Getting The Most Out Of Your Life Insurance
August 10, 2015
There are many types of life insurance policies designed for different needs. Let’s say you have determined that you have a permanent need for a benefit to be paid at your death, which you are hoping will be many years in the future. What permanent life insurance product will bring you the best value for your premium dollar over time?
One way to recognize the value of a permanent life insurance policy is to measure the Internal Rate of Return (IRR) on all the premium payments until policy maturity i.e., death. IRR is the effective interest rate that your premium dollars have earned when the death benefit is paid. The higher the IRR on premium at the time the policy benefit is paid, the better the value of the policy.
So a policy with a level premium guaranteed for a lifetime should have a higher IRR in any given year than a policy of the same death benefit with a higher lifetime annual premium. For this reason, many insurance salespeople will spreadsheet these types of policies to find the lowest cost guaranteed lifetime premium. This is one way to measure permanent policy values. There is another way to measure a life policy’s IRR that can help one find a better IRR value in the life policy, even with a higher guaranteed lifetime premium.
A Guaranteed Universal Life (GUL) policy typically has the lowest guaranteed lifetime premium cost, but the policy also has flexibility when it comes to premium payment. This flexibility can be used to greatly increase the IRR and, therefore, the value of the policy. Premium flexibility allows the GUL policyholder to not only stop making premium payments, but also enjoy a guaranteed full death benefit for more years even though premium payment has stopped. Different policies react differently when premium payment is stopped.
Look at the spreadsheet below that shows $1 million of death benefit from various insurance companies listed in order of lowest premium guaranteed to keep the policy in force until age 120. As you can see, the policy with the lowest premium will have the highest IRR at age 100 if premium payments are made each year. What if a 60-year old pays premium for 15 years and then, due to health considerations, realizes that the chances of needing the death benefit to carry to age 100 and beyond are improbable? GUL’s premium flexibility allows the policyholder to lower or stop premium payment. This is where measuring the IRR when “short-paying” the premium becomes a big factor in getting the most value from your life policy. There is no compelling reason to give the insurance carrier more premium dollars than you need to. Compare the age when death benefit is paid and the corresponding IRR.
For example: Symetra has the lowest premium but to get a death benefit at age 88, one has to pay 25 years of premium. In contrast, the Nationwide premium, while about 15% higher, guarantees a death benefit through age 88 even if you stop premium payment after 15 years, therefore, producing a higher IRR.
So the lower premium is not always the best value for a life insurance contract. Life policies today are more sophisticated and complicated than in the past; but, at the same time if utilized properly, can give better value than ever before.