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The dangers of ignoring the middle market

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Editor’s Note: This is the fourth part of a six-part series on threats to the independent life insurance distribution channel, running in each issue of Life Insurance Selling through the remainder of 2012.

Here’s the problem in a (large) nutshell: The dominant independent life insurance distribution channel is disproportionately focused on the affluent market while largely ignoring the middle-income market. The low-income market is completely ignored, doomed to rely on public assistance in the event a family’s breadwinner dies prematurely. Congress perceives the life insurance industry as catering only to the affluent, making the industry’s products vulnerable to the loss of their long tax-advantaged status at the hands of a revenue-starved federal government. A dangerously uninsured/underinsured middle market continually neglected by independent producers either remains uninsured/underinsured or, led by Gen Y and Millennials, turns to other avenues to secure life insurance coverage — buying either online, direct from carriers, through banks or even at Wal-Mart.

Perhaps the ones who become wealthy in time — a decade or so down the road — will then be approached by the dwindling force of independent producers who still focus on the affluent. Maybe they’ll become clients. But maybe by then they’ll be entrenched in a new way of purchasing life insurance that has turned the tables, allowing the now-affluent consumers to ignore the independent producers who had no time for them before they had money.

And just how damaging would the impact on the life insurance industry be if the products were to lose that tax-advantaged status? If the inside buildup no longer accrued tax-free and death benefits became subject to federal income tax? The attractiveness of the products would no doubt be significantly diminished. Fewer people would buy life insurance, and even fewer people would keep selling it.

This all may seem like an over-the-top doomsday scenario, but would it really be that shocking if some of it were to become a reality in the coming years? It’s certainly worth a closer examination of the issues, their root causes and possible solutions. The independent life insurance distribution channel’s long-term viability could well depend on what is done in the next few years to combat these challenges.

Middle market exposed

It has been widely recognized and discussed throughout the life insurance industry in recent years that Americans in general do not have enough life insurance coverage — if they have coverage at all. While no one is realistically expecting low-income families to carry adequate life insurance coverage, it is the middle-income market’s disturbing lack of coverage that should be of particular concern, not just to the industry but to society in general. (Editor’s note: There is no clear-cut income range to define the middle market, but for the purposes of this article, studies by life insurance industry-funded research group LIMRA have characterized the $35,000 to $100,000 in annual household income range as the middle market.)

The benchmark that everyone seems to come back to when lamenting America’s underinsurance problem is LIMRA’s 2010 “Trends in Life Insurance Ownership” study, which is conducted every six years. The 2010 study revealed that ownership of individual life insurance hit a 50-year low, with only 44% of U.S. households having coverage. The number of U.S. households that have no life insurance whatsoever grew from 22% in 2004 to 30% in 2010, meaning 95 million Americans had no coverage whatsoever in 2010. The industry issued 1 million fewer life insurance policies in 2010 than in 2004.

The study also revealed that 1 in 4 middle-market households admit they don’t know how to obtain or reach their financial goals, including buying life insurance. One of the biggest obstacles is a lack of information — as in, they aren’t receiving any. Almost 8 in 10 U.S. households in the 2010 study reported having no personal life insurance agent.

See also: Infographic: The middle-market life insurance opportunity

As the tough economy in recent years has forced middle-market consumers to devote more disposable income to meeting basic living expenses, paying off debt and saving for retirement, getting them to buy a non-tangible product like life insurance has become more difficult. More than 40% of respondents to the 2010 LIMRA study said a major reason they have not bought more life insurance is because they have other financial priorities right now.

Compounding the issue is that many independent life insurance producers have fled the middle market in favor of attracting affluent clients — or have naturally migrated toward the affluent market as they have matured. Carriers are perceived to be more interested in supporting producers who work the affluent market as well.

“Career shops have an interest in training young agents, but they’re training them to be working in the affluent market. The training is there, but it’s not to reach the masses,” says Donald F. White Jr., CLU, ChFC, AEP. White, who is CEO of Treasure Coast Financial Services in Stuart, Fla., is a 10-time Top of the Table qualifier of the Million Dollar Round Table who knows plenty about the independent channel and its challenges. And he says the life insurance industry has never really been geared toward reaching the masses.

