Leveraged Benefits

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DEFINITION

The use – by a business owner or professional practitioner – of their company’s receivables or current income to secure a loan whose proceeds then indirectly fund a retirement plan. In a leveraged benefit program, also called a leveraged planning program, the participant purchases a large guaranteed annuity (such as an equity-indexed annuity) or a large cash-value life insurance policy (such as a single premium indexed universal life policy) that helps provide secure retirement income that falls outside ERISA regulations and matches the high income of the participant’s working years. The plan can be established through a financial planner or specialized insurance agency.

INVESTOPEDIA EXPLAINS

Since business owners and professional practitioners (such as lawyers, doctors, independent consultants and accountants) often have high expenses and/or minimal income in their early years, they may not be able to make significant contributions to their retirement accounts until later in their working lives. By that time, it is not possible to make high-enough contributions and/or to earn high-enough returns in the remaining working years to fund a sufficient retirement income. Leveraged benefit programs allow the owner of an established business with strong cash flow to fund a large retirement portfolio worth hundreds of thousands – or millions – of dollars over just a few years to make up for their small initial retirement contributions.

To establish a leveraged benefit program, the small business owner or professional practitioner (the participant) applies for a loan, using both the business’s financial statements and his/her personal financial statements to help the bank determine how much it is willing to lend. The bank lends the participant funds as a lump sum or a series of payments over several years. The participant uses the loan proceeds to purchase a guaranteed annuity or a cash-value life insurance policy, which often becomes the loan collateral; the participant’s receivables or income, or even personal assets, may also serve as collateral. The participant repays the loan over five to 10 years, according to the loan terms. When the loan is fully repaid, the bank releases its claim to the collateral.

The loan that funds the leveraged benefit plan usually charges simple interest, but the proceeds are used in a way that earns compound returns. In addition, the loan interest is often a tax-deductible business expense. Thus, the interest cost is significantly less than what the annuity or life insurance plan earns. In addition, the programs are typically structured to provide protection from downside loss in the market.


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