Surrender, Sell, Exchange, Readjust

Terence L. Horan

Terence L. Horan, CLU, ChFC, President & CEO, HORAN
March 2016

Winston Churchill had it right in some cases. When it comes to life insurance, the best advice may be: “Never Surrender.” Many of us have life insurance policies that may no longer seem useful. 

A number of reasons lead to that conclusion:

The original purpose of the policy no longer exists. (e.g. The children are grown and death is no longer an economic disaster or loan obligations are repaid.)

Policy loans have been an expensive drag on policy performance or the value of the policy would be of greater benefit to you now than at your death.

Permanent cash value life insurance policies are not performing as originally anticipated due to low interest rates and reduced dividend schedules.

No matter what the actual reason, a common reaction is to cancel the policy and eliminate the insurance company’s obligation to ever pay out the promised death benefit. If the canceled policy has a cash value, that cash value will be paid to the policy owner less any policy loans.

The amount of life insurance surrendered each year is surprising. A 2008 industry study showed that Americans age 65 and older give up about $112 billion in life insurance benefits each year, either by surrendering their policies or by letting them lapse.

Other options are sometimes more financially sound and should be considered:

  • Transfer the current policy cash value to a new life insurance policy with lower costs reflecting current mortality and perhaps more earnings potential and/or investment options. An exchange can offer the same or higher death benefit for a lower premium.  This exchange can shield a policy gain from tax or preserve a policy loss to be used against future gains.
  • Transfer the policy to an annuity. The transfer is tax free in most cases. The annuity payout, which is a combination of principal and interest, will be taxed in a favorable manner. When the exchanged policy is at a loss, the annuity can increase in value up to the cost basis before any annuity payments would be taxable.
  • Elect a tax-free transfer from a life insurance policy to a long term care policy. Relatively new products exist in the market that combine life insurance and long term care benefits. This type of policy is guaranteed and paid up with a single lump sum premium. 
  • Donate the policy to charity. You may be entitled to a tax deduction.
  • Take a reduced paid up policy if the contract is a whole life policy.  No additional premiums will be required, but some portion of the death benefit will continue in force for life. 
  • Sell the policy. This option may be available if you are 65 or older and if the policy has a death benefit of $250,000 or more. An investor can maintain the insurance and be willing to pay you more than the cash value of the policy, or in the case of term insurance, provide a payout that would otherwise not exist.
  • Seek external financing to pay premiums. If you have a large insurance policy, you can negotiate with a bank to pay premiums in exchange for an assignment of a portion of the policy cash value. 
  • Bank financing can be a good strategy when there is a policy loan at a fixed interest rate that is well above the rates offered by a bank. You may be able to markedly reduce the interest payments when exchanging a policy loan for a bank loan. 

When offered the German terms of surrender during the Battle of the Bulge, commanding General Anthony McAuliffe responded, “Nuts.”  Make sure you are exploring all of your options before surrendering.