As advisors, we have a responsibility to help our clients live the life they want. On the front end, that means we’re listening to them. Behind the scenes, it’s imperative to have a deep understanding of what we do and how to do it.
While that should seem like a given, there are still many false perceptions about whole life insurance and what it does (and does not) achieve. One such misconception centers around the concept of a policy loan. And as advisors, we must be diligent that we don’t perpetuate these ideas in the way we speak.
What is a Policy Loan?
There is more to whole life insurance than policy loans, yet policy loans are a popular selling point that many advisors lean on. Strategic use of these loans can help clients leverage opportunities, while the cash value of the policy continues to grow.
However it’s easy to mislead clients into thinking that policy loans are a magical solution. They’re powerful, but they’re not magical. For example, shifting a loan from a bank or a credit card into a policy loan is not the same as paying off a loan. The loan still exists, it has only moved to a place that provides your client with an advantage—as long as they’ve been taught the value of being their own banker. That requires that they understand the importance of making payments so that the policy does not implode.
It’s the same concept as any other loan transfer—when you refinance your home, you still have the debt. You’ve just changed the structure of that debt.
Having the Facts
When you’re doing any calculation, it’s important to have not only the numbers, but the right numbers. Too often, numbers are left out or added into an equation that changes the context. That’s part of the reason Truth Concepts, and subsequently Truth Training, was developed—to ensure that all relevant data can be used to tell the whole story.
One of the leading variables left out of financial equations is the time value of money. In order for calculations to be accurate, the time value of money is fundamental. In the comparison of two loans, it is not enough to add up the cumulative interest in each loan. That interest must be evaluated over the whole time frame.
Furthermore, the opportunity cost must be considered. What could this money achieve if it were doing something else. In other words, what is the cost of taking one opportunity over another? A shorter timeframe for a loan may be appealing, but that usually signifies a higher payment. A lower payment would provide more monthly freedom, and could be better for instilling good savings habits. This post can help you teach your clients how to analyze loans, and the difference between payments and cost.
Many people, advisors and clients alike, fixate on interest rates (and subsequently accelerated payment plans) to their own detriment. There’s a persistent myth that the quicker you pay something off, the more money you’ll save. Yet if you’ve followed Truth Concepts for long, you’ll know that we’ve debunked the myth of accelerated payments in numerous ways–cars, mortgage, and more.
The most telling detail of these accelerated payment plans, is that you have to spend significantly more money each year, which reduces your annual cash flow. A higher payment often puts the client in a tighter spot financially, and prevents them from establishing good savings habits in the present. By the time something is paid off, will your client have the discipline to save?
Don’t fall into the trap of “interest savings” by not fully analyzing a deal, or thinking you can bypass interest with a policy loan. While the cash value of a whole life insurance policy is similar to equity, a loan is still a loan. For an example, read Todd’s HELOC report, which debunks the “home equity line of credit” method of paying down a mortgage.
Being Your Own Banker
When we talk about interest, it’s also important that we discuss the interest charged by the insurance company. The interest rate may be different, often lower, but it still exists. After all, the loan is not paid off, it is simply transferred. Some software doesn’t illustrate the policy interest rates, but without it the comparison is rendered void.
The loan interest from all lenders, including the insurance company, must be considered.
Why Language Matters
The next piece of the puzzle is how we talk about policy loans. When we take a loan, we’re not borrowing from our cash value. We’re borrowing against that value. The insurance company is the lender, and the cash value is collateral for that loan. Otherwise, we’d simply be liquidating the cash value.
If the mission is to educate and empower our clients, we must be sure that the language we use is intentional. This is especially true when we speak about policy loans, because the clients must understand that there is still debt. If the policy loan is not paid back, it will be liquidated from the policy. While there are many benefits to a policy loan, magically eliminating another loan is not one of them.
This is also true of our loan “payoff” times. It’s important not to misrepresent the time frame over which the loan is paid. Consider when loan payments are made—the beginning of the month or the end of the month? It could depend. Yet consider that the end of year balance is the same as the balance at the beginning of the following year. This has the potential to change a loan analysis, especially when you’re splitting hairs.
Including All the Pieces
Ultimately, when we as advisors are illustrating anything, we must make sure that we’re telling a Whole Truth, not just a story that tells a segment of the truth. When you’re doing any calculations, you must include all relevant variables. Include all interest rates. Make sure your time frames are equal. For more ideas on blind-spots that advisors are prone to having, read this article.
Ultimately, it is misleading to tell people a life insurance loan is somehow different than a loan with any other financial institution. There is no “magic” with a policy loan, it just looks and sounds that way when you leave out some of the important facts.
Life insurance is a tool that helps people across the nation build more certainty in their lives. However we have a responsibility to avoid using misleading math (math without certain variables) to prove a new plan is mathematically better. Misleading information, backed up with questionable math, is what tarnishes the integrity of the life insurance industry.