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What Is a Collateral Assignment of Life Insurance?

collateral assignment of a life insurance policy

Charlene Rhinehart is a CPA , CFE, chair of an Illinois CPA Society committee, and has a degree in accounting and finance from DePaul University.

collateral assignment of a life insurance policy

A collateral assignment of life insurance is a conditional assignment appointing a lender as an assignee of a policy. Essentially, the lender has a claim to some or all of the death benefit until the loan is repaid. The death benefit is used as collateral for a loan.

The advantage to using a collateral assignee over naming the lender as a beneficiary is that you can specify that the lender is only entitled to a certain amount, namely the amount of the outstanding loan. That would allow your beneficiaries still be entitled to any remaining death benefit.

Lenders commonly require that life insurance serve as collateral for a business loan to guarantee repayment if the borrower dies or defaults. They may even require you to get a life insurance policy to be approved for a business loan.

Key Takeaways

  • The borrower of a business loan using life insurance as collateral must be the policy owner, who may or may not be the insured.
  • The collateral assignment helps you avoid naming a lender as a beneficiary.
  • The collateral assignment may be against all or part of the policy's value.
  • If any amount of the death benefit remains after the lender is paid, it is distributed to beneficiaries.
  • Once the loan is fully repaid, the life insurance policy is no longer used as collateral.

How a Collateral Assignment of Life Insurance Works

Collateral assignments make sure the lender gets paid only what they are due. The borrower must be the owner of the policy, but they do not have to be the insured person. And the policy must remain current for the life of the loan, with the policy owner continuing to pay all premiums . You can use either term or whole life insurance policy as collateral, but the death benefit must meet the lender's terms.

A permanent life insurance policy with a cash value allows the lender access to the cash value to use as loan payment if the borrower defaults. Many lenders don't accept term life insurance policies as collateral because they do not accumulate cash value.

Alternately, the policy owner's access to the cash value is restricted to protect the collateral. If the loan is repaid before the borrower's death, the assignment is removed, and the lender is no longer the beneficiary of the death benefit.

Insurance companies must be notified of the collateral assignment of a policy. However, other than their obligation to meet the terms of the contract, they are not involved in the agreement.

Example of Collateral Assignment of Life Insurance

For example, say you have a business plan for a floral shop and need a $50,000 loan to get started. When you apply for the loan, the bank says you must have collateral in the form of a life insurance policy to back it up. You have a whole life insurance policy with a cash value of $65,000 and a death benefit of $300,000, which the bank accepts as collateral.

So, you then designate the bank as the policy's assignee until you repay the $50,000 loan. That way, the bank can ensure it will be repaid the funds it lent you, even if you died. In this case, because the cash value and death benefit is more than what you owe the lender, your beneficiaries would still inherit money.

Alternatives to Collateral Assignment of Life Insurance

Using a collateral assignment to secure a business loan can help you access the funds you need to start or grow your business. However, you would be at risk of losing your life insurance policy if you defaulted on the loan, meaning your beneficiaries may not receive the money you'd planned for them to inherit.

Consult with a financial advisor to discuss whether a collateral assignment or one of these alternatives may be most appropriate for your financial situation.

Life insurance loan (policy loan) : If you already have a life insurance policy with a cash value, you can likely borrow against it. Policy loans are not taxed and have less stringent requirements such as no credit or income checks. However, this option would not work if you do not already have a permanent life insurance policy because the cash value component takes time to build.

Surrendering your policy : You can also surrender your policy to access any cash value you've built up. However, your beneficiaries would no longer receive a death benefit.

Other loan types : Finally, you can apply for other loans, such as a personal loan, that do not require life insurance as collateral. You could use loans that rely on other types of collateral, such as a home equity loan that uses your home equity.

What Are the Benefits of Collateral Assignment of Life Insurance?

A collateral assignment of a life insurance policy may be required if you need a business loan. Lenders typically require life insurance as collateral for business loans because they guarantee repayment if the borrower dies. A policy with cash value can guarantee repayment if the borrower defaults.

What Kind of Life Insurance Can Be Used for Collateral?

You can typically use any type of life insurance policy as collateral for a business loan, depending on the lender's requirements. A permanent life insurance policy with a cash value allows the lender a source of funds to use if the borrower defaults. Some lenders may not accept term life insurance policies, which have no cash value. The lender will typically require the death benefit be a certain amount, depending on your loan size.

Is Collateral Assignment of Life Insurance Irrevocable?

A collateral assignment of life insurance is irrevocable. So, the policyholder may not use the cash value of a life insurance policy dedicated toward collateral for a loan until that loan has been repaid.

What is the Difference Between an Assignment and a Collateral Assignment?

With an absolute assignment , the entire ownership of the policy would be transferred to the assignee, or the lender. Then, the lender would be entitled to the full death benefit. With a collateral assignment, the lender is only entitled to the balance of the outstanding loan.

The Bottom Line

If you are applying for life insurance to secure your own business loan, remember you do not need to make the lender the beneficiary. Instead you can use a collateral assignment. Consult a financial advisor or insurance broker who can walk you through the process and explain its pros and cons as they apply to your situation.

Progressive. " Collateral Assignment of Life Insurance ."

Fidelity Life. " What Is a Collateral Assignment of a Life Insurance Policy? "

Kansas Legislative Research Department. " Collateral Assignment of Life Insurance Proceeds ."

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Using your life insurance policy as collateral is one way of securing a loan without the risk of using your home or car. Most loans are either secured or unsecured, and while an unsecured loan does not require collateral, they are not always the most affordable or available option to many loan seekers. Bankrate breaks down the collateral assignment of life insurance process along with alternative options to help you decide what type of loan may be best for you.

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Whole life insurance combines life insurance with an investment component.

  • Coverage for life
  • Tax-deferred savings benefit if premiums are paid
  • 3 variations of permanent insurance: whole life, universal life and variable life include investment component

Term life insurance is precisely what the name implies: an insurance policy that is good for a specific term of time.

  • Fixed premium over term
  • No savings benefits
  • Outliving policy or policy cancellation results in no money back

This advertising widget is powered by HomeInsurance.com, a licensed insurance producer (NPN: 8781838) and a corporate affiliate of Bankrate. HomeInsurance.com LLC services are only available in states where it is licensed and insurance coverage through HomeInsurance.com may not be available in all states. All insurance products are governed by the terms in the applicable insurance policy, and all related decisions (such as approval for coverage, premiums, commissions and fees) and policy obligations are the sole responsibility of the underwriting insurer. The information on this site does not modify any insurance policy terms in any way.

What is collateral assignment of life insurance?

A collateral assignment of life insurance is a method of securing a loan by using a life insurance policy as collateral . If you pass away before the loan is repaid, the lender can collect the outstanding loan balance from the death benefit of your life insurance policy. Any remaining funds from the death benefit would then be disbursed to the policy’s designated beneficiary(ies).

Why use life insurance as collateral?

There are several reasons why you might want to use life insurance as collateral for a loan. Among them:

  • It can be affordable. Depending on your age, health, the type and value of policy, life insurance costs vary. However, life insurance premiums may be less than what you would pay for an unsecured loan with higher interest rates.
  • You are not jeopardizing your personal property. By using life insurance as collateral, you might be able to take out a secured loan without putting your home or vehicle at risk. If you pass away before the loan is repaid, the lender will use funds available from your life insurance policy’s death benefit to pay off the loan.
  • It may be attractive to lenders. Many financial institutions view life insurance as a good option for collateral, knowing that they will very likely have the money to pay off your loan in the event of your death.

Of course, there are also some situations in which a collateral assignment of life insurance is not the best option. Some people are unable to obtain affordable life insurance due to their age or health complications. It can also be difficult to use an existing life insurance policy as collateral for a loan; a lender may require you to take out a new policy, specifically for the purpose of the collateral assignment.

How do I take out a loan using a collateral assignment of life insurance?

If you would like to take out a loan using life insurance as collateral, your first step should be to find a lender willing to issue this type of loan. After you confirm the lender’s requirements, you may be able to use your existing life insurance policy (if the lender will allow it) or you might need to purchase a new policy for a collateral assignment.

If you take out a new policy, the application process is the same as applying for any other type of life insurance and may require extensive underwriting, including a medical exam. After you have purchased the new policy, you will need to ask the insurance company for a collateral assignment form that you will need to complete, noting your lender as an assignee. Generally, a lender will not be listed as a beneficiary. The beneficiary(ies)will be the person you would like to receive any leftover benefits not claimed by the lender.

What types of life insurance can I use as collateral for a loan?

Both main types of life insurance, term life insurance and permanent life insurance , can be used to secure a loan. If you have a policy that falls into a subcategory of permanent life insurance, such as whole life, universal life, variable life or variable-universal life, these too are eligible to be used as collateral. However, each financial institution will likely have different requirements. Make sure to discuss these requirements with your lender before purchasing life insurance with the specific intention to use it as collateral. If more than one option is available, you may want to compare the cost of premiums for each type of policy.

Alternatives to life insurance as collateral

If you are considering a collateral assignment of life insurance, there are a few alternative funding options that might be worth exploring. Since many factors determine each option, working with a financial advisor may be the best way to find the ideal solution for your situation.

Unsecured loan

Depending on your situation, an unsecured loan may be more affordable than a secured loan with life insurance as collateral. This is more likely to be the case if you have good enough credit to qualify for a low interest rate without having to offer any type of collateral. There are many different types of unsecured loans, including credit cards and personal loans.

Cash value life insurance

Some permanent life insurance policies accumulate cash value over time that you can use in different ways. If you have such a policy, you may be able to partially withdraw the cash value or take a loan against your cash value. However, there are implications to using the cash value in your life insurance policy, so be sure to discuss this solution with a life insurance agent or your financial advisor before making a decision.

Home equity line of credit (HELOC)

A home equity line of credit (HELOC), is a more flexible way to access funds than a standard secured loan. While HELOCs carry the downside of risking your home as collateral, you retain more control over the amount you borrow. Instead of receiving one lump sum, you will have access to a line of credit that you can withdraw from as needed. You will only have to pay interest on the actual amount borrowed.

Frequently asked questions

What is the best life insurance company, what type of loans are collateral assignments usually associated with, what are other common forms of collateral, related articles.

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What Is Collateral Assignment of Life Insurance?

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What Is A Collateral Assignment Of Life Insurance?

A couple signing up for Collateral Assignment

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A collateral assignment is sometimes a necessity if you’re applying for larger financing amounts such as a mortgage or business loan.

But what is a collateral assignment and how do you go about getting it on your life insurance policy? 

In this article, we’ll cover what collateral assignment is, how you can add it to your life insurance, and what alternatives there are out there. 

What Is Collateral Assignment? 

A collateral assignment is a process by which a person uses their life insurance policy as collateral for a secured loan.

In simple terms, collateral assignment is reassigning priorities for who gets paid the death benefit of your life insurance policy.

What Is a death benefit?

A death benefit or face value of a life insurance contract is the amount of money that your beneficiaries will receive from your policy when you die.

Once you apply for collateral assignment and it’s approved, your specified debtor (the loan provider) will be paid first and then your beneficiaries will receive what is left over in your life insurance policy.

This is different from using your cash value to loan money as you are taking out a loan from another financial institution and using your policy as a guarantee that you’ll cover any debt when you die. 

For example, let’s say you want to take out a secured loan from your local bank and want to use your life insurance policy as a collateral assignment.

In this situation, you’d still have to pay back any debt you have with interest during the loan period. 

However, the life insurance policy would be used if the borrower dies and there was an outstanding loan balance remaining. 

Secured Loans vs. Unsecured Loans

Secured loans are debts that are backed by assets that a lender can claim if the debt isn’t repaid. These types of loans often offer better interest rates and more generous payment terms.

Unsecured loans are debts that don’t have collateral. These types of loans are more expensive to repay and considered riskier than secured loans.

A woman signing up for Collateral Assignment.

Source: Pexels

How Does Applying for Collateral Assignment Work?

