What’s Wrong With A/R Financing
Notice the interesting title to this page. What’s “wrong” with A/R Financing. The APS™ is tired of the A/R financing or A/R leveraging sales concepts that are heavily marketed in the insurance industry.
What is A/R Financing? It is a concept where a company (typically a medical practice) borrows money and pledges as collateral for the loan the company’s Account Receivables (A/R). The money from the loan makes its way to the owners of the company (in various ways the problems of which are outside the scope of this material) and invests the borrowed money for retirement purposes.
The “sales” pitch is two fold. 1) The doctor needs to protect the A/R and 2) the doctor can create a large retirement net egg using a life insurance policy funded with the borrowed money.
Needless to say, our opinion is that the concept is not only marginal from a financial standpoint, but the way it is pitched the majority of the time; it actually puts more of a client’s assets at risk to creditors.
The Sale’s pitch
Life agent: Doctor, did you ever think about the fact that your A/R is the largest asset of your medical practice and that it is an asset which is subject to the claims of creditors? Also, isn’t the A/R your largest stagnant asset (meaning it is an asset that is not building wealth).
Doctor: No I never thought about that before.
Life agent: Doctor, would you like me to show you how to protect your A/R from creditors and show you how to create significant wealth for your retirement at the same time?
This sales approach is total garbage in our very informed opinion.
To be brief, here are just some of the problems with this sales approach:
1) The A/R is hardly at risk in a medical malpractice suit. Ask around, have you ever heard of anyone actually losing their A/R in a med malpractice suit? The answer will be no. There are multiple reasons why that we won’t go into in this short summary, but, think of this: a doctor has medical malpractice insurance coverage AND the medical practice has its own separate coverage with a separate policy and limits. The company policy is usually 10-20% of the doctor’s cost for his/her policy. Why? Is it because insurance companies want to lose money? No, it’s because the medical practice has very little liability in your typical medical malpractice case.
2) The doctor is typically told to write off the interest on the loan to the practice. This is footnoted in most sales presentations. It’s footnoted because the vendors who have this concept will not officially tell a client the interest can be written off. Typically, this issue is left to the local CPA who has no idea that you really can’t write it off. If you can’t write off the interest with this concept, no one will do it because it is hard to make the numbers work financially.
3) In almost all states (except TX, FL and a few others) life insurance is an asset which is NOT protected from creditors. So think how funny this is. The doctor is feared into buying the A/R financing plan to protect his/her A/R from lawsuits and then funds a cash value policy which is owned personally and is not asset protected from creditors. Why would anyone take an asset that in the real world is not really at risk from creditors and then move money from that into a liquid life insurance policy owned individually by our client thereby creating a nice juicy asset for creditors to seize? No one would if they understood the pros and cons of this concept.
You know who this plan really works for? Insurance agents and insurance companies.
One caveat, if a client understands the math and understands that borrowing money while NOT writing off the might work out better than doing nothing (which is true IF borrowing rates state low and the life policy does well) then the client can do as they see fit. It is tough to give full disclosure on a topic where interest rates fluctuate and where the loan is supposed to be in place for 20+ years in many cases. Remember back in the 1980’s what the interest rates were (18+%)
DO NOT believe all the hype with this topic. If you are a physician, know that the A/R in the real world, while technically at risk to creditors, is not really at risk to seizure in a medical malpractice suit against.
If you are told to write off the interest on the loan, please contact the APS™ and report the firm/advisor who is giving you that advice. We will add them to the list of advisors we recommend people stay away from.
If you want to borrow money, write off the interest and invest in life insurance, use the first $100,000 of equity in your home. Coupled with the 1% CFA mortgage, doing so can work out as a terrific investment (much better and more secure than the A/R financing/leveraging concept.