Life Insurance Illustrations

Life insurance illustrations are based upon a company’s current non-guaranteed practices and its estimates about the future. Company and product performance (or experience) is based upon four factors (all of which are based upon the carrier’s actual experience). Any company can illustrate excellent future performance; only those companies that regularly excel in the following four categories over time can produce sustained excellent actual performance.

• Investment Performance
• Overhead Expenses
• Mortality Experience
• Policy Lapse Rates

An Illustration is Not a Contract
A life insurance policy, like any other unilateral contract, offers a variety of promises made by the insurance company. The company’s promises are contained only in the contract. The policy owner makes no promises; but the insurance company’s promises are conditioned upon payment of policy premiums by the policy owner.

The insurance company’s contractual promises, as listed in the policy, are described as “guarantees.” The guaranteed provisions of the policy are backed by the assts of the insurance company. If the insurer fails, the unsatisfied claims are likely to be submitted to a state guaranty association for satisfaction. In this fashion, the industry as a whole backs up the promises of its individual members.

The primary life insurance promise is the promise to pay a death benefit. Some insurance contracts promise that cash values will accumulate inside the policy at certain “guaranteed” levels. This simply means that the policy owner has a claim against the assets of the insurer in the amounts specified in the contract. The usually higher estimates of cash value accumulations are not guaranteed.

The sales illustration is not part of the contract and does not make any promises. The columns of numbers on a sales illustration are neither promises nor guarantees. The assumptions upon which sales illustrations are prepared are almost always more optimistic than the performance “guaranteed” by the insurance policy.

Proper Use of Sales Illustrations
Insurance purchasers should understand that sales illustrations are very useful in developing the best combination of policy specifications to achieve their client’s objectives. However, illustrations have limited value in predicting actual performance or in comparing products and companies. To use illustrations only as a method of comparing the policies of different companies is to reward the company which illustrates most optimistically – rather than the one with the best product features or financial stability.

However, illustrations are also useful to help explain a particular insurance concept – such as split dollar. They also show how the elements of a policy (death benefit, cash value, dividends, and premiums) can be coordinated most effectively to accomplish the specific objective of each client.

Proper Disclosure
Second only in importance to understanding the intricacies of the life insurance policies and applications is the disclosure of the knowledge. Clear, meaningful disclosure of relevant information avoids the need for regulatory intervention. Misleading or inadequate disclosure leads to intervention. Misleading or inadequate disclosure leads to customer dissatisfaction and also to regulatory inquiry.

Vanishing Premium and Paid-up Policies
There are many uses of life insurance, which are difficult to understand even for the sophisticated. One common example of this is the concept of “vanishing premium.” Many people have purchased “vanish premium” policies. It is likely, however, that many believe “vanish premium” to be a type of insurance policy, when it is simply a sophisticated way of using accumulated policy values to pay the premiums on behalf of the policy owner. Many consumers believe that a “vanished premium” is the same as a “paid-up” policy. This is absolutely not the case. A “paid-up” policy is one for which there will never be any further premiums due.

A “vanished premium” simply means that currently there are accumulated policy values, including current and also future dividends, sufficient to pay the premiums as they come due. If the policy’s values do not continue to accumulate faster than the premiums that come due, at some point in time the policy owner must resume paying the premiums. This might be the case if the investment returns decline significantly – or if mortality costs increase substantially.