The process for getting collateral assignments for life insurance is the same as when you apply for new life insurance coverage. 

All you’ll be doing is indicating to your life insurance provider that your lender will be given priority for the amount of money you have borrowed through them.

There is an:

Application process.

Underwriting process.

Offer that you’ll receive.

You’ll be required to name beneficiaries as well as indicate ownership of the life insurance policy in the collateral assignment form which will be provided by your life insurance company.

This is because you’re changing the terms of your payout and your life insurance provider will need to follow these instructions once you die.

NB Some insurance companies don’t offer collateral assignment on new loans and generally only provide this feature to an existing life insurance policy.

You should check beforehand to see what will be required to apply for a collateral assignment. If you need help finding plans that offer this, send an email to a licensed insurance agent today.

Once you’ve assigned a new collateral assignee to your life insurance policy, they will be entitled to lay a claim on your death benefit for any debt you have with them.

For example, let’s say you take out a collateral assignment life insurance policy worth $200,000 for a loan of $75,000 over 7 years at an interest rate of 18%.

If you die after five years, based on these figures, you’ll still have $41,231.02 owed on your loan.

Your $200,000 life insurance plan will be used to cover this and your beneficiaries will receive the remaining $158 768.98 from your life insurance policy.

Your lender is only allowed to take the amount outstanding on the debt owed and cannot take more. 

What about Missed Payments and Cash Value Life Insurance?

If you have a permanent life policy with a cash value account, sometimes called cash value life insurance, your lender will have access to it to cover missed payments on your loan.

For example, let’s say you miss a payment on your loan and have a collateral assignment. Your lender will be able to access your cash value account and withdraw that month’s payment to cover your debt.

Who Can You Add as a Collateral Assignee?

You can add any person or institution as a collateral assignee to your life insurance policy if you owe them money.

This can include banks, lenders, private individuals, businesses, or credit card companies. 

The most common collateral assignments are for business loans and mortgages. This is because they are loans for high amounts that are paid off over several years. 

In fact, some banks and financial lenders may require that you add them as collateral assignees when you apply for any of the financing options mentioned below.

Common Collateral Assignees Include:

💵 Bank loans

💳 Credit cards

🏡 Mortgages

💼 Business loans

What Do I Do If I’ve Paid Off My Debt?

If you’ve managed to pay off your debt - firstly, congratulations! Secondly, you’ll want to notify your life insurance company that you’ll be changing your collateral assignments on your life policy.

While there is no legal claim that a company can make to debts that aren’t owed anymore, there may be a hold up in paying out the death benefit to your beneficiaries and other collateral assignees.

Life insurance companies will have to figure out who must be paid first, according to the order stated in your collateral assignment terms.

In general, life insurance policies will settle claims within 24 hours of being notified of a policyholder’s death.

The process can be delayed if you do not release your collateral assignees from your life insurance contract. 

Tips to Make Sure Your Life Policy Is Paid Out Quickly

Here are some tips if you want your beneficiary claims to be handled as fast as possible:

1) Keep a copy of your life insurance policy and policy number in a safe place or with your lawyer, financial advisor, or estate planner.

2) Speak to your beneficiaries about your policies and give them the contact details of the relevant life insurance company.

3) Make sure your life insurance contract is updated to reflect your latest list of beneficiaries.

4) Make sure you have your beneficiaries' details listed in the contract or with your lawyer.

The Benefits of Using Collateral Assignment of Life Insurance

While adding a collateral assignment to your current life insurance policy may require an application, paperwork, and time, there are benefits:

Many lenders like it: Banks and financial institutions sometimes prefer it when applicants use their life insurance policy as collateral for a loan. This is because they know that their debt will be serviced long-term by your insurance company which makes their loan to you a lower risk.

Your private property won’t be jeopardized: The last thing you want when you go into debt is to put your personal items, such as your car, investments, or home on the line as collateral. Using collateral assignment is an alternative to this and can protect you in the event that you can’t service your debt.

It can be affordable for some people: If you’re in good health and young, you may be paying affordable rates for permanent life cover. In situations like this, it can make sense to use your life cover as collateral for debts you’ve incurred.

A form to sign up for Collateral Assignment.

What Are Some Alternatives to Collateral Assignment?

Term Life Insurance: Getting a term life insurance contract to cover specific debts is one way of ensuring your estate and family are protected when you die.

There are multiple types of term life insurance plans and they are more affordable than permanent life insurance. This makes options like level term life insurance and decreasing term life insurance ideal for different types of debts you may have over your lifetime.

What Is Term Life?

Term life is a temporary life coverage option that lasts for a specific period of time. It is different from permanent life insurance which lasts until you die or you stop paying premiums.

Term life contracts are typically between 5 to 20 years, however, you can get renewable term life plans and even a forty-year term life plan .

Borrow from your life insurance: If you have a permanent life insurance policy, such as universal, whole, or indexed life cover, you can borrow money from your cash value account. 

However, keep in mind that you’ll be required to pay interest on any amount that you borrow and any amount of debt incurred will be deducted from your policy’s death benefit when you die.

What Is Cash Value?

Cash value is a feature of permanent life insurance plans that policyholders can contribute additional money toward while they have a policy in force.

This money is set aside in a cash value account which is tax-deferred and can be used in a number of ways.

In some cases, if your policy allows it, you can end your contract and get the cash surrender value of it. This amount is usually much less than the value of your total life insurance contract. 

Our Verdict on Collateral Assignment

Many banks, lenders, and financial institutions want long-term guarantees that you’ll be able to service your debt if anything happens to you.

In some situations, getting collateral assignments on your life insurance to cover these debts is a good option for people who are trying to access finance from these institutions. 

However, there is a risk that your death benefit payout may be delayed for your beneficiaries if you don’t keep your different collateral assignees up to date.

If you already have a life insurance policy, you should contact your provider to find out what the process is and what you’ll need to do to change the collateral assignees on your policy.

If you don’t have a policy yet, our advice is to look at all of your options before you decide to take a permanent life insurance contract with a collateral assignment.

There are alternatives out there that are more affordable if you’re looking to protect your family and estate from debt.

Term life is one such option that is adaptable to your life and easy to get. 

For example, a decreasing term life insurance policy might be the right choice for someone who has recently bought a home and wants to cover their mortgage while they pay it back.

Another option is final expense insurance, which is a permanent life policy for smaller amounts, usually under $50,000.

With final expense insurance, your beneficiaries can pay for anything they want, including any debts you may have had in your life.

The process for applying is simple and you won't have to go through a medical exam or intensive underwriting as you would with traditional permanent life insurance. 

If you need any assistance with finding, comparing, or learning about the different life insurance options to cover your debts, speak to one of our expert advisors today at 1-888-912-2132 or [email protected] .

Where Can I Learn More about Life Insurance?

If you’re looking to learn more about life insurance, different kinds of coverage, or costs, visit our life insurance hub to find our latest articles.

We do the research so that you don’t have to and our articles cover complicated topics like what is a cash value account, what is key person insurance, or how long life insurance takes to pay out a death benefit.  

If you need help with quotes, try out a life insurance quote finder or reach out to us via email at [email protected] to get in touch with a licensed life insurance agent for your state.

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What Is Collateral Assignment (of a Life Insurance Policy)?

Meredith Mangan is a senior editor for The Balance, focusing on insurance product reviews. She brings to the job 15 years of experience in finance, media, and financial markets. Prior to her editing career, Meredith was a licensed financial advisor and a licensed insurance agent in accident and health, variable, and life contracts. Meredith also spent five years as the managing editor for Money Crashers.

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Definition and Examples of Collateral Assignment

How collateral assignment works, alternatives to collateral assignment.

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If you assign your life insurance contract as collateral for a loan, you give the lender the right to collect from the policy’s cash value or death benefit in two circumstances. One is if you stop making payments; the other is if you die before the loan is repaid. Securing a loan with life insurance reduces the lender’s risk, which improves your chances of qualifying for the loan.

Before moving forward with a collateral assignment, learn how the process works, how it impacts your policy, and possible alternatives.

Collateral assignment is the practice of using a life insurance policy as collateral for a loan . Collateral is any asset that your lender can take if you default on the loan.

For example, you might apply for a $25,000 loan to start a business. But your lender is unwilling to approve the loan without sufficient collateral. If you have a permanent life insurance policy with a cash value of $40,000 and a death benefit of $300,000, you could use that life insurance policy to collateralize the loan. Via collateral assignment of your policy, you authorize the insurance company to give the lender the amount you owe if you’re unable to keep up with payments (or if you die before repaying the loan).

Lenders have two ways to collect under a collateral assignment arrangement:

  • If you die, the lender gets a portion of the death benefit—up to your remaining loan balance.
  • With permanent insurance policies, the lender can surrender your life insurance policy in order to access the cash value if you stop making payments.

Lenders are only entitled to the amount you owe, and are not generally named as beneficiaries on the policy. If your cash value or the death benefit exceeds your outstanding loan balance, the remaining money belongs to you or your beneficiaries.

Whenever lenders approve a loan, they can’t be certain that you’ll repay. Your credit history is an indicator, but sometimes lenders want additional security. Plus, surprises happen, and even those with the strongest credit profiles can die unexpectedly.

Assigning a life insurance policy as collateral gives lenders yet another way to secure their interests and can make approval easier for borrowers.

Types of Life Insurance Collateral

Life insurance falls into two broad categories: permanent insurance and term insurance . You can use both types of insurance for a collateral assignment, but lenders may prefer that you use permanent insurance.

  • Permanent insurance : Permanent insurance, such as universal and whole life insurance, is lifelong insurance coverage that contains a cash value. If you default on the loan, lenders can surrender your policy and use that cash value to pay down the balance. If you die, the lender has a right to the death benefit, up to the amount you still owe.
  • Term insurance : Term insurance provides a death benefit, but coverage is limited to a certain number of years (20 or 30, for example). Since there’s no cash value in these policies, they only protect your lender if you die before the debt is repaid. The duration of a term policy used as collateral needs to be at least as long as your loan term.

A Note on Annuities

You may also be able to use an annuity as collateral for a bank loan. The process is similar to using a life insurance policy, but there is one key difference to be aware of. Any amount assigned as collateral in an annuity is treated as a distribution for tax purposes. In other words, the amount assigned will be taxed as income up to the amount of any gain in the contract, and may be subject to an additional 10% tax if you’re under 59 ½.

A collateral assignment is similar to a lien on your home . Somebody else has a financial interest in your property, but you keep ownership of it.

The Process

To use life insurance as collateral, the lender must be willing to accept a collateral assignment. When that’s the case, the policy owner, or “assignor,” submits a form to the insurance company to establish the arrangement. That form includes information about the lender, or “assignee,” and details about the lender’s and borrower’s rights.

Policy owners generally have control over policies. They may cancel or surrender coverage, change beneficiaries, or assign the contract as collateral. But if the policy has an irrevocable beneficiary, that beneficiary will need to approve any collateral assignment.

State laws typically require you to notify the insurer that you intend to pledge your insurance policy as collateral, and you must do so in writing. In practice, most insurers have specific forms that detail the terms of your assignment.

Some lenders might require you to get a new policy to secure a loan, but others allow you to add a collateral assignment to an existing policy. After submitting your form, it can take 24 to 48 hours for the assignment to go into effect.

Lenders Get Paid First

If you die and the policy pays a death benefit , the lender receives the amount you owe first. Your beneficiaries get any remaining funds once the lender is paid. In other words, your lender takes priority over your beneficiaries when you use this strategy. Be sure to consider the impact on your beneficiaries before you complete a collateral assignment.

After you repay your loan, your lender does not have any right to your life insurance policy, and you can request that the lender release the assignment. Your life insurance company should have a form for that. However, if a lender pays premiums to keep your policy in force, the lender may add those premium payments (plus interest) to your total debt—and collect that extra money.

