The publication on the investment life insurance product Universal Life (hereinafter – UL) caused a lot of feedback and discussions in a professional environment. What is the benefit of UL for the insured person / UL policyholder during his lifetime? Where do insurance companies come from? Why is UL not a pyramid? We selected the most interesting questions and comments, including statements from critically-skeptical colleagues.
Q. “ Why should I think about what will happen after my death? “; “ What is interesting about UL for an average person if he does not plan to die and is unlikely to be able to take money with him to the afterlife?” “; “ Do I want to die in order to increase my asset 10 times? “; ” What is the use of the policy, and is it possible to make money on the UL in life ?”
A. The answer lies in the plane of the goals for which the UL product was created. First of all – ensuring the future of close and other beneficiaries in case of the death of the insured person – heinet (HNWI, high net worth individual), which can be incorrectly interpreted as “die for the sake of creating a state”.
A case of suicide is covered by insurance only if it occurs after 2 years of the policy; if it happened earlier, this situation is treated as fraud and the cost of the insurance policy is returned to the family of the insured person / his beneficiaries but refuses to pay.
Insurance companies also impose a “property qualification” on the size of the assets of the person who applied for insurance in order to minimize possible fraud and danger in the form of “spurring” the insured on rash actions in the event of a difficult material life situation. In order to get, say, death insurance in the amount of $ 1 million, at the time of purchasing insurance, the client needs to confirm his level of welfare by confirming one way or another that family assets (house, apartment, car, securities, and other liquid investments, cash in banks, gold, etc.) exceed the amount of the requested coverage by about 2.5 – 3 times, or demonstrate the presence of income, which for a period of up to 75 years would “accumulate” the corresponding amount of welfare. In other words, if you need insurance for $ 10 million – show that the family has assets of $ 25-30 million, or income that allows you to accumulate such assets.
We illustrate key parameters by insurance amounts, restrictions and factors affecting its value/amount of coverage:
- $ 1 million – min. the amount of insurance UL (the amount paid when the insured event)
- $ 25-35 million – “average bill” of UL payments/insurance coverage
- $ 150 million – the amount of insurance coverage for a client from Japan (case of insurance broker – partner CONFIDERI, Todd Green International 2014)
Factors affecting the individual calculation of insurance coverage:
- health status;
- “Bad habits” – smoking, excessive alcohol consumption;
- place of residence (Switzerland – category “A”; Russia, Kazakhstan – “C”);
- lifestyle – dangerous sports;
- sufficient own assets and funds in comparison with the desired amount of insurance (protection against fraud).
All of these factors are relevant at the date of insurance, at the time of the purchase of the UL policy.
The benefits of UL in life are as follows:
- Release your assets for current expenses in life, without depriving the family of inheritance and wealth, and provide a guaranteed inheritance by “paying” for it only a part of what will be paid for insurance (for example, 1/5 of its property, providing an opportunity to spend here and now “4/5 of your condition for any needs).
- Get investment returns from conservative reliable investments by canceling insurance in 7-10-20 years of the policy. In this sense, the UL Policy is an analog of security from which you can get the cumulative profitability during lifetime, EITHER insurance, in case of death during the period of owning such an investment instrument.
- Protect your financial assets from structural risks (loss, loss, confiscation, repossession of creditors, risks of instability and uncertainty of anti-offshore regulation, loss of control due to nominal ownership, etc.).
(1) An example in the form of creating a state due to the release of liquid assets to current expenditures, and also (3) UL as a safe asset structuring mechanism will be illustrated in the answers to subsequent questions.
2) An example in the form of investment returns.
The policy is equivalent to investing in highly reliable security. UL is not only insurance but also a way of investing fixed-income funds guaranteed by insurance companies with high investment ratings. The mechanism of the UL policy as an investment is similar to bonds with accumulated guaranteed coupon income of 2% per annum in US dollars. Lifetime cancellation of the policy by its owner is possible at any time, which is equivalent to selling a bond with the receipt of accumulated capital. Conventionally, you purchase Microsoft, IBM, Coca-Cola, Google bonds with a yield of 2-4% per annum in $, which can be sold at any time and which increases in value several times if the holder of the bond dies and the generated funds are distributed among the beneficiaries in proportions you set. UL is one of those assets that can be used to diversify along with stocks and bonds.
