08
Jun
2018
A Primer on IBC
FEE asked me to write a primer that would work for even high school students. You can read it, no one is looking.
FEE asked me to write a primer that would work for even high school students. You can read it, no one is looking.
Bob, why didn’t you make the analogy between policy loans and bank withdrawals? I found that the most helpful part of your previous explanations of IBC.
And on a related note it would be helpful to mention that policy loans don’t have a fixed term by which they have to be repaid, in fact you can choose not to repay them at all.
And on a related note it would be helpful to mention that policy loans don’t have a fixed term by which they have to be repaid, in fact you can choose not to repay them at all.
I was already way over the word limit they had requested.
Bob, why didn’t you make the analogy between policy loans and bank withdrawals? I found that the most helpful part of your previous explanations of IBC.
Can you point me to exactly what you mean? I actually try to shy away from such talk because I don’t want people to think you’re taking money out of the policy.
I’m talking about statements like this:
«If you spot a great investment opportunity that will yield (you think) 20% in the first year, then great! Go ahead and borrow against your whole life policy, and acquire the investment. IBC simply describes a headquarters or “home base” for your wealth, not a final destination (or prison!) the way 401(k)s are currently designed.»
https://consultingbyrpm.com/blog/2013/06/my-history-with-the-infinite-banking-concept-ibc.html
It sounds like you’re saying that the whole life insurance policy is a place you can park your money, but it’s not a final destination, because you can take it out and put it somewhere else if you find a good investment. Just like a bank account.
In any case, why don’t you want people to think “you’re taking money out of the policy”? Is there something inaccurate about that?
Keshav wrote: “In any case, why don’t you want people to think “you’re taking money out of the policy”? Is there something inaccurate about that?”
Right, it would be inaccurate because you’re not taking money out of the policy. You’re borrowing against it.
Suppose you have a $300,000 house, and you want to buy a $30,000 car. If you borrow $30,000 from a commercial bank on a Home Equity Loan (using your house as the collateral), it’s potentially misleading to tell people, “I took $30,000 out of my house and spent it on the car.” Maybe in that context it’s not too bad, because people realize you can’t literally take money out of a building.
However, with a life insurance policy, you actually have the ability to partially surrender death benefit coverage in order to get cash, or you can withdraw dividend payments. So to make sure people don’t think that’s what we mean, I try to emphasize that a policy isn’t “taking money out of the policy.”
So Bob, you’re saying that policy loans is different than partially surrendering death benefit coverage? Then I had misunderstood your previous explanations.
So then how exactly do policy loans work when you never pay them off? Do they get deducted from your death benefit, or what?
And also, what’s the disadvantage of just partially surrendering death benefit coverage when you need to spend/invest money, and then putting money in a PUA or whatever when you want to save money? Why is that worse than taking out a policy loan and repaying it?
Keshav did you listen to the 2 episodes I pointed Transformer to? That would answer a lot of your questions.
Bob, I just listened to both episodes, and they didn’t answer my questions. The only relevant part was this line:
“The way IBC works in the typical case is, you’re not partially surrendering your death benefit coverage, instead you’re saying to life insurance company, “I want to borrow money, give me a policy loan, and my cash surrender value is my collateral.””
Which is basically what you told me above. But what happens if you take a policy loan and never pay it back? Do you get a lower death benefit? And what is the advantage of taking a policy loan over partially surrendering death benefit coverage? (And getting a PUA when you want to save money.)
Keshav,
If you surrender a policy then the insurance company first pays itself back the outstanding policy loan balance before giving you the (net) cash surrender value. Or if you die, then they first pay themselves back out of the death benefit.
Didn’t I cover this when I handled the objection, “Why can’t I do this with any asset, like a home equity loan?” I said because the collateral is different; for the life insurance company it’s just a subtraction problem to pay themselves back. In contrast the bank has to evict you and sell your house to get back the home equity loan if you default.
At least in those two episodes you didn’t make the subtraction problem point. In any case, if outstanding policy loans reduce your death benefit, then what is the advantage of taking a policy loan over partially surrendering your death benefit?
I have a question.
In the article it is stated:
‘ In practice, what happens is that the life insurance company takes the incoming premium payments and “puts them to work” by buying financial assets, such as conservative corporate bonds. ‘
What advantages would IBC have over just paying the same amount as the whole life insurance premiums into a conservative corporate bond fund?
I just got a quote for what it would cost a healthy 18 years to buy a $1,000,000 whole life policy and it came in at $8,440 a year. I would expect this amount invested over 50 or 60 years to be worth somewhat more than $1,000,000. I see that you can take loans out against a whole life policy, but with a growing self-owned portfolio you could (in theory) just draw down some of the value and avoid loans altogether .
Its possible that my quote was inaccurate or there are tax and other implications I am missing but I’m not immediately seeing the compelling case to recommend to my kids that this is the way to go even if they wished to invest very conservatively.
