I would urge anyone who intends to read this write up to first read all of the rest of the Whole Life “How it Works” write-ups with the exception of the “infinite banking” write-up which pertains to a unique and ill-conceived WL sales approach. This is one of two final write-ups in the series discussing WL products.
STANDARD INTRODUCTORY COMMENTS
Whole Life (WL) is the most complex product ever developed by the life insurance industry. Complex in the sense it cannot be broken down into its parts. It is a bundled product.
What complicates matters with WL is the fact it is a bundled product. One where all the moving parts are obscured. No individual income or expense information is ever made available to those who sell it, or those who buy it. Only a few company executives and actuaries have access to this information.
Those who favor selling WL often base their understanding on a handful of half-truths and misunderstandings shared with them as fact by other under informed or misinformed (albeit well intentioned) mentors or peers. A bold statement perhaps, but sadly one that all too often has proven to be true.
Only when a properly educated individual who really has a grasp as to how WL works asks detailed questions of the ill-informed (the answers to which they already know) does the validity of the above statement become painfully clear. Those who understand how WL works are endlessly amused (or saddened) when witnessing the floundering efforts of those who do not attempting to explain it. Since they usually are answering the questions of potential clients who are even less informed the resulting scenario is akin to the time honored “blind leading the blind” result.
Sadly, the client is in no position to evaluate the accuracy of the answers they receive. This gives the under or ill-informed sales associate a wide degree of latitude resulting in obscure or over simplified replies. The client is all too often left to assume they are just too under informed or “insurance ignorant” to understand the answer they’ve been given. Most are also too nice to assume the often professionally attired and earnest person giving them an answer they can’t understand is just as clueless as they are.
Offsetting this lack of knowledge, or perhaps because of it, WL is often sold with an almost evangelical fervor. Assertions surrounding its guarantees often make the product sound as if it embodies all that is good and holy. A biblical level of enthusiasm often prevails among those devoted to the sale of WL. Ignorance can be a very powerful thing.
Unfortunately, even those with the best of intentions and deeply held beliefs can end up making blatant misrepresentations that can be every bit as damaging as the falsehoods shared by those with ill intent. Or even worse considering the level of sincerity typical of the WL devotees who share misinformation. Sincerity goes a long way in selling. People can sense it and they like it. It breeds trust.
The WL product itself is neither good nor bad. It’s just a design developed before the advent of computers which are needed to track the myriad of assumptions and details involved in the WL products structure. Imagine the challenge of attempting to do so with a manual hand based calculation and posting system when there are hundreds of thousands of in force WL policies outstanding. Only with the advent of computers did it become possible to create an alternative policy design (universal life) that allows for tracking and reporting each and every income and expense factor on an individualized policy owner basis. Prior to that it was simply impossible to do so. Hence the WL design.
The decade’s old design of WL was actually miraculous. It allowed for reporting cash values accumulating within a policy and death benefits covering tens of thousands of policy holders. Its “unallocated” design was the key. This avoided the need to breakdown and assign general account assets, earnings and expenses to individual policies. Said differently, the total of the cash values of all of a company’s inforce WL policies does not equal the balance in the general account. While clearly in some way they are related there is no direct relationship. If that makes any sense.
With WL all of these factors are “bundled” together and less formally allocated based on formulas embedded in the WL products design. This collection of interrelated formulas is often referred to as the “master” WL formula. It (the master formula) differs for every series of individual WL product ever sold by every company selling them.
As with any product design WL has its pluses and minuses. What makes WL good or bad at any given point time is very often a function of what is, or has transpired in the real world economy since its sale. Certain economic realities (like high interest rates) favor WL while others do not.
So, at any given time and depending solely on economic and assorted other realities, WL may or may not be the best product for any given person. Which also depends on the intended use of the product, the actual life span of the insured party and the focus of any given purchasers goals or needs.
As noted earlier it does not require ill intent to misrepresent a products features or benefits. Ignorance works just as well. Perhaps even better. Most of those who sell WL have nothing but the best of intent. It’s their lack of actual knowledge that creates problems. They tout the WL product as rift with guarantees that work to eliminate all of the elements of risk. Which sadly just isn’t so.
