In the last two posts, we explained the popularity of the equity index universal life policy, as well as the mechanics of the policy. While the policy is tied to an equity index, it is a fixed product, with the bulk of the premium going into the carrier’s general account to satisfy the floor and the balance – a much smaller amount – going to purchase options that provide the policy’s upside.
Some EIUL policies come with a secondary death benefit guarantee. We consider these policies to be premium-driven, as the policy performance (death benefit guarantee) is driven by the requirement to pay a stated premium in full and on time. If not, the guarantee is reduced or lost. Like a guaranteed universal life (GUL) product, this type of policy provides the trust with a guaranteed death benefit, but with the EIUL policy, you also have the opportunity for much higher cash value growth.
An EIUL policy without a death benefit guarantee is a cash-value-driven policy. Like any universal life chassis policy without a death benefit guarantee, the policy will persist until the cash value in the policy goes to zero, at which time the policy will lapse unless additional contributions are forthcoming. For the TOLI trustee managing a non-guaranteed EIUL policy, this is why the crediting rate assumptions made at policy issue are so important. The higher the assumed return in the “as sold” illustration, the lower the expected premium for the grantor.
Life insurance agents have shown returns above 8% in as-sold illustrations in the past, but this was tempered by Actuarial Guideline 49, or AG 49, a regulation that went into effect in phases starting in 2015. Pre-AG 49 illustrated returns were as high as 8.5%, with an average return of 7.38%. After the guideline took effect, the highest return shown was 7.7%, with an average return of 6.58%. (1)
A projected return shown in the as-sold illustration is just that – projected. It is the hoped-for return that may or may not come true. Since a higher projected return generates a lower expected premium, showing a prospect the higher return makes the sale easier: the prospect has to spend less.
However, crediting rates approaching 7% may not be attainable in this product. Many of the policies we have seen are tied to the S&P 500, and though it may be reasonable to assume that the S&P 500 may average a 7% return, the crediting rate in an EIUL policy does not include dividends, and a look back over the last 60 years shows that while the S&P total return was 10.46%, it was only 7.23% without dividends. Also, while the policy floor does limit downside risk (negative returns), the cap also limits returns. If you look back at the S&P 500 over the last 42 years, you would have avoided eight years of investment losses with the 0% floor, but you would have lost the upside gain greater than 10% in over half the years, creating a drag on actual returns credited. (2)
So, what return should a TOLI trustee insist is shown when bringing in an EIUL policy? We have always suggested that no matter what return is shown by the salesperson initiating the sale, a 5% return should also be shown. A grantor can hope for the higher return, but as a trustee, you need to record the outcome at the lower return and make that a part of your trust file. A document should be drawn up and signed by the grantor that clearly states that additional funding will be needed if the higher return is not achieved.
In a perfect world, the grantor would fund the policy at the higher premium required assuming the lower 5% return. It is always better to fund a policy assuming a return that can be surpassed than one that cannot be met.
However, if that does not occur, then having a document in place that clearly shows the grantor understood that the higher return might not be achieved and that the extra cost would be incurred would be a welcome addition to the trust file.
As a TOLI trustee, you cannot predict the future outcome, but it is prudent to prepare for it.
- IUL Rate Projections Drop Slightly in Illustrations, Cyril Tuohy, insurancenewsnet.com, July 21, 2017.
- Results as of 2017 as shown in chapter 10 of the TOLI Handbook, available as a free download at http://www.TOLIHandbook.com