Repaying Life Insurance Loans – Episode 110

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[00:01] Welcome to the Prosperity Podcast, fresh alternative personal finance talk for independent thinkers who prosper outside of Wall Street. Here’s your hosts, bestselling author Kim D.H. Butler and No BS Money Guy, Todd Strobel. Hey everybody, this is No BS Money Guy Todd Strobel for the Prosperity Podcast. Once again, have my co-host, bestselling financial author Kim Butler with us today. And we’re going to be dealing with kind of a specific issue. We’re going to be talking about how you would repay debt on loans that you have against a permanent life insurance policy. In other words, if there’s a strategy and a method that will allow you to optimize your results. And again, that’s always our goal is to optimize.

[00:48] We want to have the best possible solution. And again, this is something that Kim has dealt with a lot in her 25 plus year career. And I think she’s probably one of the best people in the country, if not the best, to help us with this. So, hi Kim. Well, hello Todd. Thank you for the kind compliments. And you used my favorite word, optimize. I just am so grateful that that is our focus with people’s money. And it is very easy to get off track on it. And also, thankfully, easy to get right back on. So we’re going to lay out a case study here, if you will. Let’s assume that you have a life insurance policy and you have a loan against it. Now the loan could either have been one or two even combined things.

[01:35] The most obvious one is you used the money for something. You bought a car with it. You went on vacation with it. You did an investment with it, whatever the case may be. And the second aspect of loans is that you may have borrowed against the policy to pay premiums. There’s something called an automatic premium loan provision. And some of our existing clients have used this, as have I. And it’s where you use the cash value to pay the premiums for a while, typically during a time of financial cash flow challenge. So your loan doesn’t know the difference. It’s a loan. It doesn’t matter whether it was for paying premiums or buying a car. And now you are financially capable of making some extra payments back towards the policy.

[02:24] And you’re unclear whether you should focus on the loan, the premiums, or the paid up additions. And so that’s the question. If I laid out the case study clear enough, Todd? Yep. I perfectly understand it. This is probably relative to all permanent life insurance policies. But I’m not sure. Are paid up additions riders available? I don’t do universal life, but are they there? Not really. But what is there on a universal life is something called a target premium. Most often, universal lives are paid with a much smaller dollar figure. Some other term, like a minimum premium, is sometimes used. But a target premium is more. So let’s say your universal life has a $1,000 a month premium that you’re paying, but you

[03:15] actually could pay more like $1,500 or $1,800. So it’s not a paid up addition rider. There’s no such thing on universal life. But there is some flexibility in your amount of premium. Got it. So this will be most relevant to our whole life clients. But certainly, there is a big piece of this that would be relevant to the people who have the universal life as well. Absolutely. And so there are two aspects that are identical between the universal life and the whole life. And that is your actual premium payment and your loan payment. So I again want to state that in this case study, the person stopped paying premiums for a period of time. Maybe it’s just a couple of months. Maybe it’s a couple of years.

[03:58] They used their cash value to pay those premiums. During that time, the cash value rose and the loan amount rose. Now hopefully also during that time, the annual interest that is charged on the loan, whereby the insurance company is going to send you a bill every anniversary statement, the anniversary of your policy, whatever month you started it in, ideally during this time of financial challenge, your annual interest was paid by your own dollars. However, we notice in many instances that when financial challenge occurs, it’s so extreme that annual interest gets paid by adding it to the loan. So let’s say you had $100,000 loan and the first year came about. The very, very first year, they actually take the interest already.

[04:54] So let’s say the first full year came about and you didn’t have the money and it was an 8% loan. Well, of course, then now your loan is going to be $108,000 and on and on and on every single year compounding. So let’s say now you are in a position to start to give money back to the policy and what you’re unclear on is does it go back for premiums? Does it go back for interest or does it go back for loan principal payment or the fourth one, which is the pay to petitions? So again, ideally you’ve been paying the interest all along, but if you haven’t, you still will want to pick up premiums first. So whether you have or have not rolled the interest into the loan, when you get your financial feet back on the ground, you want to pick up premiums first.

