In general, incurring debt to pay for life insurance isn’t an ideal strategy. But for certain individuals, especially those who may have better uses for their cash, bringing in a third party to cover the costs can be beneficial, notes a new Forbes article
The approach, known as premium financing, may be an attractive option for those who need a substantial amount of insurance for estate planning, wealth accumulation, asset protection, or business purposes. It’s available to consumers with a minimum net worth of US$2 million who are insurable at standard rates or better and satisfy the carrier’s underwriting regulations.
“The main reason it works is very simple -- all parties involved like it,” wrote David Kleinhandler, founder and president of US-based Vest Financial Group. Aside from allowing borrowers to use their assets for other investments, it represents a secured long-term loan for lenders. Insurance carriers will appreciate the continued stream of large premiums, and agents also stand to benefit.
The process of setting up a policy with premium financing starts with a discussion between the agent and the client on the type of coverage needed. They can start with a preliminary policy and move on to run several scenarios until they settle on the right plan. From there, the insurance underwriting and third-party financing is initiated, and then the policy is issued and accepted by all parties.
“Collateral and interest are provided by the borrower and the lender pays the premium to the insurance company,” Kleinhandler said. “There is no personal guarantee needed from the borrower or insured.”
Once the policy generates enough surplus cash value, the owner can refund the loaned premiums and pay accrued interest to the lender. Loan commitments vary from one client to another, depending on their long-term need for permanent life insurance and the need to make the arrangement sustainable in the long run.
Many individuals may be wary of premium financing arrangements, particularly as it depends on interest rates and the performance of the policy. But Kleinhandler said that despite the volatility of those variables, the arrangement could be a net benefit to individuals who need life insurance to address estate, business, and tax issues, but still want to grow and protect their wealth.
“With this, they are free to look for opportunities that will yield a return greater than the cost of the loan,” he said. “For many who need large policies, financing can greatly reduce out-of-pocket expenses and preserve capital for other investments.”
He added that premium financing may also offer tax benefits, such as when using an irrevocable life insurance trust. When the insured passes, the trust beneficiaries are paid according to the specifications of the trust, and the proceeds have no tax liability.