The policy is a highly liquid and highly reliable asset. If desired, the owner (holder) of the Policy can use the Policy as a pledge and quickly and easily get a low interest loan at the rate of the order of LIBOR + 1% (1.5-1.75% per annum) in the amount of 85-90% of the pledge value of the Policy in reliable private banks in the world.
Also, if you wish, you can reduce the size of the coverage according to UL and get a part of the cost of the policy on your hands.
Below, for clarity, we illustrate an example of capital accumulation and the amount that the insured person receives when the policy is canceled during life in the form of knee yield/insurance cost guaranteed by the insurance company.
An example of an increase in the investment value of a policy: the return on investment from 5.5 years of the UL policy
Insured Person: 45-year-old non-smoking man
Payment / insured amount: 10.000.000 dollars. USA
The cost of the policy: $ 2,548.046 million
Growth rate guaranteed by the insurance company: not less than 2.0% per annum
|Year||Age||Insurance Premium (Cost of Policy)||CASH VALUE – estimated cost (investment value) of the policy||Insurance paymentInsurance cover|
From the example above, we see that in case of cancellation of the Policy after 5.5 years of action – at the age of 51 years, the return of funds is carried out without loss, and then with annual income. So, having canceled the Policy in the 65th year of life, the client receives $ 4.2 million “against the hands” against $ 2.548 “previously invested” funds.
In this case, in the event of the death of the insured person, at any time before the cancellation of the Policy, the amount of insurance payment will always be $ 10 million.
Thus, the UL policy can be considered as a highly liquid investment instrument, as if the investor had a reliable Eurobond in his investment portfolio. UL product insurance companies have high investment ratings, confirmed by international rating agencies (at least AAA – S & P), their reports are transparent and publicly available, regularly and continuously monitored by insurance market regulators and banks lending UL programs to customers. UL policy entitles a guaranteed coupon to an accrued coupon (usually at least 2-3% per annum in US dollars at current lending rates in the market), which can be distributed if insurance is canceled, and in addition, in the event of the death of the holder of such an investment The policy provides insurance protection to such an investor. Investment and insurance, “two” in “one”.
Q. “ How does an insurance company make a profit? “; “ Where did insurance companies have the funds to pay such large insurance coverages?” “; “ Could it be that the insurance company does not pay coverage? “; “ How can an insurance company guarantee payment?”
A. Insurance companies derive revenue through (1) the sale of insurance products and (2) the investment of funds from customers who have purchased insurance policies.
The presence of large reserves, which are regulated by state supervisory authorities, allows you to make a profit by investing large capital and long-term money. The investment activities of insurance companies are also scrupulously regulated by government agencies.
We propose to forget the perverted idea of insurance companies in the Russian Federation that has developed in the minds of many citizens. Insurance companies, for example, in the United States, close deals on the sale of such policies on a daily basis, since the product is time-tested and trusted, it works.
The scale of business and funds from insurance groups is significant, exceeding the capital and reliability of many large banks.
For an example of the scale of the insurance business (for all insurance products), we give statistics on only one insurance group – AIA, at the end of 2014:
- 90 years of experience in the Asia-Pacific region
- 28 million valid individual insurance policies
- 16 million corporate client insurance programs
- $ 1.17 trillion (1.17 thousand billion) – the amount of insurance coverage in Asia
- 12 million insurance claims paid for 2014, which is equivalent to = 1 payment per insured event every second of every day (!)
- $ 39 billion net worth
- $ 167 billion in total assets
The method of earning income and the sustainability mechanism of insurance companies operating under UL can be compared with the pool into which water flows in and out (the idea of comparison is first illustrated by insurance broker Todd Green International).
So, the income comes in the form of proceeds from the sale of insurance products and, importantly, in the form of return on investment placed. Costs are insurance payments for insured events that occur (admin expenses are conditionally fixed). If you completely block the revenue from new policies/customers/products, for example, if the insurance company stops doing business completely to receive new customers, the proceeds from previously placed (and placed for about 100 years) investments still flow. In the “good” years, in the pool, there is more water flowing into the pool from sales of policies and investments than “flows” from insurance payments. In bad years, it is possible that the outflow amounts may exceed revenues.
However, even if you “open the faucet” at full capacity, for example, in the case of world cataclysms 10 years in a row, the water from the pool does not run out in one day, and the regulator and banks extremely closely monitor the level of water in the basin/level of financial liquidity, provision and reserves .
Thus, there is always the possibility, seeing that if the insurance company is doing poorly, cancel the policy and take the actual assessed value of the policy (which may be more than the amount of its purchase) before the insured event.
