When unexpected financial needs arise, people often rely on traditional options like personal loans, credit cards, or even liquidating their savings. However, many overlook the potential of financial assets they already own. Assets such as life insurance policies, real estate, and fixed deposits can serve as valuable resources to secure low-cost, secured loans without giving them up entirely.
Among these options, a loan against life insurance policy (LAIP) stands out as a cost-effective and efficient way to meet financial requirements. These loans allow you to leverage the accumulated value of your life insurance policy without surrendering it, ensuring you retain your coverage and its benefits. Despite their numerous advantages, misconceptions about LAIPs often prevent individuals from exploring this option.
In this blog, we’ll debunk the most common myths about loans against life insurance policies and shed light on how they work.
How Easy Is It to Get a Loan Against Your Insurance Policy?
At Mera Kal, it is very easy! We have a very simple process of obtaining a loan against your life insurance policy. Unlike traditional loans, these don’t require a credit score or an income proof. The main eligibility criterion is that your policy should have a sufficient surrender value, which typically accumulates over time. You can also check your loan eligibility through our loan eligibility calculator.
Here’s how you can avail of this loan:
- Check Your Policy Eligibility: Request details about your policy's surrender value and the loan amount you’re eligible for against your policy’s cash value component (e.g., endowment plans, whole-life policies, annuities, ULIPs).
- Submit Documents: Provide basic documents, such as identity proof, bank details and your policy details.
- Pledge Your Policy: By pledging your policy, you offer it as collateral to the lender. This secures the loan and ensures that your insurance coverage remains active, allowing you to continue enjoying its benefits. The policy remains under lien until the loan is repaid, meaning it cannot be surrendered or accessed without settling the loan first.
- Receive Funds Quickly: Once approved, the funds are disbursed promptly.
These loans are versatile and can be used for a range of purposes, such as medical emergencies, education expenses, home renovation, or even business growth. However, there are several myths surrounding LAI.
Common myths about Loans Against Insurance
Let’s bust some of the most common myths about loans against life insurance policies and uncover the truth behind them.
Myth 1: “I and my family will no longer be covered by the policy.”
Fact:
Taking a loan against life insurance policy doesn’t cancel your coverage! Your policy remains active, and the benefits continue as long as you pay the premiums on time. However, the outstanding loan amount (plus any interest) will be deducted from the claim payout in case of maturity or death.
Myth 2: “I can take a loan on the entire premium I have paid so far.”
Fact:
The loan amount isn’t calculated on the total premium paid. Instead, it’s based on the surrender value of the policy, which includes the premiums paid and the returns generated by the policy.
The surrender value is the amount a policyholder would receive if they decide to terminate the policy before maturity, representing the built-up cash value. Typically, lenders offer up to 90% of the surrender value as a loan.
Myth 3: “If I take a policy today, I can get a loan on it.”
Fact:
Loans are only available on policies that have accumulated surrender value, which usually takes at least a year, but varies for different types of policies. Fresh policies don’t qualify for loans as they haven’t built up any cash value yet.
Myth 4: “I can pledge health or accident insurance policies to get credit.”
Fact:
Only life insurance policies with a savings component, such as endowment plans, whole-life plans, annuities, ULIPs, etc. can be pledged for loans. Health or accident insurance policies don’t have a savings component and therefore have no value that can be used as collateral to secure a loan.
Myth 5: “Surrendering my policy and investing the money elsewhere will give me better financial outcomes.”
Fact:
Surrendering your life insurance policy may seem like a quick way to access funds, but it often comes with significant drawbacks. Surrender charges and penalties can erode a large portion of your policy’s value, especially in the early years, resulting in substantial financial loss. Additionally, surrendering the policy means forfeiting the insurance coverage and any associated benefits like protection for your family or tax benefits.
Example - Policy Details
- Plan Name: LIC Jeevan Labh (836)
- Policy Term: 21 years
- Premium Payment Term: 15 years
- Sum Assured: ₹5,00,000
- Quarterly Premium: ₹7,024
- Commencement Year: 28/07/16
Current Status (after 8 years):
- Cumulative Premiums Paid: ₹2,25,000
- Surrender Value (SV): ₹1,81,220
Surrendering the Policy to Invest Elsewhere:
If the policyholder surrenders the policy, they’ll receive ₹1,81,220 to reinvest. At an optimistic 12% return over the next 13 years this will yield ₹ 7,90,752, and she would have to pay out income tax on the surrender value and the capital gains on selling the funds at the end of this period.
Had the policyholder remained invested in the policy, she would have received about the same amount on maturity, ~₹ 8,00,000. However, her family would also have received at least ₹ 5,00,000 had anything unfortunate happened to her over these years.
So in this case, it’s not clear that the policyholder is better off surrendering the policy and investing in another asset class. It’s important to check your specific policy and context to determine whether this is a better financial outcome for you; often it is not.
The perceived higher returns from surrendering to invest in other asset classes come at a significant cost:
- Loss of Life Insurance Protection: The ₹5,00,000 sum assured is no longer valid.
- No Future Maturity Benefits: All bonuses and guaranteed returns are forfeited.
- Compromised Family Security: The financial safety net for loved ones is gone in case of unforeseen events.
- Uncertain Returns on New Investments: If this amount is invested elsewhere, such as mutual funds, market volatility can impact returns, providing no guarantee of stability.
Myth 6: “A personal loan is a better option than pledging a life insurance policy.”
Fact:
While personal loans are popular, they often come with higher interest rates and strict eligibility criteria. Loans against insurance policies offer a more affordable alternative with lower interest rates and flexible repayment options. Additionally, you don’t need to provide a credit score or income proof, given that these are secured loans, making it an attractive option for many who are self-employed, gig workers or those with non-traditional cashflows or those without a past credit history.
So, Don’t Surrender! Take a Loan Against your Insurance Policy Instead
By choosing a loan against the policy, the policyholder can meet financial needs without sacrificing life coverage or long-term benefits. You can also find out how much loan amount you can avail, through our surrender value calculator. Borrow smartly and secure your future. Loans against life insurance policies offer a smart and efficient way to meet financial needs while preserving your policy’s benefits. Understanding the facts and dispelling the myths surrounding LAIPs can help you make better financial decisions.
We provide you all the necessary details that you need to avail a loan against your life insurance policy. We can arrange for a loan against major leading insurance providers such as LIC, ICICI Prudential, HDFC Life, Kotak Life, SBI Life, to name a few. Visit Mera Kal to know more!