In his review of Bank On Yourself, Michael Kitces repeatedly harped on the worst-case scenario of a life insurance policy owner taking out a life insurance loan with no regard for ever paying it back.
Kitces rightly pointed out there could be significant tax consequences if a life insurance policy were to lapse due to a large policy loan.
If the interest is not paid, it gets added to the loan balance. Eventually the loan balance could come so close to the cash value securing the loan that the life insurance company—after giving fair warning—would take the cash value to pay off the loan, causing the policy to lapse.
What Kitces didn’t mention is that if the loan balance ever does exceed the available cash value, paying some or all of the loan interest out of pocket generally solves the problem. And he didn’t tell you about the option of taking a policy “reduced paid-up,” as I discussed in our previous article on this topic.
So, we agree with Michael Kitces that a growing loan can cause a life insurance policy to lapse.
But Kitces mostly talks about “when the policy lapses.” Huh? “When”? That’s an odd assumption. It’s like saying, “Don’t take out a mortgage to buy a home, because when you default on your loan …”
Does he really think we are that irresponsible?
You don’t take out a life insurance policy loan with the idea that you will default on it—or just to see if it really works. You take out a loan because you have a need for capital.
And I’m going to prove to you why a life insurance policy loan makes more sense than any other form of financing. You can learn more about how to fire your banker and become your own source of financing when you download my FREE Special Report here.
Banking On Yourself Can Give You the Capital You Need When You Need It
If you’re talking about making a major purchase, whether it’s a dream vacation, remodeling a home, an equipment purchase for your business, or anything else, then you’re going to need capital. You also need capital when emergencies arise—medical expenses, a job loss, disability, and who-knows-what-else.
And we assume you are responsible. You don’t borrow from anyone—even yourself—if you don’t plan for the loan to be repaid!
In our previous posts on this subject, we talked about how a life insurance policy loan from a company preferred by Bank On Yourself Authorized Advisors gives you flexibility for when things get unexpectedly tough. Since we’ve already talked about that, we’re not going to deal with it again here.
But Here’s Michael Kitces’ Big Blind Spot …You Finance Everything You Buy!
Conventional wisdom says there are three ways you buy a big-ticket item (like a car, for example):
- You finance it
- You lease it
- You pay cash for it
Let’s look at each of these options:
Using traditional financing instead of banking on yourself
When it comes to purchasing a new car, traditional financing—taking out a loan from a bank, credit union, or loan company—is still the most popular method of acquiring the necessary capital.
When you take out a loan, you pay interest according to your credit rating and the economic climate, and you pay it back according to a pre-set schedule.
But after your loan is paid off, what do you have show for your money? Only an old car, worth whatever its trade-in value happens to be (which is never equivalent to the total of the payments you made).
Leasing instead of using a life insurance policy loan
The second-most popular method of financing is leasing. You pay for the use of a car owned by someone else. You don’t get the pink slip!
But what do you have to show when the lease is up? Even less than with traditional financing. You’ll turn the car in and have nothing at all to show for the payments you made.
Paying cash rather than using a life insurance loan
Perhaps you’re one of the few who don’t believe in borrowing. You save up money and pay cash for your car. Then you replenish your savings over a few years, so you can repeat the process. You would never borrow!
But … didn’t you actually borrow—from yourself?
Here’s the rub: If you save up for your car in a savings or money market account and then pull your money out to pay cash, how much interest are you now earning on that money? None, of course. And you’ll only begin earning interest again as you are able to put money back in your savings account.
The truth is, you finance everything you buy. Either you pay interest when you finance or lease, or you lose interest or investment income you could have had if you’d kept the money working for you instead.
What Michael Kitces Missed in His Review of Bank On Yourself Policy Loans
Kitces missed the fact that someone who is going to make a purchase needs the money to do that—and he has to finance that purchase with money he borrows from somewhere—either from a bank, a leasing company, his own savings stash, or from some other source.
But in his review of Bank On Yourself, he seems to be saying “Don’t ever borrow money because you’ll get into trouble when you don’t pay it back!”
What Banks and Credit Card Companies Don’t Want You to Know!
