It’s 2023. Inflation is high. Interest rates are high. And surprisingly, demand for housing is still high. Deals are e scarce, and the uncertainty of the market is leaving some investors on the sidelines, waiting for the perfect investment opportunity. The pressing question is, “What do I do with my money in between real estate opportunities?” Should you preserve liquidity by keeping it in the bank or take on the risk of the stock market? In this article, we present an Innovative solution: the maximum over-funded life insurance policy.
The goal of this post is to show you why a maximum over-funded life insurance is the best way to maximize returns and minimize risk in between deals.
To do this, I want to analyze the more traditional ways of keeping cash ready for deals in the context of Risk and Liquidity.
What is risk?
Financial Risk is the likelihood of an asset’s value to be less than what is expected at the time an owner wants to sell it. Mathematically, risk is quite simply the likelihood, or probability, of a negative event occurring weighed by the potential loss associated with such an event. In other words, it is a number that can be computed. We have data for over 100 years of the S&P 500. We KNOW the standard deviation of returns over that time.[1] In any given year the market can be up or down by 15% OR MORE.
What is Liquidity?
Liquidity refers to the ease with which an asset, or security, can be converted into ready cash without affecting its market price. Think about a house, for example. If you want top dollar, you may have to wait to find someone willing to pay your price. If you have a strong motivation to sell quickly, you may have to offer price concessions as an incentive. Cash is the most liquid of assets, while tangible items are less liquid.
Real Estate Investors need to have immediate access to their savings for when a deal pops up. They need to keep their savings in highly liquid asset classes. It would not make sense to keep savings in a 1-year CD, for example. This CD example brings up an important concept: The Liquidity Premium. The bank will reward you with a higher return if you commit to locking it up for 1-year. The difference between their savings account interest rate and the 1-year CD rate is the “Liquidity Premium”.
The 2023 Economic Situation
Right now we are plagued with high inflation, high mortgage interest rates and continued high demand for housing. This is making it more difficult for real estate investors to find deals that make sense. Many are choosing to sit on the sidelines.
Because of the high inflation, it is important to keep your savings working. It’s important to realize that when inflation is running at 8% annually, keeping your money in cash is costing you 8% per year! You lose that much in purchasing power. And meanwhile, home prices may be appreciating at the same rate. That’s not the case in every market, but we certainly saw very strong appreciation (Inflation?) in 2020 to 2022.
So given these difficulties, what do we do with our money in-between deals in 2023? Leave it in checking or saving so it is ready for a deal? Do we invest it on Wall Street? Something else?
So What Do I Do With Money Between Deals?
In this section, we’ll take a look at the two extremes of traditions savings. We will analyze them in the context of risk and liquidity.
Wall Street
Wall Street investments (Stocks, Bonds, Mutual Funds) are highly liquid. They can be quickly sold and turned into cash for a deal. The problem is that you may not have access to everything you invested due to Financial Risk. These investment classes offer the potential for high returns, but they also come with a significant risk of loss. The market’s unpredictable nature can lead to sudden and substantial declines in the value of your investments. As a real estate investor, you understand the importance of protecting your capital, making the stock market a risky proposition for your short-term savings.
Bank Savings Accounts and CDs – Safety with Poor Returns
At the other end of the spectrum we have cash, bank savings accounts and Certificates of Deposit (CDs) . Savings and checking accounts are highly liquid. Investors have immediate access to their cash for deals. Bank savings accounts and Short-term Certificates of Deposit (CDs) are the go-to choice for safety-conscious investors. They offer FDIC insurance, which means your money is protected. However, their returns are notoriously low, not keeping pace with inflation.
I looked online a few days aga and savings account interest rates at both Chase and Bank of America are each only 0.1% APR. That is NOT going to keep up with inflation.
CDs are not ideal because they lock up your money for a longer term. You get a better return, but with no liquidity. Banks offer a “Liquidity Premium“. They are able to offer a higher rate of interest if you are willing to commit to not withdrawing the deposit. Many types of investments offer a liquidity premium. Investors need to be compensated for tieing up their money for a long period of time.
