Myths of Borrowing Against Life Insurance Loans – Episode 146

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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 host, bestselling author, Kim D.H. Butler and No BS Money Guy, Todd Strobel. Hey everybody, welcome back to the Prosperity Podcast. This is No BS Money Guy, Todd Strobel. Once again, we have president of Partners for Prosperity, Kim Butler, with us today. And today we’re going to be addressing another money myth. And this is getting a lot of attention and that’s that you should build up cash value and life insurance, which is definitely a good thing, and that you should borrow against those policies, which we also tend to agree with, but that you should intentionally

[00:51] borrow the money with knowing ahead of time that you do not ever intend to pay that money back. And I think the thing that we need to try to get across here today and hopefully won’t come out as confusing is that, yes, there probably is a point in your life where you would do that, but it’s not for everyone and shouldn’t be done every day. So welcome, Kim. I hope I started that off right. Absolutely. Yeah. This isn’t one of those things that we really want to hear, and yet it’s so important for people to understand. So I’m hoping by sharing some of the background that people can really get their arms around it. So here’s the issues. The life insurance loan. So whether you’ve borrowed against your cash value for a car or a vacation or an

[01:42] awesome investment or to tide you over through a period of lean money income years or whatever it is, these life insurance loans, as a general rule of thumb, will want to and need to be paid off. And where this not paying them off strategy came about is in the early years when people were first being reintroduced to the idea of borrowing against your cash value. Now, borrowing against your cash value has been around forever, but it kind of got quieted for many years. And I would say in the 90s, the 1990s, it was resurrected. And during that time, life insurance illustrations were made off of a 100 year actuarial table where people literally were looked at from age zero to age 100. And all life insurance policies endowed at age 100.

[02:43] And what endowment means, and only whole life policies can do this, is that the cash value and the death benefit equal. So if you’re 30 years old and you take out a million dollar policy, by the time you’re 100 years old, that’ll probably be worth, oh, it’s usually three or four times the death benefit. So probably be worth about three million dollars rough numbers. And the cash value would also be equal to that three million dollars. So I’ll say that again. You’re 30 years old. You take a million dollar policy of death benefit. Your cash value starts out at zero, of course. By the time you hit 100, it would be worth about three million dollars of cash value and about three million dollars of death benefit.

[03:27] That’s called endowment. And if you were alive at age 100 and that happened, you would literally be given the three million dollars. And so when people illustrated loans, like they went to the insurance company software and they showed loans coming against the cash value, they were able to not illustrate the payback of those loans because the policy dividends were fairly high in the nineties and the early 2000s. And the life insurance policies were ending at age 100. And so a loan could carry, in other words, they could take a loan, say at age 70 or 80, and the loan could carry itself. The cash value would carry the loan and you, the individual, would not have to pay back the loan. And at age 100, the policy would endow the loan would be paid

[04:25] back and all would be well. And that was fine. In the year 2008, I believe I have my facts right. The actuarial table changed. And instead of people using a L 100, it was called life 100 actuarial table, the, and I said people, instead of the insurance companies and the actuaries using the L 100 table, they started to use the L 121 table, meaning that all life insurance illustrations went out to age 121. Well, clearly, if you take a loan at age 70 and you expect for that loan to continue all of the time clear until age 121, that is a very heavy interest rate that’s going to be added and added and added all those years. So the interest rate isn’t going to change, but the amount of interest is going to continue to be added clear out to age 121.

[05:29] And that’s not feasible. It’s not realistic to expect a loan and the cash value of a policy to support that loan and expect that loan to be in effect all during that 50, 60, 70 year timeframe, depending on when the loan started clear out to age 121. It’s just not going to happen. So I’ve provided a huge mouthful there. I’m sure we’ve got some questions to help me explain that more fully. Got it. I just want most people to, to, who maybe aren’t as familiar with life insurance. The reason that life insurance loans are so attractive is that they don’t require a payment. And the reason that they do that is that they know that eventually when the policy matures or the insured dies is what we’re talking about.

[06:22] At that point, any outstanding loans and outstanding interest can be deducted from the death benefit. So it’s almost like having this unlimited supply of money, if you will, that you don’t ever have to pay back. But the idea is, is that you have purposes for that life insurance that we recommend or Kim recommends. And I think she’s got several books out on this, that you certainly do want to borrow money against these for good things or for times when, you know, you have a need for money. You just want to be a disciplined and honest banker and pay yourself back. Correct? Absolutely. So we know that when we take a loan out at a bank, that that bank requires monthly payments. However, when we borrow against, notice the difference in language, our cash

[07:21] value of life insurance, we’re actually getting a loan from the life insurance company and the life insurance industry does not require monthly payments. They require annual interest only. And so this can be a little confusing in that since you’re not getting a bill or a loan statement to make a payment, you may think that you don’t have to pay the principal back. Some people don’t even pay their interest back. They’ll actually get that interest bill from the insurance company and just roll that into the loan also. Now that’s okay if you still have a strategy to pay the loan back. So let’s use some examples. Let’s say that the car loan is what you have borrowed against your cash value for. Well, car loans are typically monthly.

