The number of term life insurance policy users in the US covers more than 40 percent of all life insurance policies. 

Term life insurance is a temporary life insurance that follows a specific duration and offers death benefits only. This is a primitive type of individual life insurance policy.

Policyholders do not get any death benefits from this type of life insurance if the term ends for the insurance and they are still alive. 

Collateral is a type of security for loans that can be repaid through term life insurance. 

The lender becomes the primary beneficiary for term life insurance in case of collaterals. 

The loan provider has the option to cash out the policy amount in case the policyholder fails to repay the debt.

We will explore all methods to use term life insurance as collateral in this blog. 

Term life insurance is a type of temporary individual policy with death benefits only. However, there are no cash value benefits in this type of temporary life insurance compared to permanent life insurance. 

Characteristics of term life insurance highlights – 

• Pocket-friendly premiums that can be paid on a monthly, quarterly, or annual basis. 
• Maximum coverage for 30 years. 
• Income tax-free term life insurance death benefits for beneficiaries if the policyholder passes away during the insurance term.
• No cash value components including accumulation, interest, or investment options in term life insurance policies. 
• There are add-on benefits for the term life insurance policy that helps to extend the coverage. 
• It is possible to convert term life insurance policies into permanent policy types depending on the insurance provider company. 

Term life insurance differs from other types of life insurance policies in many ways. Some of these include – 

• Covers a specific timeline compared to whole live coverage in permanent life insurance. 
• Lower premium amounts for term life insurance compared to other types. 
• Missing cash value component in term life insurance compared to permanent life insurance policies. 
• No guarantee of renewal for term life insurance policies unless specified by the company. 

Let us find out the overall term life insurance benefits as a valid collateral option for federal employees. 

Types of Term Life Insurance Plans

Some term life insurance options are – 

1. Level Term Policy – Allows policyholders to get monthly payments throughout the term of the insurance. Moreover, this policy offers fixed death benefits and usually continues for 10-30 years. 
2. Yearly Renewable Term Policy – A type of renewable term life insurance that needs to be renewed every year. The premium amounts also increase as the person ages. 
3. Decreasing Term Policy – This type of life insurance policy usually helps to repay the principal amount for a home loan. However, it is important to note that the death benefit amount decreases every year in this type of policy. 

Collateral is the form of security that loan providers require when handing a loan to an individual. It helps to minimize the risks for the lenders in case the borrower is unable to repay their financial obligations.

Read More: How To Designate Beneficiaries For Your Thrift Savings Plan

The term life insurance return of premium can be used to repay loans for different types of collaterals including – 

1. Residential mortgages – The house is the collateral or security in this type of loan. If the borrower fails to repay mortgages for 120 days, the loan provider can take legal steps to possess the house or property of the borrower. 
2. Home equity loans – A type of collateral in which term life insurance money is used to repay the pending mortgage for a home. 
3. Margin trading – A broker can use the balance in the investor’s brokerage account as collateral for the borrowed money to buy shares. 

Using term life insurance cash-outs as collateral involves a straightforward process –

• Choose the Right Policy – Ensure the term life insurance policy has sufficient coverage that aligns with a loan amount. This type of insurance policy is used as collateral to repay loans. 
• Contact the Insurer – Speak with your insurance provider to understand the necessary steps for collateral assignment.
• Complete Assignment Forms – Fill out the required forms to officially assign the policy as collateral. This typically involves naming the lender as the beneficiary in case of the policyholder’s demise.
• Submit Documentation – Provide the completed forms to your insurer and the lender for their records.
• Receive Confirmation – Ensure you get a confirmation from your insurer that the assignment has been completed.

Using term life insurance as collateral can be beneficial, but it comes with its own set of pros and cons.

Advantages

• Ease of Access – Term life insurance can be a quick way to secure a loan without needing extensive assets.
• Lower Interest Rates – Loans that can be converted into collateral have lower interest rates compared to other types of loans. 
• Financial Safety Net – The insurance payout acts like a financial safety net in covering debts and loans for beneficiaries in case of a policyholder’s death. 

Disadvantages

• Limited to Death Benefit – If the policyholder outlives the term, the insurance becomes outdated, and the lender may not receive anything as death benefits from this type of insurance.
• Potential for Loss – If you fail to repay the loan, the lender can claim the death benefit, leaving your beneficiaries without a payout.
• Complexity – Assigning collateral can add complexity to financial arrangements, requiring careful management.

Read More: Federal Government Employee Retirement Planning in Florida

Before proceeding with term life insurance as collateral, consider the following factors –

• Loan Terms – Understand the loan terms and how the collateral assignment affects them.
• Insurance Policy Details – Review your policy’s terms, including the death benefit and premium payments, to ensure they fit your needs.
• Financial Situation – Assess your overall financial health to determine if using life insurance as collateral is the best option.

Policyholders can use term life insurance as collateral in multiple situations such as – 

• Business Loans – Entrepreneurs often use term life insurance to secure business loans, providing lenders with assurance.
• Personal Loans – Individuals may leverage term life policies for personal loans, helping to cover expenses like home repairs or medical bills.
• Mortgage Applications – Some lenders accept term life insurance as collateral for mortgage loans, offering peace of mind to both parties.

Read More: Tailored Federal Retirement Planning Services in New York

If term life insurance doesn’t suit your needs, consider these alternative collateral options –

1. Real Estate – Properties can be used to secure loans, typically providing a higher value than insurance.
2. Savings Accounts – These can serve as collateral, offering a straightforward approach without the complexities of insurance.
3. Investments – Stocks, bonds, or other investments can be pledged as collateral, depending on their market value.

Term life insurance can be a valuable asset in securing loans, offering benefits like lower interest rates and financial protection. However, it’s essential to weigh the advantages against potential drawbacks and consider your overall financial strategy. 

Our financial advisors for federal employees provide the necessary resources and take actionable steps to convert a term life insurance into collateral for different purposes based on your requirements. 

Are you worrying about leaving behind debts for the family? Never again with our expert strategies. Talk to us now.