What is a Non-forfeiture Clause?
In permanent life insurance, a non-forfeiture clause stipulates that if the policy lapses due to non-payment or the policy owner decides to cancel coverage, they wont forfeit the policys accumulated cash value.
When non-forfeiture applies
You might find a non-forfeiture clause in many types of permanent life insurance policies, but its most common in whole life insurance.
In most cases, the non-forfeiture clause only applies when the policy owner has consistently made on-time premium payments for a specified amount of time. Many non-forfeiture clauses go into effect once the policy has been in place for three years, for example.
At that point, two distinct situations can activate this clause. First, non-forfeiture can apply when the policy owner has missed a premium payment and the grace period has expired. The policy lapse means losing the death benefit, but the non-forfeiture clause protects the policys accumulated cash value for the policy owner.
Non-forfeiture clauses can also apply when a policy owner voluntarily cancels the policy. Again, they lose the death benefit but not the policys associated cash value. The non-forfeiture clause may stipulate how the policys cash value gets distributed to them.
Generally, policy owners have options about how theyll receive the cash value this clause protects against forfeiture. Some of the most common options include:
Using the accumulated cash value to fund a term life insurance policy, with the term lasting as long as the cash value will sufficiently cover.
A lump-sum payment of the cash value to the policy owner, minus any outstanding loans against the cash value and applicable fees.
A refund of a portion or all of the paid premiums.
Using the cash value to purchase a paid-up permanent life insurance policy with a death benefit reduced to the level proportional to what the cash value will cover. To clarify, the policy owner would owe no future premiums on this reduced policy.
An automatic premium loan, which means the insurance company will use the cash value to pay the missed premium.
Generally, the non-forfeiture clause will lay out the policy owners specific options and a deadline by which they need to choose one. If they dont, the insurance company selects the default option.