[05:49] That’s the most important thing, to start the funding of the policy again so that you don’t continue to take loans against the cash value to pay the premiums. That must stop first. It’s fine that you did it, but let’s get the premiums picked up first. The second then is kind of a six to one half a dozen the other because at this point they’ve all been lumped together. And that’s the principal and the interest on the loans. So as I said in my earlier example, if you had a $100,000 loan and then you went one year and you didn’t pay the interest, now it’s $108,000, it doesn’t really matter whether you pay $8,000 or part of the $100,000. It’s all part of the principal of the loan. So the second thing that you want to do is start to pay the loan back.

[06:31] Now what this looks like in most families’ lives is some occasional lump sum payments. So you’re going to pick up your premium probably monthly, maybe annually, doesn’t matter, and then you want to handle lump sum payments against the loan. If you do have the ability to make a monthly payment against the loan, that is fabulous. You can do that too and the insurance companies will even automatically debit that from a checking account if you would like them to. So first is premium, second is loan payments, and under loan payments could be principal or interest, doesn’t really matter. And then and only then, after that loan is paid off, do you want to pick up the paid up additions or on the Universal Life any type of target premium, again, after

[07:21] the loan is paid off, and here’s why. In almost all cases, the loan costs, whether they be a fixed rate at say 8% or a variable rate at 4 or 5%, in almost all cases, again, almost, but still, almost all cases, the loan cost is going to be greater than the paid up addition gain. And so you want to get that loan paid off. Now, the only reason that you wouldn’t do that, actually, let me just pause. You think there’s questions so far, anything I didn’t cover clearly? No, I think you’re going to probably address the issue is you want to fully pay the loan, not just pay a chunk of it, but fully pay the loan. You do still have to make the minimum paid up additions right or annual premium. You’re saying, correct?

[08:10] Yes. So typically, insurance companies charge $100 or maybe $120 for a minimum paid up additions writer. And you’re absolutely going to want to continue to make that every single year. And yes, ideally, you would pay the loan back in full before you started the paid up additions writer. There’s one exception to this, and that is when the loan was for an investment and the investment is still out and working. When that’s the case, I have no problem with that loan sitting for a period of time while you focus on paid up additions. But if your loan was for the purpose of paying premiums during your challenged financial environment, you absolutely want to get the loan paid back in its entirety first, before you then go forward with the paid up additions.

[08:57] And again, these would be paid up additions greater than your 100 or $120 minimum. Got it. And in many cases, if let’s say that you were using this for an investment purposes, a lot of investments don’t have cash flow for maybe the first five to seven years, and then you get this big ball of cash. So it certainly is an option that could happen that way. Absolutely. And that is perfectly acceptable. And we do lots of investments like that. And if your dollars are out in investments and you want to wait, that’s totally fine. There’s other clients that will still go ahead and pay the loan back. And then basically their investment is free and clear and off doing its job. And that works fine as well.

[09:40] So either way is okay when we’re talking about investments, but when we’re talking about loans for cars or loans for using the cash value to pay premiums or loans for vacations, those loans, we will want to get paid off sooner than later. Got it. And another good, just an example. I have a client that I’m working with now. If you were going to file for social security and it’s a disability type issue, which would be probably something unexpected, the minimum wait time is nine months and average is closer to 12 to 15. So this would be a perfect time where once that social security is approved, they pay you back to the very first day. But it takes a year on average to get the first check. Absolutely.

[10:32] And sometimes longer than that. I know from some other clients and a particular one is a social security judge and she had a saying that a little blunt, but it was, um, you basically have to be dead to get social security disability. So, um, it’s certainly not something that we want to be relying on. And yet sometimes that is all people that have. So I just was hoping if we could give some examples, maybe people could understand how this does happen because, uh, a lot of our people don’t think about how these situations could happen until they do. And, um, pretty much everybody experiences something along these lines. Absolutely. Or a family member or what have you. So yes, something to be conscious of for sure.

[11:15] Go ahead. If you have an example to share, please do. No, I’ve just wanted people to think that, uh, you know, it always, you always assume that the bad stuff is going to happen to somebody else. And oftentimes if you live long enough and we are living longer and longer, there will be a period of time where you can’t pay these premiums. So I think, again, this will be something that, uh, you know, maybe you just file in the back of your mind and you know where this resource is, if it does happen to you, you now have the strategy, uh, that I guarantee you, you’re probably not going to hear many places. Right. And it’s also important to remember that there are a couple other things that can be done with regards to reducing the outlay required on the policy.