There’s a fourth way to pay for major purchases—and finance and credit card companies and banks really hope you never learn about this. This relatively unknown strategy lets you bypass traditional financing entirely—and bank on yourself.
When you save up your money in a Bank On Yourself plan, you can then borrow it to pay cash for a car or anything else you might want, and the money in your plan can continue growing as though you never touched a dime of it—if your policy is from one of the handful of companies that offer this feature.
So let’s compare the pros and cons of using a life insurance policy loan with every other common form of financing—keeping in mind the five fundamental requirements of the true meaning of Bank On Yourself, as opposed to the interpretation Michael Kitces gave to my trademarked term for the concept, as we discussed in our previous post.
If you make your major purchases the traditional way (financing, leasing, or directly paying cash), your money is gone forever, other than the potential asset value of something like your home or car. However, when you save up in a Bank On Yourself policy, your money is safe, liquid, tax-advantaged, and growing by a guaranteed and predictable amount every year. And it can continue growing, even while you’re using it to make purchases.
Let me repeat that: A dollar you spend is gone forever. But a dollar you save in your Bank On Yourself policy first, then use for major purchases, continues compounding and growing for as long as you have your policy. And that happens no matter how many times you use those dollars.
Saving money in a Bank On Yourself-type policy first—and then using it to make major purchases—allows your money to compound continuously even while you spend or invest it elsewhere.
KEY CONCEPT: Banking on yourself using life insurance policy loans solves the problem of having to continually interrupt the growth of your money when you spend or invest it.
What about dipping into your 401(k) plan to get your hands on capital when you need it?
I outlined some of the pitfalls of using your 401(k) plan for financing on pages 106 – 107 of my latest best-selling book, The Bank On Yourself Revolution:
With 401(k)s, IRAs, and similar plans, you typically have to sell the investment that you were counting on for growth if you want to get your money out. If it’s a bad time to sell, you’re out of luck. You have to bite the bullet and take a loss.
If you need access to your money in a 401(k), you may or may not be able to borrow money from it, depending on how the plan was set up. But even if your plan permits borrowing, there are government-imposed limits on how much you can borrow, how long you can borrow it for, and how often and in what amounts you must make loan payments.
If, during this loan period, you lose your job or leave your company for any reason (and you haven’t reached the magic age of 59½), in most cases you’re required to pay your loan back in full with interest in thirty to sixty days, or you’ll have to pay income taxes on the money you borrowed—plus a 10 percent penalty!
In addition, some plans don’t even allow workers to make any contributions while making payments on loans. Others require workers to wait a set time before contributing again after taking a withdrawal. If your employer matches contributions, you’d be taking a double hit.
Aside from the penalties and taxes you may owe by borrowing from your 401(k), one study reported in the New York Times calculated that a thirty-five-year-old with a $20,000 plan balance who takes out two loans in fifteen years ends up with about $38,000 less at age sixty-five than someone who never borrows, even if the loans are repaid without penalty.
If you want to learn even more about the Bank On Yourself concept, just download my free Special Report, 5 Simple Steps to Bypass Wall Street, Beat the Banks at Their Own Game and Take Control of Your Financial Future here.
How likely are you to default on a 401(k) loan?
Do you think you would never default on a 401(k) loan? I wouldn’t bank on that! In The Bank On Yourself Revolution I reveal the grim reality:
Dr. Brigitte Madrian, a Harvard University economist, estimates that 15 percent of 401(k) loan balances go into default, and at least 75 percent of workers who leave their jobs with a loan outstanding end up defaulting and getting stuck paying penalties and taxes.”
Don’t touch that IRA either!
Borrowing from your IRA, whether a traditional IRA or a Roth, is not permitted under IRS regulations. If you do borrow, the plan custodian will tell the Feds, and the value of your entire IRA will immediately become taxable.
Even using your IRA as collateral for a loan triggers taxes! For more on this, read “Retirement: Fantasy Versus Reality,” chapter 5 in The Bank On Yourself Revolution.
Borrowing on margin is living precariously
You may be wondering about borrowing money against your stock or investment equity. This is called borrowing on margin. And it is risky.
