What Makes Whole Life Insurance Cash Value Such a Great Vehicle for the Infinite Banking Concept?
Now that we’ve outlined the 4 key features of a whole life insurance contract, let’s look a little deeper into the growth, safety, and liquidity of this cash value that makes it valuable to you.
Growth
One of the most fascinating mechanisms inside of a whole life insurance contract is how your money grows.
Within the policy, you earn a competitive, tax-free return. Current policies are earning between 3 – 5%, net of all taxes and fees, over a 30+ year period, historically performing 2 – 3 basis points above savings account rates in the same period.
What makes this possible? While it may seem too good to be true, it’s far from magic or wizardry. Life insurance companies value stability, certainty, and conservative guarantees over risk. Their calculating stewardship works more like the tortoise in the legendary Aesop’s fable of the tortoise and the hare.
When you place your premium dollars into the policy, the life insurance company invests those dollars conservatively, with a long-range view, so that they can guarantee a return to policyowners. To accomplish this, the insurance company selects a portfolio primarily consisting of investment-grade corporate bonds and real estate.
Then, the company covers its costs: administrative overhead, agent commissions, and most significantly, the cost of paying out death claims.
After accounting for growth, costs, and maintaining appropriate reserves, excess profits are then distributed to policyowners as dividends. From a profitability standpoint, it’s to your benefit for the insurance company to be profitable. Higher profits mean you, as a part-owner of the mutual company, get a higher dividend.
The dividend is then added to your guaranteed interest growth, to make up the total cash value in your policy.
Tax-Advantaged
It’s important to note that whole life policies grow tax-deferred. It can be accessed and used without paying tax, and the death benefit is paid to your beneficiaries, income-tax free. With whole life insurance policies, you are truly paying tax on the seed, and not the harvest. (Aside from some improper uses, including withdrawals over the cost basis, or MECing a policy, which would change the tax status.)
In taxed assets like CDs and stocks, you owe annual taxes on the gains. That means that in taxable accounts, your returns are not the actual return, since you still have to subtract out the taxes owed before you arrive at a true return. For example, a 6% taxable return in a 30% tax bracket is a real return of 4.2%.
However, once you place your already-taxed dollars into the policy, you don’t pay tax again, as long as you use the policy correctly*. The growth rate you see is the final rate.
This gives whole life insurance growth a leg up over taxable accounts, because a lower, non-taxable return, will outperform a higher, taxable return.
Net Returns
Cash values are always listed net of all costs, so it’s an actual bottom line, or net-net-net return. Taxes don’t apply, and costs have already been accounted for.
Long-Term Actual Growth
A Whole life insurance policy is a long-term tool, and its performance and growth should always be viewed with a long-range perspective.
When you look at the expected performance over the next 30 years, or the actual, historical performance of a specially designed policy that’s been in force over the last 30 years, you can compare the total cash value against the total capital outlay to derive a rate of return.
This is where we are finding the 3 – 5% returns. In the long-range performance. Actual returns in the early years will be negative, followed by increasing growth rates over time.
In the first few years, many of the costs are front-loaded, causing a lack of liquidity. Typically, somewhere between years 5 – 9, the policy will cross the break-even point, where the total cash value begins to exceed the total premiums paid in. Beyond that point, growth continues.
Generally, insurance company growth rates tend to follow the bond market. Today’s low interest-rate environment has also repressed the growth rate of policies, and we’re seeing much lower growth than policies from 30 years ago. However, as interest rates rise, a subsequent increase in growth could be expected.
Safety
Money that you store in a Specially Designed Life Insurance Contract can be thought of as a savings tool, where money is safe and liquid.
It is not an investment. As such, it is not subjected to market risk.
Every time interest or dividends are added to your policy, the current, real-time cash value becomes the new floor, and it will never drop below that value, but only rise over time.
Adding an additional layer of safety, in most states, your cash value is safe from scrutiny or seizure by creditors, predators, lawsuits, and the government.
Liquidity
Another of the intriguing inner workings of a life insurance policy is the liquidity – your ability to access your money.
When you have cash value, you are able to access it with a guaranteed loan option and unstructured repayments, stacking up to a truly hassle-free borrowing experience.
This is possible because as a part-owner of a mutual company, you have first priority to your capital.
You Don’t Use up Your Cash Value, You Borrow Against It
Of several options, the most advantageous way to access capital is to utilize a life insurance loan. Only, instead of borrowing from your cash value, you borrow against it. You use your cash value as collateral, borrowing against your policy, and using the insurance company’s money instead.
Yes, you pay interest to utilize capital in this way, because all capital has a cost. Being the banker and the borrower means, you don’t only pay interest, you also get to earn interest, because all of your collateral remains intact, continuing to earn interest and dividends, without interruption.
That means that your money can reap the rewards of long-term growth, even WHILE you use that money in another place. You really get a multiplier effect when you use a policy loan to invest in a cash-flowing asset because you earn a return in two places at the same time.
And getting a whole life policy loan is a piece of cake. There are no applications, questions asked, credit checks, or even scrutiny as to what you can use the money for. Simply having whole life policies entitles you to utilize their value for whatever you want, for emergencies or opportunities to work in another asset for you, at any time. You just ask for the check, and it shows up in your mailbox about a week later.
The icing on the cake is that you set your own payback schedule. While we recommend always creating a plan to pay back the policy loan, you pay as you choose. The company will not hold you accountable to the plans you set in motion, you do. You can pay interest-only, set a principal and interest repayment plan, or wait and pay it all back at once. This flexibility allows you to stay in control.