With a mortgage, a lender puts up 80% of the loan for a borrower to buy a piece of commercial or residential property. In return, the borrower is typically required to put down 20% of the loan amount. The lender is willing to approve the loan based on the current financial profile of the borrower. However, the lender will keep the property as collateral in the event the borrower is unable to stay current with the monthly payments. Premium financing applies a similar concept except instead of a piece of property, lenders are willing to finance a life insurance policy. These loans provide a much safer avenue for lenders because, one, unlike relying on the financial stability of an individual or newly formed business, the money is going into a 125-year-old life insurance company with a proven track record of performance in all kinds of market environments and two, they are guaranteed to get their money back because the client will inevitably pass away.
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For years, high net worth individuals have faced the challenge of weighing the need to purchase adequate life insurance against the cost of committing current capital/cash flow to make premium payments. Premium Financing is a planning tool that has assisted these high net worth individuals in meeting this challenge by using a third-party lender to finance the purchase of a life insurance policy.
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While clients may still have sufficient assets that could be liquated to fund the premium, they may be reluctant to sell off assets that are appreciating significantly or currently generating income. Clients may have a significant portion of their wealth tied up in a business interest that they intend to pass on to the next generation, or they may hold assets that cannot easily be liquated, such as real estate, or assets that, if sold, may trigger capital gains tax.
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Premium Financing has been available globally for over 40 years. The way it works is simple... Lenders like it because it represents a well-secured long-term loan. Insurance companies like it because it generates a stream of relatively large premiums. Agents and clients stand to benefit from these common objectives.
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Perhaps most importantly, premium financing solves a longstanding problem for the high net worth individual. It addresses the need for estate or business planning without requiring the expenditure of dollars for premiums or out-of-pocket expenses for interest payments. Rather clients participating in premium financing leverage their existing assets to fund the policy. In this way, the client's cash flow and/or investments need not be liquidated to fund the needed policy; the client's investment portfolio can continue to grow without interruption and the client's estate is protected at death. Moreover, there is no gift tax associated with the payment of large premiums because the money is now borrowed rather than paid out of the estate.
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Please see our detailed video presentation on premium financing of life insurance:
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