What is Cash Value Life Insurance? The Complete Guide

We believe life insurance should offer protection and be an asset available to you in life. 

Cash value life insurance can accumulate cash value over time as a secondary feature of certain permanent policies. You essentially pay into different policy components, including insurance costs and potential cash value accumulation. The money for the death benefit is the amount you leave to your beneficiary after you pass away, while the cash value increases and is accessible while you’re still alive.

With about 35% of Americans expecting to leave behind debt when they die, a cash value policy can help to pay down debts and build future wealth. (This statistic is provided for general context and does not reflect individual financial outcomes.) In this article, learn more about cash value life insurance, its uses, and how it works. 



How does the cash value of life insurance work? 

Traditional life insurance primarily provides protection through a death benefit, while cash value policies have a secondary function while you’re still alive. It is a policy feature that may accumulate cash value over time. 

A portion of your premium goes towards cash value, where it grows tax-deferred, under current federal tax law, and can be withdrawn or borrowed by you during your lifetime (subject to policy terms, surrender charges, interest, and potential tax consequences). Essentially, it’s a way to accumulate cash value that may be available during the policyholder’s lifetime.

How cash value grows over time

When you pay your premium, a portion is set aside for your death benefit and fees, while the excess is funneled into your cash value. In the early years, growth feels slow because these setup costs are front-loaded. However, as the account matures, it reaches a point where growth may increase over time depending on policy design, credited interest, dividends (if any), and ongoing costs.

Unlike market-based investments, cash value life insurance is designed primarily for long-term protection, with potential cash value accumulation as a secondary feature. Its value doesn't lie in beating a stock index this year, but in long-term potential to grow policy values that may include guarantees depending on policy type and insurer.

Types of life insurance policies with cash value

Choosing the right policy depends on how you want your cash value to grow and the level of control you want over the process. While some plans offer more certainty, others allow you to trade that predictability for the possibility of different growth outcomes, including both higher or lower results.

Here is an overview of the most common permanent life insurance policies that include a cash value component:

Whole life insurance

With whole life insurance, you get a fixed monthly premium and a guaranteed death benefit. The premium payments remain constant, meaning you pay the same monthly amount throughout your life.

The cash value accumulates over this time at a minimum guaranteed rate. You can also use your company dividends (if you receive them) with your whole life insurance cash value every year to build up the account faster. Whole life offers predictable growth, but with less flexibility than some other policy types.

Guaranteed issue life insurance

Generally, a form of whole life insurance, guaranteed life insurance is available in small coverage amounts, such as $20,000. Some guaranteed life insurance policies feature a cash value element; however, the potential to build wealth is lower than with other options because the amount is relatively small in comparison.

You can’t be rejected for guaranteed issue life insurance, but your beneficiaries won’t receive the full payout if you die within a few years after buying the coverage. This plan type favors stability and protection.

Universal life insurance

Universal life insurance is more flexible than a whole life insurance policy, with many options allowing you to adjust the death benefit and reduce premiums if need be — as long as there’s enough in the cash value to cover the policy costs.

There are two further variations on universal life insurance: indexed universal life insurance (IUL) and variable universal life insurance (VUL). More on those below! 

Indexed universal life insurance

An IUL policy lets you tie the cash value to an index such as the S&P 500. It’s a unique middle ground for those who want market-linked growth without the risk of losing their principal due to interest crediting, though policy charges may still reduce cash value. When the index performs well, your account is credited with interest based on the gains it generates.

However, unlike a direct investment in the stock market, you aren't actually buying shares; instead, the insurance company uses the index's performance as a benchmark to determine your interest rate.

To provide security, IUL policies come with built-in guardrails known as floors and caps, which prioritize long-term stability over short-term maximum returns, making it a planning tool that may offer tax-advantaged features when structured and managed appropriately. Here’s how:

• Floors: Often set at 0%, these protect you from market volatility, ensuring that even if the stock market crashes, your credited interest may not be negative in a given crediting period, although policy charges may still reduce overall cash value.
• Caps: In exchange for this protection, your growth is typically capped — meaning if the market has a blockbuster year and returns 20%, your gains might be limited to a maximum of 8% or 9%, depending on the terms of your policy.