Economic trends, in particular those pertaining to interest rates, have a tremendous impact on WL products. The reason being, WL is an interest sensitive product. Whatever is and has happened since a WL policy was issued with interest rates has a tremendous impact on the products ability to deliver on illustrated dividend fueled cash values and its death benefit.
Regulations also have a tremendous impact on the value a WL product can deliver. Among a great many other things regulations prohibit investing general account funds in equities (stocks). They allow only a modest single digit percentage level of stock ownership which usually relates only to stock owned by the general account in subsidiaries of the company selling the WL product. Regulations also require reserves be set up for different asset classes. A fact that drives the company’s investment behavior since the establishing of reserves creates reportable expenses impacting reported profits and capital levels.
The reality of interest rates today could not possibly be more different than the reality of interest rates that existed decades ago in the heyday of WL product sales. In fact, the realities of today are literally 180 degrees the opposite of what existed then.
Which brings us to the topic at hand.
PROBLEMS IN COMPARING WHOLE LIFE POLICIES
The “pieces” that make up a WL product consist of a hundred or so assumptions. All built into a series of interconnected formulas (referred to as the master WL formula) that allow for the creation of WL sales illustrations. Over time each year’s actual results are substituted for these assumptions to produce the WL policy results that appear on each policy owners annual statements.
Comparisons would be easy to make if WL companies would publish an actual list of the assumptions used whenever a new WL product is introduced. But they don’t. It would be even more helpful as the years and decades passed if they would create and distribute comparisons of those original assumptions to each year’s actual experience. But they don’t.
Both of these represent things that will never happen. Only a handful of actuaries, product design staff and top executives will ever see the assumptions and or subsequent actual results. The information is considered proprietary. Confidential internal company information no company would want its competitors to have access to. Information that will never be disclosed. Not to those who sell WL and not to those who buy it.
What we are left with in order to make comparisons are a few possible choices. These choices are discussed in a separate write up addressing the challenges in comparing WL policies. Which are many. That write up must be read before this one to understand the method that must be used and why to make WL comparisons. And the many limitations involved in doing so.
HOW BEST TO COMPARE WHOLE LIFE POLICIES
So the question is, assuming the “challenges in making comparisons” write up has been read, what is the best way to compare WL products? The answer is by comparing IRR’s “per premium dollar paid” of the illustrated or future actual cash value and death benefit totals.
Once these calculations have been made those companies that deliver the highest IRR levels can be identified. However, the question will still remain which result is “best” for any given insured? The answer being no one will ever know since it depends on whether the insured lives long and uses later year accumulated cash values or dies young and their family benefits most by collecting the largest possible death benefit.
High IRR’s for both cash value and death benefit totals are mutually exclusive. If one company’s cash values represent a higher IRR “per premium dollar paid” than its competitors its death benefit IRR’s will be lower than said competitors. Conversely, if a company’s death benefit IRR’s are higher than its competitors that companies cash value IRR’s will be lower. These results are tied to the design parameters of the WL policy itself. Some are designed to maximize death benefits while others are designed to maximize cash values. It’s not possible to deliver industry high IRR’s for both in one WL product.
The seemingly easiest way to create a comparison is to obtain multiple sales illustrations for a given face amount (age, sex and tobacco use considered) and compare the premiums required to put that death benefit in force. But, it’s fair to say most people don’t buy WL just for its death benefit values. So we also need to focus on cash value accumulations and the rates of return (ROR) they represent on the premium amounts paid up to that time.
Since premiums vary widely by company, and even by product within a given company, there is really only one way to make those comparisons. As noted earlier, that’s by calculating IRR’s on those premium payments relative to illustrated future cash values and death benefit amounts. These IRR calculations allow for a determination of the “relative” value generated by different WL products “per dollar of premium paid”.
The fact is the range of IRR results between different companies and even between different WL products sold by a given company is staggering.
