What's the Difference Between Cash and Surrender Value?

You'll come across insurance industry terminology that seem similar but signify completely different things if you read the contract for your annuity or permanent life insurance policy. Face value, cash value, cash surrender value, surrender cost, and account value are among the phrases on this list. Although the distinctions between these concepts are sometimes minor, they can make a significant difference if you need to withdraw funds from your policy.

The face value of the policy, which is the death benefit, is not the same as the cash value or surrender value. Outstanding debts against the cash value of the policy, on the other hand, can diminish the overall death benefit.

Image: Pixabay

TAKEAWAYS IMPORTANT

• The amount of money that accumulates inside a cash-value–generating annuity or permanent life insurance policy is referred to as cash value, or account value.
• The expenses connected with early termination are usually the difference between your policy's cash value and surrender value.
• The surrender fees will no longer be in force after a specific amount of time, and your cash value and surrender value will be the same.

Cash value

The amount of money that accumulates inside a cash-value–generating annuity or permanent life insurance policy is referred to as cash value, or account value. It's the money in your bank account. Your insurance or annuity provider invests some of the money you pay in premiums—for example, in a bond portfolio—and then credits your policy based on how well those investments perform.

Although marketing a life insurance policy as an investment vehicle is legally unlawful in the United States, many policyholders use their whole life, universal life, or variable universal life insurance (VUL) policies to generate tax-advantaged retirement assets. Term life insurance does not accumulate cash value.

Value of Surrender

When a policyholder attempts to access the cash value of their insurance, the surrender value is the amount of money they will receive. The surrender cash value or, in the case of annuities, the annuity surrender value are two other names for the same thing. Early withdrawal of cash from a policy is frequently subject to a penalty.

The expenses connected with early termination are usually the difference between your policy's cash value and surrender value. Because your insurance company does not want you to stop paying premiums or request an early withdrawal of money, it will typically include various penalties and costs in your policy to discourage you from canceling it.

Surrender fees lower the value of your surrender. These costs, as well as the surrender value of a policy, might change over time. Surrender costs will no longer be applicable when a set amount of time has passed. Your cash value and surrender value will be the same at this time.

The process for getting your cash surrender value varies according on the policy you have, however many of them need you to cancel the insurance first. Even if this is the case, a borrowing against the cash value of your insurance may be available.

Surrender Fees and the SECURE Act

People who had annuities in an employer-sponsored retirement account—such as a 401(k) plan—were at risk of owing surrender penalties and fees if they changed employment or their employer stopped selling annuities as a retirement option prior to the SECURE Act of 2019. The SECURE Act, on the other hand, makes annuity plans offered through a 401(k) portable.3 This means that members can move their annuity plan to another employer-sponsored plan or an IRA without having to liquidate it or pay surrender costs.

Particular Points to Consider

Many people opt for whole life insurance plans with a cash value feature. A portion of each monthly premium is deposited into a cash account within the policy using this feature. Many policyholders utilize the cash account as a sort of retirement account because their money is invested in approved funds and grows tax-free. In order to establish the tax-free cash account, policyholders will frequently pay more than the needed monthly premium.

The Technical and Miscellaneous Revenue Act (TAMRA) of 1988 established monetary restrictions in these accounts. The seven-year pay test analyzes whether premiums paid in the first seven years of a policy's life total more than what was required to be put into the account. 4 If this amount is higher, the account is considered a modified endowment contract (MEC), and gains from the cash account are taxed as normal income.

Surrender Value vs. Cash Value Example

Assume you buy a $100,000 whole life insurance policy with a $200,000 death payout. After ten years of steady, on-time payments, the policy has a cash value of $10,000. You check your insurance policy and discover that the surrender price after ten years is 35 percent.

If you were to cancel your coverage and withdraw your cash value after ten years, the insurance provider would deduct $3,500 from your cash value, leaving you with a surrender value of $6,500.