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If you’re serious about building wealth, you’ve probably heard about overfunded whole life insurance. But is it right for you?

Technically, the term “overfunded whole life insurance” is a misnomer. Reason being, if you overfund whole life insurance too much, it can become a “modified endowment contract” (MEC). In this case, you would lose the tax benefits.

However, when people use the term, they are referring to a legitimate and powerful wealth-building strategy.

Overfunding whole life insurance means paying more than the required premium to maximize the policy’s cash value growth. This is done in the form of what is called “paid up additions,” or PUA premiums.

This strategy offers unique benefits and considerations for policyholders. It just has to be done correctly.

This is why we refer to it more technically as “properly structured, optimally funded whole life insurance.” It can be one of the most powerful and versatile tools to protect, grow, unlock, and pass on wealth.

In our book What Would the Rockefellers Do?, Garrett Gunderson and I explain in great detail how to use it to protect, grow, and pass on wealth. You can get a FREE hardcover copy here.

When you read it, you’ll understand why the ultra-wealthy leverage the power of overfunded whole life insurance.

Understanding Whole Life Insurance

Before delving into overfunded whole life insurance, it’s essential to understand the basics of whole life insurance.

The most basic type of life insurance is term. Term life insurance provides coverage for a specific period. Its renting it versus buying it.

In contrast, whole life insurance covers the policyholder for their entire life. It offers a guaranteed death benefit, fixed premiums, and a cash value component that grows at a guaranteed rate. The policyholder can borrow against this cash value or withdraw it under certain conditions. This makes it a versatile financial tool.

Whole life insurance policies typically have higher premiums compared to term life insurance. This is because of their permanent nature and cash value component.

However, the benefits of having lifelong coverage and an accumulating cash value can outweigh the higher costs for many individuals.

What Does Overfunding Whole Life Insurance Mean?

Overfunding a whole life insurance policy means paying more into the policy than the minimum required premium. This excess payment goes directly into the cash value account, accelerating its growth.

(But as I said, this technically isn’t “overfunding.” More accurately, it is “optimally funding.”)

This strategy can be particularly advantageous for those looking to maximize the cash value and living benefits of their whole life insurance. By increasing the cash value faster, policyholders can benefit from greater borrowing potential and possibly higher returns over time.

Benefits of Overfunded Whole Life Insurance (aka Optimally Funded Whole Life Insurance)

A properly structured, optimally funded whole life insurance policy gives you the following benefits:

  1. Accelerated Cash Value Growth: One of the primary benefits of overfunding whole life insurance is the accelerated growth of the policy’s cash value. More money is going into the cash value account, so it can grow significantly faster than it would with standard premium payments. This enhanced growth can provide a substantial financial resource for policyholders to tap into later in life.
  2. Tax Advantages: Whole life insurance is taxed on a FIFO basis, meaning “first in, first out.” The cash value in a whole life insurance policy grows on a tax-deferred basis. This means that policyholders do not pay taxes on the growth until they withdraw the funds. In some cases, if structured correctly, withdrawals can be made tax-free, providing a significant tax advantage.
  3. Loan Potential: Policyholders can borrow against the cash value of their overfunded whole life insurance policy. These loans typically come with low interest rates and do not require credit checks. Moreover, the loan does not need to be repaid, though any outstanding loan amount will be deducted from the death benefit if not repaid. (There are many reasons why you would want to repay the loans and make all that money available for retirement income later in life.)
  4. Financial Flexibility: Overfunded whole life insurance can serve as a versatile financial tool. The increased cash value can be used for various purposes, such as funding a child’s education, supplementing retirement income, or covering emergency expenses. It’s also useful for many other investment reasons, personal loans for future money decisions you will make anyway, and many business-related purposes. The policyholder has the flexibility to use the funds as needed throughout their life.
  5. Enhanced Death Benefit: Overfunding whole life insurance can potentially increase the death benefit. The whole life insurance polices we use offer dividends, which can be used to purchase additional coverage. As the cash value grows, these dividends can increase, enhancing the overall death benefit paid to beneficiaries.