There may be several other ways for you to get approved for a loan—with or without life insurance:

  • Surrender a policy : If you have a cash value life insurance policy that you no longer need, you could potentially surrender the policy and use the cash value. Doing so might prevent the need to borrow, or you might borrow substantially less. However, surrendering a policy ends your coverage, meaning your beneficiaries will not get a death benefit. Also, you’ll likely owe taxes on any gains.
  • Borrow from your policy : You may be able to borrow against the cash value in your permanent life insurance policy to get the funds you need. This approach could eliminate the need to work with a traditional lender, and creditworthiness would not be an issue. But borrowing can be risky, as any unpaid loan balance reduces the amount your beneficiaries receive. Plus, over time, deductions for the cost of insurance and compounding loan interest may negate your cash value and the policy could lapse, so it’s critical to monitor.
  • Consider other solutions : You may have other options unrelated to a life insurance policy. For example, you could use the equity in your home as collateral for a loan, but you could lose your home in foreclosure if you can’t make the payments. A co-signer could also help you qualify, although the co-signer takes a significant risk by guaranteeing your loan.

Key Takeaways

  • Life insurance can help you get approved for a loan when you use a collateral assignment.
  • If you die, your lender receives the amount you owe, and your beneficiaries get any remaining death benefit.
  • With permanent insurance, your lender can cash out your policy to pay down your loan balance.
  • An annuity can be used as collateral for a loan but may not be a good idea because of tax consequences.
  • Other strategies can help you get approved without putting your life insurance coverage at risk.

NYSBA. " Life Insurance and Annuity Contracts Within and Without Tax Qualified Retirement Plans and Life Insurance Trusts ." Accessed April 12, 2021.

IRS. " Publication 575 (2020), Pension and Annuity Income ." Accessed April 12, 2021.

Practical Law. " Security Interests: Life Insurance Policies ." Accessed April 12, 2021.

collateral assignment of a life insurance policy

Collateral Assignment of Life Insurance: Everything You Need to Know

collateral assignment of life insurance complete guide - everyday lfie insurance online calculator

  • August 8, 2023

Life insurance isn’t just about peace of mind for the future; it can also serve as a lifesaver when you’re looking for ways to secure a loan. This clever maneuver is known as a collateral assignment of life insurance. It’s a deal between you and your lender where your life insurance policy, specifically the cash value component, is used as collateral for a loan.

When assigning your life insurance policy as collateral for a loan, the lender will become a temporary beneficiary of your policy. If the assigner dies before repaying the loan, the lender can claim the death benefit up to the outstanding loan balance. If the policyholder defaults, the cash value of the policy will be collected.

Who can benefit from the collateral assignment of life insurance?

If you need to secure a loan but don’t have typical assets like a house or significant savings, collateral assignment of life insurance could be your ticket. It’s great for small business owners, entrepreneurs, and folks with sizable insurance policies but limited liquid assets. 

To use a life insurance policy as collateral, the policy term should be at least as long as the loan duration and should possess a cash value component equal to the loan amount.

What types of life insurance can be used as collateral?

To make this work, you’ll need a permanent life insurance policy that has a cash value component. This includes options like whole life, universal life, and variable life insurance. Unfortunately, term life insurance doesn’t quite make the cut, as it lacks a cash value.

How to use life insurance as collateral for a loan?

1. Ensure the lender accepts life insurance as collateral.

2. Apply for the collateral assignment through the bank or directly with the insurer. 

3. Fill out an “assignment of Life Insurance Policy as Collateral form” provided by your insurer. 

4. Submit the form to the insurer, and wait for approval.

5. Once the collateral assignment is approved, notify your bank or lender. 

6. Bank or lender will set the loan terms such as the interest rate, payment terms, and other obligations.

collateral assignment of a life insurance policy

Is life insurance as collateral widely accepted? Do all banks accept it?

Typically, permanent life insurance policies such as whole life and universal life, which have a cash value component, can be used as collateral. Lenders such as banks want security, and the cash value component of a whole life insurance policy provides this. This cash value grows over time and can be used if the borrower defaults on the loan, which decreases the risk for the lender.

How is the loan amount determined when using life insurance as collateral?

The borrowing capacity is determined as a proportion of the cash value, varying across different insurance companies. Typically, the permissible borrowing range hovers around 90% to 95%. Applying these percentages to a cash value of $50,000, one could potentially secure a loan amounting to $45,000 to $47,500.

What happens when you are unable to pay back the life insurance loan?

The cash value of your policy will be collected by the lender. If this is insufficient, the amount you owe is deducted from the death benefit when you pass away. In some instances, you might also incur a substantial tax bill.

Is the collateral assignment of the life insurance agreement permanent? 

No, the collateral assignment of the life insurance agreement is not permanent. It’s tied to the lifespan of the loan. Once the loan is fully repaid, the assignment can be released, and the life insurance policy returns to its original beneficiary arrangement.

What are the tax implications of using life insurance as collateral for a loan?

If the amount you borrow directly from the insurance company is equal to or less than the total insurance premiums you have paid, it is not subject to taxation. However, If you surrender your policy, or allow it to lapse, and the total amount of outstanding loans and interest surpasses what you have paid in premiums, there is a possibility of incurring a tax liability. In essence, you would be required to pay income tax on any investment earnings in that scenario.

Best Online Life Insurance Calculator

At Everyday Life Insurance , we specialize in finding the perfect policy to match your unique circumstances. Whether you’re a small business owner looking to back your loan or a stay-at-home mom working to provide for her family, we’re here to help. Use our online life insurance calculator to find the best plan for your finances, in just 15 minutes.

Disclaimer : The comments, opinions, and analyses expressed at Everyday Life are for informational purposes only and should not be considered individual investment, legal or tax advice.

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Home > Finance > How Is A Collateral Assignment Used In A Life Insurance Contract?

How Is A Collateral Assignment Used In A Life Insurance Contract?

How Is A Collateral Assignment Used In A Life Insurance Contract?

Published: October 14, 2023

Discover how collateral assignments are utilized in life insurance contracts, providing financial security and peace of mind. Learn about the benefits and considerations involved in this strategic financial tool.

(Many of the links in this article redirect to a specific reviewed product. Your purchase of these products through affiliate links helps to generate commission for LiveWell, at no extra cost. Learn more )

Table of Contents

Introduction, what is a collateral assignment, understanding life insurance contracts, how a collateral assignment works, benefits and uses of collateral assignments, risks and considerations, limitations and restrictions, how to set up a collateral assignment.

When it comes to financial matters, having a solid understanding of various concepts and strategies is crucial. One such concept is a collateral assignment, which plays a significant role in the world of life insurance contracts. Understanding how a collateral assignment works can provide you with valuable insights into how to manage and leverage your life insurance policy to meet your financial needs.

A collateral assignment involves using your life insurance policy as collateral for a loan or other financial transaction. It allows you to borrow against the cash value of your policy without surrendering the policy itself. This strategy can be particularly useful if you need access to funds for a specific purpose, such as starting a business, financing education expenses, or facing unexpected medical bills.

In order to grasp the significance of collateral assignments, it’s important to have a solid understanding of life insurance contracts. Life insurance is a contractual agreement between a policyholder and an insurance company. The policyholder pays regular premium payments, and in return, the insurance company provides a death benefit to the policy’s beneficiaries upon the policyholder’s death. Additionally, certain types of life insurance policies, such as whole life or universal life insurance, accumulate a cash value over time.

The cash value in a life insurance policy can be used in various ways. One option is to surrender the policy and receive the accumulated cash value. However, this may result in the termination of the policy and the loss of its associated benefits. Another option is to take a policy loan against the cash value. This allows the policyholder to access funds while keeping the policy intact.

This is where a collateral assignment becomes relevant. Instead of taking a policy loan, a policyholder can use a collateral assignment to borrow money from a lender by assigning a portion of the life insurance policy’s death benefit as collateral. In this arrangement, the lender becomes the assignee of the policy and is entitled to receive a portion of the death benefit if the policyholder passes away before the loan is repaid. This arrangement provides security to the lender and allows the policyholder to access funds without surrendering the policy.

In the following sections, we will delve deeper into how a collateral assignment works, its benefits and uses, as well as the considerations, limitations, and steps involved in setting it up.

A collateral assignment is a legal agreement that allows a policyholder to assign a portion of the death benefit from a life insurance policy as collateral for a loan or other financial obligation. It serves as a way to secure the loan by providing the lender with a potential source of repayment in the event of the policyholder’s death. This arrangement allows the policyholder to access funds without surrendering the policy or disrupting its financial benefits.

With a collateral assignment, the policyholder remains the owner of the life insurance policy and retains control over other aspects of the policy, such as changing beneficiaries or making withdrawals from the cash value. The assigned portion of the death benefit serves as collateral for the loan or debt, and if the policyholder passes away before the loan is repaid, the lender has the right to receive the assigned portion of the death benefit to satisfy the outstanding debt.

It’s important to note that a collateral assignment does not transfer ownership of the policy to the lender. Instead, it grants the lender a limited interest in the policy specifically for the purpose of securing the loan. Once the loan is repaid, the collateral assignment is released, and the policy returns to the full control of the policyholder.

A collateral assignment can be used for various financial purposes, including personal loans, business financing, or even as a form of security for a surety bond. The flexibility of this arrangement allows policyholders to leverage the accumulated cash value and death benefit of their life insurance policy to meet their financial needs without sacrificing the long-term benefits of the policy.

It’s worth noting that the availability and terms of collateral assignment can vary depending on the insurance company and the specific policy. Some policies may have limitations on the amount that can be assigned or require approval from the insurance company before the assignment can be made. It’s important to review the policy terms and consult with the insurance provider or a financial advisor to understand the specific guidelines and implications of a collateral assignment.

In the next section, we will explore how a collateral assignment works within the context of a life insurance contract.

Before delving deeper into how a collateral assignment works, it’s essential to have a solid understanding of life insurance contracts. A life insurance contract is a legal agreement between a policyholder and an insurance company, wherein the policyholder pays regular premium payments in exchange for financial protection for their loved ones in the event of their death.

Life insurance contracts come in various forms, but the two main types are term life insurance and permanent life insurance. Term life insurance provides coverage for a specific period, typically 10, 20, or 30 years. If the policyholder passes away during the term, the insurance company pays out a death benefit to the beneficiaries named in the policy. Permanent life insurance, on the other hand, provides lifelong coverage and includes a cash value component that accumulates over time.

The cash value in a permanent life insurance policy, such as whole life or universal life insurance, grows gradually over the years through premium payments and potential investment gains. This cash value can be accessed by the policyholder through withdrawals or policy loans, providing a source of liquidity that can be utilized for various financial needs.

One of the key advantages of permanent life insurance policies is their ability to accumulate cash value on a tax-deferred basis. This means that any growth in the cash value is not subject to immediate taxation, allowing the policyholder to potentially build a substantial cash reserve over time.

Furthermore, permanent life insurance policies often provide additional benefits such as the ability to participate in the insurance company’s profits through dividends, the option to increase or decrease the death benefit, and even the flexibility to adjust premium payments.

Given the unique features and advantages offered by permanent life insurance policies, they are often the type of policy chosen for a collateral assignment. The combination of death benefit protection and cash value growth make permanent life insurance policies an ideal asset to use as collateral for loans or other financial obligations.

Now that we have a basic understanding of life insurance contracts and their various components, let’s explore how a collateral assignment works in conjunction with a life insurance policy in the next section.

Now that we understand the basics of life insurance contracts, let’s dive into how a collateral assignment works within the context of these policies. A collateral assignment involves assigning a portion of the death benefit from a life insurance policy as collateral for a loan or other financial obligation.

