Some life insurance policies in Canada let policyholders use the policy’s value during their lifetime. However, withdrawing cash value or taking out a loan against the policy may have tax or interest implications, cause your policy to lapse, or result in a reduced death benefit.
To compare ways to access policy value while alive, our MyChoice team reviewed the Financial Consumer Agency of Canada’s life-insurance guide, the Autorité des marchés financiers’ cash-value guide, section 148 of Canada’s current Income Tax Act, and the Canada Revenue Agency’s insurance-scheme warning.
Can You Use Life Insurance While Alive In Canada?
You may be able to use policy value during your lifetime if the policy has cash value or includes a living-benefit rider. Read through your policy terms to determine what is available.
Typically, a person cannot access the death benefit in a life insurance policy while alive. The trigger for a terminal-illness advance is distinctly different from a critical-illness benefit, disability rider, or long-term-care benefit.
Term life insurance generally has no cash value. However, some forms of permanent life insurance can build up cash value. If you have a permanent policy, review your cash value amount and requirements to access the cash if you need it.
Which Policies May Have Value You Can Access?
| Policy or feature | What may be available | Limit to check |
|---|---|---|
| Term life | A living-benefit rider may pay a benefit in specified circumstances if included in the policy. | Term life generally has no cash value that can be borrowed against or withdrawn. |
| Participating whole life | Certain types of policies may build guaranteed values over time. Some policies also pay non-guaranteed dividends that give you the choice of receiving them as cash or applying them to premiums. | Not every whole-life policy participates, and dividends are not guaranteed. |
| Non-participating whole life | Some policies may have a contractual cash value or non-forfeiture value that can accumulate. | Cash values and non-forfeiture options depend on the contract. |
| Universal life | Some policies have a value that can be accessed through a loan or a withdrawal. | Investment returns, insurance charges, guarantees, and required premiums vary by policy. |
| Living-benefit rider | Some policies may pay out money after a specified illness, disability, need for care, or terminal diagnosis. | Definitions, waiting periods, exclusions, proof needed, and consequences for the death benefit differ by policy. |
Five Ways To Access Value From A Life Insurance Policy
| Method | What happens | Main cost or risk |
|---|---|---|
| Policy loan from the insurer | The insurer advances money to the policyholder under the policy, usually using its cash value as security. | Interest is charged on the balance. Any unpaid amount and interest can reduce the death benefit and could cause the policy to lapse. |
| Withdrawal or partial surrender | Cash is withdrawn permanently from the policy value. | Cash value and possibly the death benefit fall; charges and taxable income may apply. |
| Loan from a bank using the policy as collateral | A separate loan approved by a lender. The lender takes a collateral assignment on the policy. | Terms, interest, remedies, and tax treatment may differ from a policy loan. |
| Full surrender | Policy owner receives net cash surrender value; policy ends. | Taking out the value of the policy ends insurance protection. Any outstanding loans against the policy, surrender charges, and taxes on gains may lower the amount of money you’ll receive. |
| Dividend or non-forfeiture option | Depending on the policy, options may include cash dividends, reduced premiums, paid-up additions, reduced paid-up insurance, or extended-term insurance. | These options may not be available under every contract. Dividends are not guaranteed, and each option affects future coverage differently. |
Read More: See How Life Insurance Cash Value Can Be Accessed
Policy Loans And Collateral Loans Are Different
When comparing borrowing options, distinguish a policy loan made directly by the insurer under the policy from a collateral loan that a bank or other lender approves through its underwriting process and secures through an assignment of the policy.
Beyond the interest rates, consider:
- Whether the lender requires ongoing payments and how the interest compounds.
- The maximum amount you can borrow relative to the value of the policy, fees, and other terms.
- Charges imposed by the policy and net death benefits after borrowing.
- What happens if the value of your policy goes down.
Read More: Compare Ways to Borrow Against Life Insurance
When A Policy Loan Can Create Taxable Income
A policy loan from an insurance company is considered to be a disposition under the Canadian tax laws. As a result, there may be taxable income if the loan advance is greater than the policy’s adjusted cost basis (ACB).
For example, assume you are planning to take out a policy loan for $15,000. Your insurer reports the policy’s applicable proceeds of $15,000 and an adjusted cost basis of $12,000 immediately before the loan. Your policy gain in this situation is $3,000. Existing loan balances, cash surrender values, and other statutory adjustments can affect your policy’s taxable gain under the tax laws.
Before taking out a sizeable loan, ask your insurer about your policy’s adjusted cost basis, cash surrender value, outstanding loan balance, and what will be reported for tax purposes, and consider having a Canadian tax professional review the transaction.
Read More: Review How Canadian Tax Rules Apply to Life Insurance
How Borrowing Can Change The Death Benefit
In the AMF illustration, the policy shows a death benefit of $100,000, a policy loan of $7,000 and $2,000 in interest. If the insured dies before repayment, the illustrated death benefit would be $91,000. Again, your contract will specify how this would be determined.
Borrowing too much can also create problems. Depending on the policy terms, if your remaining policy value does not have enough left to pay policy charges, your policy could lapse. If this happens, you would not only lose coverage, but a tax amount may be reported. Ask for an illustration showing when the policy could lapse under basic and less favourable assumptions, such as higher charges or lower investment returns.
Request An In-Force Illustration Before Taking Cash
Before taking cash from your policy, request an in-force illustration and written answers showing the policy’s current:
- cash surrender value, ACB, and death benefit
- guaranteed versus non-guaranteed values
- death benefit immediately after your loan or withdrawal
- death benefit after interest has been added to your loan
- premiums or deposits needed to keep the policy in force under current and less favourable assumptions
- projected lapse date if the loan is not repaid
- options, such as dividends, paid-up insurance, extended-term insurance, or rider benefits that will remain after your loan or withdrawal
- maximum amount you can borrow or withdraw right away
- interest rate or surrender charge that will apply
- anticipated tax slip and the insurer’s estimated taxable policy gain
Compare The Policy Option With Alternatives
| Need | Compare before using the policy |
|---|---|
| Short-term cash need | Other options include savings, a TFSA withdrawal and its recontribution rules, a line of credit, a policy loan, and a collateral loan. |
| Premiums are no longer affordable | Reduced paid-up insurance; extended-term insurance; reducing the amount of insurance; full surrender; any change that would require additional evidence of insurability. |
| Medical or care expense | Compare government programs, workplace benefits, disability contracts, critical-illness contracts, and the exact life-policy rider. |
| Retirement income | Compare the option with registered and non-registered assets. Compare guarantees with charges, taxation, loan interest, and whether a death benefit is still required. |
| Business or tax strategy | Look at alternative solutions and consider obtaining independent tax and legal advice. Be mindful of CRA cautions regarding complex insurance-loan programs. |
The CRA advises Canadians to be wary of tax-reduction schemes that promise to reduce taxes through complicated arrangements involving insurance and loans.
Contact an independent, qualified Canadian tax professional who is not being paid by the promoter for advice.
Life Insurance Access Decision Checklist
- You need to know if you still need your death benefit and consider what happens to affected parties if the benefit is reduced or eliminated.
- Consider alternative options before using cash value of the policy.
- Ask your insurer for an in-force illustration, your policy’s adjusted cost basis (ACB), policy-loan details, and current surrender values. Ask questions and get details on how and when your policy could lapse and what documentation you will receive.
- Figure out what you’ll actually receive, including fees, charges, and taxes.
- Figure out what happens after. How much death benefit will be left? What premiums will you still be responsible for?
- Have a licensed insurance professional explain the policy terms.
- Have an independent tax advisor review and verify tax implications for you.