Are you a small business owner looking to acquire a business loan and have found that lenders want you to have a life insurance policy? You’re not alone.
For a lender, a life insurance policy adds extra security to the bank’s investment. At the same time, it allows for business owners to grow and expand their business through the form of a bank or small business loan.
Most banks will gladly accept life insurance as a form of collateral. Because life insurance policies payout in a lump sum, it offers a sense of security that their loan will not go unpaid should the borrower pass away.
It’s no surprise then that a loan officer may sit you down and ask you to take out a life insurance policy and assign the bank as a collateral assignee.
The whole process is called a life insurance collateral assignment, and it’s just one of the reasons that life insurance is such a versatile product.
Keep reading to learn more about the requirements, benefits, and potential pitfalls of this little-known process.
What Is Collateral Assignment?
A collateral assignment serves as an agreement between you, your lender, and your life insurance provider. The agreement allows for the death benefit of your life insurance policy to be used as collateral in order to secure a loan.
Why would a bank or lender have interest in your life insurance?
By collaterally assigning your life insurance policy it assures that the lender will be paid the remaining balance of the outstanding loan should the insured pass away.
The agreement is a policy form that is provided by the life insurance company that is signed by all parties, the lender, the borrower and the life insurance provider.
Some lenders will also require their own collateral assignment form to be signed by both the borrower and life insurance provider.
Collateral Assignment vs. Absolute Assignment
It’s also essential that you don’t confuse collateral assignment with an absolute assignment.
When you use collateral assignment, your life insurance policy is only being used as collateral. You are still the owner and have full control of the life insurance policy. Only you are able to make changes to the life insurance policy.
An absolute assignment is different. It involves signing over the entire life insurance policy to another party as either a sale or gift. The assignee then has full ownership and responsibility of the life insurance contract while you remain as the insured. The assignee must make the premium payments, but they can also make changes to the life insurance policy, including adding or changing beneficiaries.
It is extremely uncommon for a bank to want an absolute assignment of a life insurance policy. Most banks are uninterested in ownership of your life insurance policy. They just want the reassurance that they will receive their money should you pass away with an outstanding loan balance.
Best Type of Life Insurance for Collateral Assignments
Most lenders will accept all types of life insurance policies as collateral just as long as the death benefit is equal to or greater to than the amount being borrowed for the loan.
If you currently have a life insurance policy that fits this criteria and both the insurance company and lender allow for you to use your existing life insurance, you should not have an issue using it as collateral. If you do decide to use your existing life insurance policy you will need to contact your life insurance provider and request a collateral assignment form to begin the process.
However, if you don’t have a current life insurance policy or would like to keep your personal coverage separate from business coverage you will need a new life insurance policy.
The big question is, what type of life insurance is best for collateral assignment?
When working with clients involving collateral assignment for a business loan approval, we almost always recommend term life insurance. A term life insurance policy is very inexpensive and available in several different contract lengths starting from 1 to 30 years. In most cases a simple 10 year term policy meeting the loan amount works just fine.
In addition to affordability and contract options, many life insurance companies offer term insurance without having to take a medical exam.
Often, collateral assignment life insurance is something that is needed quickly. When this is the case we often recommend one of our no medical exam companies. Depending on the individual applying, no exam life insurance can be approved in as little as 24 hours up to two weeks. The only downside is that you may pay a little more for your coverage than if you were to go through traditional underwriting which can take 4-8 weeks.
Collateral Assignment Process
Should you apply for the loan or the life insurance policy first?
The first step is to check with the lender you are working to find out if you can qualify for the loan and if it will be required to have life insurance as collateral assignment.
If life insurance is going to be required, you will need to find out if you can use existing coverage to satisfy that requirement or if will it require a new policy.
If you you don’t have a life insurance policy or are unable to use an existing policy you will need to shop for new life insurance coverage. This is where Top Quote Life Insurance can help.
Standard process of collaterally assigning a new life insurance policy:
Find and apply for life insurance coverage that is affordable to the client but that also meets the requirements of the lender. This includes the correct amount of death benefit coverage as well as the contract duration.
For clients that need fast life insurance coverage, we will take a look at the no medical exam options as approval times can often be much quicker.
Once coverage has been approved and activated the collateral assignment form will need to be signed by the insured as well as the lender. After both parties have signed, the form will be processed and signed off by the insurance company acknowledging that the lender has been named as the assignee of the life insurance coverage.
Generally the collateral assignment form can be completed at the time of the application or after the life insurance has been activated. Depending on the lender, some will require the collateral assignment form to be notarized.
After the life insurance coverage has been activated and the collateral assignment has been completed, both the insured, as well as the lender, will be notified by the life insurance company that the change has been processed by a letter that will be received by mail.
We can also provide proof that the collateral assignment has been completed through email for clients who need it quickly.
Best Companies that offer Small Business Loans
From time to time we often receive phone calls from small business owners asking if they could apply for a small business loan through us. Unfortunately we can only help you with the life insurance portion of your small business and collateral assignment process.
However, below is a 2018 list the most active SBA 7(a) lenders in the United States according to the U.S. Small Business Administration. Be sure to check out their full list of 100 active SBA 7(a) lenders for additional companies.
Ten of the best well known SBA 7(a) lenders include:
- Live Oak Banking Company
- Wells Fargo Bank, National Association
- The Huntington National Bank
- JPMorgan Chase Bank, National Association
- Byline Bank
- Newtek Small Business Finance, Inc.
- Celtic Bank Corporation
- U.S. Bank, National Association
- Bank of Hope
- Compass Bank
Important – Don’t Make the Bank Your Beneficiary
A collateral assignment doesn’t require you to name your bank as a beneficiary on your life insurance policy. The bank generally knows this but if for some reason you are asked to do so you might want to choose a different lender as this is not common at all.
The process of collateral assignment allows the lender to receive only the money due on the outstanding balance of the loan. Any remaining balance of the death benefit will go to your named beneficiary which can be a spouse, your business or your estate.
Example: Let’s say you took out a small business loan of $1,000,000. In order to have obtained the loan your lender wanted you to purchase a life insurance policy equivalent to the loan.
Over the course of two years you paid the loan balance down to $750,000. If you were to pass away during this time and had named the lender the primary beneficiary of your life insurance policy, they would receive the full $1,000,000 of life insurance policy.
This is the biggest reason why you never want to name the lender as a beneficiary as they would receive 100% of the death benefit.
Here to Help with Collateral Assignment Life Insurance
In the early stages of obtaining a small business loan and have been told you need a life insurance policy? If so let us help.
Top Quote Life Insurance works with over two dozen of the top life insurance companies in the U.S. We can help you get your collateral assignment life insurance coverage done quickly while keeping it affordable. Feel free to fill out the form below or give us a call to get started.