Here’s a step-by-step breakdown of how a collateral assignment typically works:

  • The policyholder identifies a need for funds and seeks a loan or financing.
  • The policyholder and the lender determine the amount of the loan and agree on the terms and conditions.
  • A collateral assignment agreement is drafted, which outlines the terms of the assignment, including the assigned portion of the death benefit, the loan amount, and the repayment terms.
  • The collateral assignment agreement is signed by the policyholder, the lender, and the insurance company, acknowledging the assignment and providing consent for the assignee to receive a portion of the death benefit in the event of the policyholder’s death.
  • Upon the policyholder’s passing, the lender files a claim with the insurance company, providing necessary documentation to establish the validity of the claim.
  • The insurance company verifies the claim and disburses the assigned portion of the death benefit to the lender to satisfy the outstanding debt.
  • If there are remaining funds from the death benefit after repaying the loan, they are distributed to the designated beneficiaries of the policy.

It’s important to note that the policyholder remains the owner of the life insurance policy and retains control over other aspects of the policy, such as changing beneficiaries or making withdrawals from the cash value. The assigned portion of the death benefit is solely used as collateral for the loan, and the lender only has a claim to that specific portion.

It’s crucial for both the policyholder and the lender to understand the terms and conditions of the collateral assignment, including any limitations or restrictions set by the insurance company. Some common restrictions may include a maximum assignment amount, a requirement to maintain the policy in-force, or a provision for the policyholder to replace the collateral assignment with another form of security if requested by the insurance company.

By using a collateral assignment, the policyholder can access funds while keeping the life insurance policy intact. This can be particularly advantageous in situations where surrendering the policy would result in the loss of the accumulated cash value and other benefits.

In the next section, we will explore the various benefits and uses of collateral assignments within the realm of financial planning.

Collateral assignments offer several benefits and serve various uses within the realm of financial planning. Let’s explore some of the key advantages and common uses of collateral assignments:

1. Access to Funds

One of the primary benefits of a collateral assignment is the ability to access funds without surrendering the life insurance policy. By using the death benefit as collateral, the policyholder can secure a loan or obtain financing for personal or business purposes. This allows individuals to meet immediate financial needs without disrupting their long-term insurance coverage.

2. Retention of Policy Benefits

Unlike policy loans, which require repayment with interest, collateral assignments allow policyholders to retain the full benefits of their life insurance policies. These benefits can include the death benefit for beneficiaries, potential cash value growth, and the ability to participate in policy dividends. By using a collateral assignment, policyholders do not have to forfeit these valuable features.

3. Lower Interest Rates

When compared to other types of loans, collateral assignments often offer lower interest rates. This is because the loan is backed by the assigned portion of the life insurance policy’s death benefit, providing additional security for the lender. Lower interest rates can result in significant cost savings for the policyholder over the life of the loan.

4. Flexible Repayment Terms

Collateral assignments provide flexibility in terms of loan repayment. Policyholders and lenders can negotiate repayment terms that align with the borrower’s financial capacity, allowing for customized repayment schedules. This flexibility can help borrowers manage their cash flow effectively and repay the loan on terms that suit their specific needs.

5. Diverse Financial Uses

Collateral assignments can be used for a wide range of financial purposes. Common uses include funding education expenses, starting or expanding a business, purchasing or renovating a property, financing a major purchase, or covering unexpected medical expenses. The versatility of collateral assignments allows policyholders to leverage their life insurance policies to meet various financial goals.

6. Potential Tax Advantages

Collateral assignments may offer potential tax advantages depending on the specific circumstances. For example, if the loan proceeds are used for investment purposes or to generate income, the interest paid on the loan may be tax-deductible. It’s crucial to consult with a tax advisor or financial expert to understand the tax implications of a collateral assignment in your specific situation.

By leveraging the benefits and uses of collateral assignments, policyholders can maximize the value of their life insurance policies and utilize them as a valuable financial asset. However, it’s essential to consider the potential risks and limitations associated with collateral assignments, which we will explore in the next section.

While collateral assignments offer several advantages, it’s important to fully understand the potential risks and considerations before entering into such an arrangement. Here are some key factors to keep in mind:

1. Impact on Death Benefit

Assigning a portion of the death benefit as collateral can reduce the overall amount payable to beneficiaries upon the policyholder’s death. It’s crucial to assess the impact of this reduction on the intended financial protection for loved ones and ensure that the remaining portion of the death benefit is still sufficient to address their needs.

2. Default Risk

If the policyholder fails to repay the loan, the lender may have the right to claim the assigned portion of the death benefit, potentially leaving beneficiaries with a reduced payout. It’s important to have a robust repayment plan in place and make timely payments to avoid default and the potential loss of policy benefits.

3. Policy Lapse

If the policy lapses due to missed premium payments or other reasons, the collateral assignment may become void, and the lender loses their security interest in the life insurance policy. Policyholders should ensure they have a sufficient plan in place to maintain premiums and keep the policy in force to protect the collateral assignment.

4. Limited Flexibility

Once a collateral assignment is in place, it restricts the policyholder’s ability to make changes to the policy, such as increasing or decreasing coverage, accessing the cash value, or changing beneficiaries. It’s important to evaluate whether the potential benefits of a collateral assignment outweigh the loss of flexibility in managing the life insurance policy.

5. Complex Documentation

Collateral assignments involve drafting and signing complex legal documents, including the collateral assignment agreement. It’s crucial to fully understand the terms and conditions of the agreement and consider seeking professional advice to ensure that all parties involved are clear on their rights and obligations.

6. Insurance Company Regulations

Each insurance company may have specific regulations and requirements regarding collateral assignments. It’s important to review the policy terms and consult with the insurance provider to understand any restrictions, limitations, or approval processes associated with collateral assignments.

Considering these risks and considerations is essential to make informed decisions when considering a collateral assignment. Seeking guidance from a financial advisor or insurance professional can help assess the suitability of a collateral assignment and its potential impact on your overall financial plan.

In the next section, we will explore any limitations and restrictions that may apply to collateral assignments.

While collateral assignments can be valuable tools, there are certain limitations and restrictions that policyholders should be aware of. These limitations can vary depending on the insurance company and the specific policy. Here are some common limitations and restrictions to consider:

1. Assignment Limits

Insurance companies often impose limits on the amount that can be assigned from a life insurance policy. This limit is typically a percentage of the policy’s death benefit. It’s essential to review the policy terms to understand the maximum allowable assignment amount.

2. Policy Approval

In some cases, insurance companies require policyholder approval before a collateral assignment can be implemented. This approval process may involve submitting an application, providing financial information, or meeting certain criteria determined by the insurance company.

3. Maintaining Policy In-Force

To retain the collateral assignment, policyholders must keep the life insurance policy in force, which includes paying premiums on time. If the policy lapses or is terminated, the collateral assignment may become void, and the policyholder may lose the associated benefits.

4. Replacement of Collateral

In certain situations, insurance companies may require the policyholder to replace the collateral assignment with another form of security if requested. This requirement ensures that the insurance company is adequately protected against potential losses.

5. Removing the Collateral Assignment

If the policyholder wishes to remove the collateral assignment, they will need to follow the specified procedure outlined by the insurance company. This often involves submitting a formal request, providing necessary documentation, and obtaining the insurance company’s approval.

6. Financial Institution Requirements

Financial institutions, such as banks or lenders, may have their own specific requirements for collateral assignments. These requirements may include minimum loan amounts, credit checks, or additional documentation. It’s important to familiarize yourself with the lender’s guidelines to ensure a smooth collateral assignment process.

7. Legal and Financial Advice

Due to the complex nature of collateral assignments, it’s wise to seek advice from legal and financial professionals. They can provide guidance on the legal implications, tax considerations, and overall suitability of a collateral assignment based on your specific circumstances.

Understanding these limitations and restrictions is crucial when considering a collateral assignment. It’s important to review the policy documents, consult with the insurance company and relevant professionals, and ensure compliance with all applicable regulations to navigate the process successfully.

In the next section, we will outline the general steps involved in setting up a collateral assignment.

Setting up a collateral assignment requires careful consideration and following specific steps. While the exact process may vary depending on the insurance company and the lender, here are some general guidelines to help you navigate the setup process:

1. Assess Your Financial Needs

Determine the amount of funds you need and the purpose for which you require the loan or financing. Assess your financial situation and ensure that a collateral assignment aligns with your overall financial goals and needs.

2. Identify the Lender

Research potential lenders that offer collateral assignments and select one that best meets your requirements. Consider factors such as interest rates, loan terms, and reputation when making your decision.

3. Consult with professionals

Seek the advice of financial and legal professionals who specialize in life insurance policies and collateral assignments. They can guide you through the process, provide expert recommendations, and ensure that you fully understand the implications and obligations associated with a collateral assignment.

4. Review Policy Terms

Review the terms of your life insurance policy, paying particular attention to any provisions related to collateral assignments. Understand the limitations, restrictions, and requirements set by your insurance company.

5. Draft the Collateral Assignment Agreement

Work with legal professionals to draft a collateral assignment agreement that outlines the terms and conditions of the assignment. This agreement should clearly specify the assigned portion of the death benefit, the loan amount, the repayment terms, and any other relevant provisions.

6. Obtain Signatures and Consent

Ensure that all parties involved, including yourself, the lender, and the insurance company, sign the collateral assignment agreement. The insurance company’s consent is crucial to acknowledge and approve the assignment.

7. Submit Documentation

Provide the necessary documentation to the insurance company and the lender to establish the collateral assignment. This may include copies of the collateral assignment agreement, policy documents, and any other requested information.

8. Stay Informed and Compliant

Keep track of your loan repayments and stay informed about any updates or changes related to the collateral assignment. Comply with the terms and conditions stated in the collateral assignment agreement, including making timely payments to the lender and maintaining the life insurance policy in force.

Remember that these steps are general guidelines, and the specific process may vary based on your unique situation and the requirements set by the insurance company and the lender. Consulting with professionals experienced in collateral assignments will ensure a smooth and successful setup process.

In the final section, we will conclude our discussion on collateral assignments and summarize the key points to remember.

Collateral assignments serve as a valuable tool in leveraging the benefits of a life insurance policy while accessing funds for various financial needs. By assigning a portion of the death benefit as collateral, policyholders can secure loans or financing without surrendering their policies or disrupting the benefits associated with them.

We began by understanding the basics of collateral assignments and the concept of life insurance contracts. We then explored how a collateral assignment works within the context of a life insurance policy, outlining the steps involved in setting one up.

Collateral assignments offer several benefits, including access to funds, retention of policy benefits, lower interest rates, flexible repayment terms, and diverse financial uses. However, it’s important to consider the potential risks and limitations associated with collateral assignments, such as the impact on the death benefit, default risk, limited flexibility, and complex documentation.

It’s essential to carefully evaluate your financial needs, consult with professionals, review policy terms, and draft a well-structured collateral assignment agreement. By following these steps and staying compliant with the agreement, you can navigate the collateral assignment process successfully.

To ensure a smooth and efficient setup process, it’s advisable to seek guidance from financial advisors, insurance professionals, and legal experts who can provide personalized advice based on your specific circumstances.

In summary, a collateral assignment can be a powerful strategy to utilize the accumulated cash value and death benefit of a life insurance policy while addressing immediate financial needs. However, it’s crucial to conduct thorough research, seek professional advice, and fully understand the implications and obligations associated with collateral assignments.

By carefully weighing the benefits, risks, and considerations, you can make informed decisions and effectively use collateral assignments to enhance your financial plan and achieve your goals.

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What Is the Collateral Assignment of a Life Insurance Policy?

Many lenders require borrowers to use life insurance as collateral.

Many lenders require borrowers to use life insurance as collateral.

Keith Brofsky/Photodisc/Getty Images

More Articles

  •   1. What Is a Life Insurance Assignment?
  •   2. How to Assume a Promissory Note
  •   3. Assignment of Deed of Trust Vs. Deed or Grant Deed

Collateral assignment refers to the contractual designation of a company or other entity as beneficiary of a life insurance policy. This arrangement is fairly common among business owners in search of additional funds or credit. Many lenders will consider the assignment of life insurance alongside other factors when evaluating creditworthiness for business financing applications.

A collateral assignment is a term used to describe the contractually agreed status of a company or other organization as the beneficiary for a life insurance policy.