Insurance companies quietly guarantee payments, because their reserves are sufficient to cover current liabilities. If the amount of reserves drops below the 120% mark, the company will either be forced to sell to a stronger player or initiate a merger with a stronger player.
The most important principle in terms of the “cost of the policy – the amount of coverage” is not a question of the size of the profitability of insurance companies from investments or the question of whether insurance companies will beat the investment market, but an exact calculation based on life expectancy statistics.
Policy cost vs. The amount of insurance coverage. Where does this “profitability” come from?
- Statistics on average life expectancy in the US / in the world are the general basis for calculating the cost of the policy and the amount of insurance coverage.
- From 47 to 80 years, the average life expectancy of the United States increased (the basis for the calculations of insurance companies, taking into account the coefficient of the country of residence) from 1900 to 2015.
- The calculation for each client takes into account individual factors, which allows insurance companies to statistically correctly calculate the ratio of the cost of the policy vs. insurance coverage.
- Insurance companies do not pursue the goal of “replaying” the market in terms of investment returns.
- The cost of the policy, placed on a deposit for a period corresponding to the average life expectancy, can give an income comparable to the amount of the insurance payment.
- The insurance company does not predict the life expectancy of a particular client, however, it clearly calculates the average group indicators by type of client.
Q. “ I have $ 2 million, how should I manage them with respect to the policy? Does it make sense to buy a policy for 2 million? “; “ I have an acute question of inheritance because there are real estate, companies, stocks … how can I equalize the inherited mass between 3 children? “
A. With a direct distribution of inheritance, inheritance tax is often paid, which forces family members to sell assets in order to pay such taxes, since there is simply no means to pay for large tax cases. In the end, a person is forced to lead a modest lifestyle in order to “more” leave to his heirs.
Below we consider an example in the direct inheritance of a state of $ 2 million. As can be seen, in both cases, the beneficiaries receive $ 1 million, however, when acquiring UL, the insured person does not give them all of his condition, but allocates only about 30% of his fortune to purchase a policy with a coverage of $ 2 million, and 70% It remains with the insured person who can, with a pure soul, invest in anything, spend on himself. No magic, pure math. Scenario 2 – is to live in your own pleasure, taking care of the heirs in advance and creating a guaranteed condition for them with the help of UL, and not “die for the sake of profit”.
Below is an example of using UL to preserve the assets of the insured person and to cover the hereditary and tax costs. Thanks to UL, when the insured person dies, all tax consequences are extinguished due to the insurance payment, and property, business, securities will remain safe and sound. This may be relevant in the presence of assets and / or heirs in different countries where there is no exemption from inheritance taxes, and such taxes go up to 50% or more (for example, Japan, France, also in the case of inheritance, not in favor of a close relative). In this case, the question may arise, and where to quickly get for example 50% of the value of the inherited asset in order to accept the inheritance / accept the inheritance while preserving the asset, instead of urgent unprofitable hasty sale – sometimes with an unfavorable discount during periods of crises and falling prices (as if it was necessary to urgently sell an apartment in Moscow for dollars, with the dollar rate to ruble above 70 rubles, to pay taxes on the inherited house in the US in dollars, in France – in Euros …)?
UL may be just such a decision on the financing of inheritance tax payment and the costs and expenses associated with inheritance. Not least, for this reason, the UL policy is relevant for customers from Japan (inheritance tax of up to 50%) and is widespread in Asia as a whole.
The UL policy is also convenient for leveling the hereditary mass among several beneficiaries so that the heirs “do not fight” because of disputes about the fair distribution of family welfare. In the example below, we see that out of assets of $ 22 million, an asset of $ 36 million is created – $ 12 million each of the three heirs/beneficiaries through the acquisition of UL policies.
B. “Why do we need an insurance broker? Can we go and arrange the policy in the insurance company directly by yourself? Who pays the insurance broker? “
O. The practice of the world’s largest UL product insurance groups is not to keep “salary” managers on sales of this product for the end customer and not to work “at retail”, but to work through professional intermediaries who are interested in clients – international insurance brokers At the same time, they can effectively interact with family offices, bankers, and introductory specialists at the level of countries and regions to ensure that expertise is available specifically for the countries from which the client comes.
In this case, the insurance broker acts roughly as a credit broker – professionally prepares a client’s application for obtaining the most favorable conditions (cost vs coverage, increasing the desired amount of coverage, assistance with compliance, assistance in obtaining bank financing).