“Most people do not become rich because they fear the power of leverage.”
One of the advantages of a Whole Life Insurance policy is the ability to borrow against your cash value, though the concept is widely misunderstood, even by insurance agents! In this post, we’ll explore exactly what it means to take a loan against your insurance policy, and we’ll look at some good reasons – and bad reasons – to borrow against your policy.
Do You Borrow Your Cash Value, or Borrow Against It?
A common misunderstanding is that people think they are actually borrowing the cash value itself, but actually, they are taking a loan against it. Your cash value is the collateral that the life insurance company lends against. So the real choice you have is to either reduce (or liquidate) your cash value, or borrow against it.
The cash value is your savings to take as you wish, but we recommend that you borrow against it rather than deplete it. Why? Just like with a house or other piece of real estate, it is usually more advantageous to keep the asset long-term and borrow against it (for example, with a mortgage) than lose the asset.
Just as with a rental home, properly structured whole life insurance policies allow you to retain the asset for future use. Real estate investors may borrow against and pay off mortgages several times against a long-term rental, and you have the ability to do the same with your cash value policy.
Just like real estate, cash value policies allow you to have a C.L.U.E., which stands for
- Control – you control the asset, not your employer or the government.
- Liquidity – it can be liquidated if desired, with no penalties and minimal taxes.
- Use – different from a retirement account, the money can be used as you please, including used as collateral.
- Equity – the asset grows over time and your net worth increases.
Good Reasons to Borrow Against Your Life Insurance Policy
Perhaps the most common reason people borrow money is in reaction to a cash flow crunch, perhaps caused by illness, divorce, or a temporary period of unemployment, But there are many good, strategic reasons why you might want to borrow against your whole life policy, even if you are not having a financial emergency.
For instance, it can be a smart way to leverage your savings to pay off or avoid consumer debt. It can be a way to increase your net worth or cash flow by providing capital to invest in real estate, or financial instruments with solid double-digit returns. It can be a brilliant strategy to use to supplement retirement funds or social security in later years when you are no longer working full-time.
Recently, Partners for Prosperity, Inc.’s own Kim D. H. Butler was interviewed for the prestigious Palm Beach Wealth Builders Club by Tom Dyson, the club’s Investment Director, about the use of whole life cash value insurance, coined “Income for Life” by the Palm Beach Letter crew. We’ve printed an excerpt below in which she discusses two of good reasons to borrow against your policy for strategic reasons:
Tom: What do you think are the best ways that our subscribers, at least just to get started, how should they get going when they borrow money? What should be some of the first things they think about when they’re getting to that point?
Kim: That’s a great question. There is going to be two schools of environments that they fall into. One is going to be the school of handling debt like car loans and credit cards and things like that. The other will be the school of investing. So, I’ll address them both.
There will be people that can benefit from borrowing against the cash value of their life insurance to pay off credit card debt. Maybe they have credit card debt at 18-20% or even 12%, and as you know the life insurance loans cost somewhere between 4-8% right now. So, that will be a beneficial thing. They’ll be able to borrow against the cash value, pay off their credit card.
Then, as you know, to be an “honest banker” as Nelson Nash talks about in his book and as you guys referenced in Income for Life, they’ll actually want to pay those life insurance loans back at the same interest rate they were paying the bank or the credit card company, which, of course, will get that loan paid back very quickly, and then they can go on and start a second policy….
The other group of people really doesn’t have debt as an issue. They pay off their credit cards every month. Yeah, they might borrow against it for a car, on occasion, but that’s going to depend on car loan interest rates at the time.
If car loan interest rates are really, really low, they may be better doing a car loan with a typical financing company. If they don’t have a need for debt in the typical sense, then they can borrow against it to invest. This has to be done very carefully, but it can be very effective.
We have clients all over this country that borrow against their policies at a cost of eight and invest in very solid things that earned 10% or 12% or 14%. Sometimes they are things they have found. Sometimes they are things that we have found.
That can be a very effective tool to use their life insurance cash value. Now, at that point, we always have a minimum that we don’t go below.
Let’s say they decide their emergency fund should be $50,000. Okay, we’re going to leave $50,000 of cash value in there. The internal return on that money right now is typically between 4-5% depending on the age of the person.
So, it can sit in there and do just fine absolutely doing nothing. For the money above the $50,000 in this example, they could borrow against it and go invest and really get some amazing returns.
Tom: Yeah. I can see that. It’s absolutely right.… Thank-you so much for coming on and talking to us today.
Kim: You’re welcome. Happy to be here.
Some not so good reasons to borrow against your cash value:
Nordstrom is having a sale. You never want to borrow money for non-essential, depreciating consumer purchases. And living beyond your means is also not a good reason to take a loan against a life insurance policy!
You got a “sure fire” tip about a hot stock. Borrowing money to gamble is always a bad idea, whether it’s Vegas or Wall Street. You never want to borrow money on a prediction, a hunch, or a guess. When it comes to money, it’s important to deal with facts and truth. If you want to bank on your intuition, use it to choose a great financial advisor.
Stay tuned for a follow up… Next week, we’ll look further at some advantages and disadvantages of borrowing against a life insurance policy. Until then, you can listen to Kim’s entire interview or read the transcript of her interview with the Palm Beach Wealth Builders Club here.
Can we help you evaluate your own life insurance policy?
We find that people have a lot of questions about their policies:
“Do I have enough insurance?”
“What will be the impact of borrowing against my policy?”
“Is this a ‘good’ policy with the proper riders, or is it the kind of permanent insurance that has gotten a lot of bad press?”
“How can I use my whole life insurance to benefit my family now?”
If you have questions, we can help you get them answered! Partners for Prosperity is once again offering complimentary policy reviews. Just click here if you would like to schedule a no-obligation appointment with us to review your policy.