That said, obtaining the required information to make comparisons can be very difficult for the typical insurance agent to accomplish in the real world because most WL products owned by people today were sold by career companies that don’t broker their WL products. And, while there are certainly companies that do broker their WL contracts, they usually require high production levels for an agent to retain a contract with them.
This means most agents can’t just get appointed with a dozen or more WL companies so they can run illustrations comparing their products. At a minimum, if the large companies with career sales forces would allow it, they would have to be a proven large producer or an agent that has sold a material amount of the company’s products to be able to do so.
It’s just not the way the industry works for most sales associates.
That said, certain “marketing organizations” and industry support groups do have access to a great deal of historical product specific information. And, they do from time to time distribute summaries with assorted IRR calculations to sales associates comparing multiple available WL products.
One being National Underwriters which from time to time publishes illustrated to subsequent actual value data on multiple WL companies. Once such report from 2010 is available on this website. It’s named the “Full Disclosure Whole Life Report”. It contains links to supporting data which can be useful in calculating IRR’s of cash value growth levels and death benefits.
The reality is most sales associates are blissfully unaware of this and unconcerned. The thirst for knowledge rarely runs deep in the minds of most life insurance agents. Technicians they are not. And it isn’t necessarily easy to find the organizations that are privy to this information and gain access to it.
So for most associates, especially those relatively early in their careers, there is no practical way to obtain current illustrations from multiple WL companies for comparison purposes, or for that matter historical performance data on products other companies have sold in the past. At best they tend to rely on the comparative studies completed by the company they work most often made available with the release for sale of a new product.
I can tell you these studies tend to leave out any and all competitor products that outperform those of the company releasing the new product. After all, the purpose of making such a study is to make the sales associates want to sell their products and feel good about doing so.
What would be the point to letting their sales people know there are products of other competitors out there that illustrate better than the product those sales people are being asked to sell? The executives of these companies choose to view this sort of thing as a sin of omission for which they make no apology. Perhaps this is because these executives are also aware of the massive amount of manipulation that goes on that allow one company to claim to be number one in a particular area, while the consequences associated with being so are that they are at the bottom of the heap in another.
What I’m referring to here is the fact some WL products are designed to maximize death benefits, while others are designed to maximize cash values and yet others are designed to maximize guaranteed values, while even others attempt to provide the best possible balance between these product benefits. Some WL products are also designed to minimize required premium amounts at the expense of higher levels of cash value or death benefit IRR’s.
The range of possibilities boggles the imagination.
This brings us back to the other way we can compare WL products. Which is look to the past. While as the regulators love to say “past performance is not guarantee of future results” it does mean something when one company consistently outperforms most others and or delivers results in line or better than originally illustrated.
So there is something to be learned by taking previously issued contracts of multiple companies and comparing the subsequent actual performance to the originally illustrated values and to that of other company’s products as well. That would certainly tell the story as to how companies have or have not delivered on promised dividend levels AND what the IRR values of cash balances and death benefits are versus premiums paid as compared to policies issued by other companies.
So what does one find when they can obtain the needed data.
And where can they get it?
THE A.M. BEST “FLITCRAFT COMPEND” RESOURCE
The “comparison challenges” write up discusses sources where WL performance data and prior illustration values can be obtained. And the difficulties in obtaining them.
If we step back in time about 30 or 40 years we would find a company named AM Best was in the habit of publishing an annual book called the “Flitcraft Compend” for the better part of the last century. This was an annual review comparing the performance of WL products that were issued ten and twenty years before by every major and even not so major life insurance company in the nation. The last Flitcraft Compend was published in the late 1980’s or at some point in the 1990’s.
Many years ago (around 1984 using the 97th edition Flitcraft) the data provided was put into an excel like spread sheet (Lotus 123 at the time). This data allowed for recapping the total premiums charged to date along with the resulting 20th year cash values and death benefit totals for many dozens of company’s WL products. The companies involved constituted over 90% of all WL product sales.
The premiums charged could then be applied to subsequent actual reported accumulated cash values and death benefit totals. This allowed for the calculation of the IRR’s these cash value and death benefit totals represented (the rate that the premiums paid, year by year, would need to earn to reach exactly these total amounts).