Perhaps the biggest risk you face is that if the value of your investments goes down, you may have to deposit additional funds into your account to “cover your margin.”
And you would be surprised at how many investors lose huge sums borrowing against their margin accounts, says the Motley Fool.
Ultimately, the broker needs to protect its loan, which means it will have no qualms about liquidating your position if you’re not in compliance.”
The Value of Life Insurance Policy Loans Has Long Been Recognized
Some mighty famous people have taken advantage of life insurance policy loans, when no banker would lend them a dime Which ones, you ask? If you look at page 53 of The Bank On Yourself Revolution:
Walt Disney borrowed from his life insurance policy in 1953 to help fund Disneyland when no banker would lend him the money.
McDonald’s might have served only a few hundred thousand burgers had it not been for Ray Kroc’s whole life insurance policies. Kroc had constant cash flow problems during the early years and used life insurance loans to help cover salaries of key employees and to create the initial Ronald McDonald advertising campaign.
In 2002, Doris Christopher sold her kitchen tool company, the Pampered Chef, to Warren Buffett for a reported $1.5 billion. She had started the company in her suburban Chicago home in 1980 with $3,000 she borrowed from her life insurance policy to purchase inventory.
Foster Farms was founded in 1939 when Max and Verda Foster used a $1,000 life insurance loan to buy an eighty-acre farm near Modesto, CA.
And many not-so-famous people use their policies this way, too. Suzi Hersey is a Virginia real estate investor. She says, “I was able to take a loan with no questions asked and no credit check. I’m the one who determines when and how I’ll pay the loan back. … I feel so fortunate to have found Bank On Yourself!”
Why Bank On Yourself Policy Loans May Be the Eighth Wonder of the World
As I describe on pages 107-108 of The Bank On Yourself Revolution:
Bank On Yourself gives you complete control over the equity (cash value) in your policy. You can borrow your equity whenever you want, for whatever you want, with no government restrictions. There are no penalties for early withdrawals, late withdrawals, or no withdrawals.
With Bank On Yourself–type plans, you have full access to 85 percent or more of the cash value of your policy beginning the very first month, without selling your assets to do it.
In fact—and this is one of the hardest things for people to grasp—if your policy is administered by one of the handful of companies that offer this feature, when you borrow money, your policy can continue growing, just as if you hadn’t touched a dime of it. …
With a Bank On Yourself–type policy, you can literally get your hands on the money you need from your account within days. You aren’t selling off assets. Your money is still growing like you never touched it. You aren’t running afoul of government regulations. And you aren’t subject to penalties.
Summarizing the Value of Banking on Yourself with Life Insurance Loans
A Bank On Yourself life insurance policy loan provides money you can get your hands on:
- When you need it
- For whatever you need
- By simply telling the life insurance company to send you the money—no application or begging required!
- With no penalties for accessing it and no restrictions
- Without sustaining a loss
In addition, you get all these advantages:
- Policy growth that historically has beaten savings and money market accounts and CDs
- You aren’t required to liquidate or sell income-producing assets to get cash
- You can use your money and have it continue growing as though you hadn’t touched it (if your policy is from one of the handful of companies that offer this feature)
- The interest you pay is simple interest, not compound interest—and it ultimately benefits you, the policy owner
As we’ve seen, one of the key concepts that Michael Kitces missed in his review of Bank On Yourself is that you need capital to make purchases and to cover emergency expenses that inevitably arise. And I’ve just explained how banking on yourself with life insurance loans beats financing, leasing, or even directly paying cash. It also beats borrowing from your 401(k), borrowing on margin, and every other method of obtaining capital that I know of.
And when you borrow against a life insurance policy that meets the five key requirements of the Bank On Yourself concept, you are much more likely to avoid a situation where your policy lapses due to an unpaid policy loan.
Doesn’t it make sense to finance major purchases or get the capital you need in such a way that you receive the most favorable terms—with a Bank On Yourself life insurance policy loan?
If you’re ready to get started, request a FREE Analysis here, and you’ll get a referral to a Bank On Yourself Authorized Advisor who will make sure your policy has all the features necessary to maximize the power of the concept.