By Adam Doran
As a successful real estate investor, one of the good problems you’ll encounter is figuring out what to do with the extra money that accumulates in your bank account over time. In my early years as a real estate investor, I remember the first time I saw five digits in my business account—”Forty thousand dollars! WOW!!!….Now what?”
Where do you put that kind of money? Into another deal, of course. But what if you have to wait a while for that next deal to come along?
I didn’t want all that money just sitting in the business bank account. I wanted it to be productive. I also didn’t want to put it in the market and risk taking a loss on my capital, because as surely as the account would be down 20%, that’s when the next deal would come knocking.
I went searching for the best type of account I could find to warehouse capital while in between deals.
If I were going to design the perfect vehicle to save and protect cash, I’d want it to have the following attributes:
A number of savings vehicles are strong on some of these, but weak on others. What I learned through my own research, though, is that a properly structured whole life insurance policy through a mutual insurance company offers all of them.
Control and Liquidity
With traditional retirement accounts, like IRAs and 401(k)s, you can’t touch the money in those accounts until age 59 ½, with few exceptions, unless you’re willing to pay penalties and taxes. You also don’t own the account. You’re a beneficiary of a government-sponsored plan, which means they can change the rules and there’s nothing you can do about it. They don’t meet the criteria for control and liquidity.
With a whole life policy, access to capital is as simple as requesting a policy loan. With most carriers, this just requires a phone call or a simple loan request form. No red tape, penalties, or taxes. With policy loans, just as with a bank savings account, you decide when to put the money back. You can start paying yourself back monthly, make no payments for a few years then put all the money back at once, or a little of both.
With a whole life policy, you can purchase a secure wealth position for the future. When your policy is issued, you are contractually guaranteed a minimum cash value and death benefit, and every year the cash value amount goes up. It’s not correlated to the stock market, so there are no wild swings in value.
Many policies have an option to include a “waiver of premium” rider, which will pay the policy’s premiums for you if you become disabled. This essentially gives you a self-funded capital account in the event you’re too sick or hurt to go to work.
The solvency record of privately held mutual insurance firms is nearly unblemished. Compare that to banks.
Number of banks that failed in 2008: 25.
Number of mutual life insurance companies that failed in 2008: 0.
Life insurance companies are required by law to guarantee their ability to pay obligations to policyholders, and they are closely monitored by state regulators. This emphasis on actual cash reserves gives you confidence your money is secure.
When the policy is structured correctly and you deploy your capital through policy loans rather than withdraws, the entire asset remains tax-free. It functions similar to a Roth retirement account, but without any of the contribution limits, withdraw restrictions, income requirements, or other restrictive rules.
Your bank might pay you a fraction of 1% annual interest on your account balance, which has you falling behind inflation, plus interest income is generally taxable. Your whole life insurance policy will pay a guaranteed minimum interest rate plus a non-guaranteed annual dividend, which both credit into the policy tax-free.
Furthermore, the amount that is credited to your cash value increases every year, even though your premiums remain level, meaning the value of your deposits increases every year. If you use your annual dividends to purchase additional paid-up life insurance, your increasing death benefit adds another offset to inflation.
Privacy and Protection
We live in a litigious society. Money in your bank accounts can be seized as a result of a creditor’s judgment or civil lawsuit. Your whole life insurance policy, however, and the cash value within, are private and protected from lawsuits in most states. (Consult an attorney to find out if this applies to you.) This protects your savings today and your financial legacy for future generations.
Besides the benefits of whole life insurance as a capital strategy for real estate investing, there are many other ways to use this tool. Here are a few more uses for your cash value by leveraging policy loans:
- Private lending
- Funding the startup of a new business
- Covering major car repairs
- Home improvements
- Paying off debt (buy out your creditors and “become the bank”)
- Tax-free supplemental retirement income
Using policy loans instead of cash from a savings account or a loan from a creditor offers far more control and flexibility, plus your savings never stops growing.
When you withdraw from a savings account, you lower the balance, and the corresponding interest you earn. With a whole life policy, you don’t actually withdraw cash from the policy. You take a loan from the insurance company against the policy’s cash value. You still receive all your scheduled interest and dividends, even while your loan is outstanding. You never interrupt the compounding cycle.
With a bank loan, failure to pay results in damaged credit and a possible judgment or asset seizure that could affect your heirs. If you don’t pay back a policy loan, there’s no damage to your credit while you’re alive, and your heirs still get a death benefit, just minus the amount of the loan and interest, as long as you kept your premiums current.
To be clear, utilizing life insurance as discussed in this article is not an investment strategy, where you risk money for high returns. This is a capital strategy, with very conservative interest earned within the policy. We’re talking about secure savings, long-term growth of capital, and protecting your capital stash with privacy. A properly designed whole life policy is a smart choice for some real estate investors.
Did you get value from this? Do you have questions? You can email me: firstname.lastname@example.org and I will personally respond. It’s my mission to help real estate investors master their money and enjoy life more.