against a life insurance policy allows policyholders to access funds by leveraging the surrender value of their policy without discontinuing coverage. The surrender value represents the accumulated value built up over time in eligible life insurance policies.

Once the surrender value is assessed, the insurer sanctions a loan amount, typically up to a specified percentage of the surrender value, as per the policy’s terms and conditions. The exact loan amount may vary from one insurer to another.

Loans against life insurance policies are generally available on traditional savings-oriented plans such as endowment or money-back policies, as well as ULIP policies that have completed their lock-in period. Pure term insurance plans do not offer this facility, as they do not accumulate any surrender value.

Since the loan is secured against the policy, the interest rate is usually lower than that of unsecured loans. During the loan tenure, the life insurance policy continues to provide coverage. However, if the loan and accrued interest are not repaid, the outstanding amount may be adjusted against the policy benefits.

By opting for a loan against a life insurance policy, policyholders can address short-term financial needs while continuing to enjoy long-term life cover.

 

Reasons to consider a loan against insurance

A loan against an insurance policy can be advantageous for several reasons and, in various situations, effectively maximizing your policy’s potential. Here are some of the reasons you should consider a loan against insurance to understand “when and why to consider a loan”.

1. Lower Interest Rate

   The interest rates charged on loans against an insurance policy by the insurer are usually lower than the interest rates on personal loans as loans against insurance are secured loans backed by the surrender value of your insurance policy. The interest rate on a loan against insurance depends on the premium paid for the policy and the frequency of premium payments. The higher the premiums paid and the more number of times, the lower the interest rate³ and vice versa.

2. High Loan Value

   With a loan against your insurance policy, you can get a high loan value as the maximum amount of the loan against the insurance policy depends on the surrender value of the policy. It may usually range upto 90% depending on the product terms and conditions, of the surrender value of your insurance policy and may also vary from one insurer to another⁴.

3. Quick Availability

   Loan against an insurance policy is quick and hassle-free. You do not need to submit extensive documents or information to the insurance provider since they already have your information and documents. Further, these loans are not delayed and issued within minimal days.³

4. Liquidity

   One key reason to consider loan against an insurance policy is liquidity. You can get easy access to funds from your policy ensuring a financial cushion during emergencies continuing the policy coverage and without the need to surrender your policy. It can also be a strategic move for investment purposes.

 

How do you maximise your insurance policy’s potential?

Your life insurance policy is a useful financial tool that offers insurance protection, helps you create a corpus for your financial goals, helps in saving tax (under old tax regime and subject to certain conditions), and also offers financial help through loans. To maximise your policy’s potential, here are some tips that can help –

• Ensure regular premium payments –

  This would enhance the surrender value of your policy and you will be able to get a higher loan amount.

• Try to take a loan at a later policy tenure –

  The longer the policy term passes, the higher the surrender value gets. This also allows you to get a higher loan amount.

• Repay the loan timely –

  Non-payment of the loan might result in foreclosure if the outstanding loan and the applicable interest exceed the surrender value. Foreclosure means cessation of the policy benefits and coverage. To avoid this, repay the loan or the interest timely to maintain the loan below the surrender value.

 

Advantages and Limitations of a Loan Against an Insurance Policy

 

Advantages

• High Loan Amount: You can avail a substantial amount, commonly up to 90% of the surrender value depending on policy terms and conditions and may vary from Insurer to Insurer, making it a valuable option for meeting immediate financial needs.¹
• Quick Processing: Since the insurer already holds your documents, a loan against insurance can be processed faster.
• Liquidity Without Policy Termination: Access funds without surrendering your policy, allowing you to maintain coverage while addressing urgent expenses.

 

Limitations

• Impact on Policy Benefits: Outstanding loans and accumulated interest reduce the surrender value and death benefit if not repaid on time.
• Limited Eligibility: Only policies with a savings component and accumulated surrender value qualify for loans against an insurance policy.
• Interest Accrual: Unpaid interest is added to the principal, accumulating over time and potentially impacting the policy value.

 

When to Consider a Loan Against Insurance?

You can consider a loan against an insurance policy in cases where immediate funds are required, such as unexpected medical expenses, paying off high-interest debt, home repairs, or even investment purposes for potential returns. These loans are an easily accessible option for individuals who do not have a good credit score  and cannot obtain other loans.

 

Key Takeaways

• A loan against your life insurance policy allows you to access up to 90% of its surrender value without terminating your policy, making it suitable for emergencies or short-term needs.
• Missing repayments can reduce your policy’s benefits or lead to foreclosure, so manage repayments carefully to keep your policy active.

 

Conclusion

Once you understand the when and why to consider a loan, it is much easier to decide. Loans against an insurance policy can be a practical financial tool when you need immediate financial assistance or funds for a specific purpose. These loans allow the policyholders to access their surrender quickly while leveraging the surrender value of their insurance. Loan against insurance is often favoured for its flexible repayment terms, lower interest rates, and easy accessibility, making it an appealing alternative to traditional or commercial loans.

 

Frequently Asked Questions

1. What are the charges and application fees for a loan against an insurance policy?

   Charges and application fees for a loan against an insurance policy differ from insurer to insurer. You can get in touch with your insurance company to understand the terms and fees before making a loan application against your insurance policy.

2. Does taking a loan against an insurance policy affect the loan itself?

   Yes, taking a loan against the insurance policy affects the loan, too. Insurers generally charge interest on policy loans, which are payable annually or semi-annually. The interest amount is added to the outstanding loan amount if it is not paid. The accumulated surrender value of the policy will be sufficient to repay the loan as long as the premiums are paid in time and the policy is in force. However, if no new premiums are forthcoming and if the policy is in a lapsed condition, then a situation may arise where the outstanding loan, including the unpaid interest (the total debt) is higher than the surrender value of the policy.

   The insurer cannot allow such a situation and it may take a loan foreclosure action. A notice is served to the policyholder and the policy is terminated. In such a case, the subsisting surrender value of the loan is adjusted to the outstanding amount of the loan and interest. Excess, if any is paid to the policyholder¹(252).

3. Can I repay the loan early, and does it affect my policy?

   You can repay the loan as and when suitable to you during the tenure, as per the terms and conditions. The policy remains unaffected by early repayment of the loan.

4. Does taking a loan against my life insurance policy affect my credit score?

   Taking a loan against your life insurance policy does not affect your credit score. The surrender value of your insurance policy serves as collateral and is not reported to credit bureaus.