Variable universal life insurance

VUL allows you to connect the policy to sub-accounts with a variety of investment types. It’s considered an aggressive investment type designed for those who want maximum control over their growth. Unlike other policies where the insurance company manages the money or tracks an index, a VUL policy allows you to invest your cash value directly into sub-accounts that function like mutual funds.

This means your growth is actively participating in the market, rather than the interest rate just being linked to it, like with IUL. While this offers the highest potential for long-term gains, it also means the policy carries the most significant market risk and volatility.

With no floors, there’s a higher level of complexity, as the policyholder must actively manage their investment selections and monitor the account to ensure there is always enough cash value to cover the policy’s costs. If the investments perform poorly for too long and the cash value drops too low, you may be required to pay significantly higher premiums to keep the policy from lapsing.

Pros and cons of cash value life insurance

While the specific policy types offer different growth mechanisms, cash value life insurance, as a whole, serves as a multifaceted financial tool. It’s designed to provide both the security of a permanent death benefit and the flexibility of a financial instrument you can use during your lifetime.

Here is a high-level overview of the advantages and trade-offs of using a cash value policy as part of your financial plan:

Tax advantages of cash value life insurance

The tax-advantaged aspect of cash value life insurance sets it apart from other financial tools, as you typically need to pay tax when you grow your wealth through investments. Your beneficiaries also receive the death benefit tax-free, as death benefits are generally received income-tax free under current law, which is particularly helpful as most life insurance payouts are significant.

Because a loan is technically borrowed against the policy's value rather than withdrawn from it, it’s generally not treated as taxable income under current law — provided the policy remains active and meets other requirements. However, it’s vital to manage how quickly you fund the policy. If you overfund it too fast, you could trigger IRS rules that reclassify the policy as a Modified Endowment Contract (MEC).

Once a policy becomes a MEC, it loses many of its tax advantages; withdrawals and loans become taxable, and you may even face a 10% penalty if you access the money before age 59 ½.

How to access the cash value of your policy: 5 ways

There are several ways that policyholders typically gain access to the accumulated cash value of their life insurance policy. Understanding these options is crucial for maximizing the utility of a policy's cash component while it is available. The most common avenues include:

1. Borrow against your policy

One of the most popular ways to withdraw the cash value involves taking out a loan against your policy, especially since this method may be tax-free under current law as long as the policy requirements are met. When you pass away, any outstanding loan amount owed is paid back via the death benefit.

2. Withdraw the cash value

There’s also the option of withdrawing the funds directly from your policy. Please note that this method of obtaining the money may have unique drawbacks, as it may include investment gains (referred to as “above basis”) that are taxable. And because the money is formally removed from the policy, you no longer receive interest credits on that amount. Also, similar to taking out a loan, making a direct withdrawal also affects the amount of life insurance left for the death benefit.

3. Surrender the policy

If you surrender the policy, it means you’ve canceled the coverage, which could come with a surrender charge. Once you cancel, any cash value in the policy is given to you minus any unpaid premiums, outstanding loan balance, and potential surrender charge.

4. Pay policy premiums

Once you’ve built up enough cash value, you can use it to cover your ongoing premium payments. This is often referred to as premium offset. It is a particularly useful strategy for policyholders entering retirement or facing a temporary change in income, who want to maintain their full coverage without incurring out-of-pocket expenses.

Note that using the accumulated cash value to offset premiums may reduce policy values and requires ongoing monitoring.

5. Boost death benefit and cash value

You can also use your cash value, specifically through dividends or additional payments, to purchase Paid-Up Additions (PUAs). Think of these as tiny, fully paid-for life insurance policies that are added to your original plan.

Each PUA has its own cash value and death benefit, subject to policy limits: Your total death benefit increases without a medical exam, and because you've added more value to the policy, your potential for future dividend growth increases as well. It can be a very effective way to increase the long-term value of your policy over time, depending on dividends, policy performance, and insurer declarations.

Build financial wellness with Amplify

Building a financial strategy with cash value life insurance allows you to address two needs at once: Protecting your family’s future and potentially creating a flexible pool of capital for your own use. By choosing the right policy and managing your contributions carefully, you can transform a standard protection plan into a long-term insurance strategy that may offer tax-advantaged features as part of a broader financial plan.

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