These calculations reflected the fact there was no “one best” WL product. Instead, there were just many different versions of WL products, each having been designed to emphasis one result (maximum cash value) or another (maximum death benefit), or a balance between the two.
NOTE: One company had the lowest premiums by far for the policy face amount (death benefit). However the IRR’s on that WL policies cash values were terrible. While most companies had delivered IRR’s of around 6% after 20 years this company barely delivered 2%. Logically, their advertising touted their product as being the least expensive WL policy in the industry; the goal in their design focus. The trade-off was a lousy cash value return earned on the premiums paid since most of the money supported the payment of death benefits, which in turn left far less to be invested versus other companies that charged higher premiums for the same death benefit amount.
Another company had the highest 20 year cash value total by far. However, the total of premiums charged were almost 50% greater than the average charged by all the other companies for the same face amount. This company collected far more than was needed to fund the death benefit, leaving far greater amounts to be invested in the general account to product dividends. Literally twice the amount most companies had available to invest.
Logically, this company then (and now) advertised its general account produced the highest earnings total (and dividends available to be credited) than any other company in the industry. Which was fine, but then when digging a bit deeper it turned out the added 50% they charged only increased their cash value IRR by a few tenths of one percent. If their clients had instead invested those added premium dollars anywhere else they would have earned far, far more than half a percent or less on those incremental premium dollars.
Of course, if you charged 50% more than everyone else, why wouldn’t you be able to pay more in dividend dollars per $1,000 of death benefit to your WL policy owners than other companies that charged far lower premiums? The IRR calculations proved this did not mean a competitive return was earned on the added amount paid in since multiple other companies charged half the total premiums this company charged and still managed to deliver IRR’s on cash values after 20 years that were only fractionally lower. So the top IRR in any given category did not mean the best value was delivered. Further complicating the matter of comparing WL policies.
So, here’s what this review found. Those companies with high cash value IRR’s typically had the lowest death benefit IRR’s; per dollar of premium paid. Those companies with the higher death benefit IRR’s typically had the lowest cash value IRR’s. Those companies that delivered mid-level cash values and death benefits after 20 years versus their peers had mid-level IRR’s on both their WL policy cash values and death benefits
It was clear the WL products of some companies had been designed to enhance one value at the expense of the other. These performance rankings were in no way a function of any given company doing a better job at managing expenses, or underwriting the people they insured or managing the investments in their general accounts versus competitors.
The results were pre-ordained by the design of the product the company sold. No company stood out as better than the rest. And the management of these companies had virtually no impact on the values delivered per dollar of premiums paid. The products design accounted for that.
A handful of companies ranked well on both cash value IRR’s and death benefit IRR’s after twenty years. These companies delivered middle of the group rankings for both cash value and death benefit IRR’s. Clearly, they had designed their products to deliver a balance between cash values and death benefits.
The point here is being number one relative to one element of WL performance usually means a company is at or near the bottom of the pile in another category, which of course they always fail to mention in any of their promotional material. Whether this is good or bad for any given policy holder is a function of when they die.
NATIONAL UNDERWRITER “FULL DISCLOSURE WHOLE LIFE REPORTS”
As the “comparison challenges” write up indicates, today there is another resource that can provide a source for making WL comparisons. The “full disclosure” WL reports occasionally distributed by National Underwriter.
One such report from 2010 provides an analysis of historical 10 and 20 year WL illustrated to actual comparisons. Generally it shows a dramatic underperformance in all projected IRR categories for all companies versus original illustrated values and results. This is not surprising. It is the direct result of decades of abysmally low interest rates and regulatory changes that negatively impact how general account funds are invested (from an earnings perspective).
The above noted report also showed the values currently being illustrated by over 30 companies WL illustration systems. These values also reflected substantially reduced IRR’s on both future cash value and death benefit projections versus those typical in the past.
Relative to WL policies sold over the last ten and twenty years there were no surprises. The results, as expected, were all bad. Really, really bad.
