Single premium life (SPL) insurance is a form of coverage that requires only a single lump-sum premium payment. You make this payment when the policy goes into effect. As a form of permanent life insurance, an SPL policy stays in effect through the end of your life and pays a death benefit to your beneficiaries upon your passing. SPL insurance also includes a cash value feature.
Life insurance is a pillar of thoughtful financial planning
More than half of Americans carry some form of life insurance, according to the Insurance Information Institute. There's a good reason why. Life insurance is an essential pillar of financial planning. It can ensure a family has enough money, even after the death of a “breadwinner,” to pay off a mortgage or fund a child’s college education. Some policies even provide an option to borrow or withdraw cash that can be used during the policyholder's lifetime.
If you've shopped for life insurance, you may realize that there are many types of policies. And you might have considered SPL insurance.
How single-premium life insurance works
As its name implies, SPL insurance requires you to make just one premium payment at the policy’s inception. There are no regular (monthly, semi-annual, or annual) installment payments. As permanent life insurance, an SPL policy remains in force for the rest of your life — this is different than term life insurance, which is in force for a set period (for example, 20 years).
Upon your passing, an SPL insurance policy pays a tax-free death benefit to people you designate as beneficiaries, typically your spouse, children, or perhaps a business partner. You can choose the death benefit amount when you buy the policy. A higher death benefit will cost you more in premium.
As a form of permanent life insurance, SPL also features a cash value component. Cash value is similar to a savings account funded by part of the premium you pay. The money in the cash value then grows, usually tax-deferred, over the life of the policy. The cash value is added to the policy’s death benefit. It can also be accessed as a living benefit through a loan against the policy or a withdrawal of funds (with some caveats, which we’ll discuss below).
Types of single-premium life insurance
How the cash value grows depends on what type of SPL you buy.
Single-premium whole life (SPWL)
The cash value grows at a guaranteed interest rate set by the insurance company. Whole life policies usually offer the least financial risk (guaranteed minimum interest rate) with the least potential reward (small returns).
Single-premium variable life (SPVL)
The cash value grows based on the performance of investments you choose at the policy's inception. The insurance company offers these investments, usually including index funds and money market accounts. Compared to SPWL, this type of policy has greater risk (no guaranteed minimum interest rate) and greater potential for financial reward.
Single-premium universal life (SPUL)
The cash value grows at an interest rate set by your insurer. This is similar to SPWL; however, some insurers don’t provide a guaranteed minimum interest rate.
How much does single-premium life insurance cost?
The cost of an SPL insurance policy is based on the level of death benefit you choose, and your age and health when you buy coverage. Minimum premiums usually cost several thousand dollars or more. State Farm, for instance, requires a $15,000 minimum premium.
Generally speaking, someone who’s younger and healthier will be able to purchase more coverage for a certain amount of money than someone who’s older and may have some health issues. For example, a 30-year-old in excellent health may be able to buy $200,000 of coverage for a $15,000 premium. A 60-year-old with a chronic illness may only be able to purchase $50,000 of coverage for the same $15,000.
What is a modified endowment contract?
Because of the way it’s structured, an SPL insurance policy is considered a modified endowment contract (MEC) by the IRS.
Federal law established MECs in the 1980s to prevent people from using insurance policies as tax shelters. To qualify, a policy must meet the following criteria:
- It went into effect on or after June 20, 1988.
- It meets the statutory definition of a life insurance policy.
- It fails the “seven-pay test.”
A policy fails the seven-pay test if the total amount of premium paid in its first seven years exceeds what’s required to have the policy paid in full to that point. Because an SPL insurance policy is fully funded as of its inception date, it fails this test.
So what does it all mean? An SPL insurance policy has some IRS tax implications: The law states that any money withdrawn or loaned above the cost basis before the policyholder turns age 59-1/2 is to be assessed a 10% tax penalty (in addition to any taxes owed on the amount of cash received). For this reason, using an SPL as a source of cash would only make sense in the event of an emergency — unless you’re above age 59-1/2.
Pros and cons of single-premium life insurance
Pros:
- Single payment
With an SPL insurance policy, you pay the premium in a lump sum when the policy goes into effect. You never have to worry about making an annual payment — or missing a payment and risking cancellation of the policy.
- Insurance for the rest of your life
An SPL insurance policy is permanent insurance, meaning the policy remains in effect until your death.
- Growth of cash value
An SPL insurance policy features a cash value component. With cash value, part of your premium payment is set aside to grow through interest paid by the insurance company or through dividends attached to stock indices or mutual funds.
Cons:
- Potentially unaffordable premium payment
With minimum premium payments of thousands of dollars, SPL insurance is beyond the financial reach of many people. Many other life insurance options — both permanent and term life — are available with much more affordable premiums.
- No additional contributions allowed
Unlike many other types of cash value life insurance, you cannot make additional monetary contributions to an SPL policy. This may limit the potential growth of the policy’s cash value.
- Potential tax implications/penalties
An SPL insurance policy is classified as a modified endowment contract (MEC) by the IRS. There are tax penalties for withdrawals and loans you make against the policy before reaching age 59-1/2.
Is single-premium life insurance right for me?
An SPLI policy may make sense in some situations. A recent article in Forbes suggests it’s worth considering if:
- Guaranteed benefits are important.
- You have a trust set up for a special needs child. The death benefit can be used to fund the trust.
- You need to move assets out of an estate.
- You need to replace an existing life insurance policy.
The bottom line? An SPL insurance policy may be useful in certain situations. But most life insurance needs can be met with a more affordable and flexible standard permanent or term life insurance policy. An insurance agent or broker specializing in life insurance can discuss your policy options and help you get the right type of coverage for your and your family’s needs.