Return of Premium Riders Are No Free Lunch
To the Editor:
I was very dismayed by the implication in Linda Kocos “What–And Why–Is Return of Premium Term Life?” article in the July 21, 2003, issue of National Underwriter that Return of Premium (ROP) riders are a virtual free lunch. Nowhere in this article is it clearly stated that there absolutely is a cost to purchasing a ROP rider. In fact, the article suggests through numerous examples and quotes of various sales ploys and techniques, that essentially this is a “premium of zero dollars” cost to the client. This is both misleading and untrue. The truth is that there is a substantial cost–as there is an opportunity cost to everyeveryev financial transaction–in this case, the foregone use of the dollars spent on the rider. If these were invested, we have foregone interest earnings on many years of excess ROP rider premiums. Alternatively, this may have been needed cash flow for critical household expenditures.
Now, granted, the necessary return on investment to achieve a breakeven point can be quite high (as illustrated in the article, with corrections). [Editors note: See correction on page 39.] But nowhere is there a discussion of lost opportunity cost (except perhaps one indirect example by Mr. Phelps, which both obscures the point and clearly was shown only to discredit this opportunity cost concern in the first place).
In addition, the article fails to point out a second major cost of a ROP rider–the fact that if the policy does in fact mature as a death claim, you generally forfeit the entire cost of the rider over the years. Now, it is true that very few term policies actually mature as death claims, but nonetheless, it is vital to disclose the possibility that, if the policy does in fact pay a death benefit, you have simply overpaid for a death benefit you already were receiving without the rider. Per the example on a 20-year term policy for a preferred male nonsmoker, an individual who dies near the end of the term (e.g., the 18th year) paid $175/year x 18 years = $3,150. The same individual with a ROP rider paid $470/year x 18 years = $8,460. That means this individual (over)paid an extra $5,310 of premium over 18 years to receive the exact sameexex $250,000 death benefit.
Life insurance is used to protect against the risk of premature death, yet a ROP rider “fails” in this exact instance that youre supposedly trying to protect. In essence, a ROP rider protects against the risk that you outlive the risk of premature deatha rather contorted story to sell.
The article clearly implies, with a rather substantial slant, that ROP term life is a virtual free lunch, which it most certainly is not. And I would fear that many younger, newer agents might read the article and actually believe this nonsense about getting something free from the insurance company for “zero dollars” and that there are no downsides (like the loss of the rider premium with a death claim and foregone use of the rider premium)–which ultimately can only be a disservice to consumers everywhere. Now, does ROP term life have its place for many clients? Yes, absolutely! As many/most/all products in the insurance market, it has its place, given the appropriate need and situation. But a fair presentation of the product, its benefits and costs, and when it is appropriate is vital, particularly since the article mentions target markets of businesses and high-net-worth individuals (key-man and buy/sell cases)–two markets that very well might have alternative business investments available that could easily provide a return on equity greater than the requisite 9.715%/year (which I calculate as the correct percentage). And so, while I honestly applaud National Underwriter for writing on such a timely and pertinent issue, I am quite dismayed by both the misleading slant of the article, and the failure to acknowledge major potential costs of this type of insurance rider. Michael E. Kitces, MSFS, CFP, CLU, ChFC