All the same comparison comments that applied to the AM Best Flitcraft Compend data study from 1984 apply today. Higher cash value IRR’s result in lower death benefit IRR’s and visa versa. There is no “better” or “best” WL product from that perspective. However, within each category of IRR comparison better, best, worst and worst of all can be identified.
To the extent that ranking result scenario would repeat for policies issued today versus decades ago that data has some value in selecting a company to do WL business with. The extent being subject to debate since management and ownership structures continue to change over time.
WRAP UP COMMENTS
Those who own WL policies today, to the extent their health would allow, should exchange them for better case alternatives. The best of which would be an index life product. The best of breed which, as of this writing, is produced by North American Life. Existing cash values can be “exchanged” on a tax free basis (meaning moved) from the WL policy into a new index life policy so long as the insured party is still insurable. There would likely be a premium tax expense deducted from the existing cash value (which occasionally a product used for exchange purposes will forgive) which is really the only negative involved in this transaction.
The index life policy, assuming the transfer of the WL cash value and ongoing premium scenario that might still be occurring with the WL policy, will likely last far longer than the existing WL policy. And for the better funded WL policies with still healthy insureds the likelihood of sufficient accumulations over time to provide some level of future distributions of cash value is far greater with the index life product.
Those who own a WL policy today, and who still have the illustrations they were shown when they made the purchase, have an easy way to verify their WL policy is dramatically failing to deliver illustrated future values. All they need do is compare the values shown on their annual statements to those shown for the then current policy year in the original illustration. Which will clearly show a glaring shortfall.
An even better approach is calling the insurance company and asking for an “in force” illustration. It’s a report, usually in the format of the original sales illustration, that takes the current policy values and extrapolates them into the future based on the WL company’s current anticipated dividend crediting levels. The resulting “in force” illustration will show dramatically lower cash values than were originally illustrated when the product was sold. It will typically also show a lapse of the WL policy will occur long before the insured is likely to pass away.
NOTE: It is critically important when asking for an inforce illustration to very clearly state how premiums are going to be paid. Meaning, will they be paid “out of pocket”, or by the surrender of dividend additions or by policy loans. And, if there is a loan balance how loan interest will be paid. Will it be paid “out of pocket” or internally funded with added policy borrowing.
If an “inforce” illustration is obtained it can then also be compared to a new illustration for an index life product with the starting assumption being an exchange of the WL policy cash values into the new index policy. Generally speaking, the index life policy will show dramatically better results.
NOTE: For more information on how an index life policy works please consult that write up on this website. It will be under that product name category, not under the WL category.
The lapse of a WL policy means all the payments made over the years will have been wasted and there will be no death benefit paid when the insured party dies.
Even worse, if the owner of the policy at one point or another transitioned to a loan based approach to making paying premiums (as many policy holders do) and the interest on the loan as well as many do, the balance of that loan will be large and fully taxable to the owner at the time the policy lapses.
This economic disaster is unfortunately befalling a great many WL policy owners around the nation on an almost daily basis. What was at first a slow drip of lapses is now becoming a flood of lapses. Sadly, even if interest rates were to make a dramatic and immediate turn around, which is not likely, the general accounts today have so much less value in them than was illustrated that they can never catch back up.
This means even if originally illustrated levels of general account earnings become a reality again at some point in the future, the amount earned will be on a fraction of what was originally assumed to be invested in total at that future point in time. Which means the resulting dividends will also be a fraction of what was assumed.
The die is cast. There is no longer any possibility the values originally illustrated in most, if not all, WL illustrations or even a reasonable portion of them will be realized going forward.
The bottom line is WL is no longer a “good value” from any standpoint. The majority of existing “in force” WL policies are little more than financial time bombs waiting to explode any day, to the detriment of the policy owner and the family of the insured who would otherwise have benefited from the payment of the death benefit. The only escape is for the insured party to pass away before the policy lapses, or reach into their pockets and begin paying premiums once again.
This is why it makes sense to understand the life products one owns. Especially, when the reality of the world today differs so dramatically from the reality that existed when the life policy was purchased. As is the case today.
