Usually when people think of a
term life
insurance plan beneficiary,
family members come to mind. This
is in fact the way that the majority of
policies transact on the market.
There is, however, another type of use
for term life insurance in a business
sense. This use is to secure
credit on behalf of a creditor.
Let's take a look at how term life can
be used to secure credit and allow
people to move forward with their
business and financial opportunities.
You
are a small business owner who happens
to be very successful. A great
deal of the success is a result of your
own ability, creativity, and hard work.
You have big plans to expand your
business and you apply for a business
loan to help finance this expansion.
The bank loves (maybe that's a strong
word for a loan officer's disposition)
your plans and potential but requires
that a term
life insurance
policy be taken out naming
the bank as a beneficiary. Aside
from conspiracy theories envisioning
criminal banking cartels, this is
actually a valuable use of term life
insurance. Let's look a little
closer.
A
critical term in life insurance is
"Insurance interest". This
essentially means that a person has some
vested interest in the life of another
person. Since term life insurance
deals with money, the vested interest is
usually of a financial nature. For
example, I can't take life insurance out
on my son's 1st grade teacher...unless
of course he/she is my spouse.
Conversely, that teacher can't take a
policy out on my son. As for the
situation above where a bank requires a
life policy on a potential debtor, the
insurable interest is pretty straight
forward. The bank is requiring the
life insurance in order to secure the
loan they will issue. The loan may
be $100K for example. It's not out
of the question to require a life
insurance policy of $100K to secure the
loan. It's a back-up option for
the bank in case the person they are
"investing in" passes away.
Let's
look at the situation that the bank is
trying to avoid. They loan the
debtor above $100K. The person has
spent $80K of the loan amount and the
expansion is moving along. The
unexpected happens and he/she passes
away. The debts of the creditor may not
be paid or paid in full depending on how
his/her estate was managed. If the
bank has a term life insurance policy to
cover the loan amount, they are
protected from such an event.
Luckily,
term life
insurance rates are very
inexpensive. The cost of such a
policy may even be built into the loan
amount or packaged together. This
is similar to mortgage insurance
required on some home loans when not
enough equity or down-deposit is put up
front. The good news is that a
term life policy used to secure credit
allows many small business owners and
companies the ability to participate in
the credit market in a way that might
have been able to without such a policy.
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