100. Taxation of Policy Loans In Canada – Infinite Banking Concept

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Tax treatment of policy loans.

In dividend paying participating whole life insurance contracts. Now I think of the song from the Eagles. I think it was life in the fast lane. And today we're going to talk about life in the tax lane.

Life in the tax lane.

If you don't know this stuff, you lose your mind. Life in the tax lane. Wealth without Bay Street. Those guys are fine. Okay, sorry. All right, all right, now let's set the stage here. So because there may be people who are joining the YouTube or the podcast and maybe have just recently been exposed to this policy loan provision within a, within a policy, they're exploring becoming your own banker, the infinite banking concept. And at the other side we've got people who are experienced, who have had policies for years and they're, they're continuing their journey of learning and their implementation of the program. So let's set the stage and calibrate that. When you have a dividend paying participating whole life insurance policy, ideally with a mutual company and in Canada, the largest mutual life company is presently Equitable Life of Canada, and you've got this contract in place, you have a guaranteed loan provision. So the insurance company permits you to borrow against your accumulating cash value. This is money that is piling up inside the policy from day one. And you can borrow against that accumulating value via a policy loan now dependent upon the life carrier. In this case we're talking about equitable. Accessing the loan is as simple as completing a single page policy loan request document, submitting that to the life insurance company that you co own and the money is either electronically deposited into your bank account or if the loan amount exceeds a maximum, I believe it's 50,000 if I'm not mistaken, then the insurance company will send you a check for that amount. Now these loans are unstructured, so that means the policy owner controls the repayment schedule. Simple interest begins to accrue on the loan balance and it compounds at each policy anniversary. So we have ready access capital on demand on our terms. Now there's something within the policy that is the adjusted cost basis, otherwise known as the acb.

Ooh, the dreaded acb.

The acb.

Okay, so it's not, it's not to be confused with the OPP it's very different.

Right.

You don't want to get down with the ACB. No, no.

Okay.

90S reference for everyone still listening.

So, Richard, if you, if you wouldn't mind, could you walk us through. So let, let's, let's construct this scenario. So I'm just going to throw some.

Numbers out at you.

Would that be okay?

Sure.

Okay, now you want to share your screen, right?

Yeah. We'll bring up. So we're going to do. So for anyone who's listening, you know, driving in your car, again, don't pull over to. Well, don't be watching this while you're driving your car. Definitely pull over.

Because then you'll be living life in a much different lane.

The accident lane. The accident lane. Definitely just circle back to the YouTube later and maybe watch this at this part of the session. So I'm going to share.

Yeah, don't drive any less carefully because you're life insured. Okay. Okay. Sorry.

Okay, so I've got a little, you know, basically just a horizontal and vertical axis here.

Okay.

And I've got, I've got age. And so I just picked a random age. We're looking at an age 40 person. And way at the other end of the timeline here on the horizontal, we have age 100. Okay. So we have starting at age 40 and we have age 100 on the back end. So it doesn't matter where you are on the timeline. If you're 50 or 60 or you're 25, you have a timeline. There's a you where your starting block is. And age 100 is the end of the end of that, the finish line, basically graduation.

Now think about if, if you want to relate this, think about real estate. When you buy a piece of real estate, if the property purchase was $500,000, that's your adjusted cost base. That's what you paid to acquire that piece of real estate. As that real estate increases in value, so now it increases to 600,000, and you sell that piece of real estate, your adjusted cost base was 500,000. The sale price was 600,000. The difference between those two numbers is the gain.

And that gain, presuming in this case, let's say it's a real estate investment. It's not your principal residence or you're not claiming it as your principal residence. That gain is taxable.

So sale price, less the cost base amount is taxable because that's again, a portion of the amount. Pardon me, is taxable. All right, now let's take this back to a Dividend paying, participating, whole life insurance policy. Walk us through the adjusted cost basis. So whenever you hear the word adjusted cost base, think about real estate. When you hear the words adjusted cost basis, think about life insurance.

Yeah, take it away. So the thing that happens here with the adjusted cost basis with the life insurance is that there's many, many factors that go in to the calculation. So looks like I have a very low battery on that pen, so we'll switch pens. So we have a lot of factors, and among those factors is premium. What premium are you putting in? Then we have things like loans and we have things like withdrawals. You can actually do a withdrawal from the policy. We don't recommend it, but you can do it.

And we have ncpi.

You got it.

The net cost of pure insurance.

