Life insurance is often used as part of estate planning, particularly for wealthy business owners. However, many are not aware of what premium financed life insurance is, or how it works.
While most people understand the value of life insurance as part of their estate planning strategy, there are a few variations that are more appropriate for high-income individuals, including premium financed life insurance, according to a recent article from Forbes, “What Is Premium-Financed Life Insurance?”
There are many ways to pay for life insurance. One way is to borrow the money, which is called premium financing. There are several different ways to secure premium financing.
When financing life insurance premiums, a wealthy individual may borrow the money from a third-party lender. The borrower is then responsible for paying back the loan with interest. However, the internal tax-free growth of funds inside the life insurance policy can be used to defray some or all of these costs.
When a person borrows the money to pay the premiums, he or she is paying the interest on the loan annually. However, that interest can also be bundled into the loan. Depending on the way it’s arranged, the life insurance policy can be used as collateral, or other forms of collateral might be used.
It also means that a premium financing arrangement must be monitored, because it’s typical to make adjustments in the deal over time.
There are very few successful entrepreneurs taking advantage of this solution.
In a survey of 262 successful entrepreneurs, only about 10% are using this strategy to purchase life insurance. Part of the reason for the low usage is that it’s not appropriate for a number of entrepreneurs. Another reason is that many financial professionals aren’t knowledgeable about this strategy. In a study of 803 financial advisors, while 40% responded that they are knowledgeable about financing life insurance, fewer than 5% have actually worked with a premium financed life insurance transaction for a client.
Make sure that you speak with your estate planning attorney before buying premium financed life insurance to make sure that it is appropriate for your situation. This is a complex product and the arrangement changes over time, so it needs to be done with the help of an experienced professional who understands the ins and outs of the product and how it aligns—or doesn’t—with your overall estate planning strategy.
Reference: Forbes (October 20, 2017) “What Is Premium-Financed Life Insurance?”