What does cash value mean on a life insurance policy?

Cash value is a phrase that sounds bigger than it is. It means an amount of money that builds up inside a life insurance policy. It builds over the years, while the insured person is still alive.

Here is the clearest way to understand it. A policy like that carries two different amounts at the same time. One is the payout, the amount the company pays the named person after a death. The other is the cash value, an amount the owner can reach during life. Two numbers, and they answer two different questions.

Picture a woman who has paid on a whole life policy for many years. She calls the company and asks two questions. What would you pay my family today? What is my cash value today? She gets two different answers, and both of them are true. Neither answer is a mistake.

Where does it come from? Part of each payment covers the cost of the insurance itself. Part of it builds the cash value. In the early years the cash value is usually small. Sometimes it is nothing at all, because the early payments are doing other work. It builds slowly. That is how it is meant to work.

Which policies have it? Whole life policies build cash value. Term policies usually do not, because a term policy is coverage and nothing else. Your own policy's papers say which kind it is. They also hold a table showing how the cash value is figured, year by year. The company will send that table if you ask.

Now the part that gets misunderstood. Cash value is not a bank account. You cannot write a check against it. The ways to use it are spelled out in the policy, not chosen freely. The owner can generally borrow against it, which is a real loan with real interest. There is a plain answer here on borrowing against a life insurance policy.

Here is the question people are really asking. In most whole life policies, the company pays the payout when the insured person dies. The cash value is not paid on top of it. The family gets the payout, and that is all. It surprises people. Ask your own company plainly, and read what your policy's papers say about how the two relate.

An owner can also end the policy and take what it holds. That ends the coverage the family was counting on, and it can raise a tax question. The question is whether the money you take out counts as income in the year you take it. A tax professional can answer that for your policy, and it is better asked before than after.

If you have a policy, the company sends a statement every year. It carries both numbers: what the policy would pay, and the cash value today. If yours is sitting unopened in a drawer, that is a good place to start. Anything it does not answer, the company can, and a licensed professional can read the policy with you.