Protecting The Marital Home/Personal Residence - Part Two

By Roccy M. DeFrancesco, JD, CWPP™, CAPP™ - Email Editor

Date : April 11, 2006

In last week’s newsletter I did Part One of a two-part article on protecting the personal residence. In summary, Part One told readers that protecting the personal residence is a very tough issue, and that I DO NOT recommend relying on the following protection tools (for the reasons, see Part One):

1) Homestead Exemption (unless you live in either Texas or Florida and you do not fall within the new bankruptcy laws).

2) Tenants by the Entireties

3) Qualified Personal Residence Trust (QPRT)

4) LLCs and FLPs

If I do not recommend the above, what do I recommend?

The main Asset Protection tool used to protect the personal residence is what is called a “Debt Shield.” There are various ways to implement a Debt Shield, and I’m going to discuss the most traditional form.

Debt Shields (Equity Stripping/Harvesting)

While Debt Shields and Equity Stripping sound fancy or exotic, the terms simply stand for taking out a large loan on an important asset that has either no or very little debt.

The theory behind Debt Shields is simple: If an asset is riddled with debt, a creditor will not want it. If a creditor does want it, he or she will have to stand behind the first creditor holding the loan against the valuable asset.

How does Equity Stripping work?

Very simply, a client with equity in their home takes out additional debt on the home, thereby stripping the equity out of the house. Clients can do this through a home equity loan or by refinancing the home’s debt.

Let’s look at an example:

Dr. Smith has a home worth $400,000 that he bought three years ago. For example’s sake, let’s say Dr. Smith has 100 percent financed the home. If Dr. Smith’s house appreciated by $100,000 over the three year period, Dr. Smith would have $100,000 of equity to protect. Dr. Smith could take out a $100,000 home equity loan or refinance the house and take out an additional $100,000 of equity (assuming he could still obtain 100 percent financing).

So the house’s equity is protected and we increased the client’s house payments.

Equity Harvesting.

I use the term Equity Harvesting because while Equity Stripping does not sound like something a client would initially have an interest in, Equity Harvesting is. Equity Stripping (Equity Harvesting) can be a terrific financial tool in addition to protecting the equity of a home.

Answer the following question: Would you borrow money where you could write off the interest and invest the money in an investment that would grow tax free and could come out tax free? Your answer should be “all day long.”

With equity harvesting however, the client needs to have the discipline to invest the equity harvested from the home.

Where is the borrowed money invested?

Ideally, Equity Harvesting done correctly uses a “tax favorable” investment. Without belaboring the point in this brief newsletter, the tools of choice typically are life insurance (because the money can grow tax free and come out tax free) and annuities (because of tax deferred growth). You should NOT use variable investments like mutual funds, stocks, variable life or annuities.

Is Equity Stripping financially viable?

Let’s look at another example.

Dr. Smith, orthopedic surgeon, is age 45. Dr. Smith lives in a state where the homestead exemption is $5,000. He recently paid off the loan on his house, which is worth $600,000. Dr. Smith is very concerned about getting sued for malpractice and wants to protect his home. His spouse also wants a new house, and so Dr. Smith sells his $600,000 house and buys a new million-dollar house.

Dr. Smith’s CWPP™ advisor suggests that he protect the $600,000 in equity from the sale of the new home, and recommended that Dr. Smith invest the $600,000 into a life insurance policy instead of paying down the debt on the new home.

The CWPP™ advisor recommended a 1 percent cash flow mortgage program designed for Dr. Smith to minimize his current monthly home mortgage payments.

If Dr. Smith invested the $600,000 into an equity indexed life insurance policy earning 7.9 percent a year (with a contract guarantee of 2 percent growth a year), he could take out of the life insurance policy $191,000 income tax free for 20 years starting at age 63 (plus he would have a sizable death benefit to protect his family).

The following is an example of what you would see from a life insurance illustration based on the life of this particular example client. The illustration will obviously look better or worse depending on the investment returns. This particular illustration comes from using an indexed equity life insurance policy where the growth is pegged to the S&P 500 index.

Age	Tax Free	Cash Surrender Value	Death Benefit
	Loans
63	$193,000	$2,099,000	$2,639,000
64	$193,000	$2,068,000	$2,607,000
65	$193,000	$2,035,000	$2,552,000
66	$193,000	$1,999,000	$2,531,000
67	$193,000	$1,960,000	$2,506,000
68	$193,000	$1,918,000	$2,476,000
69	$193,000	$1,873,000	$2,441,000
70	$193,000	$1,824,000	$2,358,000
71	$193,000	$1,772,000	$2,263,000
72	$193,000	$1,717,000	$2,153,000
73	$193,000	$1,658,000	$2,027,000
74	$193,000	$1,597,000	$1,883,000
75	$193,000	$1,533,000	$1,844,000
76	$193,000	$1,464,000	$1,803,000
77	$193,000	$1,390,000	$1,758,000
78	$193,000	$1,310,000	$1,711,000
79	$193,000	$1,224,000	$1,659,000
80	$193,000	$1,130,000	$1,603,000
81	$193,000	$1,028,000	$1,542,000
82	$193,000	$917,000	$1,476,000
87		$1,314,000	$2,092,000
94		$1,550,000	$2,468,000

So the question is “would you like to use a 1 percent CFA mortgage to protect the equity in your home and build wealth for retirement?” Most clients with equity in their houses would say “yes.”

Summary

The home mortgage deduction is one of the few deductions the IRS allows clients to take, and paying down the debt on a home is NOT a good financial decision for multiple reasons. If you are adverse to debt and are not concerned with Asset Protection, then pay off your home. If you are looking to leverage the equity in you home, build a tax favorable retirement plan and asset protect yourself in the process, then Equity Stripping (Equity Harvesting) is something you should strongly consider.

To purchase a report on protecting the personal residence, please click here.

To purchase a 25 page education module on the 1 percent cash flow arm mortgage and equity harvesting, please click here .

To attend our teleseminar on how to protect the personal residence (including a lengthy PowerPoint presentation), please click here The teleseminar will be held on April the 18th, 2006 at 5:00 pm EST.

Next week's article will specifically address the 1 percent CFA mortgage program and why you might want to consider one for your home.

Roccy M. DeFrancesco, Jr , JD, CWPP

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ABOUT THIS EDITOR:

Roccy DeFrancesco, JD, CWPP, CAPP, MMB - Author and lecturer, Roccy specializes in advanced estate and asset protection planning. Roccy's passion is to teach advisors how to implement lawful strategies that will hold up for the test of time.

Full Bio - Email Roccy