So this is the most important factor that's going to cause a potential, you know, I say potential problem with the policy down the road. And it's only a problem if we don't know what to do with the problem. Okay, so understanding the purpose of this video, this podcast, is to help understand what is this net cost of pure insurance? How does it impact the adjusted cost basis, and then what does that mean to me when it comes to policy loans? So what happens here? I'm going to talk and just isolate the net cost of pure insurance piece here for a second and kind of get rid of all the other things on the screen. What is this net cost of pure insurance? So just think for a second, logically, you got an insurance policy and you got it. In this example, we've got a person at age 40, so they got this insurance policy. Then we have the life insurance company. And the life insurance company, they're pledging a bunch of money in regards to paying out a death claim. So let's pick a death benefit amount here. And I'm just going to use $500,000 as the amount for our example. Is that okay, Jay? Yeah.

$500,000 in death benefit.

Got it. So this is the whole life death benefit. Now you may have some term insurance or other things on there. I'm just going to isolate the whole life insurance component from that. So you've got a starting policy. It's $500,000 as the original death benefit. Well, the insurance company, when you make that first premium payment, who's on the hook? Who's got the risk at the very beginning of that contract?

The insurance company.

The insurance company, you put in, you know, let's say you put in $10,000 or $20,000 to start that policy, the death benefit's $500,000. The insurance company's on the hook for $500,000 if you kick the bucket early, but you've only put in, you know, 20,000. So there's a big mismatch there. Now most people, they often think that the net cost of pure insurance, ncpi, and NCPI is actually at its highest right here at the beginning because the insurance company has all the risk. But that's not, not so the case. When we think about the net cost of the pure insurance. You have to instead look at when is the insurance company expected to make the payout, when are they actually planning to make the payout for this policy? Now, if you get approved for a policy, what they're really looking at is, okay, they're looking at mortality. What's the mortality expectation of this individual? So we have a 40 year old. In this case, we'll use a male. And I'm going to pick on the males mostly because that's me, I'm pretty much this guy. And secondly, because the gals get a better deal, generally speaking. So the 40 year old male, they get this policy and they're going to look and say, okay, well the, the expected timeline of this person being around is somewhere between, you know, 80 and 90. So I'm just going to kind of pick like roughly 85 here. And they're, they're saying, you know what, based on the stats and the data we have, realistically we're going to lose this gentleman somewhere around age 85, give or take. And so the net cost, the net cost of the pure insurance, when they expect to be paying this $500,000amount, the original contract value is right around that timeframe. That's when the net cost is at its highest. It's at the time that they actually need to stroke the check. Now they may have to stroke the check earlier in the timeline, but they know for a fact, because it's a whole life contract, they must stroke the check at the end of life. And that's what they're planning for. So the actual net cost of pure insurance is at its highest point near this mortality stage of life.

And there's a difference between net cost of pure insurance and net amount at risk.

Correct.

Big difference. Which, you know, that, that might be the subject of another, you know, podcast episode, but there, there's a distinction there between the two.

So here's what happens when we look at this net cost of peer insurance and here's, here's kind of how, how it grows. So if we look at the little timeline, hopefully everyone can see my. I'm going to use, I guess I'll use red again. I'm going to have to erase some of these things to make space. So I'll use a red, red line. So we're at the beginning here and there's this low, low line. And then as we start aging, it starts to go up and then it kind of hockey sticks up. Now this is not a, I'm doing this graph really just here for the visual. So it's not going to be to scale to any real degree that, you know, pay attention more so to the premise of what's happening. So as we get further out in time on this timeline, you know, kind of when we start getting towards the 65 range, we're going to start to see that net cost of pure insurance. It's going to start to rise and rise sharply and it's going to go up and up and up and it's going to be that kind of hockey sick exponential curve because we're getting closer and closer and closer to, to mortality, to the age when the life expectancy, we're getting closer to life expectancy, Right. So as, as this line goes up, what's going to happen is the net cost of pure insurance as it rises, it's going to create an inverse relationship, an inverse relationship with the adjusted cost basis that we talked about. And so as the adjusted cost basis now it's important that we, we put that on the table. So here's our adjusted cost basis. It rises and rises and rises and rises and rises and it becomes kind of a hill. And then as we start to see this, this rise in the net cost of pure insurance, well, the adjusted cost basis starts to grind back downward into a trajectory where eventually it comes down and hits zero. Right. So as the net cost of pure insurance goes up and up and up and up, the adjusted cost basis levels, it levels off, it comes nice and smooth and then it starts to drag and go back downwards towards the zero line, towards the horizontal axis. And why is that important? Why do we need to know that? Well, the adjusted cost basis is important in the calculation that determines when might there be or when will there be depending on the situation. A taxable event in a policy such as one, one example of that would be surrendering the policy, which, boy, oh boy, I sure hope no one has a good whole life insurance policy they're surrendering, that would be really, really unfortunate. But if you were surrender policy and your cash value was much higher than the adjusted cost basis at that time. Anything over and above that, it's going to become a taxable event as income. So let's, let's bring that into the equation. I have to pick a new color here, Jay. I'm going to use this. I'll just use. I'll use black, actually, for the example. It'll probably show up better on the screen for everybody. And let's make a slightly larger line. So here, now I've got a cash value.

