I've read multiple places about how one of the nice things about policy loans is that the insurer charges simple interest. I wanted to make sure my understanding regarding the simple interest charged by the insurer vs the compounding nature of credited interest on the cash value is correct. I’m going to throw out an example and would appreciate comments.
For the example I’m going to assume no new premium payments year after year to keep the numbers simple.
Account Cash Value: $10,000
Dividend rate: 4.75%
Loan rate: 5%
Say I take a loan for most of CV, $9,500. My understanding is that interest is charged up front, so $475 will be added to the CV taken, leaving a CV of $25.
At the end of the year, I receive my dividend of $475, so my CV goes to $10,000+$475-$9,500-$475= $500
At the start of year two, they charge the $475 interest for the loan again (this is where the simple interest kicks in, since technically I owe them $9500+475 from the first year), leaving CV of $25.
At the end of the year, I receive a higher dividend of $498 ($10,475*4.75%), so my CV goes to $10,475+$498-$9,500-$475-475= $523
This shows how the credited dividend is being compounded, but the interest charged is not. The first year the interest gained and interest owed were the same, but the next year interest gained was higher already.
Three questions:
1. Is my example here correct?
2. What happens if I took out the $9,500 loan and repaid it in 6 months, would half the interest charged of $475 be re-credited to me?
3. What if I made 5 monthly payments of $1,900 ($9500 total)? What would I owe in interest?
Thanks in advance for the responses.
For the example I’m going to assume no new premium payments year after year to keep the numbers simple.
Account Cash Value: $10,000
Dividend rate: 4.75%
Loan rate: 5%
Say I take a loan for most of CV, $9,500. My understanding is that interest is charged up front, so $475 will be added to the CV taken, leaving a CV of $25.
At the end of the year, I receive my dividend of $475, so my CV goes to $10,000+$475-$9,500-$475= $500
At the start of year two, they charge the $475 interest for the loan again (this is where the simple interest kicks in, since technically I owe them $9500+475 from the first year), leaving CV of $25.
At the end of the year, I receive a higher dividend of $498 ($10,475*4.75%), so my CV goes to $10,475+$498-$9,500-$475-475= $523
This shows how the credited dividend is being compounded, but the interest charged is not. The first year the interest gained and interest owed were the same, but the next year interest gained was higher already.
Three questions:
1. Is my example here correct?
2. What happens if I took out the $9,500 loan and repaid it in 6 months, would half the interest charged of $475 be re-credited to me?
3. What if I made 5 monthly payments of $1,900 ($9500 total)? What would I owe in interest?
Thanks in advance for the responses.