Life insurance premium financing can help you maximize wealth to your heirs and keep your legacy intact.
Adding a borrowing strategy to your estate plans can protect your heirs in the future—and your financial position today. For the executors of your estate, paying death taxes may precipitate a liquidity crisis—forcing them to hastily sell assets that would otherwise be inherited by your beneficiaries, or resulting in other undesired outcomes.
What is Premium Financing?
Premium financing is an exclusive life insurance option for people with a net worth exceeding $5 million. The are few exceptions to any individual or couple with a net worth under that benchmark.
A way to plan for estate taxes - One way to protect future heirs is to insure your life so that, at your passing, estate taxes can be paid with the proceeds from a high-value life insurance policy. Typically, in such arrangements, the policy is held separate from the rest of the estate, in a trust.
An insurance policy can directly benefit your heirs and other beneficiaries. The proceeds of the policy can be used to:
- Cover estate taxes and thereby avoid liquidating assets or disrupting an investment portfolio
- Retain control of significant or illiquid assets, such as a concentrated stock position or real estate assets.
- Provide funds to sustain a business
Why borrow?
Not surprisingly, putting such protection in place comes at a significant cost, in the form of annual policy premiums. As a result, many clients elect to finance those costs with a loan collateralized by the cash surrender value of the policy, in addition to marketable securities.
This approach has the added benefit of being tax efficient: the funds that the trust borrows to pay the annual premiums and interest expenses generally are available free of gift taxes.
Financing the cost of a high-value insurance policy can benefit you and ultimately your estate in many ways, now and in the future, by allowing you to:
- Maximize insurance coverage without adversely affecting your current cash flow (or lifestyle)
- Avoid having to sell assets—and potentially triggering a taxable event—to cover the cost of the premiums
- Allow investments within the policy to grow free of income taxes
- Gain access to liquidity at an interest rate that is often less expensive than a “policy loan”
A “carry” opportunity may exist as well: If the interest rate charged on the loan is lower than the rate of return earned on the cash value of the policy, there may be potential appreciation.
What to consider?
There are risks inherent in any borrowing strategy. These include interest rate
fluctuation, market volatility and the possibility of collateral shortfall, which may lead to a margin call. Before deciding whether to finance the acquisition of high-value life insurance by borrowing, we encourage you to discuss your objectives with your Estate Wealth Planning Team.
There are a number of benefits to financing insurance premiums. These include:
- Eliminates the requirement for a large up-front payment to an insurance company.
- Multiple insurance policies can be attached to a single premium finance contract, allowing for a single payment plan to cover all insurance coverage.
- Premium financing is often transparent to the individual or company insured. Brokers transmit the completed premium finance agreement to the premium finance company, and the policy holder is billed as they would be for any other typical insurance policy.
- Allows for clients to obtain needed coverage without liquidating other assets.
- The main benefit in premium financing is the avoiding the opportunity cost in paying out of pocket. By using other people's money (leveraging a lender's capital), clients can retain a significant amount of capital known as retained capital.
- Typical client profile: Age 29 to 75; Net Worth $5MM or greater; Business-owner, entrepreneur, professional; Desire to retain capital whilst maximizing wealth transfer & potential tax-free retirement.