Basically that I'm showing in this black line. This is the cash value of the insurance contract. And as the cash value is rising and rising and rising, you know, it starts off below the adjusted cost basis line. Eventually, if the. As a policy gets more and more and more efficient, the cash value will cross over and it'll jump above the adjusted cost basis calculation. And then it will, most likely, and most likely, it'll maintain itself above there and continue to rise up and up and up because the cash value continues to rise very, very well as we, we. These policies become very efficient. And it just continually. It just. I don't know, it just keeps going. It's. It's like the little engine that could. Essentially, it's a little. A little financial engine for your financial life. And when we, when we hit this point in time where now we're. Our cash value is greater than the adjusted cost basis. If we want to exit capital out of this policy, either as a withdrawal, if you surrender the policy, or if we're doing a disposition, which a policy loan is considered a disposition, we will be creating a taxable event at that point.

So let's do this.

I don't know.

On your sheet, if you scroll down to some more white space on that sheet, will it, Will the drawings follow that scroll or is it stagnant?

They will not follow.

That's awesome. Okay, so you just touched on three really important things. Let's talk about the first one. Somebody wakes up one morning and says, I want to surrender this contract. I don't want it anymore. The total cash value of the policy, the cash surrender value. Pardon me. The total cash surrender value is $200,000.

And.

The adjusted cost basis of the policy is $150,000.

So remember, think about the real estate transaction that I described. So you've got a cost basis of 150,000.

Total cash surrender value of $200,000. You forfeit the policy. So you essentially are selling it back to the life insurance company.

I'm saying I don't want these amazing benefits anymore. You could take your beautiful tax free death benefit and shove it. Just.

I don't want it anymore. I'm done. I won the $50 million Lotto Max. I'm good. Well, you're gonna trigger a taxable gain on the $50,000 difference. $200,000 total cash surrender value minus the adjusted cost basis of 150,000. The 50,000 remaining is a taxable gain. That is one option. The policy owner has total contractual authority to surrender a contract. The second option is a withdrawal. You've got same numbers.

Except we have a little more cash value. We've got about $250,000 in cash value. We have a cost basis of $150,000. The policy owner says, I want to take $200,000 out of the policy as a withdrawal. They are going to trigger the very same taxable gain. They'll still have some cash value left in the policy. They'll still have a death benefit. The contract will still be in force, but they have triggered an unnecessary taxable event.

If they access a policy loan using the very same numbers.

You'Re going to trigger a taxable gain on the amount borrowed in excess of the cost basis. You take out a $200,000 policy loan, the cost basis is 150,000. There's a $50,000 taxable gain. Any amount of loan repayment that you initiate triggers a corresponding tax deduction.

So you can address that if. If you didn't do what we're about to share, you can do. So there's a way to achieve the very same objective, which is to get 200,000 in your hands without triggering a taxable gain, without impacting.

That person's taxable income.

In that transaction.

Exactly. And I want to step that out, Jason, exactly what you're talking about. And look at that in a timeline perspective, because I think, you know, again, what happens is we the solution or one of the solutions that we're going to talk to people about today. It's the one that most people you'll look to default to in Canada. Okay, again, we're talking about in Canada because the tax rules in Canada are different than the tax rules in the United States. I don't have a lot of American listeners, and in, you know, how that operates is different. And the way this all came about, I think it's important people understand, is that in the 70s, there was a huge lobby because of the government during the 70s of wanting to tax. They were hunting for more tax dollars for the coffers, the federal coffers, and they were Saying they were going to start taxing death benefits. And the whole country was in uproar. And they were calling it the widows, the widows tax, the widows and orphans tax they were calling it, or the kiddie tax because now you have, someone becomes widowed and they're going to tax that money that was there to protect and preserve that income that they don't have anymore. It would have been a really messy scenario. And so instead of having that happen, the insurance lobby came in and there was a compromise that was made. And the compromise was, look, if this, if we have a death benefit materialized, the death benefit is still tax free. So there's no tax on death benefits. But if someone is not allowing that growing asset value in a permanent insurance contract to materialize as a death benefit, if it's not showing up as a death benefit, then, and they want to start taking some of that money out early in some other disposition mechanism, then they're not really following through on the death benefit. They're not really, you know, it's not biding by the death benefit contract. So we're going to look to tax some of those dollars. So it's a way of, it's kind of an equalization effect a little bit.

That leads me to. Sorry, go ahead.

Well, the key takeaway is that this, this is this, is this. The reason this exists is so that they're not taxing your death benefits instead, which is what they really wanted to do.

