A Real Jump Scare: IUL Premium Financing Is Like the Hotel California of the Life Insurance Business - You Can Check In, But You Can Never Leave

For those who have followed my previous posts, you know I am no fan of premium financed IUL. I have also engaged in three separate industry-sponsored debates on the topic with some of the self-anointed kings of IUL premium finance. All of my posts on this topic have led to an increase in inquiries from law firms reaching out (at least one every other week) to ask if I would act as an expert witness in their litigation that’s currently being filed with the courts. I have even received the occasional call from a distressed consumer who has found themselves trapped in one of these terrifying IUL strategies. In addition to my interactions with those parties, Valmark has stepped in countless times to provide second opinions to our Member Offices regarding failed transactions and how best to exit them. ?

As I listen and review original sales materials and documents from multiple cases and consumer stories, the facts are usually strikingly similar to each other. We hear things like, “I was promised I could buy a lot of insurance by just paying a little bit in interest” or “the loan was supposed to be low risk with only temporary collateral needed to get the program started and the policy would pay off the bank loan afterwards.” Once they have seen how the transaction plays out, most consumers say something like, and I am paraphrasing here, “I would’ve been better off leaving my money in my business and using my balance sheet to pay for these policies with little money out of pocket” and “I was shown an alternative of paying for this out of pocket and the IRR on the financed plan was 4X the policy paid for outright.”

The end is the same for all of those I have spoken to; a policy that is now earning less than the cost of the loan, unmanageable collateral calls, and a giant financial hole that is difficult to get out of. After these clients discover how these transactions play out, they are upside down a million dollars or more and they feel trapped.

Based on these conversations and review of in force programs, here are some considerations that, I believe, if consumers knew of in advance, they never would have entered these transactions to begin with:

• Cap Rates on IUL Can be Changed by the Carrier Unilaterally. Most IUL policies have a crediting method that includes a cap on how much a policy can earn. For example, this year the S&P500 index is up 23% YTD. A cap would limit this credit. For example, in some of the cases we are reviewing, the initial cap was as high as 16%. This cap has now been cut in half to 8%.? An IUL policy that only credits a maximum of 8% participation in the years when the market is up, and only 0 or 1% in years when the market is down, results in a much lower than projected cash value.?
• Collateral Calls. A combination of higher-than-projected borrowing rates and lower crediting rates on IUL cash value leads to a collateral amount that is much higher than originally expected.? It is not unusual to see projected collateral 4 to 5 times higher than what was illustrated with virtually no chance of cash value overtaking loans.
• Huge Premiums Relative to Income. In a dozen litigated cases that we have looked at closely, we have consistently seen the premium exceed the client's pre-tax income. In some cases, it is 300-400% of the client's total yearly earnings. It is impossible to see how these could have succeeded, and the carriers who issued the policies will likely end up settling litigation as opposed to going to trial on these facts.?
• Loans Not Renewed. Every one of these transactions is predicated on loans staying in place for a long time. In actual practice, this is a huge assumption since interest rates spiked, IUL crediting methods failed, and oftentimes clients’ financial conditions have changed. As a result, many banks have refused to renew loans for additional years of premiums, leaving clients with a giant hole in the ground on a partially funded policy. What happens next is policies are seized as primary collateral and any investments pledged are forfeited.?
• Walkaway Cost is the Highest of Any Alternative. Like Hotel California, it is easy to check-in but hard to leave. The promise of low initial out-of-pocket costs successfully lured policyholders into entering the transaction. As the variables in the equation turned against the policyholders, they learned getting out is many times the cost of paying the premium out of pocket. I have not reviewed a single presentation that even attempted to help the clients understand the risk or the inflexibility of these transactions from the onset.

Why are insurance agents still proposing these transactions despite evidence of their failure?

I recently saw an invitation to a huge premium finance seminar that appears to be expecting over a thousand attendees from the life insurance industry. When discussing the event with someone, they asked “how can this be when the results have been so bad?” The answer is, in many cases, greed. A premium financed policy that purports to pay for itself has a 400-500% larger premium and commission than one paid out of pocket. I can only conclude that an agent proposing these transactions must be thinking results be dammed, full-speed ahead.

In our experience, the best premium financed policy is one that doesn’t get sold. The sooner someone realizes they made a mistake, the less financial pain there will be getting out. I think that every single person who has entered one of these transactions should get a professional second opinion to know exactly what kind of risk they have exposure to and what their options are going forward. Of course, the people who sold it will remark that interest rates will come down or advise the consumer to be patient, but let’s not forget that they are not the ones at risk.???

I have several articles and resources on this topic, including a presentation I used when speaking at Forum 400 , two articles (IUL: The Good, the Bad and the Ugly and Retirement Castles in the Clouds). You can access these items by emailing Brandy Friedt, M.A. at [email protected].