“The question of the mass market — has it ever really been served? The answer is no,” White says. “How do you service that marketplace? There has to be a way to do it.”

Speaking to Life Insurance Selling during last summer’s MDRT Annual Meeting in Anaheim, White broke it down like this: “If you really look at the marketplace, you’ve probably got somewhere around 30% of the population that doesn’t even need to be insured — the government’s going to provide for them if they have an early death. They’re underpaid, probably at the poverty level or close to it. So that kind of wipes out about 30% of the population. Then you have a pretty good chunk of people that are just marginally above that — and by the way, that’s the one that I’m the most concerned about — that I believe is just totally non-served. These would be the people probably in the $25,000 to $50,000 income bracket. To be totally frank, these people don’t call on anybody, and they are not called on.”

White says they might have a pension plan or 401(k), but many who work for small employers have no benefits whatsoever. “No health insurance, no retirement plan, no life insurance, nothing. And the real tragedy is that these people are going to be on the government dole, and they are going to bury this government 25 or 30 years from now. Just bury it.”

Tax-advantaged status at risk?

In an opinion piece published in the September 2011 issue of Life Insurance Selling about America’s underinsurance problem, LIFE Foundation President and CEO Marvin H. Feldman, CLU, ChFC, RFC, said the drop in life insurance ownership is perceived on Capitol Hill as a lack of caring about the middle market. “It’s giving Congress ammunition in its battle with our industry over proposed taxes and regulation, including taxing the inside buildup of cash value policies,” Feldman stated. “We need to support [the National Association of Insurance and Financial Advisors (NAIFA)] and [the Association for Advanced Life Underwriting (AALU)] in these battles, or our industry as we know it will become quite different.”

Rallying the troops to ascend on Capitol Hill next April and lobby Congress not to tax life insurance was a primary initiative put forth from the main platform at the NAIFA annual meeting in Las Vegas in September. NAIFA President Robert Smith told attendees, “We’re in the midst of a perfect storm, with health care reform, regulatory reform and tax reform. We’re currently battling to protect the products we sell and the business models we use.”

It was announced during the meeting that the NAIFA Congressional Conference will take place April 8-9, 2013, when NAIFA members will take their message directly to lawmakers that tax reform must not harm the ability of Americans to rely on insurance products to protect their financial security.

Speaking during the legislative forum session at the Las Vegas conference, NAIFA outside counsel Pat Raffaniello told the audience the tax reform debate will require boots on the ground. “We need 1,000 members to show up in April on the Hill to educate Congress about the tax treatment of life insurance,” Raffaniello said. “Democracy is about numbers. We need you to tell Congress how important the tax status of our products is.”

It’s a message NAIFA and, since its founding in 1957, AALU have brought repeatedly to Congress ever since it began fashioning an income tax structure that encouraged individuals, and later businesses, to transfer certain financial risks to life insurance. This tax policy has been reviewed with serious proposals at least 13 times since enactment in 1913, and each time Congress — after hearing the “we protect widows and orphans” mantra from the life insurance industry — has chosen to preserve the current tax treatment.

But that doesn’t mean it is safe this time, especially if Congress increasingly perceives life insurance as a tax shelter for the rich.

With a gradual shift away from protecting the middle class toward a focus on the affluent, which often use policies as part of complex estate plans to transfer wealth in a tax-efficient manner, the life insurance industry may be at risk of losing its reputation as an important safety net for Americans in the eyes of revenue-hungry Congressmen. As Charlie Smith, ChFC, CLU, AEP, former president and CEO of GAMA International, told The Wall Street Journal in an Oct. 3, 2010, article, “If the industry no longer has a significant presence on Main Street, it loses its political clout in Congress and can’t defend the tax benefits.”

It’s no mistake that NAIFA’s Congressional Conference is set for early April. House bill H.R. 6169, which mandates a tax reform plan by April 30, 2013, will likely include revenue-enhancing measures such as the closing of tax loopholes and the elimination of tax expenditures. Diane Boyle, vice president of federal government relations for NAIFA, told annual meeting attendees that the tax-deferred treatment of cash value life insurance, could very well be among proposals contained in the plan. One reason: the need to close the burgeoning budget deficit and national debt, the latter of which now stands at $16 trillion — more than the United States’ current gross domestic product.

