In Part 1, we explored the mechanics of banking and outlined key profitability figures used to evaluate bank performance. We explained that you're already in the banking business whether you realize it or not, and chances are, your your current system is likely unprofitable or potentially even insolvent. Now, as promised, we're going to show you how to create a profitable privatized banking system that not only puts an end to your banking losses but allows you to create a long-term, interest-bearing asset that you can leverage to fuel your business's growth.
Defining Successful Banking
For business owners who view banking as an extension of their core operations, we believe that successful banking is built on four key pillars: Control, Profitability, Risk, and Size.
Control - Regardless of how great a banking system is, if you don't own and control it, you cannot benefit. It's theoretically possible to have someone else finance the creation of a banking system through equity or debt, but profits will be paid out to external equity & debtholders.
Profitability - As we talked about in Part 1, our banking system needs to generate positive NII (net interest income). We want our interest-bearing assets to yield higher returns than the costs associated with our interest-charging liabilities.
Risk - We've acknowledged that our banking system is a non-core operation. Therefore, we need a safe banking system that complements the core business. We need safe returns on our capital, guaranteed access to financing, and safeguards for when our core business faces challenges.
Size - If we can structure a safe and profitable banking system that we own and control, then we need to make sure this is meaningful enough to enhance our core operations, protect the value of our business, increase capacity for future use, and drive long-term growth.
Infinite Banking
This is where Infinite Banking comes in. Infinite Banking is the process of safely growing and leveraging capital using a properly structured, dividend-paying whole life insurance policy from a mutual company. Infinite Banking has absolutely nothing to do with a "bank." We are not creating a bank. We are not "depositing" money. And this does not serve as a "savings" account. Infinite Banking is a process that allows us to closely mimic some of the best functions of banking, and due to the structure of the insurance companies, contracts, and underlying features, we'd argue this concept offers advantages to using traditional banks. Let's talk about how this meets our specifications for a successful privatized banking system.
Control
We're going to start off by informing you of the unfortunate truth about Infinite Banking that so many others teaching this concept try to avoid. You need capital to get started. You need to fund your banking system so that you own and control it. If you do not have savings, liquidity, or profits, this probably isn't for you - at least not yet. On the bright side, working with mutual companies means that as policyholders, we are also the owners. This ensures that future profits, which would otherwise be distributed to external shareholders, are returned to policyholders in the form of dividends.
Moreover, while traditional banks can close your credit lines, reduce your credit card limits, or deny you loans, policyholders with a properly structured insurance policy have guaranteed access to their capital. This is because the policy's death benefit has a net present value, known as the cash surrender value ("cash value" for short), which serves as collateral. This cash value contractually cannot decline and represents a portion of the much larger death benefit that will be paid out to policyholder's beneficiary. Therefore, the insurance company is willing to lend against the present value of that collateral. Since the insurance company's obligation to us (death benefit) is much larger than our obligation to them (policy loan), we fully control the repayment schedule.
Profitability
In Part 1, we spoke about challenges business owners face with returns on capital. Banks rarely pay attractive yields on savings (our assets), and those returns are taxable. Additionally, largely due to the crowding out of the private sector from to heavy government deficit spending (as we mentioned in our book), third-party financing costs (on our liabilities) are generally quite expensive.
We can measure explicit banking performance by looking at net interest income (NII). Many business owners can assess this by comparing interest income to interest expenses. For those with debt, interest expense might be significantly higher, indicating that you are paying someone else to manage your banking function. Since you have a future banking need, you're required to allocate more capital away from the core business to carry out your banking function each year. This effectively means your banking system is insolvent because you own no equity capital ("reserves"), yet you're losing money.
We also need to think long range. Therefore, even for business owners without debt - and consequently without interest expense - there's another caveat. While your annual NII might be positive if you earn interest from cash temporarily held in your checking account, using that cash to purchase equipment means you’re exchanging an interest-bearing asset for one that may decrease in value due to depreciation. Yes, depreciation can be used as a tax deduction, but the burden of having to restart the saving process from zero each year to cover increasing expenses can place significant strain on the business.
Therefore, with our privatized banking system, our goal is to leverage the cash flowing through our business to create a long-term, compounding, interest-bearing asset to alleviate the financial burden of future expenses (liabilities). Rather than financing with third-party debt or simply paying with cash, we can use Infinite Banking. This allows us to pay policy premiums in lieu of storing cash in a bank account, and when it comes time to pay expenses, we simply take a policy loan from the insurance company using our guaranteed cash value as collateral for the loan.
For those curious about the math, we'll give you a brief example. As a business owner, let's say we expect to pay $500k in taxes this year. We're not even talking about savings - this is just cash temporarily sitting on our balance sheet before the IRS steals it. Instead of storing these tax payments in a low-interest and taxable checking account each year, we use Infinite Banking where we redirect that capital to pay policy premiums (while still leaving enough liquid cash in our business operating account). Then, when it comes time to pay our tax bill (assuming we pay annually, although this also works quarterly), let's say we only have $20k of liquid cash in our operating account that we can spend. We need an additional $480k.
