Life insurance policies come in many different forms and are generally classified as permanent life insurance policies or term life policies. Permanent policies, such as whole life or endowment policies always pay out the policy benefit, no matter what, at the end of the policy term. Whole life policies pay out either at death or at maturity, for example, at 100 years of age. Endowment policies pay out a benefit after a stated number of years, for example, after 10 or 20 years. Term life policies, in contrast, only pay out the policy benefit if the insured dies during the policy term. A life insurance policy can be an asset in bankruptcy that will need to be covered by your applicable exemptions if you want to keep it.
Because permanent policies always pay out a benefit, they are much more expensive and from each premium an amount is set aside to eventually add up to the policy limit that will have to be paid out to the beneficiaries. The amount of money that builds up in a permanent life insurance policy, such as a whole life policy, is referred to as the as “cash value” or “surrender” value. This cash or surrender value acts somewhat like a savings account, in that you can terminate the policy and withdraw the cash value. You can also borrow against it without terminating the policy, much like you can borrow money from a 401K account.
The cash value of your life insurance policy is therefore one of your assets; it is something you own that can be liquidated and has a value. When dealing with a life insurance policy in bankruptcy, the cash value is a type of asset that is protected, up to a certain amount, by your bankruptcy exemptions.
If your cash or surrender value exceeds the amount covered by your bankruptcy exemptions, then the trustee can liquidate the account, pay you the exempt portion, and distribute the remaining amount to your creditors. Always discuss with your bankruptcy lawyer the effect that a bankruptcy filing will have on your life insurance policy with cash value.
If you have extra cash in your checking or savings account that is not covered by your bankruptcy exemptions, you may be able to protect some of the money by placing it into a life insurance policy with cash value, and you may be able to open up a brand-new policy and place money in it and thereby protect the money. Prior to depositing money into a life insurance policy before bankruptcy, always discuss your intentions and plan with a bankruptcy attorney to make sure that you do it correctly.
If you are unsure as to the type of policy that you have, whether it has a cash value and if so how much, contact your insurance company and ask whether your policy has a “surrender” value, meaning an amount of money you would receive if you terminated the policy today.