December 26, 2022
“With Income for Life (a.k.a Private Reserve Account, PRA), we put our money into a high-quality indexed universal life insurance policy from a solid company. And we set it up a specific way to supercharge the growing cash balance in your policy.
But why is the policy loan feature with a PRA such a big deal?
In short, your policy comes with a guaranteed policy loan provision. That means the insurance company will give you a loan (no questions asked) up to the value of cash in your policy—anytime you want it.
For example, if I have $50,000 in cash value in my policy, I can call up the insurance company and request a $50,000 loan.
Now, here’s the great thing about this: The insurance company will loan money to me from its own coffers, not my policy’s. That means my money stays intact in my policy and continues to grow. This is huge. Uninterrupted compound interest has been called the eighth wonder of the world. If I were to use $50,000 of my own cash to fund something, I would likely have to liquidate an investment (maybe sell a stock or take money out of an interest-bearing account)—and that would stop the compounding process.
But with this policy loan feature, I get the best of both worlds—the money I need and continued compounding.*
In order to clarify, let’s explore a related idea. Few people understand the idea of opportunity cost. It almost never is discussed in the mainstream press. But it is a real cost.
Opportunity cost defined: if you spend or lose a dollar, you not only lose the use of that dollar, you lose the ability to invest it and to earn with it. The potential future value of spent dollars is called Opportunity Cost.
Example: You pay cash for a $50,000 car. What did that car really cost you? At 5% annual for 5 years, the opportunity cost is $14,168. So that car really cost you $64,168. Paying cash means you have drained the tank and killed compounding on that amount of money.
But how does that work with permanent life insurance policy loans? With policy loans, the money inside the policy continues to compound. You have the ability to use money in other ways, and not suffer opportunity cost. Put your money to work for you in multiple ways.
Spender, Saver, Wealth Creator
When it comes to purchasing strategies, there are three common types.
The first is the Spender. The spender has no liquid assets and has no other choice than to borrow from a financial institution then making a major capital purchase. (A major capital purchase is any purchase that cannot be paid for, in full, using normal monthly cash flow). The Spender works to spend. The Zero Line is a financial position in which one has no Savings or Investment dollars and owes no one anything. With no savings, when one borrows, they are borrowing from their potential future earnings. With no access to capital the Spender is often forced to borrow using non- collateralized high interest loans, falling well below the zero line. This person borrows and pays back with interest, never getting above the Zero Line.
Next is the Saver. The saver prefers to save toward a major capital purchase and then pay cash. The saver must then save again for the next major purchase. While the saver does not pay interest to a financial institution like the spender, the saver forgoes earning future interest on the money consumed by the purchase. The Saver also likes to spend but does not like the idea of paying interest to make their purchases and getting back into debt. They know too well the financial stress of being in debt and work to eliminate that pressure. They work to live above the Zero Line, paying cash or using a credit card in which they pay off the balance before any interest is charged.
Finally there is the Wealth Creator. The wealth creator saves to build up a continually increasing pool of capital. When a major purchase is required, the wealth creator is then in a position to choose how to finance the purchase at the most favorable terms and rates. Their driving desire is to be able to live in the future like they live today, adjusted for inflation, and have enough to live to live expectancy. This is the true definition of wealth. The Wealth Creator shops for money to cover major capital purchases looking for the best financing options available to cover major capital purchases. Like the Saver the Wealth Creator repays these loans from current cash flow allowing their future lifestyle savings and investment tanks to increase monthly with interest earnings plus new contributions.
They first see if they can find OPM (other people’s money) to borrow at lower interest rates than their money is currently earning in their accounts.
They also have the same option as the Saver which is to borrow from their own accounts and replenish the borrowed funds over time from their current lifestyle cash flow. The major difference is they also pay back their personal loan at interest further solidifying their financial future.
