Strategic financial planning in one’s senior years will require the creative ability to think outside of the box. In many cases, experienced investors are asset rich, yet cash poor. A significant portion of an investor’s net worth is likely tied up in real estate. For many, it is the most effective means of preserving and growing wealth. However, securing traditional funding for future real estate investment opportunities may become much more complicated when one reaches their later years.
The collateral assignment of life insurance provides a sophisticated alternative that allows policy owners to capitalize on both the protection afforded by a life insurance contract and the potential for additional real estate investments. This article will explore how using their life insurance contracts, seniors can provide a source of funds to facilitate new property development.
Understanding Collateral Assignment
A collateral assignment is a contract that allows a policyholder who owns a life insurance policy to use that policy as collateral when they borrow money. A collateral assignment includes a third party (such as a bank or another entity) and the third party will have the right to receive some of the death benefit of the policy (or some of the cash value), if the policy owner defaults on his/her obligation to repay the borrowed amount or dies prior to the time he/she has repaid the loan. Collateral assignments can be very attractive alternatives to selling assets at distressed prices and/or using expensive, non-secured lines of credit by seniors.
Collateral assignments are also attractive to older borrowers because the collateral used in these transactions — a permanent life insurance policy — is viewed as high quality collateral by lenders. As such, a senior may be able to obtain better loan terms with respect to rate and repayment period than would otherwise be possible through other types of loans which are designed specifically for seniors.
Why Real Estate and Life Insurance Align
The amount of money required to fund real-estate projects is high; in addition, for a lot of senior citizens permanent life insurance plans are a reserve of unrealized wealth. An investor can utilize a collateral assignment to release that wealth without giving up their plan. Therefore, the investor can move from being a recipient of the benefits of having the policy at their time of death to becoming an active source of funding for an investment project.
“Life Insurance is so much more than access to funds for debt. It also serves as a means of diversifying your wealth”, according to Betsy Pepine, Owner of Pepine Realty. “Moving seniors from static benefits to producing real estate income provides an opportunity for multi generational financial legacies. The result is a financial legacy which will be much more sustainable with this type of investment strategy versus investing solely in insurance. As such, families are able to increase their net worth, without having to diminish their underlying insurance protection”.
Types of Senior Real Estate Ventures
1. Residential Income Properties
Purchasing rental units creates consistent retirement income through monthly rent payments. The use of collateral assignments allows seniors to assign their existing assets (e.g., an IRA) as collateral for a loan that may be used to make a down payment on a rental unit. This method eliminates the need to qualify based on income when obtaining a traditional mortgage.
2. Fix-and-Flip Projects
Those who have experience managing properties will find fix-and-flip to be a great source of income. When using short term high intensity, a good option would be to establish a line of credit backed by your life insurance.
Benefits for the Senior Investor
The senior investor receives the benefit of liquidity without having to pay taxes on it. As the loan is backed by an insurance company-guaranteed asset, lenders will typically provide lower interest rates than would be provided if they were lending based solely upon creditworthiness of the borrower. Closing a transaction quickly is critical in today’s fast-paced marketplace.
Mike Otranto, Owner of Wake County Home Buyers, stated that one of the main advantages of this product is speed. “In fast-paced real estate markets, being able to offer an all-cash type offer due to your ability to pull money from the Line of Credit using a Policy gives you the opportunity to purchase distressed homes or unique investment opportunities as soon as possible.”
Risk Management and Ethics
While this method can be very effective it does require an exit strategy for the lender. The lender has a priority claim on the life insurance proceeds equal to the outstanding loan amount. If the borrower dies before paying off the loan, the lender will collect from the death benefits prior to any distribution to beneficiaries. Therefore, it is crucial that the real estate investment will generate sufficient income to meet all debt obligations (interest & principal) while protecting the long term value of the policy.
Conclusion
The use of collateral assignment illustrates how senior parties may utilize the real estate space while using their assets created through life insurance throughout their lives. Industry experts Otranto and Pepine have shown that combining the tools of real estate with those of life insurance are two powerful tools for today’s estate planners. Thus, senior investors will be able to convert the protective nature of life insurance into a means of increasing their wealth.