***** Went to spam again, adding this to try and fool it *****
Transformer I tackle precisely that question in one of these (can’t remember which one):
https://lara-murphy.com/podcast/episode-53-the-case-for-ibc-chapter-5-part-i-the-economics-of-ibc/
https://lara-murphy.com/podcast/episode-54-the-case-for-ibc-chapter-5-part-ii-the-economics-of-ibc/
Bob, it’s at the 26:30 mark of episode 54. I’ve transcribed the relevant portion:
“Sometimes people will say, “Well wait a minute guys, why do I have to go through this vehicle of a life insurance policy? You’re telling me, given the situation right now, the life insurance companies have a pretty safe portfolio. Why don’t I just go Google and see what my favorite life insurance company is investing in itself, what its assets are, and I would just do that on my own? It would obviously be scaled down, but why can’t I just mimic what they do, and then I can avoid the middle man?” So again, a reasonable question, but two things. One, related to what we just went through, technically if you did that, all you’re doing then is opening up a bond fund, as it were, with your household or small business. And so there, if interest rates go up, then you are taking the hit. Whereas if you have a life insurance policy, really what you’re getting there is a promise of a future death benefit, and of course the guaranteed cash surrender values along the way, in exchange for your promised stream of future premium payments. So the moment you take out a policy, if all of a sudden interest rates rise or the dollar takes a hit, your assets and liabilities kind of offset each other as it were. So for example, if the dollar falls in half in terms of its purchasing power and you just opened a life insurance policy, yes, that looming death benefit now is only half as valuable as you thought, but by the same token the premium payments you’re on the hook for are only half as painful. So there’s that element, whereas if all you were doing was investing in the same assets that are in the portfolio of the life insurance company, you wouldn’t have that offsetting feature. So there’s that element, just make sure you realize that that complicates the analysis.
“But beyond that, because, remember, the way IBC works, the way that this becomes a cash flow management system, it’s not that you’re building up this asset, and then when you need money, when you’re daughter’s going to get married, you sell off some of those bonds. That’s not what’s happening. The way IBC works in the typical case is, you’re not partially surrendering your death benefit coverage, instead you’re saying to life insurance company, “I want to borrow money, give me a policy loan, and my cash surrender value is my collateral.” And that’s what’s happening, and I think in previous podcasts we’ve talked about why that’s easier to do and why it just makes a lot more sense than trying to, like, going to a commercial bank and borrow money against the equity in your house and pay for your car, pay for your daughter’s wedding that way. So you have this built-in mechanism when you go via a dividend-paying whole life policy, that when you need cash, you can quite easily borrow against that asset, and there’s really nothing else like that in the current financial landscape. And so again, that’s another reason. So even if you were saying, “No, no, instead of paying premiums to the life insurance company, I’m going to take that money each month and instead just buy fixed-income securities in the same proportion that that particular insurance company buys on its side,” OK that’s great, and then what happens when you need $40,000? You would either have to go to a commercial bank and borrow against those bonds, or you would have to sell some of them off to raise the 40 grand. Neither of those option is attractive as you being able to go to a life insurance company, and if you had $40,000 in cash surrender value, to say, “Let me take out a policy loan with that as the collateral.” So that’s, again, another reason to say, when you really get specific about this, that in practice no, you cannot mimic with other strategies what you’re able to do following Nelson Nash’s advice that he lays out in “Becoming Your Own Banker.””
Thanks Keshav!
Yes, that makes sense and I am starting to see some benefits of IBC.
I do think that you’d have to have a very low tolerance for risk for this to be your main savings vehicle and despite what Bob says in the podcast (quoted above) I don’t think it gives mach protection again inflation for your accumulated policy value.
For the record I’m not a believer in IBC. I still think “buy term and invest the difference” is a better financial strategy than whole life. I really don’t see why accumulating cash value in a whole life policy and then taking policy loans to buy things is better than saving your money in a bank account and then making withdrawals to buy things.
And yes, I don’t think Bob’s argument about inflation makes sense. See my comment below.
Bob, I think I see a flaw in your argument. You say “So for example, if the dollar falls in half in terms of its purchasing power and you just opened a life insurance policy, yes, that looming death benefit now is only half as valuable as you thought, but by the same token the premium payments you’re on the hook for are only half as painful. So there’s that element, whereas if all you were doing was investing in the same assets that are in the portfolio of the life insurance company, you wouldn’t have that offsetting feature.” For once, I think you’re the one who’s not comparing apples to apples.
Consider two scenarios. In Scenario 1, you pay $1000 a month premium on a whole life policy. In Scenario 2, you make a $1000 a month contribution to a bond fund. If the dollar falls in half, in Scenario 1 both the value of your death benefit and the cost of your monthly premium get cut in half. And in Scenario 2 both the value of your bond fund investment and the cost of your monthly contribution get cut in half.
So that’s not an advantage of a whole life policy over a bond fund.
It seems to me like you would definitely get less money back out this way than you put it. I don’t get the appeal.