Does "Be Your Own Bank" Really Work?
In short, almost never. In reality if you are being pitched the idea of being your own bank using Index Universal Life (IUL), Universal Life Insurance (UL) or any variation of a Whole Life policy the insurance agent selling this strategy has really show you three things.
First – They don’t understand what a bank is or how they work.
Second – They don’t understand what a life insurance policy really is or how to use them.
Third – They have no idea what a collateralized loan is or how they work.
The idea is a simple one on the surface. You purchase some sort of life insurance policy that builds cash value. Later on down the road you can borrow against the cash value in that policy tax-free. You don’t have to be 59 1/2 like a Roth IRA, there is no loan underwriting and you don’t have to pay the loan back. Hence, life insurance agents think they have found a way for you to “Be Your Own Bank.”
The reasons for borrowing money usually have to do with retirement. You may even see these pitches tout that you can “supercharge your retirement,” or that congress supercharged life insurance via TAMRA. The TAMRA piece is actually a law that was designed to PREVENT you from putting too much money in a life insurance policy.
So Wait, Then Why Are So Many People Telling Me This Is How The Wealthy Invest?
Because they are playing on your emotions and your desire to be wealthy. Make no mistake about it, wealthy people deploy a whole variety of investment strategies that simply don’t apply to 99% of the general population. This is no different. Also, insurance agents make a ton of money if they get you to bite on this strategy. Often times they aren’t really licensed to sell you anything else, so they have to sell you this type of policy. Historically, the only person getting “wealthy” on this type of transaction is the agent that sold it to you.
In our 17 years of experience, we have seen this strategy only actually work twice. Yes, both times the individuals were already pretty well off prior to the purchase. They were also already maxing out their retirement plans, had ample cash reserves, were investing outside of their retirement plans and were truly looking for a way to transfer wealth to the next generation. If you fit that description, then sure, life insurance MAY be a possible solution. However, if you’re not already maxing out your retirement plan, you don’t have 6(+) months of expenses in cash and you aren’t looking to transfer wealth then this probably isn’t a good solution for you.
So if these plans typically don’t work out, then how does buying one of these plans pan out? In our experience it happens in one of a few ways:
How Does It Usually Workout?
If you are planning on using this strategy and you are under 35, you may be in for a rude awakening. What typically happens is one of a few things.
First- Life happens. You want to buy a house or have a bill come up. So you go to “Your Own Bank” for a loan. Only to find that it takes several years to just breakeven in these policies and the amount of money you can “borrow” from yourself isn’t even as much as you put into it.
Second – They lose patients. These policies will not knock your socks off with a rate of return. It will take years to breakeven and most of the time younger people just don’t play it out all the way.
Third – It feels like a bill. Every month that life insurance premium comes due. Despite what the agent might tell you, if you skip months early on it will have a drastic effect on your policy performance.
We all will reach that certain age were life insurance get’s expensive. Usually around this age is where that cost of insurance really starts to creep up. The more expensive the cost of insurance the lower your return on this type of policy will be. All of the sudden the amount you would need to put into a policy starts looking to be in the several hundred to thousands a month. You could get a much better ROI elsewhere.
The definition of “rich” varies from person to person. The ones that really can see this strategy work out are those that are making at a minimum well over $100k per year. Even that level may not be enough. You have to have enough income to really pump these types of policies up with cash while at the same time not putting yourself in a situation where you may not have enough cash on the side to take care of the “what ifs” in life. The two times we have seen these policies really work well, one person was putting in $1,000 per month, the other was closer to $1,500. Both instances the policies were on their infant children.
How does it work if this doesn’t sound like you? Statistically speaking you surrender the policy long before any real value to established. Meaning you may very well lose money on the deal.