The liquidity with low/no return makes savings and checking accounts little better than cash under a mattress. The higher return but loss of liquidity makes CDs less than ideal for investors who need immediate access to capital.
Solution: The Maximum Over-Funded Policy – A Real Game Changer
Enter the maximum over-funded life insurance policy. This approach combines the best of both worlds by allowing you to invest your money in two places at once. Here’s why it’s the best place to keep your powder dry between deals:
A maximum over-funded life insurance policy checks all the boxes: excellent growth potential, high liquidity and low risk.
Cash Value Growth:
In a properly-designed, maximum over-funded policy, the cash value portion of the premium is approximately 85%. But despite these fees, you should realize that these policies will make-up for it with higher growth and principal protection. Dividend and Interest Crediting rates are linked to the returns the insurance company earns on their reserves. The reserves are invested mainly in the bond and debt markets. Indexed Universal Life Policies typically earn a 1-2% premium over the return on the reserves.[2]
I checked savings account interest rates at Chase and Bank of America today.[3] Both banks are showing a savings account rate of 0.01% APR. It is important to understand that your savings is being depleted by the rate of inflation each year. The following graph compares the growth of $10,000 put into savings or put into a life insurance policy. I am assuming that the savings is compounding at 0.01% each year. I am assuming that the life insurance policy is maximum over-funded and the fees are 15% of the premium.
You can clearly and easily see that the higher growth of the cash value passes the savings account in less than 3 years. This highlights the need for investors to dedicate money to a policy early so the cash can build up over time. With prior planning, investors can be ahead of the game. Also keep in mind that this graph does not take the impact of inflation into account. The purchasing power of the cash would be greatly depleted over time if it remained there.
Principal Protection:
It’s important to understand that the cash value in a life insurance policy is principal protected. This means that your savings will not lose value. Market downturns do not impact the performance of the cash value.
Liquidity:
The ability to take policy loans allows you to access your cash value quickly when investment opportunities arise. More importantly, it allows you to literally put your money to work in two places at one time. It’s important to grasp that Policy loans are loans that are secured by the cash value. This means that the cash value never leaves the policy. It is merely serving as collateral for the loan.
Thus, your cash value continues to earn dividends or interest crediting as the loan is being utilized to build wealth.
Caveats:
You should also realize that a life insurance policy is a more serious commitment than an investment in the stock market or a deposit in a bank. The policies need to be adequately funded to stay in force. This period could be as short as 4-5 years if you want to convert existing savings to life insurance. However, it should be a much longer period if you are starting from scratch with no savings.
Conclusion:
You should be able to clearly see that a maximum over-funded life insurance policy optimizes the competing risk and liquidity concerns of real estate investors. They can earn a high return on their savings with very little risk and immediate liquidity. This makes life insurance the best place to keep your savings in between deals.
In a world where financial security and investment opportunities go hand in hand, “The Double Play” strategy provides real estate investors with the perfect solution. By safeguarding your capital, growing your wealth, and maintaining liquidity through a maximum over-funded life insurance policy, you can confidently navigate the complex world of real estate investments.
By understanding the risks associated with the stock market and the limitations of bank savings options, you can make a well-informed decision to maximize your returns while protecting your assets. Make your money work twice as hard, and explore the potential of a maximum over-funded life insurance policy today.
Disclaimer: This blog post is for informational purposes only and does not constitute financial or investment advice. Please consult with a financial professional before making any financial decisions.
[1] Definition. https://en.wikipedia.org/wiki/Standard_deviation. Think of a bell curve. The larger the standard deviation, the wider the bell curve.
[2] I have several videos and blog articles explaining Indexed Universal Life. Here is a link to one of them: https://innovativeretirementstrategies.com/Blog/understanding-indexed-universal-life/
[3] Date of writing: 10/31/2023. Source: Their respective websites.
