When you look at life insurance, you’ll hear two terms: the face amount and death benefit. Many people mistake them for the same thing, but they are two different terms.
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Understanding the face amount vs. death benefit will help you choose the right policy and prepare your loved ones financially when you die.
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What is Face Amount?
The face amount of life insurance is the amount stated on your life insurance application. For example, if you buy a $100,000 life insurance policy, that is the face value. Usually, it’s also the death benefit amount, but sometimes, it differs.
What is the Death Benefit?
The death benefit amount is the amount your beneficiaries receive when you die. It may be the same as the face amount, or it may differ, depending on your policy. If it’s a whole-life policy, for example, and you used some of the policy’s cash value, it will decrease the death benefit your loved ones receive.
How Life Insurance Face Amount and Death Benefits are Calculated
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The face amount of a policy is the amount you request when you apply for life insurance. If you decide, for example, to leave your loved ones with $200,000, you apply for life insurance with a $200,000 face value.
If your policy has the following features, it could decrease the death benefit:
Accelerated death benefit – Some policies offer the option to ‘accelerate’ your death benefit if you’re diagnosed with a chronic or terminal illness. The exact terms vary by policy, but they all decrease your death benefit.
Loans or withdrawals – If your policy allows a loan or withdrawal of any portion of the cash value and you don’t pay it back, they’ll deduct it from the policy’s death benefit.
Graded death benefits – Policies with a waiting period may provide a small percentage of only the policy’s face value as the death benefit if you die during the waiting period.
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Which is More Important?
The death benefit is the number to focus on when planning your estate. You could take out a $300,000 life insurance policy, for example. Still, if you borrow money from the cash value and then use an accelerated death benefit, your beneficiaries only get what’s left, which may be much less than the face value.
The death benefit is the money your loved ones receive, which you should focus on when planning your estate and ensuring your loved ones have enough money to close your estate.
Don’t forget, though; you should consider the tax consequences too.
What are the Tax Consequences?
Death benefits are not taxable IF your beneficiaries receive them in one lump sum. Even if you only paid a portion of the premiums and your employer paid the rest, the death benefit isn’t taxed.
If your beneficiaries receive the death benefit in monthly payments versus one lump sum, they will only owe taxes on the interest earned on the death benefit. They won’t pay taxes on the principal amount but just the interest the balance makes before paying it to you.
What Happens if you Die or Cancel the Policy?
Life insurance doesn’t go into effect until you die. Once you die, your beneficiaries file a claim with the insurance company. The insurance company then pays out the death benefit or the money left from the face value after any deductions, as discussed above.
If you cancel the policy, your beneficiaries don’t receive any money. If you have a permanent policy with a cash value, you may receive the cash balance, but it terminates your policy’s death benefit. There’s a difference between the accumulation value vs. cash surrender value because insurance companies often charge a surrender fee.
What if There’s Cash Value?
If you have a permanent life insurance policy or a policy with a cash surrender value, you may receive some cash if/when you cancel the policy.
Don’t confuse the face amount vs. cash value. The face amount is the insurance you contract when you buy the policy. The cash value is the amount the policy is worth (in cash) if you surrender it. The guaranteed cash value vs. net cash value differs because the net cash value includes any fees the insurance company charges.
Some policies have a cash value because the policy earned cash and interest throughout your premium payments. Other policies have a cash surrender value based on the amount you paid into the policy until that point. If you cancel the policy, you may receive some of the money back.
What is the face amount of life insurance?
The face amount of life insurance is the amount on the contract when you buy the policy. It’s not the same as the death benefit.
How much is a death benefit of a life insurance policy?
The death benefit is the policy’s face value minus any advances you’ve received or benefits paid out for other riders on your policy. It also excludes any cash you withdrew or borrowed from the policy.
Does cash value add to death benefit?
Cash value is separate from the death benefit. It’s a savings account that accumulates interest or increases in value. Suppose you don’t use up the cash value before you die. In that case, the insurance company deducts the cash value from the death benefit, paying your beneficiaries the total death benefit (with the cash value included).
What happens to the cash value of life insurance at death?
If you don’t use the cash value before you die, the insurance company absorbs it, decreasing the amount they pay out of pocket for your death benefit.
What happens when the cash value of a life insurance policy equals the face value?
If a policy’s cash value is equal to the face value, your beneficiaries receive the full death benefit.
What happens when a policy is surrendered for cash value?
If you surrender a life insurance policy, you surrender it for its cash value. This is the amount you receive in hand when you cancel the policy.
What’s the difference between cash surrender value vs. cash value?
The cash surrender value is the difference between the cash value and any charges the insurance company charges for surrendering the policy.
Look at the big picture when buying life insurance. The face value isn’t necessarily how much your loved ones will receive. Use the policy throughout your life by withdrawing from the cash value or activating a rider that accelerates your death benefit. Your loved ones will receive a lesser death benefit than the face value.