Loan against Life Insurance Policy - How to Get?

As you reach the middle stages of your life, the financial obligations arising out of family and housing needs tend to increase. You might want to upgrade the quality of living and education of your children as per the latest trends. Buying a new car, moving to a new house or sending your children to a better school will take away a significant portion of your income. In case you do not have sufficient savings, you will have to search for additional means of securing that income. One option is that of taking a loan against your life insurance policy.

Many insurance companies offer life insurance policies which comes with the feature of availing loan against the policy. This feature is ideal for a policyholder in case of midlife crisis. When you're facing a cash crunch, it is advisable to avoid an unsecured personal loan and go with the safer option of taking a loan against your life insurance policy.

Such a life insurance policy not only provides cover but also money in the form of a loan. The loan taken against a policy comes with a lower rate of interest in comparison to a personal or home loan.

Before you decide to take a loan against your life insurance policy, you need to look into the factors mentioned below.

Type of Policy - One must note that not all policies come with the facility to take a loan. Life insurance policies such a Unit Linked Insurance Plans, endowment plans, for which premiums have been paid for at least 3 years are eligible for a loan. Term insurance policies are not eligible for a loan as they lack a surrender value.

CIBIL Score - Banks do check the CIBIL score of a person for disbursing loan. This option is suitable for borrowers with a low CIBIL score.

Loan Interest Rate - Loan against insurance is a suitable option against an unsecured personal loan. The interest rates on loan against insurance is majorly lower than 10%-12%.

Documentation - Since the borrower is already a customer, there is minimum documentation required and the loan amount is disbursed instantly.

Loan Amount - The loan amount depends on the insurance policy, the number of years premiums is paid and the remaining tenure of the policy. A standard policy can provide a loan amount of up to ₹25 lakhs. With respect to a ULIP scheme, if more than 70% of the funds are invested in equity, you can get a loan for up to 30% of the corpus. Traditional insurance policies allow upto 80%-90% of the surrender value as loan amount.

Tax Benefits - The Interest on loan against insurance is allowed as a deduction from income chargeable under the head income from house property provided the amount is being utilised for construct, re-construction or repairing a property.

Repayment Options - If the policyholder fails to repay the loan amount, the life insurance policy will lapse. You also have the option to pre-pay or foreclose the loan if you have the funds to do so. It is advisable to pay the loan amount as failure to do so will increase the outstanding amount. In case of death of the policyholder, the due amount and interest rate will be deducted from the death benefit payable. The policy is normally terminated if the outstanding premium and the interest amount is equal to the surrender value. The process for repayment is similar to a normal loan, you will be required to pay the loan and interest amount in equated monthly installments/EMIs.

Premiums - Even after taking a loan against the policy, you are required to pay premiums. If you do not pay your premium on time, the insurer will most likely terminate the life insurance policy.

Surrender Value - As mentioned before, term plans do not provide loan facility as they do not come with a surrender value. A surrender value is defined as the amount payable to a life insurance policyholder if they decide to exit their on-going life insurance policy before maturity. A regular premium paying life insurance policy will reach its surrender value after the premiums have been paid for three consecutive years. Even if your life insurance policy is pre-approved for a loan, you can only avail this benefit once your policy has accumulated a surrender value.

Charges - There is a nominal fee charged in the form of processing fee.

Deed of Assignment - This document states that the life insurance policy has to be assigned in favour of the lending institution/insurance company against the loan. The Deed of Assignment needs to be executed by policyholder in a prescribed format. The assignment details are mentioned on the original insurance policy document.

How do I apply for a loan against insurance?

The application process for taking a loan against insurance depends on the type of life insurance policy and the insurance provider. You will have to get detailed information from the insurance company with respect to their terms and conditions for getting a loan against insurance.

The documents required for applying for a loan against insurance are: The Loan Application Form, Original Insurance Policy Document, Latest Premium Payment Receipt, Deed of Assignment (which states that the life insurance policy has been assigned to the insurer) and a cancelled cheque.

Disadvantages of taking a loan against your Life Insurance Policy

Although taking a loan against your life insurance policy has many advantages such as low interest rate, easy and instant approval, etc. It is advisable to keep this as a last option. The primary purpose of a life insurance policy is to provide life cover and financial protection to you and your family. In case of your unfortunate demise, the death benefit will be payable to your family. This, in return, it will help your family meet their financial obligations, clear off any debts and move ahead towards the future.

But if you take a loan against your life insurance policy and something untoward happens to you before you clear the loan repayment, then the life insurance provider will deduct the outstanding amount along with interest from the death benefit payable to your family. This is the last thing that you would want your family to go through.