So this leads me to where the commercial banks got wind of this and the commercial banks sat on it and pondered it and said, okay, let's, let's, we really, let's get a firm understanding of the strength of this, of this asset, this dividend paying, participating whole life insurance contract. Let's take some time to really understand the strength of this asset. And they did that. They went through their process of developing that understanding and then stepped forward and said.

We'Ve got a solution for you here that won't trigger any tax. It's called a, we've named it a collateral assignment. Okay, what does that mean? Well, when you borrow money from a commercial bank.

You can pledge collateral to qualify for a loan.

You can, when in fact they're a lot happy to give people loans when there's collateral involved, when it's not totally.

So you again, go back to the real estate world. You've got a piece of real estate, it's worth a million dollars, there's no mortgage on it. And you approach the commercial bank and you say, I would like to access a loan from you, Mr. Banker, I would like to pledge my home as collateral for the loan so that if I default on this loan arrangement, you know that you've got security, you've got security to realize, right? The sale of the property in order to get the money owing on the loan balance. Well, when you're dealing with a dividend paying, participating whole life insurance contract, the commercial bank looks at the contract and says, okay, we understand the strength of this thing. We know that the insurance company itself is guaranteeing the collateral for the loan, not the borrower. And the insurance company is good for it. They've only been operating longer than we have as a commercial bank.

So they're good for it.

Okay, well, and they, they have the insurance company for insurance companies and they have capital reserve requirements that are annually tested and so on and so forth.

Totally. So I'm going to geek out on you here real quick. This is going to be super cool. But you're right, they do have insurance for the insurance for the people who talk about insuring the insurance and the insured who insured the insurance of the insured insurer.

Say that. Everyone listening say that five times fast.

Okay, so I gotta geek out a little bit on you. Okay, first of all to tell you the outcome of that. So you have to qualify for it. Presumably you've got a clean credit bureau.

Pay for home appraisal, legal fees to get it registered on the title.

And then now going back to the life insurance contract for a moment, again presuming that you have a clean credit bureau because that they don't want you to be collaterally assigning a life insurance contract if you're planning on filing for insolvency three days later because your credit's all out of whack, presuming you get approved and everything gets put into place, then the commercial bank will lend to you a minimum of the 90% of the accumulating total cash value of your policy. But yet if you were to do this with your home, they'll do 65%. If you're lucky, they'll take you up to 80 in a fixed principal and interest repayment schedule. Again, I say a fixed principal and interest repayment schedule. Whereas with the insurance contract you get an operating line and it's either interest only or you can prepay at any time without penalty.

And depending on the. Again, there's products for this that are offered by multiple different lenders and you can capitalize interest on those which for people who are going down the. Well, the passive income track, I was going to say retirement income and I wanted to slap myself in the face. But the passive income track, then, then if you're capitalizing that interest, that means you're not making any payments. Doesn't mean that that's necessarily the best thing for you. Just saying that that's what in this example of what you would be doing then that policy, that loan, that's not a policy loan anymore, the collateral loan, it's a loan with a third party lender. Yeah, that loan will get repaid because we all know one fundamental fact. There's two guarantees in life, and there's the tax man and death. Okay, great. Well, when death shows up tax free, death benefit's gonna get paid and the insurance company is gonna pay off the assignment of that collateral first, including any accumulated interest. So the stockholders of that bank are very happy cause they got a boatload of capitalized interest over a long period of time. And you got to access capital to use in your life while you were alive, before you were dead. You got to do it on a tax free basis because you used a third party lending instrument and it all got squared away upon death. And then the remaining balance gets paid to your beneficiaries.

So look at it from this vantage point. When you borrow money from a commercial bank, you pay income taxes on it.

No. And so when you're at that phase, let's call it passive income time or retirement mode, and you collaterally assign your policy to a commercial bank.

The money that you receive.

That you access on your terms, because you're using an operating line of credit in this scenario, and the bank lends to you a minimum of 90% of the total cash value of the policy. And the line of credit increases as the total cash value increases. Now the bank only looks at it once a year, even though your total cash value is rising every single day.

And the money that you're getting is not taxable income. So if you have other sources like Canada, pension plan benefits, oas, guaranteed income supplements, a defined pension plan, et cetera, you're not subjecting any of those supply sources of income to clawback. You're in a pretty good spot. And you know that. Not if, when you die, you're not leaving any indebtedness behind to your family. And so if you want to achieve that on a tax free basis, that is the approach that one would take. And if you have more than one policy, the lender will look at all those policies in one basket and say, yeah, we're going to lend against all of them.

And cumulatively, here's your operating line of credit and here are the terms. And it's prime plus one, prime plus one and a half. Whatever the interest rate happens to be at that time, some lenders will do 100%, but let's look conservatively at 90.