The Danger of an Overfunded Whole Life Insurance Policy

We prefer the term “optimally funded” instead of “overfunded” for a reason. If you overfund a whole life insurance policy too much, it becomes what is known as a “modified endowment contract.”

A modified endowment contract (MEC) is a life insurance policy with too much cash. When the IRS changes your policy to an MEC, you lose tax breaks on withdrawals and loans. This change happens if you pay too much in premiums too quickly. And once it becomes a MEC, it is always a MEC—there’s no reversing it.

In the U.S., permanent life insurance policies get good tax benefits. But if you put in too much cash, it becomes an investment, not insurance. The MEC limits depend on the policy’s terms and death benefit amount. Your insurance company will warn you if your policy is about to become an MEC.

The IRS makes a policy an MEC if the premiums and cash value go over federal limits. These limits are based on IRS rules for the life of the policy. This rule stops people from calling an investment “life insurance” to avoid taxes.

In the 1970s, insurers offered policies with lots of cash value growth. Policyholders could take tax-free loans, making these policies tax shelters. Laws in 1988 stopped this practice.

Again, this is why the term “overfunded whole life insurance” is a misnomer. “Optimally funded” is more accurate.

When we work with clients, our primary goal is to ensure they have the proper amount of insurance coverage. Next, we help them leverage the living benefits of whole life insurance by optimally funding their policy(ies).

We will help you maximize the benefits of your cash value, while avoiding any issues due to overfunding too much.

How Overfunded Whole Life Insurance Works

To understand how an overfunded whole life insurance policy works in practice, let’s break down the steps involved:

  1. Selecting a Policy: The first step is to choose a whole life insurance policy that allows for overfunding. Not all policies offer this option, so it’s crucial to work with an insurance agent who can help identify the right product.
  2. Determining Premium Payments: Once the policy is selected, the policyholder and their agent will determine the premium payments. This involves deciding how much to pay above the required minimum premium to achieve the desired cash value growth.
  3. Monitoring Cash Value Growth: As the policyholder makes overfunded whole life insurance premium payments, the cash value will grow more rapidly. It’s essential to monitor this growth regularly and make adjustments as needed to ensure the policy remains on track.
  4. Managing Policy Loans and Withdrawals: Over time, the policyholder may decide to take loans or withdrawals from the cash value. It’s important to understand the terms and potential tax implications of these transactions to avoid unexpected costs.
  5. Adjusting the Policy: Life circumstances and financial goals can change, so it’s vital to review the policy periodically with an advisor. This ensures that the optimally funded whole life insurance strategy continues to align with the policyholder’s objectives.

Case Study: Optimally Funded Whole Life Insurance in Action

Consider the case of John, a 40-year-old professional. He wants to ensure financial security for his family while also growing a substantial cash value for future needs.

John decides to purchase a whole life insurance policy with a $500,000 death benefit. The annual premium for this policy is $5,000. But John chooses to overfund it by paying an additional $15,000 each year in paid up additions (PUA).

Over the next 20 years, John’s total premium payments amount to $400,000. Due to the paid up additions, the cash value of his policy grows significantly, reaching $$637,228.

By age 60, John has a robust financial resource at his disposal. He can borrow against this cash value to help pay for his children’s college education or supplement his retirement income.

Moreover, the death benefit of his overfunded whole life insurance policy may have also increased. This is due to dividends earned on the higher cash value. If John passes away, his beneficiaries will receive a larger death benefit. This provides them with even more financial security.

However, the whole point of overfunded whole life insurance is to leverage the living benefits. These allow you to grow and access your wealth while you’re alive.

To learn more about this, get your FREE hardcover copy of What Would the Rockefellers Do? by Garrett Gunderson and I.

Tax Considerations for Overfunded Whole Life Insurance

One of the significant advantages of overfunded whole life insurance is the favorable tax treatment of the cash value growth.

However, it’s essential to understand the nuances of these tax benefits to maximize the policy’s potential:

  1. Tax-Deferred Growth: The cash value grows on a tax-deferred basis, meaning policyholders do not pay taxes on the gains each year. This allows the cash value to compound more efficiently over time.
  2. Tax-Free Withdrawals: Under certain conditions, policyholders can make tax-free withdrawals from the cash value. This is typically structured as a return of premium payments followed by loans against the cash value.
  3. Avoiding MEC Classification: To retain the favorable tax treatment, it’s crucial to avoid the policy being classified as a Modified Endowment Contract (MEC). An MEC loses some tax advantages, making withdrawals and loans taxable as income. Working with an experienced advisor can help navigate these complexities and ensure the policy remains compliant.

