The concept of financing accounts receivable is simple enough. A simple interest-only loan, secured with a UCC-1 lien, is made against the value of the accounts receivable of a business. The loan proceeds are distributed to the business owner who invests them into either an annuity contract or life insurance policy. The lender may also take a lien against the annuity or life insurance policy as additional security.

Accounts receivable financing has two primary goals. One goal is the financial goal of generating additional income by arbitraging the compounded tax-deferred gains earned in the annuity or life insurance policy against the simple interest paid on the loan against the receivables. The other goal is to protect the accounts receivable by effectively “equity stripping” the asset by way of the UCC-1 lien.

On the financial side, these programs have the chance to create significantly more money for a business owner than if he did nothing. On the asset protection side, these programs offer to remove from a creditor’s reach what would otherwise be a very easy asset to collect against. Another way to look at these programs is that they offer “free” asset protection and some profits too!

Several programs now offer accounts receivable financing, and new programs are coming on line at a monthly rate. Life insurance agents and financial planners, motivated by the prospects of juicy commissions generated from the sale of the annuities or life insurance policies, are rapidly being mobilized to take these programs to their clients. But do these programs really work? And is the program right for all businesses?

Beware the Hidden Dangers

The truth is that accounts receivable financing can work but at least several things must occur for these programs to work successfully for the business owner. Note, however, that some programs do not make any sense at all other than potentially offering a death benefit if the business owner dies prematurely.

The original loan must be efficient, meaning that it must be at a sufficiently low interest rate that the arbitrage will have a chance of working for the business owner. Most programs use a variable rate that is tied to LIBOR or a prime bank rate, plus an added 0.5% to 2% for the program administrator’s profit. A problem with variable rate programs is that if the rates skyrocket the business owner may not be able to support the interest payments. A business owner must have an exit strategy in the event the payments become too cumbersome.

Nearly all programs are designed to protect the lender, and protecting the interests of the business owner is an afterthought. For instance, if the lender can simply call the loan at any time, this means that the accounts receivable can become re-exposed to creditors at the whim of the lender. What if the business owner’s situation changes? Is he locked into something he cannot get out of? Are there onerous termination fees?

Similarly, the marketing materials of many programs overtly talk about the alleged asset protection benefits and these marketing materials alone will probably make the program vulnerable to a creditor’s challenge based on fraudulent transfers. The better programs will barely mention asset protection and will focus on the financial benefits.

The arrangement must be efficient from a tax perspective or else the arbitrage will not work. If the interest payments on the loan are not deductible by the business, the program will be significantly less efficient. Some programs are negligently designed so that there is little chance of interest payments being deductible since the loan is fully collateralized by the financial product and the accounts receivable is not really at risk. Also, some programs may fudge on the tax consequences when the program is wound-up, which could easily eat away part of any gain.

The program as a whole must beat the “opportunity cost” as if the business owner had not financed the accounts receivable but instead had invested the interest payments, which would have been paid to the lender, into the same annuity or life insurance products. In other words, everything – loan, tax and product – must all work together efficiently so that the outcome is positive.

Successful Implementation

These are only some of the problems with accounts receivable financing programs. New programs will introduce new features and opportunities, and, therefore, new problems. Nonetheless, when accounts receivable financing works properly it is a great vehicle for business owners to increase their retirement income as well as protecting a very vulnerable asset.

There are several keys to making a program work correctly but the most important factor is to have an attorney who is familiar with these programs carefully review the lender’s documents to make sure the business owner’s interests are protected and that the numbers make sense over time. It is probably as important to have an insurance agent or financial planner who is experienced with these programs who can advise which products work or do not work and can then design an annuity or life insurance policy suitable to the business owner’s specific needs.

Another key to the successful implementation of an A/R financing program is that it be tightly integrated with an overall and integrated business, estate, and asset protection plan.

Perhaps the dumbest thing that a business owner can do is to simply hear about a single program through their agent and allow that program to be implemented in a cookie-cutter fashion without negotiating terms, without getting competing quotes from other programs, or without tightly integrating their A/R program with their other planning.

Sadly, this is probably the way most accounts receivable financing programs are sold today. Educate yourself and make sure the insurance agent or financial planner who recommends a plan is educated also.

My goal in writing Financing Accounts Receivable for Retirement and Asset Protection is to help you understand A/R financing so you can make an informed analysis of programs presented to you and to guide you through some of the buzz words which are used in the program. Part I of the book explains accounts receivable financing, the economics of an A/R program, retirement planning, asset protection, who the players are, and tax considerations. Part II explains the various types of annuities and how they can or cannot be used in A/R financing. Part III explains various types of life insurance policies and how they are used in A/R financing. Part IV offers a discussion about other structured solutions, factoring and, most importantly, finding the right program for you.

The bottom line is that anytime you have taxes and asset protection involved in any long term transaction, a business owner should obtain the benefit of an experienced attorney, planner and/or agent to carefully review the program to insure it is right for that business owner and that it does not put up some difficult hurdles in the business owners current and future estate and wealth preservation planning.

Ron Adkisson is author of the book Financing Accounts Receivable for Retirement and Asset Protection. More information about Ron’s book and about A/R financing programs is available at http://www.farbook.com.

See also:

Accounts Receivable Financing Programs

Economics of Accounts Receivable Financing

Adkisson's Captive Insurance Companies: An Introduction to Captives, Closely-Held Insurance Companies and Risk Retention Groups

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