Instead of withdrawing the $480k from a checking account and surrendering all future growth on that capital, we now have that capital available using our cash value (~$500M after one year) as collateral. Let's say our capital continues to compound at 4% over time (rate is dependent on company performance and the insured's rating), and our policy loan rate is 5.5%. If we're concerned profitability, you may be wondering how we can profitably borrow at 5.5% to earn 4%. Well, are we really paying 5.5%?
As the next year begins, we now need to set aside cash for THIS year's taxes. However, rather than paying new policy premiums, or rather than keeping our cash in a taxable checking account, we use that cash to pay down our policy loan from $480k to nearly $0 by the end of the year with all payments going to reduce the principal balance. The interest charged is on the average balance throughout the year, which may only be about half (~$240k) if payments are consistent with revenue. This means we've only paid 5.5% on $240k, or $13,200. Meanwhile, our $500k in cash value is going to continue compounding well into the future.
Theoretically, if profits never increased and we needed to take a policy loan every year for the next 30-years to pay taxes, we'd be paying $396k in interest. That sounds like a lot, but if our cash value continued compounding at 4%, for example, our cash value could be $1.7M higher by the end of 30 years. Calculate THAT net interest margin - not bad growth on capital set aside for just a fraction of our expenses that simply flows through the business each year.
Now, this is a bit of an extreme example assuming profits don't increase and the business requires a policy loan every year to pay taxes. However, what if the business had sufficient cash on hand to pay taxes each year? Our cash value would still end up being $1.7M at the end of 30 years due to compounding, but think of the endless opportunities to reinvest that money regularly back in your business to create value instead of sending to the IRS.
As the business grows, and as our cash value continues to compound, the Downstream impact is significant. The business will likely need to borrow less and less each year from cash value growth and more business profits. And the only reason to take a policy loan is if the business doesn't have sufficient liquid cash on hand to pay expenses. Otherwise, this serves as an alternative to a bank account used to store short-term or long-term capital that compounds with strong tax-deferred (or tax-free if used properly) growth that can be leveraged at any time in order to reinvest back in your business.
Risk
As a business owner new to Infinite Banking, our guess is that you have may have several questions. For brevity, we'll briefly touch on some common concerns, but we know there may be many more. Please don't hesitate to reach out.
What happens if revenue slows and I can't pay policy premiums?
What happens if I can't afford a policy loan repayment?
What happens if policy interest rates increase?
What if the insurance company poorly manages my capital?
How do I know I can get access to my capital?
First, we work with business owners by closely analyzing liquidity to conservatively design their banking system. Once the core banking system is in place (the capitalization period), there's a lot of flexibility. The premiums we mentioned before are generally structured as PUAs (paid-up additions), which means we receive immediate liquidity, but the important factor here is that they are optional. If revenue slows and you can't afford to set the same amount of cash aside, you would simply not pay additional premiums. No issue.
The same is true for loan repayments. The insurance company already owes you (some day) more than you owe them. Therefore, the loan balance will still accrue interest, and we recommend at least paying that if you can, but our cash value is still growing. We'd look to pay back policy loans once the business recovers or sees a windfall. Otherwise, this open loan balance (principal + interest) would just be deducted from the beneficiary's death benefit once the insured passes away.
Additionally, policy loan rates may fluctuate over time. The 5.5% used in our example is close to what some companies offer right now, but states generally cap these rates (i.e., 8%). Additionally, if the insurance company is raising interest rates to 8%, that likely means they're able to achieve a higher return on their general account by investing new premium dollars in higher-yielding fixed income securities, and therefore, would likely be able to pay out much higher dividends over time.
Lastly, the insurance company has made you a contractual promise to pay you a much larger death benefit than the premiums you pay. This differs from a bank, which generally offers no future guarantees - especially not decades in the future. Therefore, the insurance company needs to invest primarily in safe securities, while giving you access to your capital (cash value). Unlike a bank that may lever your money and create a bunch of risky loans to increase profitability, the insurance company's owners are the policyholders, and being able to pay out death benefit claims is the top priority. Those assumptions are made very conservatively, which means any additional profits are paid out as a "return of premium" (dividend) to policyowners.
Size
If we're able to build a safe and profitable privatized banking system that we own and control, wouldn't we want this to be as large as possible? Those with Infinite Banking policies generally incur a mindset change after the first few years. They may initially see policy premiums as an obligation - something they have to pay. However, as income increases and as the ability to pay fixed policy premiums increases due to inflation, policyowners start viewing premiums as a privilege. After all, what else offers 4-5% tax-free growth with no contractual downside?
By starting Infinite Banking now and conservatively capitalizing large policies, we're not just creating additional income for today or next year. We're creating a warehouse for our future wealth. We're creating additional capacity for our capital, which allows us to generate strong returns, reduce banking costs that would ordinarily go to third-party owners, and secure a guaranteed financing source for opportunities to reinvest in our business's growth.
Conclusion
Lastly, remember how we needed "equity capital" to start our bank? The initial funding of our bank isn't a sunk cost. It's required to acquire our asset, which is a death benefit used to protect our families, businesses, employees, and customers. Unlike ownership of a traditional bank, our equity ownership of our asset is guaranteed to grow if we stick to our commitments in the contract.
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