What Is Cash Surrender Value? (Canada)

So in whole life we have a guaranteed cash value that is the minimum guaranteed amount with the base contract. So you go and get a policy, it's for $100,000 or 200 or a million dollars, whatever the face value or the original death benefit is. We would refer to that as the base contract.

You're looking around and you're trying to learn more about this thing called cash surrender value. Cash surrender value is a very interesting term and it can often be a little bit confusing because there's several different formats of cash value that can be available inside of a permanent insurance contract. So we're going to talk about a couple of them and then I'm going to summarize. Where does surrender value really show up in that equation? Okay, so first and foremost, first thing to identify is that there's two primary types of permanent life insurance policies available. Number one, there's whole life insurance. And within whole life there's a whole bunch of different kinds. You can get, I mean you can get a non participating product. That's the one that most people think of when they think about kind of a slow, very boring, basic type of insurance. And then you can get a participating dividend paying whole life insurance. Now that one has a lot of more cash values available to it. It earns dividends, you participate in the profits of the insurance company. There's a few more bells and whistles going on there and it's definitely been a staple of the financial products available in Canada going back all the way to 18, I think it's 1847, so pretty long time. Now the other product that we often are aware of is one called universal life insurance. Okay, so this isn't about which one's good or bad, it's just about understanding the cash surrender value. So both of these products, because they're a permanent product, will have a cash surrender value that builds up in them. Now the surrender part, the key word in cash surrender value is the word surrender. What it means is what's the amount of money that as a policy owner you're going to get back when you say, you know what, I don't want this insurance contract anymore, I've had enough, I don't need this thing for whatever reason or I've just decided I don't want it, I want to get rid of it. And you're basically saying, insurance company, take this, you know, tax free death benefit that I'm accumulating here and whatever, you know, savings component I have in cash and I'm just going to give it Back to you, you go ahead and have the insurance policy give me the surrender value of whatever my cash is. So whatever the net value is. And I say net because net is really important. So cash value, if you were to add up any if so in a universal life contract, you may have kind of an investment component or it's referred to as a side fund. Often it has a variety of different names that people will use for it. And so you'll have accumulated amount of savings or invested dollars inside of a cash account there. If you have any outstanding policy loans. So you'd have to subtract the policy loans. Policy loans have to be paid back to the insurance company first. Okay. Or if you have a collateral loan with a third party bank or a lender, that collateral loan would also need to be repaid. The other thing to be really aware of, very mindful of in a universal life contract is that typically they have surrender charges. Okay? So you will not find surrender charges in a whole life contract, but you will inside of a universal life contract. Now that doesn't mean that they all have it. Most of the ones I've seen have been the case and typically those surrender charges last for about the first 10 years. Always double check your contracts. When you get your policy statement, you know, take a look at the statement. It'll identify in the little cash value section, usually on the second or third page, you know, most illustrations or statements that you get, it'll identify if there's a surrender charge on there. So what those surrender charges are generally speaking in a universal life contract, it's the insurance company's way of calculating out some of the risk of the policy lapsing or falling off the books and making sure that you know from an actuarial standpoint that the policy can be sound because they're, they're basically shifting the risk on those universities versa life contracts back onto the policy owner. It's kind of the opposite with the whole life contracts. The whole life contracts, the insurance company is taking on the risk, all components of it. So there's no surrender charges. Okay. So if you know, the very first year, for whatever reason, if you had cash value on a policy and you decided to surrender it, you would get back whatever the total cash value is at that time. Net, net. Another thing to be aware of in surrender value, this is really important. This is one of the reasons where I think it becomes more confusing than some of the other values that we might talk about is that sometimes when you pay premium, you either pay monthly or annually. Those are the Two primary options. There are some companies that will take like a quarterly payment, etc. But for the most part, you know, people are paying monthly or annually. You know, and just as a side note, in general terms, usually you get a pretty good discount if you pay annually. So just keep that in mind. Now when you pay annually, as an example, let's, for the sake of the sample, let's just say I put $10,000 into my insurance contract. That's the premium and any excess premium I wanted to pay or was able to pay into the contract. So I put 10,000 in and then five days later I decide for whatever reason, I don't want to have this contract anymore. Well, some of that 10,000 is going to go directly to cost of insurance charges, the actuarial cost for the insurance company to keep their business in operation, pay for staff, pay for their building, make sure they can guarantee these death claims and that sort of thing. So there's some hard costs that have to come out there automatically. Some other remainder of that premium, you know, there's different terms for it. We'll just call it like a premium reserve. There's an excess amount of money that would be going into the contract over the rest of the year. So what happens, at least in a