Car Life Insurance – Our Comprehensive Analysis and Review (CAR) program can help your clients review proposed or existing life insurance policies and then adapt them to changing needs while considering alternatives.
In particular, you can help your clients manage their policies at or near retirement, when needs typically shift from income protection (in case of early death) to protecting and maximizing policy values and benefits for longevity. For clients planning to take policy distributions to supplement retirement income, this guide covers how to manage the policy for optimal use.
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Use this key question to maximize long-term value and benefits. Would your client prefer to add more premiums or reduce the current sum insured if needed?
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Insurance customization refers to adjusting the policy benefit based on the life cycle of needs and resources. Life insurance must be balanced with the ability to pay premiums to optimize long-term values and benefits.
The basic idea is that the life insurance benefit is a combination of coverage and value, as shown in the diagram below. The sum assured may start at the same level as the value added to increase the benefit.
Ultimately, the sum assured should be reduced due to changing needs and increasing insurance costs with age. We will show the types of products that provide cash value versus intrinsic values of the death benefit and are not available for cash out while you are alive.
Before retirement, financial advisors typically recommend that clients have life insurance coverage equal to five to ten times (or more) their income. A combination of term insurance and permanent insurance is often a good combination to provide this coverage.
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As one approaches retirement, the need to replace income in the event of an early death usually provides an important shift toward preserving or maximizing longevity values. This principle applies whether the policy is for death benefit only or also provides retirement income.
Typically, the duration of insurance coverage is shortened or reduced during retirement years when premiums increase dramatically. In the chart above, the insurance portion may be fully covered by term insurance, and the value portion may represent retirement or income asset accumulation separate from the life insurance policy. In the case of cash life insurance, the ability to provide permanent benefit depends on the value of the building and ultimately the reduction in the sum assured.
The cash value of a UL policy is reduced from the maximum when the policy value exceeds the current average of loans and premiums paid. This is a key decision for policy changes.
At this point, you will either have to pay more premiums to maintain the policy or reduce the benefit if you are not comfortable with extended insurance (ETI). When the cash value is at its maximum, the policy usually lasts for another ten years or so.
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An exception to a zero cash value lapsed policy is guaranteed universal life (GUL) or other products with secondary guarantees to maintain the death benefit even if the cash value is below zero. However, these policies have intrinsic account values that must continue to grow to support secondary guarantees. The GUL policy should be checked regularly to see if the premiums paid are in line with the expected guaranteed benefit.
If the policy has enough cash value, you can take distributions to supplement the income. These distributions will usually reduce the death benefit and cash value. If the loans are more than the income received, the cash value can continue to increase. Although the values and benefits will be less than they would be without earning income.
If your client intends to receive regular income from the policy through loans or withdrawals, you should consider reducing the death benefit within tax limits to minimize costs and maximize income.
When considering a life insurance policy, you should consider adding more premiums, especially for UL insurance, which has flexible premiums and adjustable benefits.
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This possibility may seem counterintuitive, but paying higher premiums lowers insurance costs and maximizes long-term cash values and benefits. Check the policy statements and applicable illustrations to see the premium potential of how much can be added to the policy now or in future years.
For example, a UL policy might have a level benefit of $200,000 with a cash value of $40,000. The difference between the death benefit and the cash value of $160,000 is the sum insured and is used to determine the value. The policy was issued years ago when interest rates were much higher and now the cash value is less than originally intended. The policy is designed to last for a limited number of years with a high risk of the insured extending the policy without any benefit to the beneficiaries. They are essentially ETIs. The red in the graph below represents the policy error at a future age when the value of black is exhausted.
Premiums can be added over time or as a lump sum to avoid policy cancellation and build cash value.
In this example, the policy has maximum premiums that will allow $40,000 to be added to the policy. The premium increase doubles the cash value and reduces the sum insured to $120,000, so the cost is reduced by about 25%. The cash value then continues to grow, making it permanent insurance that will last until you die (or be available for use as cash value if needed).
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Many older UL policies guarantee interest rates of 4% or higher, so this premium option can provide solid returns that are especially attractive in a low interest rate economy. Check how much premium will be burdened to add premiums.
Term insurance usually has the option of converting to a cash value life insurance policy. This option should be considered before the end of the policy period of low premium and reach a premium that can be 10-20 times the original premium. Consider switching policies where premiums increase cash value and provide a sustainable benefit.
Whole life insurance may have options to add additional premiums or apply dividends to purchase added premiums. A life insurance policy is written at a fixed premium, making it permanent insurance with an increasing cash value and a decreasing internal sum assured.
If policy loans were used to pay principal or provide distributions, the ability to pay off the loan to create long-term value and benefits should be considered, especially if the loan is charged higher than the applicable cash rate that backs it.
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Policyholders should be strongly encouraged to fund UL policies (other than GUL) at or near the tax limits at retirement. Policies can start at a minimum or target premium and then be funded near the maximum premium to maximize cash value and long-term benefits.
Exceptions arise when the customer wants or needs the policy to be ETI. In cases where the life expectancy of the insured is reduced, the term of insurance may be long enough to reasonably expect a benefit.
GUL is an exception to this principle of building cash value, but requires a premium that creates intrinsic values that follow the principle shown in the chart above. GUL focuses on providing equalized death benefit and no cash value.
Make sure your client has set up automated premium payments that are audited to ensure this coverage remains in effect. Not paying a premium, especially at an older age, results in a huge loss of financial value. Check to see if the policy allows prepayments for guarantees or if there is a prepayment penalty.
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Cost issues and difficult decisions during retirement present their life insurance policies with low cash values. As mentioned earlier, GUL is an exception as long as the premium is paid.
For UL as an ETI, the following chart shows how low cash value ends up in the black. When it reaches its peak, the policy may last another ten years or so. Costs are based on Sum Assured (grey) and the cost per thousand increases with age. The policy error is shown in white for ages where there is no benefit.
Consider the previous example where a UL policy with a $200,000 benefit has a cash value of $40,000 at retirement. If the policyholder is unwilling or unable to add sufficient premiums, a reduction in benefit is usually reasonable. An exception is when the life expectancy has decreased and the insured is unlikely to be able to live longer on the benefit.
In this example, the death benefit can be reduced from $200,000 to $80,000 so that the $40,000 cash value continues to grow. Eventually, the cash value can increase enough to bring the death benefit to more than $80,000. The policy retains the option to use the cash value if needed, or retains all value to support a permanent death benefit.
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Choosing to reduce the face amount to $80,000 can be a difficult decision because death may occur earlier than expected and beneficiaries will have $120,000 less in benefits. INSURANCE
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