Loans and Withdrawals
With single-premium policies, you make a one-time premium payment. The death benefit is typically smaller, but the entire premium immediately begins earning interest or may be invested in stock and bond funds. The cost of insurance is deducted from the policy’s earnings.
The earnings accumulate tax-deferred, similar to the way money grows in a retirement account.
Policyholders may be able to borrow against the cash value of a life insurance policy. If the policy meets IRS requirements, policy loans are generally not considered taxable income. However, if the policy lapses or is surrendered with an outstanding loan balance, the amount of the loan may become taxable.
Some policies also allow partial withdrawals of cash value. The IRS generally assumes that the first money withdrawn represents a return of your premium payments (your “basis”) rather than earnings. Once withdrawals exceed your total premiums paid, additional withdrawals are considered taxable income.
Annuities
An annuity is a contract between you and a life insurance company. You make a lump-sum payment or a series of payments, and in return, the insurer agrees to make periodic payments to you either immediately or at a future date.
Annuities offer tax-deferred growth on earnings and may include a death benefit that guarantees your beneficiary at least the amount you paid into the annuity.
There are two main types of annuities:
- Fixed annuity: You receive a set amount of money for a specified period — for example, a fixed monthly payment for life. The interest rate is determined by the insurer and may change periodically based on market conditions.
- Variable annuity: Your payments can fluctuate depending on how your chosen investments (such as stock, bond, or money market funds) perform.
No tax is due on earnings until you withdraw funds from the contract. When you take distributions — either as a lump sum or through periodic payments — the taxable portion is treated as ordinary income.
If you withdraw earnings before age 59½, you may owe both income tax and an additional 10% early withdrawal penalty. Many annuities also have surrender charges for early withdrawals during the first several years of the contract.
Please note: This page offers general legal information, not but not legal advice tailored for your specific legal situation. Rocket Lawyer Incorporated isn't a law firm or a substitute for one. For further information on this topic, you can Ask a Legal Pro.
