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Pushing The Envelope

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Twenty plus years ago, an enterprising agent developed a marketing concept he called “Premium Offset Plan.” The idea called for a policyholder to pay the full premium on his or her policy for a measured number of years and then use the accumulated dividends and future dividends as an offset against future premiums. The reduction in annual premium outlay could be substantial and in most cases, if properly executed, in time offset the entire premium.

The concept proved to be very popular as it appealed to the side of human nature that does not object to owning life insurance, but abhors the payment of premiums. It was also timely because a tax reform act had eliminated the deductibility of personal interest, thereby reducing the attractiveness of minimum deposit plans used by high bracket taxpayers to lower carrying costs for their insurance.

But then we started “.” Confidence was so high that this concept would, in future years, eliminate premium payments altogether that the popular nomenclature for the plan became “vanishing premium,” a much more marketable term. Aggressive marketing of vanishing premium became pandemic, and the publics expectation of the product rose beyond the industrys ability to deliver. When premiums did not vanish, or suddenly reappeared, disappointment turned to anger and then to lawsuits. The resulting settlements were costly to the business from an economic perspective as well as undermining our credibility.

The foregoing underscores a truism that is often overlooked. When government reacts through the courts or legislative bodies, the popular notion is that it is attacking us or at best, sticking its nose where it doesnt belong. Invariably, industry trade associations, trying to soften the blow, are accused of being reactive and urged to become proactive in warding off government. Fact is, the opposite is true. The private sector is the innovative party and government is the reactive one. Government, at many levels, reacts to what we do, and when we push the envelope, you may be sure it will provoke such reaction.

This leads me to my current concern, which has the potential for results similar to those produced by the vanishing premium episode. I refer to the marketing of Equity Index Annuities. Note that I said my concern is the “marketing” of these annuities. I will leave it to others to measure the merits of the product itself.

The appeal of Equity Index Annuities is that the product purports to provide downside guarantees with potential for upside gains depending upon the performance of a stock market index to which the annuity is linked. Or, as some describe it in their literature, “the best of both worlds.” But any guarantee has a cost, or, as the old bromide goes, “there is no such thing as a free lunch.” Typically, the cost of the guarantee is covered by limiting the potential gain on the upside. But what if there is no upside gainhow is the cost covered?

This is already becoming a concern to rating agencies that recognize that any such cost must come from company reserves and is therefore a burden upon the company and affects its strength. An article in the July 21 issue of The Wall Street Journal also alleges that “Cost of policy guarantees on some business lines may be underestimated.” A major concern of some analysts is that explaining the product is so complex that it easily leads to misunderstanding by buyers. Stating that the product protects you on the downside and rewards you on the upside is not a satisfactory explanation.

Recently I was involved as a witness in a lawsuit regarding a product with similar complexities. The agents presumably had covered themselves by having the insured initial a whole litany of possible adverse events. However, the insured was able to demonstrate convincingly that she was given private assurances that this was just a perfunctory exercise and that indeed there was little or no risk. When 60% of her assets disappeared, she successfully sued for restitution on the basis of misrepresentation.

Complex products may be very useful, but they do lend themselves to misunderstandings. Make no mistake about it, an Equity Index Annuity is a complex product in every sense of the word. That is why the proper marketing of the product is so critical and must not succumb to overzealousness.

Of particular concern, I believe, is the sale of Equity Index Annuities by banks. Bank employees typically are not trained to explain complex products. I am sure there must be exceptions, but most would be hard put to explain even the simplest insurance product. If my concern becomes reality, then the banks will pocket the profit and our business will inherit the scandal.

I always have been an advocate of creativity in product development, but when marketing loses touch with reality, then the envelope gets pushed. Government reaction is the inevitable result and we do not need another rerun on the pain we endured as a result of marketing abuses that became attached to an otherwise workable premium offset plan.

Reproduced from National Underwriter Edition, August 5, 2004. Copyright 2004 by The National Underwriter Company in the serial publication. All rights reserved.Copyright in this article as an independent work may be held by the author.