Life Insurance as Security for Bond Issues

Life insurance may also conveniently be used as a hedge against the possible failure to pay a bond issue at maturity. Thus, let us assume that a firm wishes to raise $50,000 on bonds which will mature in twenty years, and that the nature and organization of the business are such as to make it chiefly dependent for its credit and successful operation upon the life of one man. Under such circumstances the unexpected death of this individual might ruin the company to such an extent that the liquidation of its assets might not prove sufficient for the full redemption of the bonds. Unless some means can be found which will assure the creditors that the bonds will be redeemed upon maturity, the loan will in all probability not be effected at all or only under severe restrictions and at a very high rate of interest.

Proper security to the creditors may conveniently be furnished in this instance through the medium of endowment insurance. In other words, the head of the business may insure his life for $50,000 under a twenty-year endowment policy. In case of survival, the business is likely to prosper with the result that the security back of the bonds will greatly increase. In that case the endowment policy will serve the purpose of creating a sinking fund which increases year after year until at the end of twenty years it will amount to $50,000 or just the sum needed to redeem the bond issue then falling due. On the other hand, should the insured die before the expiration of the twenty-year period, and this is the real contingency that the creditors desire to be protected against, the business at once receives the full face value of the policy. The firm would thus have on hand sufficient funds to pay off the bonds at once if that were possible and desirable. But if it is found, instead, that the business can be continued advantageously, such a portion of the $50,000 of insurance money may be set aside in a sinking fund as will at the current rate of interest amount to $50,000, or the face of the bond issue, at the end of the twenty-year period. The balance of the insurance money not needed for the sinking fund may be used for the improvement of the business, thus in turn still more enhancing the security back of the bond issue.

Similar in nature to the above function is the further use of life insurance as a means of accumulating a sinking fund for the benefit of such institutions as schools, colleges, churches and hospitals. Many times such institutions are largely dependent upon the efforts and generosity of one man or a limited number of men. While he or they live the institution prospers, but in the event of unexpected death, the absence of ample endowment funds compels retrenchment and consequently impairment of usefulness. Such a contingency the supporters of the institution may obviate by taking out endowment insurance in its behalf. In case of death the institution receives at once the face of the policy, while in the event of survival the policy will enable the insured gradually to accumulate a sinking fund to be turned over to the institution in question at the expiration of the term. During the last few years the graduating classes of a number of leading universities and colleges have also adopted this method, and it is mentioned here merely as illustrative of the numerous ways in which the principle may be applied, as a convenient method of raising a substantial class fund for their Alma Mater. The plan adopted consists in each member of the class pledging himself to take and maintain, say, a $250 or $500 twenty-year endowment policy, the university or college being named the beneficiary. In this way one hundred graduates by setting aside the small sum of only about 3¼ or 6½ cents a day can during the twenty-year, period, using as a basis the present experience of the average American company, accumulate approximately $25,000 or $50,000 as a class fund. Ask these one hundred persons twenty years from date to give that sum, and the refusal will be general.

Through the use of the endowment insurance plan, however, this substantial result can be obtained at a sacrifice so small as to be hardly worth mentioning. It is practically certain that the sum involved, owing to its smallness, would, in the absence of this plan, have been wasted in daily expenditures for trifles, and the large sum that may be secured through endowment insurance may therefore be regarded as the utilization of a by-product odds and ends that would not otherwise have been saved for a noble purpose.