So that leaves you in a position of total and absolute control. It breaks Nelson Nash's golden rule of not doing business with banks. We've reckoned with that with Nelson while he was still alive. And his remarks were, you have to work with what you've got. That was his response.

And anyone who knew Nelson also knows that Nelson wasn't a big fan of Uncle Sam, in this case the CRA or the irs, the tax man. And so, you know, it's, it's the, it's looking at the balance between, well, who, who do you kind of. Which of these, which of these things do you want to support? Do you want to support paying the tax coffers and doing it that way, which you absolutely can do, and we're going to walk you through that in a second. Or do you want to bypass that? And now we're supporting the, the banking system a little bit more than we intended. So you get, you make a choice. And here's the other thing that Jason said. If you're working with multiple policies, every policy has its own adjusted cost basis calculation. And that calculation.

It'S ebbs, there's pluses and minuses, pluses and minuses, and those change as you go throughout the life of the policy. So depending on where you started, those policies and their size and everything, everyone has a different ACB at every given time. And so you might want to access capital from your system. Well, maybe you have a policy, two or three policies that have an ACB where you're accessing an amount below that and there's no problem at that time. So again, all the factors that are going to adjust are adjusting as your life progresses. And it's having awareness that this is going to happen. And then how might you maneuver through it so that you can be empowered to make those decisions when the time arises?

Hey, you know what? You've got access to more capital than you've ever put into this policy. And if you access it via a policy loan, some of it will trigger a taxable gain. Is that a problem?

I don't think so.

It's no different than what's going to happen with every single Canadian who has problem. Every single Canadian has a registered retirement savings account. It's is going to Be in the same boat where if they put money in and then they go to take it out, there's going to be a taxable event and they time to take the money out. That's how that whole plan operates. Yet that's the primary quote, unquote, savings. I say savings very loosely. Mechanism for the bulk of Canadian society, which is kind of ludicrous.

And if you, if you've got husband, wife, business partner, business partner, and for some reason the collateral assignment didn't make sense to you or you didn't qualify for it and husband, wife scenario, husband's policy, you start utilizing it in passive income time, you trigger taxable gains.

God forbid husband passes away tax free windfall of death benefit shows up exactly when it's needed. The most surviving spouse receives all proceeds of that net death benefit and receives it on a tax free basis and can either spend the proceeds and not utilize any of the accumulating value as collateral inside of her own policy, or use that accumulating value as collateral, whether it's a policy loan or otherwise, take the tax free windfall and pay the premiums.

And keep increasing the size of the aquarium of money. And so that's why again, it's so important that you're working with somebody who is thoroughly familiar with how to go about doing this to achieve your objective. And if your objective is I want to do this all on a basis of not triggering any taxable event, that's great, we can make sure that you're prepared to execute to that or if it's a doesn't matter to me, I'm okay with it or you know, my credit bureau's horrible and I really don't think I'm going to qualify for this collateral assignment. At least you know, you're not sacrificing liquidity. You still have contractually guaranteed access to an ever increasing pool of money. And the insurance company itself. Just geek out a little bit here because Rich, you mentioned this a little bit earlier. So for those who don't know.

The insurance company, the money pool, so it doesn't matter what life insurance carrier you're dealing with. Whatever carrier issues life insurance contracts and they have a legally binding promise to pay well, their money pool, the money, the pool where all the premiums come in and et cetera.

That money pool is subjected to a process called dynamic capital adequacy testing. So think of it as a, as a life insurance money pool stress test. So once a year the money pool is subjected to a number of mock adverse scenarios to include the stock market declining by 99.0percent. 99,0% and staying there for a long time. Severe and prolonged economic recession. More people dying than with the actuaries forecasted. More people surrendering or forfeiting their insurance policies than the insurance company forecasted.

More people. I think I mentioned the dying part. So the mortality experience is way out of whack. We're in a negative interest rate environment. The stock market has crashed. The economy is receding. Everyone's mark's work warehouse is sold out of hard hats because the sky's falling.

Yeah, there's, there's a lot of Chicken Littles running around and.

Okay.

Bopped in the head.

And so a third party independent agency completes this dynamic capital adequacy testing and provides a report back to the board of directors of the insurance company. They call the accountants in and they say let's take a look at the dynamic capital adequacy testing report. And it basically gives the insurance company a five year leading indicator of how the money pool would withstand those severe shock events. And.

When you're dealing with carriers that have the track records of the carriers that we work with, they pass that capital adequacy testing with flying colors every year because it's an engineered outcome. And so you know that your, your money must reside somewhere. So while you're exercising your policy loan provision or collaterally assigning it to a bank, your money resides inside of this entity that passes that capital adequacy test year after year, decade after decade.