Boyle said the House and Senate might coalesce around proposals that, rather than eliminating the tax-favored treatment of the inside build-up of life insurance, limit the scope of the tax benefit. One possibility: eliminating tax-deferral for individuals whose income is above a certain level or who intend to use their policies for particular advanced planning applications.

“These proposals present challenges to our industry,” said Boyle. “We in the industry need to be able to communicate our concerns about them to Congress.”

Donald White says it is crucial that the government is made aware of the consequences that would result from any changes to the tax status of life insurance. “The government has to recognize that if they go down a specific route and they essentially eliminate life insurance as a viable method to pay for the expenses that come due when a person passes away, they’re going to end up having to subsidize that at a much higher level than they ever even thought,” White says.

“The public good of life insurance is something that can never be underestimated. That is the absolute God’s honest truth. We are in a situation where life insurance has to be protected in this country,” White continues. “It’s why we passed Section 101 in the first place, to give us tax-free death benefits. It’s why we allowed tax-free accumulation of cash value. It’s why we allow dividends to be paid as return of premium and not as an income payment. That’s why those laws were passed. And why every time they’ve gone to be adjusted, someone’s come back and said, ‘Wait a minute. If we go there, what’s that going to do?’ Cooler heads have to prevail.”

If life insurance death benefits were to become taxable, White points to a generic, off-the-cuff example of a $250,000 policy from a middle-income client who passes away versus a multimillionaire whose family receives $5 million in a trust upon his death. While the multimillionaire’s family may lose $2 million of that $5 million to taxes, “that woman who goes from $250,000 to $175,000 is devastated. And that’s the issue.”

White says the idea of tax-free death benefits and non-taxed accumulations is simply good public policy. “And we have to have the guts as an industry to stand up and shout that from the highest rooftop that we’re not out there just protecting the affluent.”

He reasons that if life insurance loses its tax advantages, fewer people will sell life insurance to even fewer Americans. Then the already sizable coverage gap between what people need and what they have grows.

“And what replaces it is the big question. Well, I think the only replacement is the government,” White says. “If that doesn’t make you shudder as an American, then you’ve got a big problem.”


Lack of relationships pushes consumers online

Most middle-market consumers go about their daily business, year after year, without ever being asked whether or not they have or need more life insurance. They have no existing relationship with a life insurance agent or financial advisor. Because of this, they are inherently open to buying life insurance (particularly term life) direct from a carrier, from a website or even from their bank.

A 2012 LIMRA study found the majority of generations X and Y would consider buying life insurance from their bank, while only about a third of boomers or members of the Silent Generation would consider it. Carriers have also ramped up their online efforts significantly, counting on younger middle-market consumers to purchase term life directly. Another LIMRA study, the 2012 Barometer Report, found that while almost two-thirds of people still prefer face-to-face meetings regarding life insurance, people 45 years old and younger are significantly more likely to purchase life insurance online.

As the online policy issuing capabilities of carriers increases (significant progress has been made in this area in 2012 alone), it certainly appears capable of evolving into the “norm” for younger people buying term life. Even if you subscribe to the reasoning that “people research life insurance online, but they buy from an agent,” do you truly believe a majority won’t be completing a term life purchase online within five years?

But technology can also help the independent agent speed up the process for obtaining coverage while still providing personalized information tailored to specific needs and goals of the customer. Simplified applications, underwriting processes and e-signatures can allow producers to provide better, quicker service while also steering the customer toward the most appropriate solution for their specific situation.

The middle market figures to remain fertile ground for independent producers with little competition from other agents — if you know how to reach this market. While people in this demographic usually know in the back of their mind they need to be covered (or need more coverage), most people don’t buy without being reminded of how important life insurance can be, how much they need (probably more than they think), what it costs (probably less than they think), and how it fits into their overall financial plan.

The fact remains that there is nothing out there that can help a consumer figure out how to cover his needs better than the independent life insurance producer.

For more about threats to the independent distribution channel, see:

Bank channel eyes life insurance growth

The Impact of a Universal Fiduciary Standard

Facing Up to an Aging Producer Workforce


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