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The Problem with Spreadsheeting and Commoditization

Stress testing and independently modeling separate products highlights contractual differences.

Things go wrong when policy owners don’t have a fundamental understanding of how things work and what the consequences are of not paying attention.

Recently I was brought into a case by an estate planning attorney who had relatively young clients who handed over an insurance policy and said “Tell us if this is good.”

The short story is that the policy was only a couple of years old; it was a guaranteed survivor universal life insurance policy from a reputable carrier and it was doing fine. The pricing was now unduplicable, and if they keep paying the premiums on time, then the death benefit will assuredly be paid someday. But there’s more to this than a simple response. Today isn’t the time to get into a philosophical discussion about the merits of guaranteed UL, current assumption products, market-based products or traditional whole life insurance. We’ll assume guaranteed UL was and continues to be an appropriate product for these clients.

Life Gets in the Way

This policy was sold on a full pay basis (pay every year), and the cash value was projected to be zero by age 70, though the death benefit would still be guaranteed if premiums were received timely. This is common, and there’s nothing particularly wrong with it, but consider the following scenario:

Mr. & Mrs. Jones, let’s assume that we’re down the road a ways and Mr. Jones is deceased. Mrs. Jones, you’re 93 and in the Alzheimer’s wing of the local nursing home. Your kids are the policy owners or trustees or at least have power of attorney over financial assets and are responsible for getting annual premiums to the trustee. Given whatever is going on in their lives at any given time, do you think it might be possible that they could ever miss a premium notice? And at 93, if the premium isn’t paid, do you know what happens to the $5 million in death benefit you’ve been paying on for 50 years? It’s all gone.

It’s not terribly difficult for them to envision problems their kids may be facing. Maybe Junior just got laid off or is going through marriage issues, or great granddaughter Suzie just had a baby in high school. Maybe nothing is going wrong but juggling a job, getting children to practices and games and visiting mom in the nursing home is stretching them thin. Could the financial situation change over time, and the premium be a stretch? Maybe it’s as innocuous as someone who moved, forgot to change the address with the insurance company and the invoice never showed up. Or the premium notice is buried in a stack of paperwork on the corner of the desk. In other words, life gets in the way.

Consider Possible Alternatives

In this case, I could show that significantly reducing the number of years of out-of-pocket premiums, to a point they would be guaranteed to be done while the policy still has cash value, could be accomplished for not much more annual cash flow. Is a 30 pay guaranteed product for $25,000, with the premium obligation done while in their 70s more attractive than a $20,000 annual premium to aged 100? I don’t know, but I’ll bet it would have been a good idea to show the clients and see what they thought. My guess is that no one ever showed them.

Alternately, I discovered that another quality carrier had a premium that was within $100 for a comparable full pay guaranteed product that had a guaranteed cash value that grew to seven figures. Again, I’ll bet it was never discussed because it didn’t win the spreadsheet war. Do you think the clients would have chosen it had they known that for effectively the same premium, they could have a policy down the road with no cash value versus a policy with millions of dollars of cash value?

Sure, this is a death benefit transaction rather than a cash value transaction, but what kind of long-term security against inevitable mistakes could it have provided? What if in the future, for whatever reason, a decision was made to bail on the life insurance? 

Contractual Differences

Stress testing and independently modeling different products also highlights meaningful contractual differences. I have two policies on my desk now that have been in place for quite a while. One can move forward indefinitely at a reduced death benefit and no premium, and the other is a goner no matter what unless premium is continued. In other situations, I’ve seen that missing a premium or two in one contract reduces the longevity of a policy only modestly while in an apparently similar contract, the policy would crash and burn.

Even term insurance shouldn’t be spreadsheeted. Conversion durations and ages vary dramatically. One policy might have options “by practice,” while the other is “by contract.”  That’s a biggie. Is the policy convertible to any product in the carrier’s portfolio or only a crappy policy the carrier only makes available to those people who are forced to convert? This is important stuff.  

Maybe the clients would have made the decision they did given all facts and options on the table, but my guess is that they never made a decision because the options were never presented on an equitable basis. 

A Meaningful Process

There’s a reason I’m in the middle of a couple of cases in which I’ve convinced the clients to step back from imminent decisions based on incomplete data. I don’t want to make the process overwhelming, but there simply has to be a meaningful process. If there isn’t, the possibility of policy owners ending up where a thoughtful, nuanced, empirical process would lead is largely a factor of chance. A good result isn’t as likely if choices are a result of being directed by a sales person who’s simply leaning the way the industry winds are currently blowing or by an agent who’s subject to institutional indoctrination and isn’t giving alternate products and carriers a fair shake.

A meaningful process inevitably involves analyzing different product types and not just a price comparison of similar products. I’ve put together a spreadsheet that included guaranteed UL, current assumption UL, equity-indexed UL, traditional WL, blended WL, securities-based products at various assumed market returns and private placement options. The spreadsheet includes not only premiums, but also projected cash values and death benefits at various durations and corresponding internal rates of return on cash value and death benefits at multiple assumed life expectancies. It’s a fascinating exercise. Frankly, I don’t know how anyone could make a decision without it. I’m usually the first one to talk about pragmatism in a process and that there’s generally not a need to turn this into an overly involved research project, but there’s a lot of real estate between the all or nothing routes.

Maybe my process is molded by the fact that my daily job often involves coming in to fix things. I strongly believe policy owners need guidance and many just want to be told what to do, but what they really need is to be informed to the extent they can be productive participants in the decision-making process.

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