What effect does an outstanding loan have on a life insurance policy?

An outstanding loan against a life insurance policy decreases the policy's death benefit. When a policyholder takes out a loan, the amount borrowed is deducted from the death benefit that the beneficiary would receive in the event of the insured's death. For instance, if a policy's death benefit is $100,000 and there is a $30,000 outstanding loan, the amount paid out upon the insured's death would be reduced to $70,000. This reduction occurs because the insurance company is entitled to recover the amount of the loan plus any accrued interest before paying out the death benefit.

While the cash value of the policy is effectively reduced by the amount of the loan, the primary effect that is often highlighted is the impact on the death benefit, making this the most relevant choice. The other options do not accurately reflect the implications of an outstanding loan; they address scenarios or consequences that do not occur or are unrelated to this specific situation.