The Basics of Premium Financing

A few months back I had the privilege of sitting down to breakfast with my good friend (and member of my BNI “extended family), Jim Bear .  Jim is a financial advisor with J. Alan Financial in Maple Grove and we had an interesting discussion about premium financing. 

What is premium financing?  Simply put, premium financing is a means of financing the premiums to be paid on life insurance policies, thus obviating the need for large outlays of cash or liquidation of assets to pay premiums on life insurance policies.

I deal with a number of instances in my practice where life insurance is an essential planning tool, everything from estate planning  to funding buy-sell agreements  or simply insuring the lives of key people in a business.  Too often, however, the cost of such insurance plays too much of a factor in whether the client(s) heed my advice to purchase insurance.  Premium financing can help overcome this obstacle.

Here’s how it works:  the borrower applies for a life insurance policy and indicates that the premium will be financed.  If the insurer will accept payment of the policy premium via financing, the borrower then applies for the loan.  Upon approval of the loan, the borrower will make a down payment and the loan covers the balance of the premiums due under the policy.

Loans, however, typically require the pledge of some sort of collateral, and loans to finance life insurance premiums are no different.  Typically, the policy’s cash surrender value and other assets (marketable securities, letter of credit, etc.) are pledge as security for the loan.  While the loan can be a fixed term, the more common structure is to have the loan be repaid out of the death benefits from the policy, making it essential that the amount of such death benefits are sufficient enough to repay the loan and provide sufficient income for the beneficiaries’ needs. 

Premium financing is not appropriate in every instance where life insurance is needed, and there are certainly risks involved, just like any other loan.  Careful consultation with your financial advisor is a must.  Nonetheless, where large amounts of insurance are needed and availability of cash to pay the necessary premiums is an issue, premium financing should be considered.