Nelson Nash in the Becoming Your Own Banker book talks about repaying interest at a rate that is higher than what the insurance company is charging. He shows the additional interest going back into the policy, accelerating its growth.
This is a source of confusion for many of my clients so I want to clarify.
Take a moment to reread the book and you will notice that Nelson illustrates loans being taken AFTER the policy has been capitalized. In other words, he illustrates loans being taken after the policy is able to self-fund (contributions made internally from policy growth) and the policyowner has discontinued fully funding the policy out-of-pocket.
When a policy is self-funding, additional interest can be directed back into the policy and will serve to make it grow more quickly.
However, if you are still fully funding your policy there is no room to put additional interest into the policy since the policy is already being funded to its limit. Any attempt to put additional interest into the policy will push it over the MEC Line (MEC = Modified Endowment Contract) and there may be tax consequences.
So in this case, what happens if you do pay additional interest? It simply goes towards accelerating the loan payoff.
Any way you slice it, paying additional interest is usually to your benefit.
A couple other points to consider…
I am sometimes asked if there is a benefit to discontinuing out-of-pocket contributions and allowing a policy to self-fund? In general, I encourage clients to continue contributions because it is the fastest way to build wealth in a secure, tax-advantaged environment. Most of my clients continue to fully fund their policies even beyond the point where their policy is able to self-fund.
One last thing… you may be wondering if loans can be taken before your policy is able to self-fund. Absolutely. Loans can be taken at any time. However, remember to treat your banking vehicle with the same respect you would any other lending institution and be sure to set up a repayment plan.