[12:00] If necessary, we can cut policies in half. We can even do something more extreme, which is called a reduced paid up. And that is a irrevocable decision. So you don’t want to go there until you’re absolutely ready. But cutting the policy in half or cutting it down by a third, that’s a very viable option. If you just feel like this financial challenge is going to be permanent, if it’s temporary, you don’t want to do that. You want to just borrow against the cash to pay the premiums and plan on paying that back. But if you think it’s going to be permanent, then let’s get that policy reduced, use the dividends to pay the premiums or whatever we need to do. And your agent, us, if it’s us, as anybody on our team knows how to do

[12:44] that and help people with it. And you absolutely want to do that before you ever consider canceling a policy, a permanent whole life policy is absolutely something that needs to stay in force for your whole life, which is why it’s called what it is and be of value. So if you’re having trouble making the premium payments and there’s some specific examples of this in our live your life insurance book, which is available on Amazon. It’s also available in an audio form. If that’s easier for you, specific examples and some things in the back in the glossary about reduced, paid up and dividend elections and other things that you can do if you are having what is going to be more of a permanent cash flow challenge.

[13:30] How do you feel about using strategies in the beginning when you’re setting up the policy to maybe anticipate some type of a financial problem? Well, there’s the automatic premium loan is pretty much on every policy. That’s a pretty standard thing. And if not, I believe it can be put on. It’s just a check of a box doesn’t cost anything. So that’s a absolute. And then, of course, funding the pay to petition to your highest level possible is something that will help make sure your policy stays in force forever. And then sometimes with a large environment, like let’s say we’re going to get 20 million dollars of life insurance on somebody. We will probably split that up in three or four or maybe

[14:16] even five million dollar policies, like one five million dollar policy, one three million dollar policy, a second five million, et cetera, till we get to 20 just to give a little bit more flexibility and capability in terms of making adjustments. So those are things that you can do on the front end. Other than that, there’s really nothing that’s needed. You know, if you’re applying for a million or less, I wouldn’t bother splitting a policy up. I mean, you can if you want to, but there’s really no need. There’s always in our guidance to clients, we want to have clarity that the first two to three years of premiums can get paid, ideally more like five or seven, seven kind of the bare minimum.

[14:56] But for absolute sure, if two or three can get paid, we can save the policy almost without a shadow of a doubt. I guess specifically, I wanted to get your opinion on the waiver of premium rider. So the waiver of premium, yes, is something that you will want to put on because a disability could then get the insurance company to pay your premium. So it’s your pro on that. Yes, absolutely. Not all clients want it, and that’s fine. But yes, a waiver premium rider is a very inexpensive way to make sure that dollars are available. If a disability occurs, this is not waiver premium is not going to put food on your table, that’s what disability insurance is for. This is going to make sure that your life insurance premium continues

[15:49] to get paid, which will cause your absolute increase in cash value to continue to happen. And then you don’t have to worry about this situation. That’s correct. Super. Anything else you want to add before we wrap up? Well, continue to ask the questions. People oftentimes, I think, give up and we want to be a resource to you if we can. Again, we mentioned the live your life insurance book. You’re welcome to email us. Hello at partners, number for prosperity dot com. If you have a specific question about your life insurance and the loans and the order, et cetera. And of course, we have our free book that’s available only on our website at partners for prosperity dot com slash e book. It’s called Financial Planning Has Failed.

[16:37] And it talks a little bit about the life insurance area as well. That’s partners, number for prosperity dot com slash e book. And there’s both the audio form as well as the print form available. Super. Well, again, I think today’s message has been an ounce of prevention is worth a pound of cure. And hopefully this will reach the target market. Maybe if you can’t use it, you know, somebody who’s in this situation, share it with them or certainly out there to help or give advice, even if it’s just helping you to maybe optimize the policy you already have or the situation you’re already in. This is No BS Money Guy Todd Strobel. Once again, special thanks to Kim Butler. Take care, everybody. Thank you for listening to the Prosperity podcast.

[17:19] To take control of your money and have it work for you. Visit us at partners for prosperity dot com. If you liked this episode, make sure you subscribe and leave a review.