Your client has enjoyed a successful career but creating his estate plan may be complex. Cash flow is rigid and your client is not in a position to sell assets, yet he needs life protection.
Premium financing may hold the solution as it can make it possible for individuals, as well as businesses and corporations, to purchase a relatively large amount of coverage without selling assets, diminishing cash flow or reducing liquidity. This method is generally for high-net-worth clients and has some risks.
“Your senior client may not like liquidating assets,” says Philip D. Lukens of Lukens Financial Group in Denver. “While it really depends on the situation, for those who need a premium advancement and insurance, this can be an excellent option.”
Premium financing can help a client purchase more life insurance as well as raise funds from an existing policy. It is often positioned as a means to secure millions in benefits for beneficiaries with only minimal risk, no out-of-pocket costs and no personal guarantees, although a form of collateral is required. Whole life, universal life and indexed universal life insurance can be utilized. Tax and legal professionals are also commonly involved, in addition to a premium financing specialist, as there may likely be other complications and considerations.
“The client must qualify for insurance and then obtain a loan, usually from a bank or lender specializing in such arrangements, and the loan must be repaid,” Lukens notes. The lender pays the policy premium and the borrower pays interest on the premium loan. In some cases, the loan interest may be added to the loan.
“It really comes down to control and timing. Do you want your money tied up in a life insurance policy or would you like to use someone else’s money?” asks Dusty Farber, president of CBIZ Special Solutions Group in Los Angeles.
“Once the need for the life insurance is established, premium financing is offered as a way to pay the premiums. It is not a way to get free or ‘cheap’ insurance,” says Cindy Wormser, ChFC, CLU and assistant vice president in AXA Equitable’s Advanced Markets. “Most lenders will not finance a variable product.”
Under these scenarios, financing options are frequently favorable for the borrower, whether it be an individual or business, because the loan amount can be secured against the existing life policy. Typically, borrowers receive a much better rate of interest and overall loan terms when they choose secured instead of unsecured financing. However, individual needs and goals must be assessed in order to determine the most effective financing choice, as premium financing enables one to actually use the policy’s value as collateral to finance additional insurance. As a result, the range of available life insurance choices increases.
There may also be potentially favorable gift tax consequences common among large, frequently illiquid estates. Subsequently, it can also help defer or avoid capital gains taxes which would become payable once appreciated assets are liquidated. As a result, premium financing can be positioned as a way to help clients protect assets, continue business development and ultimately pass their wealth to heirs while keeping other financial objectives in place.
“Premium financing is a method to pay for life insurance by high-net-worth individuals and business owners so existing assets or income can be used for other needs,” says Michael H. Fliegelman, CLU, ChFC, at Innovative Planning Services, Inc., in Woodbury, N.Y. “Generally it is best used by a business or individual who has life insurance needs but does not have the cash flow to pay premiums, or has better use of money for business or investment purposes.”
Premium financing enables individuals with a high net worth to purchase life insurance without depleting other assets or changing their normal cash flow. They are able to protect net worth, continue business development and pass their financial legacy to future generations without altering other financial objectives. Not all can participate in such a strategy.
Generally those who could be considered for premium financing should demonstrate a need, as well as qualify for life insurance and have a net worth of $5 million or a minimal annual income of $200,000, as well as sufficient assets. Others demand that minimum net worth be $10 million.
The policy’s surrender value is the main source of collateral for loans but cash, securities, real estate and other commonly appraisable items such as fine art and collectables may also be used in some cases. Collateral amounts can vary among lenders and terms have changed. Some companies allow financing based upon a current policy. This may eliminate the need for other collateral. Similarly, it’s no longer necessarily to buy a new policy. Many lenders will finance existing policies and there is usually a minimum premium requirement. Should the insured die while the loan is in force, the loan and interest will be deducted from the death benefit. Beneficiaries then receive the remaining payment.