Some insurance sales folks peddle a concept called "Be Your Own Banker." Don’t fall for it.
This idea has floated around the Internet and late-night television for a while now. One of the latest versions, touted on a website called www.bankonyourself.com, shows what very bad advice it is.
Once you drill down past the initial layers of ambiguity, the basic concept seems simple enough. You buy a large whole-life insurance policy. After you pay into it for several years, it will accumulate a cash value. Then, any time you make a major purchase, like a new car, you can borrow against your insurance policy instead of going to a bank.
According to the people selling this concept, you are the big winner here because you're paying interest to yourself, not the bank. Note that, in a whole life policy, part of your premium goes to purchase insurance protection, another part to the cash account, also known as the investment account.
The BYOB salespeople are incredible marketers. This must be where political campaign managers ply their trade in between elections. The sales reps blast our financial system, banks and bankers, mutual fund managers and financial advisors. They profess to care about the customers they call "clients."
The half-truths and misstatements from these sellers are enough to elevate the blood pressure of any honest financial planner. They use terms like "depositing cash into a life insurance policy" and "having control of your own banking system."
Amid all this unbelievable double-talk, they forget to mention one little detail. All that money that you "invest" in your whole life insurance policy is from the premiums you pay. You aren't paying the money to yourself. You pay it to large life insurance companies —which, by the way, are an integral part of the financial system these promoters blast.
Let's look at some actual numbers. You pay $12,500 a year in premiums for a $125,000 whole life insurance policy. In four years, after paying $50,000 total, you have $46,110 in your cash account. Yes, this is less than you put in, because of the fees and the part of your premium that buys insurance protection. You can borrow up to 90% of the net value, or $41,500.
You pay the company 5% for borrowing your own money. Supposedly, the interest is paid to yourself and adds to the cash value of the policy. But a deeper look shows that the interest you pay yourself must be over and above the interest paid to the company, which is just another name for "premium." The insurance company charges you interest regardless of the "interest" you pay yourself.
What happens if you don't pay back the loan? The interest keeps compounding, adding to the amount of the loan and eating up the cash value of the policy. This could eventually leave you facing some nasty tax consequences, potentially including having to pay income taxes on phantom income.
Instead of paying that $12,500 a year in premiums, you could put it into a deductible 401(k) plan and invest the funds in a diversified portfolio. You are even better off to put it into a taxable account. Then if you needed a new car or water heater, you have cash and wouldn't have to borrow from yourself or anyone else.
After spending hours researching "being your own banker," my staff and I understand what BYOB really means. It stands for "Bring Your Own Bottle" – of pain reliever. You'll need it for the headache of trying to understand this slick advertising scheme. It makes no sense for anyone except those selling the life insurance policy.
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Rick Kahler, CFP, is president of Kahler Financial Group in Rapid City, S.D.
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