And through all of these events that we've been through, Covid H1N1 SARS, the Great Depression, the financial meltdown of 08 09, the tech bubble bursting, you name how many recessions. 33 recessions.

And yet total cash value keeps rising every single day. And the insurance company continues to create owner's equity and, and a divisible surplus and continues to grow a capital surplus reserve and it cannot inflate the money supply.

Your money must reside somewhere. What better place to have it reside than here? What we're talking about is collateral. Who do you want, who do you want to have the collateral assigned to? That's your decision. Do you want it assigned to the life insurance company that you co own or do you want it assigned to.

Someone else's bank or you want some balance of both? Right?

And so this is the, this is the, I'm telling you, this is the essence of being in a position of total and absolute control.

Here's another thing that's really important and we're Going to draw some more things. That was a dramatic, by the way, pause for effect. So if we, if, if you have, in our example we talked, we kind of jumped ahead and we talked about the collateralization with a third party bank. So let's assume you have that set up now and for some reason you decide you don't want to continue doing that at any point in time you can do, you could go back to LifeCom and say, Look, Life Company, I want to get rid of this assignment. I'm going to initiate a policy loan and I want you to pay out the third party lender. I don't want them anymore. They aggravated me some way, right. And I'm just gonna take care. If there's a taxable event, I'll just take care of it, I'll pay it. But I wanna get rid of these guys. So they will do a direction of pay and they will. It's just like when you refinance a mortgage. You have TD banks on the mortgage and you wanna replace them with Scotia. Well, you go to Scotia, you get a new loan, they pay out the other lender and they send them a check. Those guys are gone. And now the new lender of first position is, is a new lender. Well, you're just, you're saying, look, I have all the control at their life insurance, the policy there. Something's changed over at, you know, abc, you know, lender that's got my insurance contract to sign as collateral. I'm tired of it, I don't want to deal with them anymore. I'm just going to say, you know, damn the torpedoes, let's get, let's pay these guys out with my cash value and I'm going to go back to doing business with the life company. You're in absolute and total control at all stages of the game. You're not getting that in a lot of other areas of your financial life. And another thing I want to touch on here because we talked about real estate. There's a lot of similarities and synonymous aspects between buy and hold long term real estate and getting a high cash value insurance, whole life insurance contract. And if you're doing a good job of accumulating assets by seizing opportunities that show up for you throughout the road of life, financial life, you know, you may end up with things such as investment real estate. A lot of our clients are, you know, real estate investors to some degree. Well, if you're also using your banking system to recover or eliminate the third party loans on those pieces of real estate at some future Point in time when you want to go collateralize something, do you have to collateralize the policy or can you collateralize the real estate?

If you collateralize the real estate, well, now you can pull off an income stream off that real estate above what the cash flow is. You're still not creating a taxable event. You still maintain control and now you get a write off on the interest on the piece on the real estate too. So there's multiple ways of getting things done. It's just with our limiting. The limiting component is our imagination and what we can see. Right. So with that in mind, I want to circle back to the getting people to have more clarity, Jason, on, on this taxable event, specifically with the policy loans. And we're going to draw out a little example and then I want to talk through like, like a bit of a timeline of how we can deal with that example. So I'm going to bring up my screen again as soon as my button works for me here. Let's do this. Okay, great. So now for anyone that's again watching on YouTube here, you can see I've got a rectangular box marked acb. And then I'm going to have a box here marked cash value. So we have cash value. Our cash value is clearly higher than the adjusted cost basis. It doesn't matter what the timeframe of the policy is here. I'm just using this as an example. So let's assume for my example, the cash value is I'm going to use $800,000. I don't know, random number I picked off the top of my head. And Jason, for the ACB, what would you say? Can I call it 500,000? Sure, sure. So the adjusted cost basis is 500,000. So you've got cash value of 800,000. The ACB is 500,000. All in all, that's a pretty good, pretty good deal. Right now you've got a, you've got a policy is obviously very efficient. It's growing very well. Now let's say you want to take a policy loan and you're going to do the maximum that's available. So 800,000 at 90%, you're going to take a little loan of BE 720,000. I'm going to keep the math simple. I'm going to say you're going to take a loan for 700,000. Okay? Yep. So $700,000 is what we're taking out. And this is a policy loan.

So the year that we did that, so I'm going to, now I'm going to draw like a little timeline here. So right here is my starting block of the timeline and we're going to go like this. So let's just say it was January 1st that you took the money. Way over here in my little timeline, I'm going to draw further on the timeline. December 31st of the same calendar year. Okay. Now at the time that this recording is released should be, we should be in 2022. So we can use 2022 as an example, I guess if you're watching. So here we go. We took out 700,000 as a policy loan, which means I'm assuming that there was no loan on this policy right now. We had all this available. We took a loan for 700 grand. A check shows up on your doorstep of $700,000. Jason, why did we take the money?