whole life contract is that the insurance company will basically hold a little bit of that and they'll slowly apply little kind of components or pieces of that remaining premium into the contract over the rest of the year. And so if you cancel the policy for whatever reason, you surrender the policy, there might be a little bit of that excess premium left over that you'll also get back. So that goes into the surrender value number. All right, again, really important, it's the net number. So if you've taken policy loans or you have a third party collateral loan with a, with a lending institution, those things must be paid back first. You'll only get the net differential and any potential interest that's due to the life company or the third party lender, those things need to get paid back as well. Okay, so now that we've talked about the surrender value component, it's important to understand where we get some of these confusions. Some of the distinctions come into play and I'm just going to reference a whole life contract specifically because I think it's just simpler type of a contract to understand. So in whole life we have a guaranteed cash value that is the minimum guaranteed amount with the base contract. So you go and get a policy, it's for $100,000 or 200 or a million dollars, whatever the, the face value or the original death benefit is, we would refer to that as the base contract. Okay, I'm using a lot of air quotes, sorry about that. And so that base contract will have a guaranteed cash value because the cash value, which is an asset to the policy owner, it's an asset on the books. It has to grow to equal the total death benefit by age 100. Okay, no if, ands or buts, that's a requirement. The life company is basically on the hook. They're forced by contract to do that for you. So you're going to have a constant steady incline increase of guaranteed cash values. Then there's another type of cash value called paid up cash value. So depending on what dividend option, if you have a participating dividend paying policy and you earn an annual dividend distribution from the insurance company from their profits, you get to say, okay, what do I want to do with that? Do I want to receive that in cash? There's an option there. It could be a taxable event. I don't necessarily recommend it, but that's a choice that the policy owner gets to make. And there's a couple of other options that are in there. The one that's most commonly used, the one that we would typically recommend because generally term seems to be the most efficient, is to take that dividend and then reapply it into the policy and it buys another layer, another fully paid for chunk of death benefit that you own and it creates and forces an extra compound effect to start happening in the life of the policy and it enhances your ability to earn dividends in the future. So that if we, if you do that, you take that dividend and you apply it back into the policy and it buys another chunk of what's called a paid up insurance paid up death benefit. Well, that new chunk will also come with a cash value and the ability to earn your dividends. Now that now creates a cash value that we would refer to as the paid up cash value or the dividend cash value. So you may have a guaranteed cash value, a dividend cash value, and then a paid up cash value. The paid up cash value can be if you, as the policy owner are voluntarily, voluntarily deciding that, hey, I want to augment this contract, I have the ability to, to put, you know, a certain amount of extra capital in over the, you know, legislated maximums of the, of the contract. And I'm going to, I'm going to apply that in, I'm going to add more savings into this Thing more deposits into the premium which will buy more death benefit, increase more cash, increase my ability to earn more dividends, basically create a, basically create a compound machine is essentially what happens. But so the cash value, there's a paid up cash value for the, those excess amounts, a dividend cash value for annually when you get your dividend and those two things kind of go together and then there's the guaranteed minimum base cash value. So you stack all those three things together and you would add them up and you get what's called the total cash value. So total cash value and total cash surrender value are not necessarily the same thing. If you take all of the cash values and you add them all up, that gives you the asset value. All right? Now if you have a policy loan or a collateral loan with a third party lender, you, let's just say I have $100,000 in total cash value and I have $10,000 in an outstanding loan. Well then the surrender value is only 90,000. Okay? So surrender value is only what you would get if you surrender the policy. Total cash value is actually the asset value. It's the true buildup of all the assets that you've created inside of the contract. Okay, So I hope that's helpful. A little bit of a distinction there. So we have three primary types of cash value in a whole life contract. We have the, the guaranteed minimum cash value that goes to the base contract. We have the paid up cash values that has to do with, primarily when we're putting extra money into the program. We're increasing our deposits up to the legislative amounts that we're allowed to, which, which creates a ripple effect and then the dividend cash value. So add all three of those together, boom, you've got total cash value. That's your asset. If you're doing your balance sheet, you're filling out your assets and liabilities, you put that bad boy right there on your asset column. Okay? Then if you have any outstanding loans or indebtedness on the policy, or if you have a little bit of extra premium that's sitting in reserve, those numbers then get factored in as well for surrender value. In the event you decided to surrender and give up that, that really awesome contract. Okay, so another key thing to be aware of, just as a little tidbit for anybody, if for some reason you're considering surrendering a contract, really, really, really be careful and be mindful of that. Please make sure you speak to a knowledgeable insurance advisor because number one, you could have some other blowback issues that you're considering there, number one, if someone is no longer insurable, you no longer have