We hope you never have to use an accelerated benefit rider, but it can be vital to understand what they are.
Accelerated benefit riders are components of life insurance policies that allow a significant portion of your benefits to be withdrawn and used during one's life for end-of-life situations, such as long-term care, terminal illness/hospice care, permanent nursing home care, or extreme medical conditions such as organ transplants. They may be built into the policy or added at any time, even after the onset of illness.
Note: Accelerated benefit riders are also known as living benefits; however, the phrase "living benefits" can also refer to various guarantees for variable annuities.
Payments are often lump sum, but in some policies, they can be set up as a series of regular payments. Payments are directed to the policyholder, not the beneficiary.
These riders may be set up in several different ways, depending on the insurance carrier, state regulations, and the type of policy that you prefer. Accelerated benefits may not be available in some areas. They may also have been unavailable in older policies, so on your annual insurance review you might ask how to go from an expiring term plan without living benefits to one with these valuable benefits. In some cases, with permanent coverage that has accumulated cash value, it is possible to use that cash to obtain a new policy with the riders that work for you. Think of it as adding options as you switch out of a policy without those options and letting the accumulated cash pay for them with the new policy.
Accelerated benefit riders are generally added to permanent life policies, although it is possible to add them to term life policies. They may either be included as an additional premium cost, or offered as a benefit with no premium charges, but with a fee once it is used. The lump-sum payment will generally be reduced by some amount so the insurance company can recoup a portion of the interest it will lose because of the early payment.
Examples of potential policy limitations are the requirement that death be expected within a given time frame to invoke these payments, different benefit levels for different classifications of illness (terminal, chronic, or critical), and the amount of the death benefit that may be withdrawn.
The accelerated benefit amount may be anywhere from 25% all the way up to 100% of the death benefit minus fees and any charges related to accelerated benefits. Some policies may allow you to withdraw benefits for any reason once you reach a certain age, although it may be considered taxable income in that case (see below). Cash value and death benefits are reduced by the withdrawn amount (including fees).
Tax considerations are not always straightforward. In most cases, the IRS does not consider accelerated benefits to be taxable income; however, there are exceptions and gray areas. There may be differences depending on how the illness is classified (terminal, chronic or critical) and other factors. Generally, if the death benefit would have been taxable in case of death or the policy is business-related, it is considered taxable income. Consult a tax professional to see what applies in your situation.
The income will be reported on a 1099 form, but it will not designate whether the benefits are taxable or not – it is up to the recipient to find that out, or whoever is in charge of the recipient's affairs if they are incapacitated.
Keep in mind that if your accelerated benefits are considered income, it may affect your eligibility for programs such as Medicaid.
Should you receive accelerated benefits upon expectation of death but do not die, you do not have to repay the money – although if fraud is suspected, there may be criminal or civil penalties.
Most life insurance policies include an accelerated benefits rider. If yours does not, check with your carrier about the cost of adding this valuable benefit. In most cases, the cost is not prohibitive. We hope you won't need to use this rider, but should that circumstance arise, you'll be glad you have it in place.