We wanted to spend it on something.

Okay, great. Well, yeah, ideally, and I asked, I asked this with my clients. So if you're listening, just think you got 700 grand available. You, you just initiated a policy loan for 700 grand. I sure hope you had a good reason for doing it. Like it better not be to buy lotto tickets. You know, I, I hope that you, you didn't, you weren't in Vegas when you filled in your policy form and initiated the transaction.

Well, you wouldn't be there with the travel advisor.

It would probably be a bad idea. Okay, so, so in other words, the likelihood is, and anytime I've asked this, the response I always receive back to people. So if you're listening, you answer this question for yourself. But if you took 700 grand out, I'm assuming you're going to do something productive for you probably have a deal on the table. There's an opportunity or multiple opportunities that you're initiating that cause for it's like, okay, hey, maybe it's, I'm going to go buy a piece of real estate or I'm going to go buy multiple pieces of real estate. Great. In other words, you're going to take that asset of cash value which you're, we are now collateralizing, turning into a policy loan, the 800 grand of cash value still there, still growing. You're going to take 700, you're going to go accumulate some kind of an asset, hopefully a cash flowing asset. Now if you send, so I've got my timeline here. If you send no payments back over the entire policy over the entire calendar year. Calendar year, we get out to December 31st. And as soon as we cross December 31st and we're into the year, the year in the next year. You will now officially be in a trigger situation where you're gonna have to pay tax on the difference. So $700,000 came up, came out as a disposition. $500,000 is the ACB. So that means you have a $200,000 taxable income that you need to declare in that year because you didn't put anything back in the policy. Okay, well, that sounds, doesn't sound very friendly, except you took your 700 grand, were able to go and acquire an asset, plus your 800,000 kept growing over that same calendar year, didn't it? Very important to be aware of that. Now you go and pay the tax bill. Now the tax bill is gonna be due. You're gonna file your tax return in someplace, you know, kind of like Aprilish is when your taxes are actually due. So there's gonna be tax payable roughly at that timeframe. But you had the utilization of the money starting way back here in January. You basically got to use the money for about 15 months before you had to pay the tax ban, didn't you? Okay, that's an important factor to be aware of. Now you're going to pay tax on those dollars. And here's the key thing we need to talk about is what if you're, if you're being an honest banker and you're, you have an intention of taking this policy loan, there should be a plan to repay this money, especially if you're going to go get an asset. Ideally, that asset is going to produce some kind of a, you know, return or a cash flow back to you. So let's take a look at the same situation here. And I'm going to go, well, we'll just, we'll just start. I guess at this point I'm going to change colors, though. Let's use a purple color. So now starting in year, in the second year there, year two, we're going to begin a repayment back into the policy. Let's say we started it in January, and we did. January, February, March, and every month we made a repayment back in. And let's try to keep it simple. Over the span of the entire year, we repaid $50,000 of loan repayments that went back against the policy loan in the next year. Well, you're going to get issued a T slip from the insurance company for the year three that says you've now put money back in the policy. You get a tax deduction.

In year two for everything that you contributed back into the policy.

And what does that repayment do to the adjusted cost basis.

It increases the adjusted.

It increases it.

So the policy loan reduced the adjusted cost basis and the loan repayment increases the adjusted cost basis. And here's another thing. There's interest on this loan interest to the life company. A life company has to charge interest for the benefit of everyone that's inside of the insurance company, the participating owners. Any interest that accumulates on that policy loan is also increasing the adjusted cost basis. Again, so these are. There's factors that make the ACD go up and there's factors that make it go down. Things that make it go down is the net cost of peer insurance, a disposition such as a policy loan or a withdrawal. And the things that make it go up is premium dividends, when they're used as premium interest on policy loans increases it. Policy loan repayments increase it. And so if you've had a taxable event and now you're putting money back in, you equalize that taxable event because you're putting the money back in. So we might have paid taxes, but if we now stretch that 50 grand over four years and we kept putting it back in, the net result is we would have recovered the equivalent amount of tax that we paid because we've put the money back in. So we still ended up at a net zero position. The difference is in how we did it and our thought process and who was in control.

Now, when you go one step further, because this is a very busy screen, I would probably need to delete some things. So I'm going to erase a couple of these things. Now, here's another thing that can happen. We took out our $200,000 and. Sorry, we took out our $700,000. My apologies. 700 grand is what came out of the policy and we borrowed against it.

Or against.

Yes, thank you for the correction.

Nothing came out of the policy.

