Answers ยท Infinite Banking
Should I replace my old whole life policy with a new one?
Usually not, unless the old policy is failing and the numbers prove the new one fixes it. Replacing restarts the surrender charges, the two year contestability clock and the agent's first year commission, and you get priced at your current age and health. Get an in force illustration on the old policy first, then compare net cash surrender values side by side.
The person pitching the new policy gets paid again, and you start over.
On a new whole life policy, the agent's commission is front loaded. A large share of the first year's premium goes to the sale. On your old policy, that money was spent years ago and the policy has had time to grow past it. Replace it and you pay that cost a second time.
That doesn't make every replacement a bad idea. It means the new policy has to beat the old one by more than the cost of starting over, and the person showing you the comparison is paid when you say yes.
Quick note on who is talking. opfinances.com is a licensed insurance agency, and we earn commissions on policies too. We are not a financial advisor, not a fiduciary, and not a tax professional. This is general education, not advice on your policy.
A replacement resets three clocks that were already running in your favor.
The first is surrender charges. A new policy usually carries a surrender schedule that lasts ten years or more, so if you need the cash early you get back less than the cash value shown. Your old policy is likely past its own schedule.
The second is contestability. For the first two years, the insurer can review your application and contest a claim if something was left off. The suicide exclusion restarts as well. On a policy you've held for decades, both windows closed long ago.
The third is price. The new policy is priced at your age today and your health today. If your health has changed since you first bought, the new offer may come back rated higher or declined.
Old policies often carry guarantees you can't buy anymore.
Many older whole life policies were built on a higher guaranteed interest assumption than a lot of policies sold today. That guaranteed floor is in the contract and doesn't move when dividends do, though like any guarantee it depends on the claims paying ability of the insurer.
A new illustration can still look better, because its non guaranteed column assumes today's dividend scale holds forever. Compare the guaranteed column on the new policy against the guaranteed column on the old one. That tells you what you'd actually be giving up.
How you move the money decides whether you owe tax.
If you cash out the old policy and buy a new one, any cash value above what you paid in premiums is taxed as ordinary income. A 1035 exchange moves the cash value straight into the new policy without triggering that tax, and your basis carries over.
Loans complicate it. If the old policy has a loan that gets wiped out in the exchange, that payoff can be treated as money you received and taxed up to your gain.
Here is an illustrative example. You're 62 and bought a policy at 40. Cash value is 180,000, you've paid 150,000 in premiums, and there's a 40,000 loan. Surrender it and the 30,000 gain is taxable. Exchange it with the loan cleared in the process, and that 40,000 payoff could still create a tax bill on the 30,000 gain. Then the new policy starts a fresh surrender schedule at 62. Ask a tax professional to run your real numbers before you sign.
Sometimes replacing really is the right move.
Replacement can make sense when an in force illustration shows the old policy running out of money in your lifetime and no fix on the existing contract will hold it. It can also make sense when your coverage need has changed a lot, or when the old policy is weighed down by riders and costs you no longer need.
Check the cheaper fixes first. Paying down the loan, changing how dividends are used, switching to reduced paid up insurance, or adding term coverage next to the old policy can all solve the problem without starting over.
California gives you paperwork and a free look, so use both.
When a new policy replaces an existing one, the agent has to give you a written notice regarding replacement, and you sign it. Your current insurer is told about the replacement, which gives it a chance to contact you. The new policy also comes with a free look period, a window to cancel for a refund. Check its length on the policy itself.
One rule overrides all the others. Never cancel the old policy until the new one is approved, issued and in force. If the new application gets declined after you've let the old one go, you may not be able to get coverage back at any price.
Before you decide
Questions worth asking.
Can I see an in force illustration on my current policy before we look at anything new?
What is the net cash surrender value on each policy in years 1, 5 and 10, guaranteed column only?
How long is the surrender charge schedule on the new policy, and what would I get back if I left in year three?
How much do you earn if I replace my policy, compared to what you earn if I keep it?
Will this be a 1035 exchange, and what happens to my outstanding loan in the move?
What could we change on my existing policy to fix the problem without replacing it?
Related
What is a 1035 exchange for life insurance?
A 1035 exchange moves the cash value of one life insurance policy directly into another life insurance policy or an annuity without taxing the gain at the time of the move. Your cost basis carries over. An outstanding loan that gets paid off in the exchange can still create a taxable amount.
Does replacing a life insurance policy restart the contestability period?
Yes. A new policy starts a new contestability period, usually two years, during which the insurer can review the application and contest a claim over a misstatement. The suicide exclusion restarts too. On a policy held for many years, both of those windows have already closed.
Is it ever a good idea to replace a whole life policy?
It can be, when an in force illustration shows the old policy lapsing in your lifetime and the existing contract can't be fixed, or when your coverage need has changed a lot. The new policy has to beat the old one after new surrender charges, new commissions and pricing at your current age and health.
Should I cancel my old life insurance before the new policy starts?
No. Keep the old policy in force until the new one is approved, issued and active. If the new application is declined or rated higher than expected after the old policy is gone, you could be left without coverage.
Where this fits.
This question sits inside a bigger one. Infinite Banking walks through the whole decision rather than this one piece of it.
On Point Finances is a licensed insurance agency, not a tax, legal, or investment adviser. This page is general education, not a recommendation, and reading it does not create a client relationship.