Exploring The Basic Contract

Life insurance collateral assignments have become commonplace and the documents necessary to enact these agreements can be obtained directly from the life insurance company. These assignment templates contain widely accepted language and terms, and after filling in the blanks regarding the specific details of the arrangement, the forms must be signed by both the policy owner and lender.

However, no obligation exists requiring the use of boilerplate documents; collateral assignments may be negotiated and created by the parties involved. The insurance company remains disinterested in the assignment arrangements, except for its obligation to uphold the terms of a properly executed contract. Some lenders even require an assignment of life insurance as a condition of loan approval. When leveraged properly, a collateral assignment can help business owners obtain funding that would otherwise be unattainable.

Evaluating Death Benefits

Typical insurance assignments focus on a policy's death benefit as the source of collateral for a loan. The agreement places the lender in the primary beneficiary position, ensuring the recovery of an outstanding loan balance if the owner dies before final repayment is made.

If the policy's death benefit exceeds the dollar amount of the collateral assignment, the remaining proceeds are distributed to the owner's listed beneficiaries as per the original policy documents.

Assessing the Cash Value

Although less common, some collateral assignments involve the cash value of existing permanent life insurance policies. Under this type of arrangement, the lender is granted permission to access cash value and make withdrawals if the borrower defaults on loan payments.

Additionally, these agreements restrict the policy owner's access to the cash value to protect the integrity of the lender's new collateral. Cash value-focused collateral assignments provide the added benefit of allowing borrowers to keep current beneficiary designations without a reduction in benefits.

Termination of the Policy

Collateral assignment contracts require the policy owner to keep coverage in force for the length of the loan term. If the policy is cancelled or terminated for non-payment, the lender may consider the loan contract violated in the absence of collateral. To protect the lender from such situations, most assignment agreements institute the delivery of duplicate policy correspondence to the lender.

Non-payment notices or other policy change documents would allow the lender to proactively intervene and prevent termination. In such cases the lender might be permitted to add payments made to the insurance company to the outstanding loan principle.

Rescinding the Agreement

Once the terms of the loan have been fulfilled and repayment completed, the assignment must be removed from the policy. Rescinding the agreement requires the borrower and lender to acknowledge the fulfillment of the loan terms and removal of the lender's position as beneficiary.

After the life insurance company receives the collateral assignment rescission documents, all access to cash value and policy documents is returned exclusively to the owner.

  • MEG Financial: Common Uses of Business Owner Life Insurance
  • Collateral Assignment Agreement
  • ASSIGNMENT | definition in the Cambridge English Dictionary

Gregory Gambone is senior vice president of a small New Jersey insurance brokerage. His expertise is insurance and employee benefits. He has been writing since 1997. Gambone released his first book, "Financial Planning Basics," in 2007 and continues to work on his next industry publication. He earned a Bachelor of Science in psychology from Fairleigh Dickinson University.

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collateral assignment of a life insurance policy

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  • Life Insurance Collateral Assignment [Pros and Cons]

life insurance collateral assignment

If you’re considering leveraging your assets to secure a loan, your life insurance policy might hold untapped potential as collateral. This strategic move can offer you a pathway to obtain the financing you need without risking your home or other valuable assets. It’s a method that not only provides lenders with the assurance of repayment but also preserves the integrity of your personal estate. As you navigate this option, it’s crucial to weigh the benefits against the potential impacts on your policy’s intended beneficiaries and ensure the approach aligns with your broader financial objectives.

Collateral Assignment of Life Insurance

Table of contents, key takeaways, what is a collateral assignment of life insurance, pros and cons of assigning life insurance benefits, understanding collateral, how the life insurance collateral assignment process works, what types of life insurance can be assigned as collateral, examples of life insurance as collateral, setting up a collateral assignment, common mistakes to avoid in a collateral assignment, evaluating the suitability of a collateral assignment of life insurance, life insurance for collateral assignment faqs.

  • Is a Life Insurance Collateral Assignment Right for You?
  • Strategic Financing : Utilizing your life insurance policy as collateral for a loan can be a strategic way to secure necessary financing without jeopardizing other personal assets, offering a safer alternative to traditional collateral like homes or cars.
  • Loan Qualification and Terms : This approach can facilitate easier loan qualification and potentially more favorable loan terms due to the added security it provides to lenders, often resulting in lower interest rates.
  • Impact on Beneficiaries : While using life insurance as collateral can protect other assets, it’s important to consider the potential reduction in the death benefit available to your beneficiaries, which could impact their financial security.
  • Policy Eligibility and Process : Both term and permanent policies are eligible for collateral assignment, but the process involves specific steps, including policy application, collateral assignment form completion, and adherence to lender requirements.
  • Seek Professional Advice : Given the complexities involved in using life insurance as collateral, obtaining personalized advice from a life insurance professional is crucial to navigate the process effectively and ensure alignment with your financial goals.

A collateral assignment of life insurance is a conditional assignment that appoints a lender as an assignee of the policy. Similar to using other types of collateral for a loan – such as a property or a vehicle – if the loan is not repaid, the lender has a claim to some or all of the life insurance policy’s death benefit, and in some instances, the policy’s cash value.

With a collateral assignment of life insurance the lender is not a policy beneficiary. Therefore, having the lender be named as a collateral assignee instead, you can specify that the lender is entitled only to a portion of the death benefit (i.e., the amount of the unpaid balance on the loan). The remainder of the death benefit would then go to our named beneficiary.

Schedule a free consultation with our Collateral Assignment expert

There are advantages and potential drawbacks when using life insurance as collateral for a loan.

On the plus side, having collateral gives a lender more security that you will repay the loan, making it easier to qualify. Likewise, this repayment security can result in a lower interest rate and payment for the borrower.

In addition, using the death benefit on a life insurance policy as loan collateral can keep other assets – such as the borrower’s home, car, and savings – protected from loss if the loan defaults. And, you can still have named beneficiary(ies) on the policy who receive the remainder of the death benefit proceeds. 

There are, however, some potential disadvantages of using a life insurance collateral assignment, too. For instance, with the lender as an assignee, it can reduce the amount of proceeds left for survivors – which could put loved ones into financial hardship to come up with more funds to replace income or pay off other debts of the insured.

If the borrower does not yet have life insurance – but plans to obtain it as collateral – the policy’s premium cost can raise the borrower’s out-of-pocket expenses. Further, if the borrower has specific health issues, they may not qualify for coverage (or if they do qualify, it could be at a higher premium rate).  

In addition, if the life insurance policy lapses for any reason, it could violate the terms of the loan, as there would no longer be any collateral causing problems with the lender. 

Pros and Cons of Using a Life Insurance Collateral Assignment

Collateral is the item pledged as security for the repayment of a loan. If the borrower defaults on loan payments, the lender will receive the collateral. 

Having collateral can help to secure a loan because the lender knows that, even if the borrower stops making payments (either due to death or other circumstances), they will receive something of value in return. 

Because collateral can make a loan more secure for a lender, the borrower may also receive a lower interest rate than they would with an unsecured loan (i.e., a loan that does not have collateral). 

Collateral for loans can also include items such as:

  • – Property (such as with a home mortgage or home equity line of credit)
  • – Vehicles
  • – Investments, like stocks, bonds, and CDs 
  • – Savings/cash/money markets
  • – Business equipment
  • – Collectibles (i.e., art, jewelry, etc.)
  • – Precious metals 

If you plan to use a life insurance collateral assignment strategy when applying for a loan, you should go through the following steps in order:

  • Understand the requirements . First, you should know the type of policy a lender will accept as collateral – or even if a lender will accept life insurance. If you need to purchase a new policy, obtain several quotes from highly-rated life insurers before you commit to one. 
  • Apply for a policy if you do not already have one . Next, fill out the application for life insurance coverage. You may have to undergo life insurance underwriting before the company approves you for a new policy, which could require undergoing a medical examination and answering in-depth health-related questions. 
  • Fill out a collateral assignment form . This form will include listing the lender’s information and naming them as assignees on the policy’s death benefit. A Medallion Signature Guarantees may be required.
  • Obtain approval from your lender that the insurance company has made them the collateral assignee . Only after you receive this approval should you apply for your loan. You can then add any necessary information about the life insurance policy on the loan application. 
  • End the collateral assignment . Once your loan has been repaid, let the life insurance company know so they can confirm with the lender and get rid of the collateral assignment.

A lender will generally require that the policy’s death benefit be at least as much as the loan balance amount. That way, the death benefit will reimburse the lender if you pass away before repaying the loan.

If you take out a new life insurance policy, the application process is the same as applying for one without a collateral assignment. However, you must complete a collateral assignment form with the insurance company that lists the lender as an assignee. 

We recommend that you walk through this process with a life insurance professional who is familiar with how a collateral assignment works and who can answer any of the questions or concerns that you may have. 

A borrower may use term and permanent life insurance for a collateral assignment. But, because each financial institution has different requirements, it is crucial to check and see which one(s) are eligible for your particular transaction. If both term and permanent life insurance policies are acceptable, compare the cost and benefits of each before moving forward. 

For example, because the coverage on a term life insurance policy only lasts for a pre-set period (such as 10 or 20 years), a lender may prefer that the borrower have permanent life insurance coverage for the borrower’s lifetime. 

Also, a permanent life insurance policy may allow the lender access to the funds in the cash value to make loan payments if the borrower defaults. In this case, the lender may restrict the policyholder’s access to the cash value to protect the lender’s collateral, and this is why many lenders prefer permanent insurance over term life insurance for collateral assignments. 

Some examples of cash value life insurance policies include:

  • A whole life insurance policy
  • A guaranteed universal life insurance policy
  • An indexed universal life insurance policy
  • A variable universal life insurance policy

Which cash value life insurance policy is best for a collateral assignment?

You should consider which life insurance policy will provide the most stability, as well as any additional features and benefits that would make it more advantageous.

If you simply need a permanent life insurance policy with a death benefit but don’t need cash value, then a guaranteed universal life insurance policy is a great choice.

However, if you need cash value but value stability and predictability, then a whole life insurance policy may be the better option.

Indexed universal life insurance provides some peace of mind since it provides a floor to protect the policy’s cash value, in contrast to a variable universal life policy where you have the potential for higher returns but with a greater risk of loss due to a down market.

Life insurance can be used as collateral for SBA and small business loans for business related expenses such as upgrading equipment, purchasing inventory, or hiring additional employees. If the borrower could not repay the loan, then the lender would be able to take over the policy and take whatever available cash value is in the policy. If more debt is still due, the lender can collect out of the death benefit upon the borrower passing, with any remaining death benefit going to the beneficiary.

Mortgage loan

Another example of using life insurance as collateral is for a mortgage. Rather than take out credit life insurance which would name the lender as the beneficiary, a collateral assignment would first pay the lender for the remaining loan balance, with the remaining death benefit proceeds going to the policy’s beneficiary.

For example, if John needed collateral to get a $500,000 30 year mortgage, he could use his $1,000,000 life insurance policy’s death benefit. As times goes by the mortgage balance would go down, so he would only owe the lender the amount left on the mortgage, with the remaining death benefit going to his beneficiary (his spouse). If he passed away in year 20 with $150,000 still left on the mortgage, the insurance company would pay the lender $150,000, with the remaining $850,000 death benefit going to his spouse.

An in force life insurance policy is required to complete a collateral assignment form. If you are purchasing a new policy, you may request a collateral assignment form after signing the policy application and paying the first premium. 

A life insurance collateral assignment form includes the following:

  • – Your personal information (name, date of birth, contact details)
  • – Name and contact information of the lender
  • – Life insurance policy number
  • – Your Social Security number 

Even though the policyholder must notify the insurance company about the collateral assignment on a policy, other than their obligation to meet the terms of the contract, the insurer is not actively involved in the loan agreement. 

After paying off the loan balance, you will receive a written release once the lender agrees that you have met all loan terms. If so, the lender sends the release to the insurance company. 

The collateral assignment on the life insurance policy will end at that time. If you keep the policy in force, you can keep the current beneficiary as the sole recipient of the death benefit proceeds, and you could add additional beneficiaries to the policy. 