the ability to get insurance on that individual if we get rid of that contract. So that could be a real problem right there. You could, if you've built up a lot of values in the contract, if it's an older contract, it's been on the books for a long time, you may actually be creating a taxable event. Okay? So it's important to understand how that works if you surrender and close out a contract. Because if everything stays inside of the insurance contract, there's some pretty good tax advantages. In Canada, everything stays tax exempt when it's inside of that contract. So really, really be mindful of that. We've seen people have, you know, issues there in the past because for whatever reason, you know, perhaps they lost touch with the advisor or something and they just weren't able to ask good questions. They didn't really think to communicate with the insurance company. And the insurance company, you know, they're not necessarily there to coach you on how to use the contract. They're simply going to give you the details of what's available on the contract and the definitions. Okay? So that's a real important issue. The other thing I would just make sure you're aware of, if you're thinking about, you know, the potential of canceling a policy. So insurability, potential tax issues, and the other thing is this, what are your other options? Okay, a lot of people don't realize that there are other options. So very, very important consider what those other options are. So one of those options is what's referred to as a reduced paid up. What that means is that you can say, hey, I've got a little bit of cash in here. What would happen if I just, if I said insurance company, don't send me the money back, just give me the total maximum amount of fully paid for life insurance coverage for the rest of the life on this person and I'll just take that and it'll be what it is. So that's one option. There's another option which is obviously if you have values, you could consider a policy loan if you have a short term cash need or something. So that's another consideration. Or you can actually reduce the contract. So a lot of people don't realize in Canada, you know, let's say you have a contract that's this big. Well, if there's a certain premium requirement or perhaps due to Covid or some other reason, you've, you know, you've lost a job or an income situation and you just can't maybe put the same amount of money into the contract you were and you just want to reduce it, maybe you want to cut it in half. Well, there are options to reduce the size of the policy as well. But understand that is a one time deal. You can bring it down, but you can never take it back up again. Okay, you're making a permanent official change to the contract and that reduces everything proportionally. Important to be aware if you started a contract that was larger years ago and then you decide to reduce it to a smaller amount in the future, well, in general terms you're going to have a better policy here than had you started with a small one to begin with because it's kind of picked up a little bit of that excess pullover from having a larger contract to begin with. So again, there are options for you if for whatever reason you're considering surrender a contract. Please, please, please take a few extra minutes. It's very important. You know we're talking about death benefits and there's a lot of work to sometimes get an insurance contract established. So just make sure you communicate with a licensed individual who's got experience in dealing with cash value contracts and can coach you a little bit on what your options are. That way at least you're making a good, valid decision. Another really key point I'm going to for anyone considering a surrender for any reason is if it's a participating contract, a dividend paying participating contract. I'm not sure why anyone would want to cancel one of those, but let's just assume that somebody does. If you are, if the insurance company has already declared a dividend for the year, then you're entitled at that point. I don't like the word entitled, but essentially you're able to get a dividend in that year. You will only receive the dividend, however, on the anniversary date. So if you're not waiting until at least the anniversary date of the contract to receive that dividend, you're actually going to lose out on some potential. So you could even look at changing the dividend election instead of having it say do paid up additions. You could send in a separate form and say, hey, take that dividend and send it to me in a check in cash. And then after that's done, then you could consider surrendering the contract at that point. But you're, you're not walking away from extra value that you technically would have. So just be very aware of that. I mean, that's a nice little extra trick that can mean, certainly depending on the size of the policy, I mean that could mean couple hundred bucks, it could mean several thousand dollars, maybe even tens of thousands of dollars depending on the size of the policy. I mean, if it's a very big corporate policy, it could be an awful lot of capital that you're walking away from by not understanding that one specific trick. Okay, hope you found that helpful. A lot of information there about cash surrender value, about the different types of cash values that add up together to make total cash value, and some little tricks around in the event that someone's considering cancellation of a policy. Remember, if you've got a UL contract, very important, double check the statement, make sure there's no surrender charges on there. There are ways to consider if you needed to liberate capital from a policy like that for some other reason. You can do before you go what I would refer to as the nuclear option and just kind of blowing the contract up. But again, always speak with a coach. Speak with someone who's knowledgeable about cash value contracts. They can give you some, ask you some good questions, get really clear on what is the reason that you're canceling that, and, and is that the best option for you or is there some other consideration to look at to either help save the contract, reduce the contract, make sure that we have proper coverage on that individual, et cetera? Okay, hope you found that helpful. Have an awesome day.