Equity Harvesting: Get THE Definitive Guide
The concept of Equity Harvesting seems to be white hot right now in the insurance and mortgage community. While there are sales books in the marketplace that make it sound like a can't miss topic, caution needs to be taken so you can determine if using the plan is prudent given your situation and set one up in the "correct" manner.
DEFINING EQUITY HARVESTING (EH)
Equity Harvesting is defined as follows:
EH is removing equity from a personal residence through refinancing
(or a home equity loan) where the money borrowed is placed in
cash value life insurance
The tool of choice to help clients build wealth in a tax favorable through Equity Harvesting is cash value life insurance.
Why cash value life insurance? Because if properly structured, cash in a policy can grow tax free (income, capital gains and dividend taxes) and be removed tax free (policy loans). To properly structure the policy, it must be over funded with cash using the minimum allowable death benefit that still allows the client to borrow from the policy tax free.
While fundamentally Equity Harvesting is simple to understand, this martial starts out with a common person example so you can understand the mechanics the plan.
Example 1: Mr. Smith ("Joe lunchbox") is married and has a home with a fair market value (FMV) today of $235,000. He has 2 children and a spouse where their combined household income is $78,000 a year. Assume the Smithís purchased the home for $185,000 seven years ago and that the current debt on the home is $135,000. Assume the current home loan is 6.5% with mortgage payment of $935 a month.
IMPLEMENTING EQUITY HARVESTING
Let's assume Mr. Smith will use a home equity line of credit (not a refinance) and will remove $76,500 of equity from the home over a five year period (which creates a 90% debt to value ratio on the property).
Equity Harvesting is removing equity from a home to reposition it into cash value life insurance. Therefore, Mr. Smith will access his new line of credit in the amount of $15,300 every year for five years to fund an over funded/low expense cash value life insurance policy.
It is assumed that the life insurance policy used is and equity indexed life insurance policy that has a 1% guarantee rate of return on the cash value, has its growth pegged to the S&P 500 index and locks in the gains annually. It is also assumed that the policy will return 7.5% annually (which is conservative since the S&P 500 has averaged over 11% for the last 20+ years).
Letís assume that Mr. Smith will retire when he is 65 years old and will withdraw money tax-free through policy loans from his cash value policy from age 66-90 (25-years).