Some of the most common mistakes to avoid with a collateral assignment of life insurance can include:

  • – Ignoring the lender’s requirements
  • – Adding incorrect beneficiary designation(s)
  • – Cancelling the life insurance policy prematurely
  • – Leaving insufficient coverage for beneficiaries 

Any of these scenarios could jeopardize the loan and cause issues with the lender. Likewise, it could also put your beneficiary(ies) in a financial bind.

Alternative Loan Options

Although life insurance can provide viable collateral for a personal or business loan, it may not always be the best option – especially if a borrower cannot qualify for coverage or pay the added cost of the premium. 

So, some potential alternatives to a collateral assignment of life insurance could include one or more of the following:

  • – Using the cash value in the policy – either via a withdrawal or by borrowing against your cash value for a tax-free loan
  • – Opting for an unsecured loan from another source, such as a bank or credit card
  • – Utilizing other assets that may be sold or borrowed against and used as collateral for a loan
  • – Taking out a home equity loan or line of credit 
  • – Seeking a co-signer – particularly if that individual has strong credit and could increase the chances of loan qualification and possibly even a lower interest rate 

While not all situations are suitable for this strategy, some conditions that may favor a collateral assignment include: 

  • – A policy with a significant build-up of cash value 
  • – Other financial resources for beneficiaries (at least until repayment of the loan)

Even with the many advantages of a life insurance collateral assignment, they aren’t ideal in every situation. Some scenarios where a collateral assignment may not be ideal are:

  • – If the policyholder will have difficulty keeping the policy in force 
  • – If the insured is unable to qualify for a policy due to health or other issues 

Because there is no one-size-fits-all strategy when using life insurance as collateral for loans, you should first discuss your objectives with a life insurance expert who is well-versed in how a collateral assignment works and where they may (or may not) be the right solution. 

Is collateral assignment life insurance the same as credit life insurance?

No, life insurance collateral assignment differs from credit life insurance, as the latter requires that you name the lender as the sole beneficiary of the death benefit, whereas with collateral assignment the lender only gets reimbursed for the total amount owed on the loan with the remainder going to your beneficiary.

What if the policy is considered a modified endowment contract?

If your policy is classified as a modified endowment contract and you’ve used it as collateral, all accumulated earnings within the policy must be reported as your income through an IRS Form 1099-R. It’s advisable to seek guidance from your tax advisor prior to proceeding with the collateral assignment.

How to Determine if Life Insurance Collateral Assignment is Right for You

If you need a personal or business loan, offering collateral to the lender could help you to qualify more readily – and possibly even obtain a lower interest rate on borrowed funds. But even so, many factors are involved when assigning life insurance benefits – and if you or the lender set up the assignment incorrectly, it could result in unfavorable financial consequences in both the short and long term.

So, you must obtain personalized financial advice from a life insurance specialist who can guide you through the process and ensure that you are on the right track. At Insurance and Estates, our primary focus is helping our clients use life insurance for various needs. 

Due to our familiarity with different life insurance carriers, we can assist you with finding the best policy for your specific objectives. If you have any questions about using life insurance to secure a loan – or if you’re ready to begin setting up a life insurance collateral assignment – contact Insurance and Estates today.

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How does Collateral Assignment of Life Insurance Work?

Thang Truong

Life insurance can be a good, even necessary investment for most people. Did you know it can also help you get a loan? Taking out a loan against your life insurance policy is called collateral assignment. Lenders often accept life insurance policies as collateral because it’s a low risk loan; they know they’re going to get their money back.

What is Collateral Assignment of Life Insurance?

What kinds of life insurance can be used for collateral assignment, pros and cons of collateral assignment.

In any type of loan, there needs to be some kind of collateral. For a mortgage, your house is collateral, for your car loan, your car is the collateral. If you default, the bank can take your house or your car and sell them, thus getting their money back. If you’re seeking a small business loan, it might be a problem to find collateral to offer to the bank. You could offer the business, but it might not be worth as much as the loan amount. This is where collateral assignment of a life insurance policy comes in.

Collateral assignment is the act of offering your life insurance policy as collateral on a loan. Life insurance that can be used as collateral are cash value life insurance such as whole life or universal life insurance . The reason that these policies can be used as collateral is that they have cash value and even if policy holders can’t afford to pay premium any more, they can still cancel the policy and get cash surrender value to pay back the loan. This makes it easier to obtain a loan, as the bank knows they will get their money eventually. 

It is logical that banks don’t lend more than cash surrender value of the policy at the time of lending.

You still have the same beneficiaries as you did on the original policy. You don’t want to name the bank as the beneficiary, because that way, the bank gets the death benefit on the policy when you die—even if you already paid off the loan. So, don’t do that. 

You will name the bank as the assignee on the form, and you will be the assignor. The borrower must be the owner of the policy, and the policy must remain current; you still need to pay all of the premiums. 

You will then apply for a collateral assignment of life insurance with the life insurance company and the bank. First, the life insurance company will say it’s okay to use your policy as collateral. Then you’ll let the bank know. The bank then proceeds like it would for any other loan: they evaluate the risk involved, and either agree to loan you the money or deny your application. 

Some banks will let you use an existing life insurance policy, and some will require that you take out a new policy just for the collateral. If you do have to apply for a new policy, make sure you let the insurance company know that you want the policy to serve as collateral in a loan. 

Collateral assignment of life insurance is a limited transfer; in other words, the bank only gets the money on the policy if you default on the loan.

Once the loan is paid off, the bank sends the insurance company a release form. This cancels the assignment and restores the life insurance back to the owner.

If you die or default with your life insurance policy being used as collateral assignment, the lender will take the money still left on the loan, and the rest will go to your beneficiaries. This is why it’s important not to name a bank as a beneficiary. If a bank asks you to name them as beneficiary, find a different bank.

You can only use life insurance policies with cash value account as collateral because lenders will lend you against the cash value account in the policy.

  • Whole life: You can use whole life policy as collateral, but only if you’ve built up cash value. Should you default on the loan, the lender will have access to the cash value. 
  • Universal life: Indexed universal or variable universal life insurance policies can also be used as collateral for a loan as long as the cash value account inside the policy has been built up.
  • Group life insurance: Some group life insurance such as whole life or universal life group life insurance may qualify for collateral assignment. You need to talk to your benefits administrator. Keep in mind these are usually small policies.
  • Qualification : You can be qualified for loans you might not otherwise
  • Affordability : you may be able to offer an indexed universal policy for collateral, and thus pay low rates for a loan
  • Protects your other assets . If you own your home, you could offer it as collateral, but if you default, the bank will take it.
  • Should you die, your heirs won’t have debt from a loan : the insurance policy pays the bank
  • Your heirs may get a reduced death benefit 
  • Getting a qualifying life insurance policy takes some effort
  • Loss of control: Until you pay off the loan, the bank is in charge of the policy. They can even buy another policy for you and add those premiums to the principal if you fall behind on the loan.

Last Thoughts

Collateral assignment of a life insurance policy is often used to secure a small business loan. It can help you qualify for such loans, whereas if you didn’t have life insurance, you’d have to put something else up as collateral. Most banks and insurance companies are familiar with the process of collateral assignment of life insurance, and it should be a simple process.

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Thang Truong covers small business insurance and small business success at BravoPolicy. He is a licensed P&C insurance agent. Previously, he held product leadership positions at realtor.com, Capital One, NerdWallet, and Mulberry Technology. He holds a MBA degree from UC Berkeley - Haas School of Business.

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Using life insurance as loan collateral

Your permanent life insurance policy accumulates a cash value over time. You can use this cash value as loan collateral, depending on how much value your policy accumulates. If you default on your loan and the policy value has to be used, this will cut into your death benefit, plus interest. You can also borrow money directly from your policy, but with interest.

collateral assignment of a life insurance policy

Can you use life insurance as collateral for a loan?

What kind of insurance can be used as collateral.

  • How does a life insurance policy loan work?

How much can you borrow from a life insurance policy?

Why use life insurance as loan collateral, is a life insurance policy loan dangerous.

You might only think of life insurance as a way to support your family after you pass away. When you pass away, your family may lose you as a significant income source, but life insurance is there to provide them with a death benefit to cover their cost of living, education, and more! 

But, that’s it, right? You may have the idea that life insurance is only beneficial after you die—but you can reap living benefits too! There are many ways life insurance, especially permanent life insurance, can be useful for you while you’re alive.  

Business owners leverage life insurance to cover employees who are critical to their business operations or to facilitate buy-sell agreements . A corporation may even hold a life insurance policy to mitigate the financial risks associated if the primary shareholders or key management personnel pass away. 

However, even an individual policyholder can benefit from their policy during their lifetime, while they pay their premiums. Loan collateral is another way individuals and corporations use life insurance. Lenders provide a loan on the contingency that they receive your life insurance payout if you cannot repay the loan. 

This article explains the different ways you can borrow from your policy and, more specifically,  how collateralizing your policy works. It further details the types of life insurance you can use as collateral, how much you can borrow, in addition to the benefits and drawbacks of using life insurance as loan collateral.

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How to borrow from a life insurance policy

A permanent life policy accumulates cash value. The cash value is the part of your premium that your insurer allocates to a savings or investment account . It accumulates value over time, and you’re able to access and use this money before your death. Commonly, this value is utilized in a couple of ways when you need cash immediately. 

  • Use your cash value as collateral for a loan

A bank or lender uses the cash value of your policy as collateral for a bank loan. They know that if you can’t make your loan payments, you can always cancel your life insurance policy and pay the bank with your remaining cash value.  

Depending on your policy, there might be restrictions to the amount of money you must accumulate before you can borrow against it. If you can’t repay your loan, the lender may seek repayment from your policy’s cash value, which cuts into the death benefits your intended beneficiaries will receive.

  • Taking out a policy loan/advance

This method is similar to using your policy as collateral, except the lender in this case is the insurance company, not a bank or creditor. Think of it as an advance on your death benefit. You can repay this loan, so your death benefit doesn’t take a hit. This is a great option for those that need cash, but wouldn’t be able to obtain a loan from the bank due to low income or low credit score . 

  • Withdraw your cash value 

Some policies also allow you to withdraw some or all of your cash value, for a fee. You might use this option if you need to make a large purchase and are low on funds. There are generally penalties for early withdrawal of the cash, also referred to as the surrender fees. Your policy’s cash value minus the surrender fees is what your “cash surrender value” will be. In some cases, this penalty can be a few hundred dollars, but in other cases, it may be a percentage based on the cash value accumulated. With policy withdrawals, the loan is final and cannot be repaid—whatever you take will reduce your death benefit. This is an option for you if you’re short on cash, but may wipe out your death benefit altogether depending on the withdrawal. 

Each of these options has specific tax implications on the amount you withdraw. We’ll get into the tax requirements in later sections.

life insurance as loan collateral

Yes! You can use certain types of life insurance policies as collateral for a loan. To initiate the loan, you usually first speak with a lender. This might be a major Canadian bank or another creditor. You should understand the standard loan terms affiliated with the loan, such as the interest rate and payment terms. 

You must further speak with your insurer to notify them that you’re using your policy as collateral. Generally, insurers are disinterested in how you use your policy as long as you meet the obligations of your life insurance contract — i.e., making timely premium payments.

Life insurance policies such as universal life and whole life insurance that have a cash value component are the most suitable for collateralized loans. ( Read more about whole vs. universal life insurance )

Most lenders won’t accept term life policies as loan collateral because they don’t accumulate cash value. Additionally, term policies may be too short to accommodate the life of the loan. Let’s assume a lender accepts a term life policy as collateral. The collateral would disappear once the term was up, turning the loan into unsecured debt. This creates significant risks for the lender. 

Instead, lenders almost always ask for permanent insurance policies as collateral in a life insurance-backed loan. These policies don’t have a set term and last as long as you maintain your premium obligations. Permanent policies ( excluding a term-to-100 ) build the cash value that is needed for the lenders to let you borrow against.

