There are many life insurance products on the market today that address a range of consumer needs, but we need to remind ourselves of the advantages that whole life insurance offers our clients.
Whole life insurance has been maligned over the years; many see it as outdated because of newer, more flexible policy designs available today. However, a whole life contract provides guarantees and security not found in universal life (UL) insurance and variable life insurance policies, which base mortality and expense costs on an increasing schedule. By contrast, whole life insurance extends the policy’s death benefit to an advanced age. Polices based on a term component pay the policy’s death benefits only if the policyowner continues to pay increasing mortality charges, which, in most cases, become prohibitive as the insured ages.
A major problem with the cost of life insurance is that mortality risk increases with age, and net premiums rise over time due to increasing mortality rates. All life insurance products are created by calculating the relationships of mortality, interest, expense and their financial values based on time. These factors determine the policy premium, which must be adequate to pay the expenses incurred in creating, offering and maintaining the product, to pay all promised benefits, and to generate profit and surplus for the insurer. Over the last 25 years, insurance companies have been shifting mortality and investment risks to the consumer in the newer product designs. With whole life insurance, the company assumes the investment and mortality risk.
Increasing mortality charges in UL, term, variable universal life insurance and similar products are structured on a “pay-as-you-go” basis. In contrast, whole life insurance charges premiums in advance, based on the level-premium concept. If premiums are leveled out, premiums paid in the early years exceed current death claims; those paid in the later years are less than adequate to meet claims.
With whole life insurance, the net premiums beyond those needed for death claims in the early years create an accumulation—the reserve—that the insurance company invests and holds in trust to meet future obligations. That reserve becomes part of the face amount payable at the insured’s death. The level-premium concept provides a combination of decreasing insurance and increasing cash values, their sum equaling the face amount. The effective amount of insurance is the difference between the face amount and the reserve, called the net amount at risk. As the reserve increases, the net amount at risk decreases. This shifts a portion of the premium burden of those who live beyond their life expectancy to those who die young.
Many see this arrangement as unfair, since the policy is providing a decreasing insurance (risk) amount. It must be understood that this is the way the policy is designed and that the premium is based on the decreasing amount at risk. The insurer projects the number of insureds who will be alive at the end of each policy year, the mortality risk (probability of death) of the remaining insureds, the lapses and policy surrenders, and a discount factor for the interest earned on the reserve. In this way, the premium charged is the correct amount for the benefit offered, and the insurance remains in-force for life.
The greatest significance of the whole life level-premium concept is that it makes affordable insurance protection possible at the uppermost limits of the human life-span. The level-premium plan protects the insured against the consequences of “living too long” and having to pay prohibitive increases in premiums. Whole life premiums are guaranteed, fixed and level for the life of the contract.
The protection that the whole life contract affords is permanent—the term never expires. If policyowners continue to pay premiums or pay up their policies, they have protection for as long as the insured lives. This is a valuable right because virtually all people benefit from having some life insurance as long as they live, to provide funds for a surviving spouse, a final illness and funeral expenses, estate administrative expenses, death taxes or philanthropic bequests.
Whole life insurance emphasizes protection, but it also accumulates a cash value on a guaranteed schedule that can be relied on to accomplish a variety of purposes. Cash values result from the advanced premium payments, creating nonforfeiture options and loan values that are available to fund various living needs of the policyowner.
Peace of mind
Whole life insurance offers a measure of safety of principal, yield and liquidity based on a conservative and diversified portfolio of investments. This portfolio provides the policyowner with peace of mind and the assurance that the product will survive any economic downturn. Achieving a consistently higher yield than whole life insurance requires accepting a greater degree of investment risk.
It’s smart to tell your clients: If you want insurance when you die, whole life is the kind to buy.
Glenn E. Stevick Jr., CLU, ChFC, LUTCF, a member of Tri-County AIFA (N.J.), is an LUTC author and editor, and assistant professor of insurance at The American College. Contact him at glenn.stevick@TheAmericanCollege.edu.