The Wealth Creator wants to make a $50,000 car purchase. At a 6% interest rate, for 5 years, the total paid will be $66,911 wealth transfer whether they finance or pay cash (assuming rates are equal). So what does the Wealth Creator do that’s different? They’ve saved and have the money so they could pay cash and drain the tank, but instead they decide to continue saving and keep their money compounding, (6% in this example), and collateralize a loan to make the purchase. They use their collateral capacity. By continuing to save, the starting balance of their savings or investment account will grow by $16,911 due to compounding over those 5 years (plus the ongoing additions to their savings account and the interest earned on that as well) while their lifestyle cash flow funds the their car payments.
The Wealth Creator is still obligated to pay financing costs of $6,911 over that time period. And because of opportunity costs, we know that’s really a $9,322 wealth transfer. So how do they minimize this? Since any interest paid is interest lost, the faster they pay off the amortized loan, the less interest they will pay and consequently, the less wealth they will transfer away. Paying your loan off quicker doesn’t change the cost of what you bought, but it will impact your cash flow by eliminating your payment sooner.
The power of compounding in a Private Reserve is that you keep your money working for you. You never want to reset compounding because the money you are saving and investing will one day be called upon to replace or augment your future lifestyle. Value and protect your savings and investment dollars.
Case Study of Investing using Other People’s Money
Here is an actual case study. For this investment, we used a solid company pooling investments to buy single family homes for rental in the Dallas, Texas area. We made two investments from our Private Reserve Account, and let it compound since then. Each quarter we pay the distributions back into the loan. Here are the actual results as of December, 2022:
|12/15/22||Q4 2022||4Q2022 Distribution||$1,875.00|
|9/15/22||Q3 2022||3Q2022 Distribution||$1,875.00|
|7/29/22||Q2 2022||Special Dividend 2022||$37,500.00|
|6/14/22||Q2 2022||2Q2022 Distribution||$1,500.00|
|3/1/22||Q1 2022||2021 Special Year-End Dividend||$3,000.00|
|3/1/21||Q1 2021||1Q2021 + 2020 Year-end Special Dividend||$3,750.00|
|3/1/20||Q1 2020||1Q2020 + 2019 Year-end Special Dividend||$3,750.00|
|3/1/19||Q1 2019||1Q2019 + 2018 Special Year-end Dividend||$3,750.00|
|3/1/18||Q1 2018||1Q2018 + 2017 Special Year-end Dividend||$3,000.00|
So, we have contributed $75,000 of OPM, and that money has returned $94,000 to us over six years. The special dividend in 2022 fully paid back the original investment, and now it’s cash flowing at $7,500, which is equivalent to a 10% annual return on invested capital. We now have:
- no cost in this investment
- access to all the original capital for other purposes
- all the while it’s been compounding uninterrupted interest in the Private Reserve account.
Collateral capacity is the key.
And we’ve got to learn if we want to make that transition from every day savers, to be wealth creators who have an impact in the society we live in, we’ve got to build wealth. … and if we need to build wealth, we have to understand the concepts to create wealth. And collateral capacity is the foundation.
So instead of draining the tank, we are going to be able to borrow against the money we have. Now for many people I just said the word borrow.
BUT I am not telling you to get in debt. I am showing you how to be wealthy.
And so collateral capacity allows us to invest, and to purchase the things, and take care of the things in life that we need to do – and while I am paying it off, my money continues to grow with tax-deferred compounding interest.
We never drain the tank.
We never start over.
We are making over 15% and it cost us essentially nothing. And, we see how this can be a part of our retirement now…
There is now a new opportunity with this group, with similar features, and you can be sure I’m going to ‘rinse and repeat’!
To learn how you can take advantage of these strategies contact us:
Office: (864) 247-7940
Ebb Tide Court
Salem, SC 29676
Licensed in SC, GA, VA, TX, CO, CA, WV, NJ and affiliations in all 50 states
*Continued compounding for some types of policies. IUL may incur a ‘0’ year.
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