How does using my cash value as collateral work?

Collateral assignment of life insurance conditionally appoints your lender (the bank) as the primary beneficiary to the death benefit. To the lender, your life insurance is a source of guaranteed funds. 

If you’re unable to repay the loan, the lender can either cash in the insurance policy for the cash surrender value or wait until you pass away to receive your death benefit as repayment for the loan. 

Some borrowers intend only to repay the loan with their life insurance proceeds. However, if you repay the lender before your death, the death benefit assignment is removed, and the lender is no longer the beneficiary.

Generally, a lender allows you to borrow 50 to 90 percent of the cash value when you collateralize your life insurance policy. This percentage considers your credit score and how and if your insurance company invests your cash value amount. 

The lender may hold back from lending a high percentage of the cash value to riskier borrowers so that the policy retains a sufficient cash value to accommodate missed interest payments. 

Additionally, your policy may accumulate cash value at a slower or lower rate than the bank’s loan interest rate. This means there remains risk that the loan balance exceeds the cash surrender value. This might require the lender to ask you for additional collateral or partial loan repayment.

collateral assignment of a life insurance policy

Life insurance as loan collateral means your personal property and assets are safe. If you’re unable to pay back the loan, you’re not risking your home, car, or other belongings, which is the usual case with secured loans. 

Lenders also like life insurance policies as collateral because there’s a certainty. They know the policy’s cash surrender value and the death benefit’s value. In contrast, if you collateralize your car, your car’s value depreciates over time. You might also damage it and further reduce its value. And while homes appreciate over the long term, there’s no telling whether someone collateralizing their home will default in an up or down housing market. 

Lastly, life insurance collateralized loans can be even more affordable than an unsecured loan with a high-interest rate. Secured loans mean less risk to the lender, which means a lower interest rate for you. It’s possible for the sum of the life insurance premium and interest rate of a life insurance-backed loan to be lower than the interest rate of an unsecured loan.

when to use a partial surrender vs a loan

Will loan proceeds from a life insurance policy be taxed?

When determining if loans will be taxed, regulatory bodies look at the policy’s adjusted cost base (ACB). In the case of the life insurance policy, the ACB is the policyholder’s cost of maintaining the policy, which includes all costs paid other than the net cost of pure insurance. For example, if the annual premium for a whole life policy is $5000, perhaps $1500 of this accounts for the cost of insurance, $3000 is invested to build cash value, and $500 is charged for maintaining the policy. In this case, the ACB for this policy would be $3500.

As mentioned above, the tax implications of your loan will depend on how you borrow from your life insurance policy.

Policy Withdrawals – Whenever the amount withdrawn exceeds the policy’s ACB, the whole loan will be taxed. 

Policy Loans – Only the amount over the ACB will be taxed. 

Policy as collateral – Loan proceeds can be received tax-free.

Using your life insurance as loan collateral comes with several risks:

  • Tax complications : Although life insurance proceeds are tax-free, the capital gains on your invested cash value account may create a tax liability. This liability can be an issue if left unchecked.
  • Outliving your projected death: When you get your policy loan, the bank will base the loan amount on the projected cash value at the time of your death date. While term coverage has a designated expiration date, permanent policies still have an estimated life expectancy date that is based on actuarial data from the insurance company. It considers your health and lifestyle data and predicts the date you may pass away. The maximum loan amount is then based on a percentage (usually 50-90%) of the projected accumulated cash value and projected returns. If you live past this projected death date,  which might require you to provide additional collateral or pay off a portion of the loan.
  • Assumptions about interest and return rates : Your bank considers its interest rate with respect to the rate of return on your cash-value account. If the interest increases and/or the rate of return decreases, the difference between these two rates widens. As a result, the loan balance may outpace the policy’s cash value faster than projected. This can also cause the lender to ask for additional collateral or early repayment. 

While these risks are present, the proper insurance, investment, and tax advice can prepare you for these issues. 

A collateral assignment of life insurance is one way to leverage your policy’s cash value during your lifetime. It’s a popular method to access cash for your personal or business needs. Such a loan can be better than traditional secured loans, which collateralize your personal assets. 

Speak to one of PolicyAdvisor’s expert insurance advisors today to learn how you can leverage your life insurance in a loan. Our team can explain the process and suggest steps to reach your financial goals. Book a call with one of our advisors today!

The information above is intended for informational purposes only and is based on PolicyAdvisor’s own views, which are subject to change without notice. This content is not intended and should not be construed to constitute financial or legal advice. PolicyAdvisor accepts no responsibility for the outcome of people choosing to act on the information contained on this website. PolicyAdvisor makes every effort to include updated, accurate information. The above content may not include all terms, conditions, limitations, exclusions, termination, and other provisions of the policies described, some of which may be material to the policy selection. Please refer to the actual policy documents for complete details. In case of any discrepancy, the language in the actual policy documents will prevail.  All rights reserved.

If something in this article needs to be corrected, updated, or removed, let us know. Email [email protected] .

  • Permanent policies allow you to utilize the policy’s cash value as a living benefit
  • You can borrow against this cash value when you need a bank or lender loan
  • You can also take a life insurance policy loan where you borrow some of your death benefit

Find this informative? Share it with someone you care about.

The information above is intended for informational purposes only and is based on PolicyAdvisor’s own views, which are subject to change without notice. This content is not intended and should not be construed to constitute financial or legal advice. PolicyAdvisor accepts no responsibility for the outcome of people choosing to act on the information contained on this website. PolicyAdvisor makes every effort to include updated, accurate information. The above content may not include all terms, conditions, limitations, exclusions, termination, and other provisions of the policies described, some of which may be material to the policy selection. Please refer to the actual policy documents for complete details. In case of any discrepancy, the language in the actual policy documents will prevail. All rights reserved.

If something in this article needs to be corrected, updated, or removed, let us know. Email  [email protected] .

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© PolicyAdvisor Brokerage (PAB) Inc., is an insurance brokerage licensed to sell life insurance products in Ontario, British Columbia, Alberta and Manitoba. Not available in other provinces. Policy obligations are the sole responsibility of the issuing insurance company. Issuance of coverage is subject to underwriting by the respective insurance company. Please see policy documents for full terms, conditions, and exclusions. The logos and trademarks used here are owned by the respective entities. Refer to our Privacy Policy and Terms of Service sections for additional information.

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Collateral Assignment of Life Insurance Policies in Canada: A Complete Guide

Collateral assignment of life insurance policies is complex but is helpful to know!

10 minute read Originally published: January 30, 2023

Collateral Assignment of Life Insurance Policies in Canada

Collateral assignment of life insurance policies is a legal agreement in which the policyholder assigns the death benefit of a life insurance policy as collateral for a loan. This type of assignment is often used as a way for businesses to borrow money, as the death benefit can be used as a source of collateral. It can also be used by individuals to secure a mortgage or personal loan. In this blog, we will explore the concept of collateral assignment of life insurance policies in Canada, delving into the details of what it is, how it works, and how it can be used. We will also discuss the restrictions and considerations, legal requirements, and the process of making a collateral assignment. Additionally, we will look at the potential benefits and drawbacks of using a life insurance policy as collateral, to help you make an informed decision on whether it is the right choice for you.

In this article:

  • Introduction to collateral assignment of life insurance policies

What is a collateral assignment?

  • How collateral assignment of life insurance policies works 

Common uses for businesses and individuals

  • How collateral assignment can be used in the life settlement industry

Legal requirements and consent from the insurer

Restrictions on coverage and eligible policies, steps involved in assigning a policy as collateral, how to ensure the assignment is legally binding, potential benefits and drawbacks of using a life insurance policy as collateral.

  • Conclusion to collateral assignment of life insurance policies

Frequently Asked Questions (FAQs) about Collateral Assignment of Life Insurance Policies

Introduction to collateral assignment of life insurance policies.

Collateral assignment of a life insurance policy is a legal agreement in which the policyholder assigns the death benefit of a life insurance policy as collateral for a loan. This means that the lender has a legal claim to the death benefit if the borrower fails to repay the loan. In Canada, this is a common practice for businesses and individuals to secure loans, but it is important to understand the restrictions and requirements before making such an assignment.

When a policyholder assigns their life insurance policy as collateral, they are essentially using the death benefit as a guarantee for a loan. The lender can claim the death benefit if the borrower fails to repay the loan, but the policyholder retains ownership of the policy and can continue to pay premiums and make changes to the policy as they see fit. This type of assignment is often used as a way for businesses to borrow money, as the death benefit can be used as a source of collateral. It can also be used by individuals to secure a loan, such as a mortgage or personal loan.

Collateral Assignment of Life Insurance Policies in Canada A Complete Guide

How collateral assignment of life insurance policies works

Collateral assignments of life insurance policies are commonly used in Canada to secure business loans, as the death benefit can be used as collateral. It can also be used by individuals to secure a mortgage or personal loan. In the life settlement industry, an insurer or policyholder can sell the policy to an investor at a discounted price in exchange for the death benefit when the insured dies.

When a policyholder assigns their policy as collateral, the lender will typically require a collateral assignment agreement, which outlines the terms of the loan and the lender’s claim to the death benefit. The policyholder will also need to provide proof of insurance, such as a copy of the policy, to the lender. Once the collateral assignment agreement is signed and the lender’s claim to the death benefit is recorded with the insurance company, the loan can be disbursed.

How Collateral Assignments are used in Canada

Many Canadian businesses use collateral assignments of life insurance policies as a way to secure loans for expansion or other business-related expenses. For example, a construction company may use a collateral assignment to secure a loan for the purchase of equipment or the expansion of their business. For individuals, a collateral assignment can be used to secure a mortgage or personal loan. It can also be used to provide collateral for a line of credit or other financial instrument.

How it can be used in the life settlement industry

In the life settlement industry, an insurer or policyholder can sell the policy to an investor at a discounted price in exchange for the death benefit when the insured dies. This can be beneficial for policyholders who no longer need or can afford the policy, but want to receive cash now rather than waiting for the death benefit to be paid out. The investor then becomes the new policyholder and assumes the responsibility of paying the premiums and collecting the death benefit when the insured dies.

Restrictions and considerations

It’s important to note that, depending on the jurisdiction and insurer, collateral assignments may have restrictions, such as requiring the policyholder to retain a certain amount of coverage, and not all policies are eligible for collateral assignments. Additionally, the policyholder would need to get the written consent from the life insurance company before making such a collateral assignment. It is important to check with the insurance company to ensure that the policy is eligible for collateral assignment and that there are no restrictions on the coverage.

The policyholder should also be aware of any restrictions on the coverage, such as minimum death benefit required, and if the policy is eligible for collateral assignment, as some policies may not allow it. Additionally, some insurance companies may require that the policyholder retain a certain amount of coverage after the assignment, to ensure that the policyholder’s beneficiaries will still receive a significant death benefit.

The process of making a Collateral Assignment

The process of making a collateral assignment can vary depending on the insurer and jurisdiction, but generally it involves the following steps:

Contact the life insurance company and request a collateral assignment form:

  • Complete the form and provide the lender’s contact information, including the policy number and the death benefit amount
  • Return the completed form to the life insurance company
  • The company will then review the form and send the lender a certificate of collateral assignment, which confirms the lender’s claim to the death benefit
  • It’s important to note that the process may take several weeks, as the insurance company will need to review the form and ensure that the policyholder meets all the requirements for the assignment.

It’s important to ensure that the collateral assignment is legally binding and that the lender’s claim to the death benefit is recorded with the life insurance company. To do this, the policyholder should keep a copy of the collateral assignment form and the certificate of collateral assignment. The policyholder should also check with the insurance company to make sure that the assignment has been recorded and that the lender’s claim to the death benefit is valid.

While there are potential benefits to using a life insurance policy as collateral, such as the ability to secure a loan, there are also drawbacks to consider. One of the main benefits is that it can be a quick and easy way for businesses and individuals to access the cash they need for expansion or other expenses. Additionally, it can be beneficial for policyholders who no longer need or can afford the policy, but want to receive cash now rather than waiting for the death benefit to be paid out.

