MKA Executive Planners Blog

There are a whole host of reasons why life insurance is acquired.  I think it is sufficient to note that “Americans purchased $2.9 trillion of new life insurance coverage in 2011, a .5 percent increase over 2010.  By the end of 2011, total life insurance coverage in the United States was $19.2 trillion, an increase of 4 percent from 2010.”[1]

There is no “one size fits all” in life insurance.  This is due to the wide variety of products, and product design, which can be tailored to meet individual, business and philanthropic needs plus the risk reward profile of the policy owner.  In some cases it is the tax free accumulation of cash value that is the driving force.  In others it is the death benefit.  The point is that there is a lot of life insurance in force for many different reasons.

Regardless of the type of life insurance policy acquired, there is one thing in common with all types of life insurance policies, and that is “each policy is a contract between the owner and the issuing company”.  That is why I like to refer to a life insurance policy as a life insurance contract.  Most people have never read their contact, and of those who have, the vast majority do not understand it.  Understanding the contract, whether it is term, whole life, universal life, variable life, etc. is important. The contract was probably entered into based upon some illustration that contained lots of numbers which (except for the guaranteed columns) will differ from actual performance 100% of the time.  The problem is that the contract owner is unlikely to be aware of this until many years into the future.

Understanding your contract is of particular importance given the protracted low interest rate
environment that has resulted in continued downward pressure on insurance company profitability.  The negative impact on profitably is most readily understood by using an intentionally oversimplified example.  In the case of an interest sensitive policy (such as a universal life or whole life policy), the company invests the net policy premiums into its general account.  The insurance company will keep 50-150 bps of earnings to cover profit and administration expense and credit the rest to the contract  cash value.  Assuming the portfolio yields 5.5%, the company may credit 4.5%  to the contract cash value.  This “net crediting rate” is one of the elements assumed in illustrated non-guaranteed values… But it is not guaranteed, and can be adjusted periodically, subject to contractual minimums.  

In some older contracts the guaranteed minimum crediting rate may approach, or exceed, the current portfolio earnings rate and begin to squeeze or even eliminate the company profit margin.  In these situations companies have three basic choices:

1. do nothing and hope portfolios rates rise in the very near future,
2. reduce the amounts credited to contract cash value (which will ultimately result in higher premiums down the road), or
3. increase the cost of insurance (“COI”) charges subject to contract maximums.    

Do you know what your contract says regarding the ability of the insurer to raise COI charges?  Any reduction in the crediting rate and any increase in the COI charges will have a negative effect on the policy performance that may not be readily apparent until sometime in the future.

As a best practice, it’s always important for individuals to perform an annual analysis of their life insurance portfolio with their advisor to make sure their policies and related carriers remain in good standing, and the policy is performing as expected.  This is especially important now as insurance companies are among the sectors that have been most negatively impacted by the extended low interest rate environment.

If you would like more information on this subject, or have a client who might benefit from a discussion about it, please contact Barry Koslow at bkoslow@mkaplanners.com or (781) 939-6050.

Securities offered through Advisory Group Equity Services, Ltd., Member FINRA/SIPC.  444 Washington Street, Woburn, MA 01801 (781) 933-6100. 

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