In the last decade, one of the most popular life insurance products has been the no-lapse guarantee universal life policy (note: for a white paper that explains the different types of life insurance go to http://www.youritm.com/Sites/17/docs/WP_MikeBrohawn.pdf). With its low cost, guaranteed death benefit coverage over the lifetime of the grantor/insured, this product was tailor made for the TOLI market where the focus is usually on death benefit, not cash value. Because of this focus, the fact that these policies did not generate significant cash value was irrelevant for most people, and the death benefit guarantees made them very attractive, delivering the most bang for the buck.
The internal rate of return on death benefit was impressive. For example, a husband and wife, both aged 65 in good health, could purchase a survivorship no-lapse guarantee universal life policy that could produce rates of return on the death benefit of 7-8% at average mortality and rates approaching 4% even if the policy did not pay off until age 100. Not bad, especially considering the death benefit was guaranteed.
There are two main challenges for insurance carriers with this type of product. The first is the current, historically low interest rate environment. Remember that a life insurance carrier is really an investment manager. They take your money, invest it and hand it back in the form of a death benefit (or surrender value). The investments backing this type of policy are fixed investments. It is clear that the Federal Reserve will keep rates low for the next few years, so there will not be much relief on a carrier’s general account which consists primarily of long-term bonds.
The second challenge for carriers deals with changes to the reserve requirements that occurred January 1st of this year. Carriers must set aside reserves for their life insurance policies. For these guaranteed universal life policies, some carriers used shadow accounts and other methods to lower the reserve requirements on their policies. Those who were “successful” had an advantage in the marketplace. However, a few weeks ago the National Association of Insurance Commissioners (NAIC) issued revisions to the AG 38 reserve rules which had the effect of changing the carriers’ formula for these reserves, effectively increasing their cost.
What will be the effect on the marketplace? We are seeing it right now. Carriers are dropping costly lifetime guarantees on new policies that ran to age 100 and beyond, in favor of universal life policies that are guaranteed only to expected mortality, sometimes less. Costs have gone up on most of these new policies, with some carriers raising rates 10-15% or more at some ages.
Since the premium levels and guarantees are locked in for inforce universal policies, the consumer should not be hurt. However, reserve requirements will probably go up for the carrier, hurting the profitability on their block of guaranteed policies. Some have worried about the effect this will have on carrier solvency.
The insurance industry is resilient and new policies will be developed to provide marketable products and solutions, but the age of the “low cost” lifetime no-lapse guaranteed universal life policy seems to be over.