[08:11] So I’m going to recommend that you take a four or five or even six or seven year period, amortize your loan over that period. Amortize means figure out what’s interest and what’s principal. And you can get an amortization schedule online. You can bother us for one and you get in the habit of paying that loan back monthly. Now then when your annual interest statement comes from the insurance company, it’s totally fine to ignore that because you have a structure, a strategy whereby you’re paying the loan back monthly and every month that you make a payment, it’s going to principal, but then that interest is being added to the loan annually based on your policy anniversary date. And that works just fine.

[09:02] You can add the interest and then pay back principal and interest along the way, add the interest, pay it back along the way, add the interest every year until it’s done. So that’s a time where you would actually want to make monthly payments. There’s an alternative schedule that I’ll share. Let’s say that you are borrowing against your life insurance policy to invest in fix and flip real estate. This isn’t my favorite because once you flipped it, you don’t have the cashflow coming anymore, but let’s just say that that’s working for you and you’re doing it. And let’s say you’re going to buy a house, fix it up over the course of six months and then sell it. And you’re able to actually sell it in one month.

[09:39] So we’ve got a seven month timeframe. Well, then it’s perfectly acceptable to borrow against the cash value of your life insurance, get the check from the insurance company, do the house deal, not make any payments at all. And then at the end of the seventh month, when the actual money comes back from the sale of the house, you can then make an entire lump sum payment, clearing both principal and interest all at one time. And that’s an effective strategy as well. Either way is fine. You just really want to make sure that you’ve got a strategy there to pay off the life insurance loans. And I would say that we have several of our clients who do that on the real estate side and, you know, quite frankly, most buyers out there

[10:30] have to have some type of bank financing in order to buy a property. And if you have a property that there’s something wrong with, it’s almost impossible to get a loan. So in a sense, you’re making a cash offer and able to get some incredible real estate deals when you control the bank. Absolutely. And that position of cash enables opportunity to happen. In fact, Nelson Nash, the author of Becoming Your Own Banker, which is the man that’s responsible for resurrecting this idea, like I said, it’s been around for a long time, but he has a funny saying and it’s that opportunity will seek you out if you have a position of cash. So it’s something that we want our clients to be paying back their loans.

[11:20] They should be borrowing against them and then paying them back. Borrowing against them and paying them back. All right, now here’s the biggie. This is the one that probably catches the most attention is that you have a couple that has usually heavily in debt with credit cards and they’re told to overfund a life insurance policy and build it up to the point that then they could use the money to pay off the credit cards. Yes. So that can work depending on cash flow. So there’s two scenarios, essentially. Typically the one scenario is the couple has absolutely no extra money. Like they’re barely making their credit card payments. They’re barely making everything else. And they truly, truly don’t have any extra dollars.

[12:11] I’m not saying that they don’t have extra dollars because they’re frittering it away, but they truly don’t have any extra. If that’s the case, then the life insurance strategy is not going to work. However, if it’s the case that they have a little bit of extra two, three, 400 a month, you know, it’s all relative. Could be a thousand or 2000 a month, but where they could make minimum payments on their credit cards for say three or four years, and they still had a substantial amount extra to save through the life insurance policy to make premiums, to make paid up additions, then yes, that can be a very viable strategy because what will happen is though they’re making minimum payments on their credit cards and that debt’s

[12:55] just kind of sitting there, the cash value of the life insurance will start to build and build and build and build. They can borrow against their life insurance at probably four or five, six, maybe even seven or 8%, whereas their credit cards are probably 12, 13, 14 on up to 23 or four or five or six or seven or 8%, 28%. And so I’ll just use the high number in each case. There by enabling them to take 28% debt that was at the credit card company and shift it over to 8% debt at the life insurance company. The critical part therein is that they must now pay off that life insurance debt and a lot of people I think are getting confused and they’re saying, well, I’m out of debt now you’re still in debt to

[13:48] your life insurance company and that interest rate, though it is much smaller, which is good, still needs to be paid. That loan still needs to be paid at whatever interest the insurance company is charging you. Super. Well, Kim, are there some resources or places people go to get more information on this? Yes. The partners for prosperity.com website has a special link partners number four, prosperity.com slash ebook. And in that ebook, we talk about the life insurance loans and the importance of them, how valuable that cash value can be, but it’s not the lending ability that’s valuable. It’s the actual cash that’s valuable. And I think that’s where a lot of the misunderstanding comes into play.

[14:41] People think the good deal is in the ability to borrow, but it’s truly the good deal that’s in the position of cash. Well, and it’s also supplying the necessary need of life insurance too. And I think so many times we get caught up on the cash value and, you know, if you’re in debt and having trouble making the payments, think of the person who you’re going to leave those debts to without your income. Absolutely. Yes. The life insurance should be free at the time of your death, free to pay in its entirety. Super. Well, this is no BS money guide, Todd Strobel. Special thanks to Kim Butler. Hello at partners number four, prosperity.com is the best way to get in touch with us. If you have any questions, if you’d like to see your topic talked about

[15:34] on the show, maybe you even have an opposing view would love to hear from you. We constantly get feedback from our listeners and we just want you to know how much we appreciate it. And we appreciate all of you. Take care of everybody. Thank you for listening to the prosperity podcast to take control of your money and have it work for you. Visit us at partners for prosperity.com. If you liked this episode, make sure you subscribe and leave a review.