What You Should Know About Cancelling Life Insurance

When to consider canceling, and what steps you can take to do so

Life insurance is the best way to protect your loved ones if you pass away financially, but it isn't always necessary, and some policies aren't the right fit for you. The procedure of canceling your policy can vary depending on whether you have term or permanent insurance and how long you've had it, whether it's a matter of budget, need, or something else entirely. Here's what you should know about canceling life insurance the right way, depending on your circumstances.

Use Free Look Periods to your advantage.

You'll usually get a "free look" period when you first buy life insurance. You may have 10 to 30 days to change your mind and receive your refund, depending on the insurer and the state you live in. During your free look period, research the life insurance company, review your policy's fine print, and double-check that you can't find a better deal elsewhere. Communicate with your agent or insurance company directly if you want to cancel your policy before the time limit expires. Make sure the dates are correct because if you cancel after the period has ended, you will forfeit the initial premium.

Term Life Insurance Cancellation

Term insurance is the simplest type of life insurance to cancel, and it's as simple as stopping your monthly payments. If you make payments in person or by mail, you might be able to do this by logging into your online account and deleting the payment information, or by skipping your subsequent payment. If you decide to change your mind, you can keep the policy by making up any missed payments during the customary grace period of 31 days following the due date for your payment. During that time, you'll continue to be covered. If you're serious about canceling, however, the coverage will end once the grace period expires. Alternatively, you can file a cancellation request with your insurance agent or company via mail or phone—through the agent may require a written request. If you choose this choice, you will be unable to benefit from the payment grace period. If it's a financial issue, see if your insurer will let you reduce your coverage rather than dropping it entirely. Companies that allow you to do this may limit you to a certain number of times or a certain amount of coverage, such as $100,000. If you want to keep coverage but not with your current policy, get a new one before your current one expires. Warning: If you cancel a life insurance policy and then want to buy another, you'll have to reapply and pay a higher premium (rates are based in part on age), or you might not be insurable at all (if you have or develop a serious health condition).

Permanent Life Insurance Cancellation

The cancellation of a permanent life insurance policy is more difficult. Whole life and universal life insurance (UL) have different processes; both have a cash value account but handle premiums differently. Stopping payments may not be enough to cancel the policy, and you may lose the entire cash value you've accumulated in it. In order to remain in force, most whole-life policies require regular premium payments. On the other hand, a universal life policy can pause or suspend premium payments while remaining active.

Provisions for Automatic Payment

If you don't pay your premiums, your premium payments will be deducted from your cash value account; this is how universal life policies work. Some whole life insurance policies have an automatic premium loan (APL) provision that essentially does the same thing. If you're having financial difficulties but still need insurance, deferring payments may be preferable to canceling the policy entirely. On the other hand, if you stop paying on a UL policy (or a whole life policy with an APL provision) for too long, the cash value may be depleted (and the policy could lapse). Before canceling your permanent life insurance, make sure you know whether you have a whole life or universal life policy so you can understand the consequences of not paying your premiums. Also, check to see if your whole life policy has an APL provision that kicks in if you miss one or more payments. Warning: If you're considering withholding payments to cancel a term policy, don't do it. Check with your insurer to see what steps you'll need to take to receive the policy's surrender value.

Value of Surrender

When you surrender or cash out a permanent policy, you will be paid the surrender value, which is the cash value minus any surrender charges or penalties, if any are applicable. Surrender charges are outlined in your policy documents and last for a specific number of years (the "surrender period"). They could be calculated based on factors like your age and the amount of coverage you have and based on a percentage that gets smaller each year. To put it another way, the higher your coverage amount or, the older you are, the higher your surrender charges will be. Important: The surrender period can last up to 20 years, with charges gradually decreasing each year until they reach zero at the end of the period. These fees can be especially high in the first few years of the policy. For example, during the first two years of a 10-year surrender period, a policy may be worth 0% of its cash value, but in the ninth year, it may be worth 95% of its cash value. If you cancel your policy during those first two years, you'll lose everything you've invested. Check with your insurer to determine the exact surrender value of your policy and the steps required to cash it out. In most cases, you'll be asked to fill out and submit a surrender form. If your policy is still in the surrender period, you may want to consider other options rather than canceling it until it is no longer in the surrender period.

Life Insurance Settlements

Life or viatical settlement may allow you to sell your policy to a third party. The payout is less than the death benefit of the policy, but it could be more than the cash value. You won't have to pay taxes on the amount if you're terminally ill (if you're not, you'll most likely have to). The death benefit is paid to a third party when you die. In most cases, the portion of a permanent policy's balance that exceeds what you paid into it is considered taxable income when you receive the surrender value or sell it.

Alternatives to Cancelling Your Insurance Plan

In some instances, it may make sense to do something else with it rather than surrendering your policy. Request the reduced paid-up option: If you don't want to pay premiums but still need coverage, you may be able to use the cash value to buy a lower death benefit amount with no future payments. Your cash value balance determines this option's coverage amount. Pause premium payments: Pausing premium payments on a universal life insurance policy with a cash value will not cancel the policy. If you can't afford to make payments but want to keep your coverage, your policy could last for years without you contributing. However, you should contact your insurer to learn more about the potential benefits and drawbacks of this option based on your specific policy. Take out a policy loan: If you want to keep the policy in force but need money right away, a policy loan may allow you to access the cash value without incurring a surrender penalty. This is one way to avoid the potential tax problems that can arise from a direct withdrawal. Withdraw funds: If your policy is considered out of surrender and you have a significant cash value, you can withdraw funds directly from the account. You shouldn't have to pay taxes on the withdrawal if you take out less than you paid in premiums. Exchange the policy: A 1035 exchange allows you to exchange your existing life insurance policy for a new life insurance policy, an annuity, or even long-term care insurance without having to pay taxes on the gains in the cash value account. Important: Before exchanging for a new life insurance policy, make sure you understand how long the surrender period is on the new policy, what the surrender charges are, and whether you can withdraw any amount from the cash value during the surrender period without incurring surrender charges.

Do you get your money back when you cancel a life insurance policy?

In most cases, you won't get any of your money back if you cancel your term life insurance policy. An exception is only made if you cancel the policy during the free look period. It's worth noting that some life insurance companies provide a return of premium rider, which may make it appear as if you can get your money back. These riders, however, only pay out if you keep the policy for its entire term and do not die before it expires. With permanent insurance, you can get some or all of the money you paid back plus the interest earned on the cash value. Warning: If you have a permanent life insurance policy that is subject to surrender charges and taxation, you could lose money.

When Should You Cancel Your Life Insurance?

Whatever your reasons for canceling a life insurance policy, you risk leaving your loved ones financially vulnerable. However, in the following circumstances, it may be appropriate:
  • You don't need the insurance anymore.
  • You're exchanging for a long-term care policy or an annuity.
  • You have a limited budget.
  • You've already been approved for coverage with another insurer because you found a better deal.

The death benefit must be accessed through life or viatical settlement

Keep in mind that, in some circumstances, it may be preferable to reduce your coverage or suspend premium payments rather than cancel it entirely. Avoid canceling your policy without first speaking with your insurance company about the specifics of your policy and carefully weighing the benefits, drawbacks, and potential alternatives.

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