Comparing Overfunded Whole Life Insurance to Other Investment Options

When considering overfunded whole life insurance, it’s essential to compare it to other investment options. That way, you can determine the best strategy for your financial goals.

Here are some key points of comparison:

  1. Risk and Return: Whole life insurance offers a guaranteed return on the cash value, making it a low-risk savings tool. In contrast, other investments like stocks or mutual funds may offer higher returns but come with significantly greater risk.
  2. Liquidity: The cash value in a whole life policy is accessible through loans or withdrawals, providing liquidity. However, other investments may offer more straightforward access to funds without the need for loans.
  3. Tax Treatment: The tax-deferred growth and potential for tax-free withdrawals make overfunded whole life insurance attractive. Other investments may also offer tax advantages, such as IRAs or 401(k)s, but come with different rules and limitations.
  4. Diversification: Overfunded whole life insurance can be part of a diversified financial strategy. Combining it with other investments can balance risk and return, providing a well-rounded approach to financial planning.

How We Leverage Optimally Funded Whole Life Insurance as the Foundation of a Comprehensive Financial Plan

Optimally funded whole life insurance is not an investment. Nor should it be the only tool you use to protect, grow, and pass on wealth.

However, those who truly understand it know that it is the foundation of a wise financial plan.

We help you make the right decisions for you and architect your wealth with our core philosophy. This is comprised of the three points of the AIS triangle: Asset, Investment, Strategy.

Your #1 ASSET is You

Your greatest asset is not your business or any investment. It is YOU. That is the first asset we focus on both protecting and growing.

Your Human Life Value is the combination of your knowledge, character, values, mindset, and skills applied productively to create value for others.

To build more wealth, first focus on increasing your Human Life Value by investing in yourself.

Your #1 INVESTMENT is Your Business

Assuming you’re an entrepreneur, your business is the main source of your cash flow and wealth.

This is where you maintain control versus giving it up. It’s where you have the most knowledge, expertise, and passion. It’s also where you have the most opportunity. If you take any risk, take it here and nowhere else.

Your number one investment is your business/career. Not a stock or piece of real estate. Before looking for outside investments, we first help you optimize your business cash flow and wealth.

Your #1 STRATEGY is Guaranteed, Protected, and Liquid

For the wealthy, the ideal financial strategy is to store your extra cash in places that are guaranteed, protected, and liquid.

“High risk equals high rewards” is an illogical philosophy for the poor and middle-class. The wealthy do not gamble or speculate.

Having guarantees on your money protects your mindset and your ability to continue to produce at the highest level.

Our core strategy is to do everything we can to minimize risk and give you safety and control. This means using products that are guaranteed, protected, and liquid. And of course, this means properly structured, optimally funded whole life insurance.

This is like locking your money in a vault. You still have access to it to make other investments. But the certainty and control it gives you is the foundation of your wealth.

Is Overfunded Whole Life Insurance Right for You?

So is overfunded whole life insurance the right choice for you? That depends on your financial goals, circumstances, and long-term planning. It is a powerful tool for those seeking a combination of life insurance coverage, cash value growth, and tax advantages. However, it is not suitable for everyone. Careful consideration should be given to the costs and benefits.

With the right approach, it can provide both security and flexibility, helping you achieve your financial objectives over the long term.

Overfunded whole life insurance offers a unique blend of life insurance protection and financial growth potential. By paying more than the required premium, policyholders can accelerate the growth of the policy’s cash value, enjoy tax advantages, and gain financial flexibility.

However, it requires careful planning, higher initial costs, and professional guidance to navigate its complexities and maximize its benefits.

In our book, What Would the Rockefellers Do?, Garrett Gunderson and I reveal why it’s a foundational financial tool for the ultra-wealthy. Get your FREE hardcover copy now to learn more.