One of the main drawbacks is that the policyholder is giving up a portion of the death benefit in exchange for the loan, which can have a significant financial impact on their beneficiaries. Additionally, if the policyholder stops paying the premiums, the policy could be cancelled, and the lender would lose the collateral. If the policyholder dies before repaying the loan, the lender would receive the death benefit and the beneficiaries would not receive the full amount.

Another potential drawback is that the policyholder may not be able to change the beneficiaries or make changes to the policy after the assignment has been made. This means that the policyholder would need to ensure that the policy is in the right form before making the assignment.

It’s important for policyholders to weigh the potential benefits and drawbacks before deciding to make a collateral assignment. They should also ensure that they understand the requirements and restrictions, as well as the process for making the assignment and ensuring that it is legally binding. They should also consider the impact on the death benefit and the potential impact on their beneficiaries.

Additionally, policyholders should be aware that there are alternatives to using a life insurance policy as collateral, such as using other assets like property or stocks as collateral. Policyholders should consider all options and weigh the pros and cons before making a decision on how to secure a loan.

Conclusion to Collateral Assignment of Life Insurance Policies

Collateral assignment of life insurance policies can be a useful tool for businesses and individuals to secure loans, but it’s important to understand the restrictions and requirements before making such an assignment. It’s also important to consider the potential benefits and drawbacks, such as the impact on the death benefit and the risk of policy cancellation. Policyholders should also ensure that the assignment is legally binding and that the lender’s claim to the death benefit is recorded with the life insurance company. By understanding the process, restrictions, and alternatives, policyholders can make an informed decision on whether a collateral assignment is the right choice for them. It’s important to weigh all options and consider the potential impact on beneficiaries before making a decision.

What is the collateral assignment of a life insurance policy?

Collateral assignment of a life insurance policy is a legal agreement in which the policyholder assigns the death benefit of a life insurance policy as collateral for a loan. This means that the lender has a legal claim to the death benefit if the borrower fails to repay the loan.

How does collateral assignment of a life insurance policy work?

Who can use collateral assignment of a life insurance policy.

Collateral assignment of a life insurance policy is commonly used in Canada to secure business loans, as the death benefit can be used as collateral. It can also be used by individuals to secure a mortgage or personal loan. Additionally, it can be used in the life settlement industry, where an insurer or policyholder can sell the policy to an investor at a discounted price in exchange for the death benefit when the insured dies.

Are there any restrictions on collateral assignment of a life insurance policy?

Depending on the jurisdiction and insurer, collateral assignments may have restrictions, such as requiring the policyholder to retain a certain amount of coverage. Additionally, the policyholder would need to get the written consent from the life insurance company before making such a collateral assignment. It is important to check with the insurance company to ensure that the policy is eligible for collateral assignment and that there are no restrictions on the coverage.

Are there any alternatives to collateral assignment of a life insurance policy?

Policyholders should be aware that there are alternatives to using a life insurance policy as collateral, such as using other assets like property or stocks as collateral. Policyholders should consider all options and weigh the pros and cons before making a decision on how to secure a loan.

What are the requirements for creating a collateral assignment of a life insurance policy in Canada?

In order to create a collateral assignment of a life insurance policy in Canada, the policyholder must:

  • Be the owner of the policy
  • Have a valid reason for assigning the policy as collateral
  • Obtain the consent of the lender or creditor
  • Complete the necessary paperwork and submit it to the insurance company

Can a collateral assignment of a life insurance policy be revoked or changed once it has been put in place?

A collateral assignment of a life insurance policy can be revoked or changed if the policyholder, lender, or creditor agree to do so. This will typically require the completion of additional paperwork and the submission of it to the insurance company.

How does the death benefit pay out when a collateral assignment is in place on a life insurance policy?

When a collateral assignment is in place on a life insurance policy, the death benefit will be paid to the lender or creditor named in the assignment in order to pay off the outstanding debt.

Are there any tax implications to consider when using a collateral assignment of a life insurance policy?

The death benefit of a life insurance policy is generally tax-free in Canada. However, there may be tax implications for the policyholder or the lender or creditor depending on the specific circumstances. It’s important to consult a tax professional or financial advisor to understand the tax implications of a collateral assignment of a life insurance policy.

Are there any restrictions on who can be the collateral assignee on a life insurance policy in Canada?

In Canada, there are no restrictions on who can be the collateral assignee on a life insurance policy. The policyholder can assign the policy to anyone, such as a lender, creditor, or financial institution.

What are the steps involved in the process of creating a collateral assignment of a life insurance policy?

The process of creating a collateral assignment of a life insurance policy typically involves the following steps:

  • The policyholder obtains the consent of the lender or creditor
  • The policyholder completes the necessary paperwork and submits it to the insurance company
  • The insurance company reviews and approves

Contact us now to learn more about Collateral Assignment of Life Insurance Policies

Now that you have read our blog on Collateral Assignment of Life Insurance Policies, it is worth looking into your options if you are in need of a loan or if you want to get your life insurance money ahead of time. At Protect Your Wealth, we’ve been providing expert advice for all types of life insurance, and retirement and investing planning, since 2007. As your Life Insurance broker  and  financial planner , we work with you to create a personalized plan for your family or business that covers and meets your needs.

To schedule a consultation about your investment goals, or if you have any questions about insurance in Ontario or Canada, please contact Protect Your Wealth or call us at 1-877-654-6119 to talk to an advisor today! We’re proudly based out of Hamilton , and service clients anywhere in Ontario , British Columbia and Alberta  including areas such as Guelph , Calgary , Coquitlam , and Oshawa . 

Find out more about your life insurance options!

Talk to an advisor today.

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COMMENTS

  1. A Collateral Assignment of Life Insurance

    A collateral assignment of life insurance is a conditional assignment appointing a lender as an assignee of a policy. Essentially, the lender has a claim to some or all of the death benefit...

  2. What Is Collateral Assignment of Life Insurance?

    What is collateral assignment of life insurance? Life insurance can act as collateral for you to secure a loan. With a collateral assignment, the payout from your insurance goes to pay your loan balance first, and your loved ones will get to keep any remaining money.

  3. Collateral Assignment of Life Insurance

    What is collateral assignment of life insurance? A collateral assignment of life insurance is a method of securing a loan by using a life insurance policy as collateral. If you pass...

  4. Collateral Assignment of Life Insurance

    Collateral assignment of life insurance leverages your life insurance as loan collateral. Find out how it works and what's required.

  5. What Is Collateral Assignment of Life Insurance?

    Collateral assignment of life insurance is an arrangement where a policyholder uses the face value of their life insurance policy, which can be a term or permanent life insurance policy, as collateral to secure a loan.

  6. Collateral Assignment of Life Insurance

    What is the collateral assignment of life insurance? Collateral assignment of life insurance involves using your life insurance policy's death benefit as loan collateral. 1 This means that if you can't repay what you owe, the lender has the right to collect the collateral amount from your policy. Peace of mind doesn't have to break the bank

  7. What Is a Collateral Assignment of Life Insurance?

    Collateral assignment enables you to use your as collateral for a loan. This allows you to be approved for a loan if you don't want to put your other assets at risk. Here is how collateral assignment loans work, as well as the pros and cons and alternatives to collateral assignment.

  8. What is a collateral assignment of a life insurance policy?

    Collateral assignment of life insurance lets you use a life insurance policy as an asset to secure a loan. If you die while the policy is in place and still owe money on the loan, the death benefit goes to pay off the remaining debt. Any money remaining goes to your beneficiaries. Why go this route?

  9. What Is A Collateral Assignment Of Life Insurance?

    A collateral assignment is a process by which a person uses their life insurance policy as collateral for a secured loan. In simple terms, collateral assignment is reassigning priorities for who gets paid the death benefit of your life insurance policy. What Is a death benefit?

  10. What Is Collateral Assignment?

    Collateral assignment is the practice of using a life insurance policy as collateral for a loan. Collateral is any asset that your lender can take if you default on the loan. For example, you might apply for a $25,000 loan to start a business. But your lender is unwilling to approve the loan without sufficient collateral.

  11. The Complete Guide to Using Life Insurance as Collateral 2023

    Fill out an "assignment of Life Insurance Policy as Collateral form" provided by your insurer. 4. Submit the form to the insurer, and wait for approval. 5. Once the collateral assignment is approved, notify your bank or lender. 6. Bank or lender will set the loan terms such as the interest rate, payment terms, and other obligations.

  12. What Is Collateral Assignment of Life Insurance?

    A collateral assignment for your life insurance coverage only allows the bank or lender to claim the amount of money still owed on an outstanding loan or debt. If you have a $500,000 life insurance policy and die while still owing $50,000 on a business loan, the lender could claim $50,000 of your death benefit — assuming, of course, that you ...

  13. What Is Collateral Assignment of Life Insurance?

    Key Takeaways Collateral assignment allows you to use a life insurance policy as assurance for a loan. The lender gets first claim on the death benefit if you default. Permanent life insurance policies like whole life and universal life are commonly used since they don't expire. Term life may also be accepted.

  14. How Is A Collateral Assignment Used In A Life Insurance Contract

    A collateral assignment involves assigning a portion of the death benefit from a life insurance policy as collateral for a loan or other financial obligation. Here's a step-by-step breakdown of how a collateral assignment typically works: The policyholder identifies a need for funds and seeks a loan or financing.

  15. What Is the Collateral Assignment of a Life Insurance Policy?

    A collateral assignment is a term used to describe the contractually agreed status of a company or other organization as the beneficiary for a life insurance policy. Exploring The Basic Contract

  16. Life Insurance Collateral Assignment [Pros and Cons]

    A collateral assignment of life insurance is a conditional assignment that appoints a lender as an assignee of the policy. Similar to using other types of collateral for a loan - such as a property or a vehicle - if the loan is not repaid, the lender has a claim to some or all of the life insurance policy's death benefit.

  17. PDF Security Interests: Life Insurance Policies

    It includes a form of assignment of life insurance policy as collateral. Lenders may take a life insurance policy as collateral for a loan.

  18. How does Collateral Assignment of Life Insurance Work?

    Collateral assignment of life insurance is a limited transfer; in other words, the bank only gets the money on the policy if you default on the loan. Once the loan is paid off, the bank sends the insurance company a release form. This cancels the assignment and restores the life insurance back to the owner. If you die or default with your life ...

  19. Using Life Insurance As Loan Collateral

    Collateral assignment of life insurance conditionally appoints your lender (the bank) as the primary beneficiary to the death benefit. ... Lenders also like life insurance policies as collateral because there's a certainty. They know the policy's cash surrender value and the death benefit's value. In contrast, if you collateralize your ...

  20. What is a Collateral Assignment of a Life Insurance Policy?

    Collateral Assignment. Collateral Assignment of a life insurance policy is usually conditional. Term policies secure loans in case of death and are actually required for various types of bank loans. When lenders are talking about collateral, they are referencing a cash value life insurance policy - which is a whole life or a universal life ...

  21. Can policies be used for collateral assignment?

    A collateral assignment of life insurance is a contract that allows the death benefit of a policy to be used as collateral, typically in the context of a bank loan. The collateral is assigned to ensure that the lender recovers the debts that are owed. In the event of the insured person's death, the lender who has the insurance policy assigned ...

  22. Collateral Assignment of Life Insurance

    Life Insurance Policy Options for Collateral Assignment. Using life insurance for collateral assignment when applying for loans is a common practice that almost every life insurance company and lender is equipped to handle. Examples of when life insurance can be collaterally assigned include: Personal loans; Business loans; SBA loans

  23. Collateral Assignment of Life Insurance Policies in Canada [2024

    Collateral assignment of life insurance policies is a legal agreement in which the policyholder assigns the death benefit of a life insurance policy as collateral for a loan. This type of assignment is often used as a way for businesses to borrow money, as the death benefit can be used as a source of collateral.