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Email to a client explaining some of the basics of Premium Financing.


Hope you and your family are doing well.. I do always enjoy getting together with you for lunch and I appreciate our friendship. Here is the email you requested for explaining some of the basics of Premium Financing.

 There are three big pluses to Premium Financing: 

(1) Tax free income; 

(2) Protection from market downside, while preserving potential for market upside; and 

(3) Capability to borrow at one rate and earn at another. 

 I’ll try to summarize each of these pluses here in a little bit of detail and also address some of the potential risks.

  •  Tax Free Income. Life insurance in most cases is tax free to the beneficiary. Until then its technically tax deferred. With life insurance, what we do is borrow from the policy and by so doing we do not pay taxes.
  •  No market downside but potential market upside. Because of the way they built these indexes (using options), they protect against market downside. In negative return years (like 2020 is likely to be) you get zero. Within the Allianz product they have 14 different indexes we can use. (We have not spent any time on these yet – some have a cap on the up years, and some have no cap and more than 100% return on the index. I’ll work with you to figure out which one makes the most sense for your objectives.)
  • Leverage and arbitrage, i.e. borrowing at one rate and earning at another. As of last week, we could get a 2.7% borrowing rate, and a 7-year lock with one of these Banks that specialize in Premium Financing. Probably now we could get an even better rate. Borrowing at 2.7% and earning at let’s say 7% - a conservative estimate for average market growth. This is the positive arbitrage we want. In an average year with 7% market growth, we gain 4.3%. In years the market goes down, we lose 2.7% (remember because of #2, our investment is flat in negative years).

Will we have negative years? Yes. Will we have positive years? Yes. History says we will have a lot more positive years than negative. 

So hopefully that gives you a good overview of the pluses. 

 One of the biggest concerns people have with Premium Financing is the collateral needed for borrowing. Generally speaking, if a person doesn’t have liquid collateral then they can’t do Premium Financing. But two additional options would be 1.  Have your Bank give you a letter of credit, or 2. Pay the actual premium for probably two years and then the cash value of the policy will most likely be enough collateral. Again – if you decide to move forward with this then we’ll sit down together with your attorney and figure out what makes the most sense in your situation.

One more comment. Index Universal Life was first introduced in 1997. In the early 2000’s insurance companies and agents illustrated too high of return rates and when the policies didn’t perform as illustrated there were problems. The industry as a whole has learned from those mistakes. In modeling potential performance of these policies, I’ve chosen to be conservative on the performance returns and the interest rates paid, to protect from that happening.

So hopefully this didn’t end up being too long. If you have some more questions we can sit down and talk some more about it.