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Should You Borrow From Your Life Insurance to Finance a Real Estate Investment?

Millionacres logo Millionacres 7/28/2021 Liz Brumer-Smith
a person sitting in front of a keyboard: Should You Borrow From Your Life Insurance to Finance a Real Estate Investment? © Provided by Millionacres Should You Borrow From Your Life Insurance to Finance a Real Estate Investment?

As real estate investors, we're always looking for ways to maximize our profits and reduce taxes. And both can take some creativity at times, especially once you've maxed out some of the more traditional methods of tax deferment like a 401(k) or self-directed IRA account. But if you're looking to finance a real estate investment, there's a less well-known option that allows you to borrow from your life insurance policy.

The infinite banking concept popularized the idea of borrowing from life insurance, and while there are things to take into consideration, it can be a viable way to grow your wealth through real estate, tax deferred, while taking care of your family. Find out whether you can borrow against your policy, understand the terms associated with such a transaction, and determine whether it makes sense for you.

How does borrowing against life insurance work?

Life insurance can give you peace of mind, ensuring your loved ones are taken care of in the event of your death. But no one wants to tie up large sums of money and leave it sitting there without any sort of return, which is why many turn to real estate to grow their money. With a whole life insurance policy -- one with a cash value you can draw against -- investors are able to take a loan against the funds, turning each dollar into $2, $3, or more.

This life insurance policy, also referred to as permanent life insurance, can act like a savings account or home equity line of credit (HELOC). As you pay your premium, you build up funds within your account, which you can then borrow against. Doing so allows you to grow the money at significantly higher interest rates than a bank's savings account and benefit from the added bonus of being tax deferred.

When you draw from a permanent life insurance policy, there are no loan fees or closing delays like those you might encounter with a HELOC, and when the deal is done, the interest paid on the loan is paid to your policy, not a bank.

Permanent life insurance policies have much fewer restrictions than other government-controlled tax-deferred accounts. That means fewer restrictions on what you can purchase and no need to be approved by a life insurance employee who may not know how to invest in real estate.

Real estate, although less liquid than other investment options, is often a good match for life insurance loans because it can comprise longer-term investments that provide a somewhat passive return on investment.

Terms to be aware of

Life insurance policy loans still require you to pay interest just like you would to any other financial institution. On the bright side, though, rates are usually fixed and there are typically no penalties for early withdrawal. So, you'll need to be generating a high enough return on your investment (ROI) to justify the expense.

If the investment offers inconsistent cash flow that may not cover financing costs, it may not be the right fit for you. When purchasing a permanent life insurance policy, you'll need to pay your premium every month or year. If you don't have the funds available, you can lose your policy. A stable or reliable income will make this much easier to maintain.

You will also need to do your homework so that you understand the implications of drawing against your specific policy. Depending on the plan you select, if you pass away, outstanding loans can affect your beneficiaries' benefits. That means that, depending on your age, circumstances, and policy, it may not make sense to withdraw funds from your life insurance for a real estate investment.

Is this a good fit for you?

If you're maxed out on your 401(k) or IRA contributions each year and looking to grow your savings further, this could be a great option for you. Generally, a policy will allow you to withdraw funds of up to 90% of the policy's value, but every company will have their own specific guidelines. This will allow you to put your money to work in two different ways at the same time.

Leveraging your investment dollars makes sense. But borrowing from your life insurance can come with a lot of extra fees and premiums. Ultimately, borrowing from your life insurance policy enables you to use already allocated funds to your investment advantage, but this will only be helpful to certain individuals.

Make sure you talk to your financial planner about your specific circumstances so you can decide whether borrowing from your life insurance policy is the best choice for you. Speak with your life insurance provider, too, as not all plans are created equal.

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The Motley Fool has a disclosure policy. Editorial opinions are ours alone and have not been previously reviewed, approved, or endorsed by included advertisers. Editorial content from Millionacres is separate from The Motley Fool editorial content and is created by a different analyst team.

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