Advisors are fond of using analogies when describing the value of a product or planning technique. So here is one more to wax poetic about the next time you discuss with a prospect the need to conduct an life insurance policy review: It is akin to getting a regular medical check-up.
Reasons for the Review
And, in terms of funding one’s life goals, it is likely as critical. Generally conducted annually (though often more frequently for market-sensitive variable contracts) the review helps the advisor to determine the continuing suitability of the product in terms of (1) financial/economic risks faced by the policy owner and (2) the appropriate level of insurance coverage.
The determination as to suitability, say experts interviewed by NU, hinges on the answers to a host of questions. Among them: Assuming no change in the client’s family or financial situation, is the policy continuing to perform as anticipated? If not, what adjustments might have to be made to realign the policy with plan objectives? And would the client benefit by purchasing a new policy that offers comparable benefits at lower cost?
“Term insurance is incredibly affordable today,” says Terry Sachman, a financial professional at AXA Advisors, New York, and managing director of AXA’s Sterling Group. “Also, the internal charges for permanent life insurance have continued to be reduced. The cost of insurance has come down because people are living longer. “
Factors apart from cost might dictate a recalibration of coverage. Among them, say experts, are changes in the client’s health or occupation, the birth of a child, a divorce from an estranged spouse or an expansion of one’s business. Any of these might point to a need for supplementary or reduced coverage.
They may also necessitate a change in owner and beneficiary designations. A client who had remarried since the policy was issued might want to name as a primary beneficiary the second spouse, but keep the children from the first marriage as contingent beneficiaries. Similarly, setting up a trust to dispose of estate assets may require changing a policy’s designated owner or beneficiaries to remove taxable assets from the estate.
“The ownership and beneficiary designations are among the top things thing to check when determining whether the policy is still appropriate and current,” says Paul Games, a financial planner and principal of Pathfinder Financial Group, Newburyport, Mass. “These designations are so often overlooked, and yet they may be set up incorrectly or be out-of-date.”
They may also be besides the point if the policy is in danger of lapsing. Enter the in-force policy illustration: a tool that advisors use to determine, for example, the necessary premium payments to sustain a policy to maturity or to reach a cash value benchmark given a certain assumed interest rate.
Depending on market conditions, the exercise might require the client to ratchet up premium contributions. Or, when compared to the performance of a new policy offering comparable features, the in-force illustration might recommend a policy replacement or “1035 exchange”: a provision of the federal tax code that allows investors to transfer accumulated funds in one policy to another without incurring an income tax liability.
Beyond the Charts
The advisor cannot, however, depend only on fancy tables and charts when recommending whether to keep or replace a policy. Also to be considered, says Elizabeth Sampson, a Beverley Hills, Calif.-based certified financial planner, are market risk associated with the policy and the financial strength of the insurer.
“The quality of the insurer–it’s reputation, credit rating and the strength of its balance sheet–has to be examined,” say Sampson. “Many carriers I would never dream of doing business with. I’ve seen companies not accept death benefit claims.”
Market risk, she adds, has become a significant issue for many policy owners of variable universal life contracts in the recession’s wake, as equity-based subaccounts of many VUL policies got pummeled during the downturn.
The result, Sampson notes, were contracts with dangerously low cash values, requiring policy owners to boost premium payments–potentially beyond their ability to pay–to keep their policies from lapsing. The threat of a lapse was all the greater for those policy owners who have taken loans or withdrawals against their contracts.
Because of the market risk associated with variable contracts, say observers, clients that had taken a hit during the downturn, or those who are less risk-tolerant than they were pre-recession, may be advised during the policy review to consider alternatives that are less prone to potentially damaging market fluctuations.