Reducing Out-of-Pocket Costs With Paid-Up Life Insurance

In this article...
  • Converting a whole life plan to a paid-up life insurance policy can reduce out-of-pocket premium costs. Learn what paid-up life insurance is and how it works.

Many whole life insurance policies offer level premiums and a guaranteed death benefit, providing peace of mind for policyholders. Unfortunately the monthly premium payments may be a financial burden for some individuals. If you have a whole life plan with a substantial cash value, converting it to a paid-up life insurance policy may be a viable option for reducing out-of-pocket premium costs. In this article, we’ll take a close look at paid-up life insurance and paid-up additional insurance, considering how these plans work and what they mean for policyholders.

What Is Paid-Up Life Insurance?

Paid-up life insurance refers to a policy wherein the policyholder no longer has to pay out-of-pocket premiums for coverage to remain in force. However, that doesn't simply mean the policy is paid in full. Typically, paid-up status occurs when a whole life policy with a cash value investment component has accrued enough cash value to cover the cost of future premiums, and premium payments are subsequently made using the plan's dividends. Policyholders who wish to activate this option may need to formally request conversion to a paid-up status before the payment structure switches over.

How Does Paid-Up Life Insurance Work?

Once a policy's paid-up status option has been activated, premium payments are deducted from the plan’s cash value account. The policy then stays in force without the policyholder having to pay regular out-of-pocket premiums. However, the death benefit also decreases by the cash value amount that’s used to cover the premiums. When the insured individual dies, beneficiaries still receive a death benefit, which is determined by how much of the account's cash value has been used.

What Is Paid-Up Additional Insurance?

Paid-up additional insurance is extra whole life coverage that’s available as a rider on certain whole life insurance plans. It’s typically purchased using dividends from the primary policy and can add monetary value to the plan’s death and/or living benefits by increasing its cash value.

Because paid-up additional insurance also earns dividends, the value can compound indefinitely, and these riders act as mini life insurance policies in their own right, offering many of the same benefits as traditional policies. In some companies, policyholders may contribute as much or as little as they want to a rider each year, but other insurers require consistent contributions. Regardless, paid-up additions are often considered a financially sound investment, particularly for investors seeking tax-deferred growth. Plus, policyholders may eventually take out a loan using these riders as collateral, or they may surrender them for their cash value.

Like other life insurance riders, paid-up additional insurance riders should usually be purchased when buying the primary policy. Although some companies may permit policyholders to add on riders at a later point, underwriting factors such as age and health may increase the purchase price or reduce the amount of coverage available. 

What Happens When a Life Insurance Policy Is Paid Up?

If your policy terms include a paid-up life insurance option and you’ve accrued the necessary amount of cash value in the plan, you can submit a request to convert your plan to a paid-up status. After your policy is converted, you’ll no longer need to pay out-of-pocket premiums. Instead, premium payments will be deducted from your plan’s cash value component.

Typically, only whole life insurance plans may achieve a paid-up status, so coverage on paid-up plans remains in effect for the lifetime of the insured individual. Under the plan's new terms, your beneficiaries still receive a death benefit payout when you die, but the death benefit decreases accordingly. You may also have less cash value to borrow against if you take out a life insurance loan against your policy.

Can a Paid-Up Policy Be Surrendered?

Options for policy surrender vary by provider and plan type, but many companies let policyholders surrender whole life plans, including paid-up policies, if they’re no longer wanted. In exchange for forfeiting the death benefit, the policyholder receives the remaining cash value in the policy. Policyholders who’ve purchased paid-up additional insurance riders may also surrender these mini plans in exchange for their cash value without forfeiting their primary policy.

Alternatively, policyholders who require money for short-term needs may be able to take out a loan using their paid-up policy or rider as collateral rather than forfeiting their entire death benefit. Other policyholders may be eligible for a partial cash-out. However, depending on the terms of your contract and whether you’re surrendering your policy or taking a loan out against it, restrictions and limitations may apply.

Do All Life Insurance Plans Offer Paid-Up Options?

The contractual terms of life insurance policies vary widely by provider and plan type, and even some whole life plans don’t support a paid-up policy option. If your policy does offer a paid-up option, your provider may require a formal request from you before it can go into effect. 

Although some plans automatically deduct payments from the cash value account if the policyholder fails to make a premium payment, other plans may simply lapse, so you should never stop paying your life insurance premiums without consulting your financial advisor or a representative from your insurance company.

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