Thank you for the correction. I was about to do it. You beat me to the punch. So we collateralized. We used a policy loan and let's assume that we had a house that was already paid for and that had zero, zero debt on it because we were doing this, you know, further on down the line. And we had a home equity line of credit set up already. We'd already done that and we had access to some money. If we knew we were going to have a $200,000 taxable event, could we grab $200,000 out of that line of credit and make a transaction to the Life Company before December 31, before we cross the tax year and by putting the money back in what would been the equivalent of the taxable amount. So we repaid the policy loan 200 grand. We just use a different reservoir.

And it wouldn't even, it wouldn't even have to be the whole 200. The 200,000 is just the taxable gain.

That's the taxable gain. So again, you can return an amount back in, which means you didn't actually have to really worry about a taxable event. You just chose to get the differentiator from another bucket.

That's right.

And, and, and then you can continue that process of putting the money back in and you're refilling the adjusted cost basis again. So again, this is all about control. It's a circumstance of control. And when you're empowered with the knowledge through, through good education, through good coaching, through repetition, and you start to learn and understand how you can maneuver, you can maneuver this, a future tax event that will likely appear in your horizon, and you're now armed with the ammunition to know how to deal with it when the time arises. And you have tons of options on how you can do it. There's no downside to that, right? There's no downside. You, you can be in control. And so when you get to dictate the terms of being of the awareness on when a taxable event's going to happen, if you know that event's going to happen anyway, now you can, now you can plan effectively because your brain is already trained to start thinking about, whoa, what might I do here? Oh, hey, you know what? I'm looking at buying that. There's an opportunity came across my dad. I'm looking at buying another rental property. I want to use this policy, you know, asset that I have to acquire it. You know, I've had this policy, it's been on the books now for 15 years. I might be getting into that, like, situation where I need to be more aware of the adjusted cost basis because I've been, I've had this for a while. It's pretty efficient. Maybe I should reach out to my advisor and book a meeting. We should plan, we should talk through and have a discussion about what we should do. How might we go about this? What are some ways that we might maneuver the different moni resources around? And that's part of what having access to good mentorship, good coaching will provide, but also just the ability to soundboard ideas like that and being aware that a lot of people just aren't even aware that this can happen. So now if you've Watched this podcast. You don't have that excuse.

That's awesome. This was great, man. And people, you know, our viewers on the YouTubes and our listeners, they, they tell us that sometimes when we do a little bit of a deep dive, they kind of appreciate it. So it's nice, you know, because we.

You know, you can get wrapped around the axle on numbers and with the dynamics of life and the dynamics of circumstance and static numbers.

That'S just, that's the thing. You want to see the adjusted cost basis numbers on a policy. Well, you can show it on an illustration, but that illustration, static, it's what's on the page, right? What matters is what's off the page, right? If, if, if we, you show looked all these numbers and you're looking out at, you know, year 40 and oh yeah, the adjusted cost basis has come down. Okay, great. But what did you do with the money before we got there? Right? How much of that money were you putting into good use? And what other assets have you accumulated that we can't see on this sheet of paper? Right. Like you have to expand your imagination beyond. You got to get off the page. So this is that really happens isn't on the page. It's off the page. Totally.

It's about crossing over into life in the tax free lane, losing their minds.

I wonder in the, in the, in this life in the, in the tax lane Eagles analogy, like, am I Joe Walsh? Who am I in the circumstance?

I think, yeah, I think you're Joe Walsh. I think so. You know, I think I'm Don Henley.

Yeah, there you go. Yeah.

You know, and yeah, we're just jamming out and.

Helping people, you know, address their, their financial lives in the most tax advantaged way.

Reduce, reduce some. Reduce lifetime taxation and, and think more about how to have more control. And it's funny because another, anyone who has like, like micro music whatever might know there's a band, it had like one hit or whatever called. The band's called Sniffin the Tears and they had a song called Driver Seat. It's a great little tune. There's a like six minute long version. And if you ever get a chance to listen, go ahead and listen to it. But when you're listening to it now, you gotta picture yourself as being in the driver's seat because that's what we're doing with our podcast what's the bassfree? We're all about helping you get in the driver's seat of your financial life. No one else should be in the driver's seat. And more importantly, if someone else has hopped into the driver's seat, you should be grabbing that person, then kicking them out and grabbing the wheel. You're in the driver's seat of your financial life. You always have been. Nothing's changed. It's up to you. You gotta take control. Yeah.

That's awesome.

Cool. This is great man.

So a lot of fun. Ton of fun.

Anyone listening, watching the podcast, watching the YouTubes, make sure you check out the playlist that just appeared magically on the screen and continue your journey of learning. There's lots of good stuff to get into here and join our community and make sure if you haven't already done so, go to seven Steps CA and download our guide on seven Step guide on how to become your own banker.

And you won't have to pay any tax on that.

Thanks everybody. Make the rest of your week great. This is awesome.

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