How to avail loan against your life policy

The lockdown and economic challenges have had a severe impact on the salaries of individuals. With corporates announcing pay cuts, and slashing jobs in some instances, to tide over the impact of the Covid-19 pandemic, many are in need of urgent cash.

While there are many options to avail loans, such as Covid-19 personal loans offered by banks (with interest rates lower than those for regular personal loans) or through your assets such as mutual funds or shares, your life insurance policies too can help ease your liquidity situation.

You can take loans against your life insurance policies, provided such policies come with maturity value. That is, you can take a loan against endowment plans (investment plans) but not against term policies as they don’t offer any return. Normally, the interest rate charged is also lower for loans against insurance as your insurance policy acts as a collateral for the lender.

Here is what you should know.

Basics

Your life policies can come to your rescue when you need money urgently. Once the required documents are submitted, the loan gets credited within one to two working days, or even less time in the case of some insurers, like LIC, which processes the loan immediately.

There are two ways to avail loans from life policies. One is through your insurer directly, and the other through the bank. However, approaching the insurer is the common way to avail such loans.

Insurers such as LIC, Bajaj Allianz Life, ICICI Pru Life, SBI Life and HDFC Life offer loans against their policies. In loans against policies, the surrender value of your policy decides the eligible loan amount, unlike other loans where your income is a deciding criterion. Surrender value is the amount your policy acquires if the premiums are paid continuously, usually, for a minimum period of three years.

Some insurers may take into account your promptness in premium payment while determining the loan amount. Normally, about 80 per cent of the surrender value is offered as loan amount by most players. Also, if your policy has lapsed but acquired a surrender value, then a loan can be availed against such a policy as well. For instance, LIC offers loan up to 90 per cent of surrender value for in-force policies, while for paid-up policies, it is 80 per cent of surrender value. Lapsed policies are those for which premiums have been paid for a certain period of their terms but were discontinued afterwards.

Do keep in mind that a policyholder should continue to pay the premium even if a loan is availed by him/her, to ensure that the benefit of the policy continues. Life insurers offer loans against most of their traditional savings-oriented policies, such as endowment, money-back and whole-life plans, excluding ULIPs. Your policy document will state clearly if a loan can be availed under the policy.

In the case of death of the policyholder, the insurer will reduce the loan amount (including interest) before making the final payment to the nominee. Also, if at any point the policyholder misses to pay the dues and if the outstanding exceeds the total loan availed, then the policy will be terminated. An amount to the extent of the loan will be deducted from the maturity amount, and the balance, if any, shall be paid back to the policyholder. However, before foreclosure of the policy, the insurer will provide an opportunity to the policyholder to repay the full amount within a certain period of time, usually 30 days.

Interest rate and repayment

The interest rates on loans against your life policies are usually cheaper than those for personal loans. The interest rate applicable will be decided by the insurer from time to time. Usually, the rates are reviewed on an annual basis, benchmarked against the G-Sec yield, or as per bank rate fixed by RBI.

For instance, the interest rates for loans taken against policies of Bajaj Allianz Life are benchmarked to the G-Sec yield. The insurer will charge an interest rate equal to the 10-year G-Sec yield plus 2 per cent. Currently, Bajaj Allianz Life charges 9 per cent per annum compounded half yearly. The rate will be reviewed on annual basis. Similarly, for ICICI Pru Life, the interest rate applicable for February 2020 is 7.82 per cent per annum compounded half yearly. For SBI Life, the interest for FY 2020-21 works out to around 7.75 per cent per annum. In the case of Aditya Birla Sun Life, the interest rate declared by the insurer is 2 per cent plus the base rate of SBI.

Interest rates could vary across policies of the same insurer and across insurers. Make sure to check the rates before taking the loan.

The repayment of interest on loan varies with each insurer. For instance, the interest on loan for LIC policies shall be paid on half-yearly basis (interest compounded half-yearly). The first payment of interest is to be made on the next policy anniversary or on the date six months before the next policy anniversary, whichever comes soon after the loan sanctioned date, and every half year thereafter.

However, many insurers offer flexibility to the policyholder in repayment of loan.

Documentation and procedure

The procedure to apply for a loan is usually the same across insurers. Policyholders have to contact the insurer directly to understand the documentation requirements. A form will have to be filled up, PAN card provided as proof, and the policy assigned to the insurer (until the repayment is made). Policyholders may also have to provide additional proof of identification and address proof.