Term insurance is the most common and easily understood type of life insurance. Permanent insurance policies, like universal life insurance, are less tacit.
Term policies are typically offered for terms of 1, 5, 10, 15, 20 or 30 years. Buyers select the number of years they wish to be insured and premiums remain level during that period. At the end of the term, policies either end or extended coverage is elected and premiums increase dramatically. Most insurance companies will not allow term policies to extend beyond an insured’s age 75. (Considering the average life expectancy is higher than 75, only a small percentage of term policies actually result in a death claim.)
Some people want life insurance to remain in force until their actual death (e.g., for “life”), so they purchase permanent insurance. This insurance can take several forms: whole life, no-lapse guarantee, variable life, indexed universal life or universal life. Over the last several decades, the most popular form of permanent insurance has been universal life insurance. We’d like to explore this coverage further and provide a better understanding of this policy option.
To appropriately price a universal life insurance product, a carrier uses a formula that assumes: 1) when death claims will be paid by the carrier; 2) the investment return the carrier will earn on the premiums; and 3) the expenses the carrier will incur to market, issue and administer the policy. These assumptions are based on current carrier and industry experience and they allow the carrier to establish the annual premium it will charge. This premium is typically not guaranteed. If the carrier is wrong about its investment or expense assumptions, it can lower the crediting rate
and / or it can raise the expense charges to amounts spelled out in the contract.
Insurance companies invest heavily in corporate bonds. Between 1996 and 2016, corporate bond rates dropped from 9.0% to 4.0%, on average. As a result, carriers have decreased their interest crediting rates. The effect has typically been increased premiums, but if insureds live longer than anticipated, it can cause other problems as well.
Outliving the Policy
Universal life insurance policies issued between 1983 and 2008 relied on a set of mortality tables called 80 Commissioners Standard Ordinary (CSO). Based on these tables, carriers structured their policies to “mature” at either age 95 or 100. If an insured lives beyond the stated age, the policy automatically “matures” and the carrier terminates the contract and sends a check to the insured for the amount of the policy’s net cash value. Maturity typically results in two critical issues: 1) if the cash value is much less than the death benefit, the beneficiaries will receive less than anticipated; and 2) if the cash value exceeds the basis, there may be a sizeable income tax bill.
When these policies were issued 20 to 30 years ago, no one (carrier, agent, trustee or insured) expected insureds to live beyond age 100. However, according to the United States Census Bureau, the number of centenarians in the U.S. has more than doubled since 1980 (see illustration on following page). Some of these centenarians own universal life insurance policies and are surprised to discover that their policies are now maturing.
As of this writing, there are several lawsuits pending against insurance carriers by people whose policies are maturing, claiming they didn’t know their insurance was going away. While it is unfortunate that these plaintiffs will not have their anticipated insurance, we believe it’s unlikely their suits will be successful. The contracts were unambiguous, and being unfamiliar with the terms of a signed contract typically isn’t a strong defense.
Do You Have Universal Life Insurance?
If you are insured by a universal life policy issued prior to 2008, it’s almost certain that your policy will mature at your age 95 or 100. Your options are probably limited to the following choices:
- Surrender the policy (assuming you no longer need the insurance).
- Pay more premium to increase the cash value for payout at maturity.
- Replace the policy using current mortality tables (2001 CSO) and no maturity date, which will likely result in increased premiums.
- Review the policy for a potential “Extended Maturity Option,” which may require more premium to extend the coverage.
- Die prior to age 95 or 100.
Determining which option is best suited for you will depend on your particular circumstances. Complicating the decision process is: 1) lower than expected policy performance due to lower company investment earnings; and 2) the insured is often older than 60 and may have difficulty qualifying for a new policy.
Make a Plan
Universal life policies can play a critical role in a sound financial plan. They can protect your loved ones by covering funeral costs and lingering debts (mortgages, auto loans, etc.), and they can also provide increased financial security in the form of an inheritance. It’s important to understand your policy and be proactive about any terms or conditions that may not align with your long-term goals. The wealth management professionals at SilverStone Group can help you make decisions that coincide with your overall planning objectives. For more information, contact our team of experts today.
This article originally appeared in the 2017 | ISSUE THREE of the SilverLink magazine, under the title “How Permanent is Your Life Insurance.” To receive a complimentary subscription to the SilverLink magazine, sign up here.