As advisors we often look at clients solely through the eyes of an illustration. Instead of realizing that life changes over time we assume what a client looks like today will continue into eternity. One example of this has to do with clients being able to afford higher contributions to an IUL in the future than what they can afford today.
For example assume you have a client that today can afford $500 a month towards a retirement program using IUL. A good agent will take that $500 a month and illustrate a policy solving for the minimum death benefit. This will minimize the internal costs of the policy which will provide the best opportunity to grow cash values and deliver the highest tax free income. However, often a client that can afford $500 a month today will be able to afford higher contributions 5 years, 10 years, 15 years from now. The original illustration will not allow for an increased premium because it solved for the minimum death benefit based on $500 per month.
On a recent “Ask the Actuary” call we spent a lot of time discussing different options you and your clients have to allow for an increase in contributions in the future and there are basically four different options – each choice has different positives and negatives.
- You can write the policy based on a minimum death benefit associated with $500 per month premium. Then if the client wants to increase contributions in the future you can increase the death benefit of the original policy at that time to allow for the increased premium. The benefit of this approach is the original policy is the most efficient possible and you have flexibility of when you decide to increase contributions. The downside is the client needs to go through underwriting again at the time the face amount is increased. You have no idea if the client is going to be in good health at that time which may hinder their ability to get a face increase based on the original underwriting classification.
- As with the first option, you can write the original policy solving for the minimum face amount based on the $500 a month premium. Then at the time they want to increase contributions, you can write a second policy to accommodate the additional contributions. The benefits are the same as #1 above. However you have the same downside by taking the risk on health changes of the client. In addition you may run into minimum face requirements if the increase in contributions are not high enough to justify the minimum face allowed by the insurance company.
- You can do some forward planning at the time of issue and determine a realistic premium pattern allowing for increases in contributions and actually run the illustration based on that premium pattern. The benefit with this choice is you don’t take any underwriting risk because you are underwriting for a higher death benefit at issue. The major disadvantage of this approach is that until the contributions are increased the client is paying for a death benefit he / she doesn’t need – based on expensive YRT rates. This will reduce the efficiency of the product which will result in lower potential tax-free income. In addition, this impact is magnified if the client can’t increase their future contributions – again, they will be paying for death benefits they may not need.
- The last approach is one being used by advisors more and more frequently. If the carrier you are using has a term conversion program you can write the IUL based on the $500 a month premium pattern and also write a standalone level term policy with the same carrier. At the time the client wants to increase contributions you can exchange the term policy (or partially exchange if the carrier allows) into the IUL to increase the death benefit which will then allow the client to increase contributions to the IUL. There are numerous benefits to this approach. First the client will only need to go through underwriting at the time the original IUL and term policies are written. In addition, although the client is paying for the stand alone term policy, the costs are much cheaper than if you start with a higher death benefit in the IUL. You also have complete flexibility regarding the timing of when the client choses to convert the term policy into the IUL and if they can’t increase contributions they can easily just cancel the term policy. Lastly, there are very few clients out there that don’t need additional death benefit coverage and this allows them to have that without reducing the efficiency of the policy they are relying on for tax-free income at retirement.
We at AMZ are dedicated to helping our distribution partners find the best solution for their clients. For more information on concepts like this please talk to your marketing representative at AMZ. In addition, I hold “Ask the Actuary” webinars every month where we dig into concepts like this to make sure you have the right tools to meet the needs of your clients. To register for the “Ask the Actuary” webinar, please click on the link below.
Jason Konopik, CFO – AMZ Financial