Breadwinners' Insurance

What do high lapse rates possibly indicate about the appropriateness, or rather, the inappropriateness, of cash-value policies with large sales loads? Have the Insurance Commissioners mistakenly approved such policies for sale to the general public? If this blog article does not make you laugh or cry, or scratch your head and wonder why (and how this happens in this great country in this 21st century), then one of us might not be human.

The Appropriateness-for-Sale-to-the-General-Public Standard

Every product that obtains regulatory approval, and that is deemed salable to the public (from Rx drugs, to electronics to children’s toys, etc.), has passed some “suitability or appropriateness” test/standard. In the investment world, products are examined specifically for their suitability for sale to the general public and their suitability for sale to each particular individual purchaser is also evaluated. The word “appropriateness” is used here to apply the same type of analyses to insurance products, and yet to avoid any possible reader’s objection that “suitability” only applies to investment products. In approving insurance products for sale to the public, state insurance commissioners in essence declare that a policy is appropriate/suitable for sale to the general public.

While the appropriateness standard is not very rigorous, this easily-passed test nonetheless can provide an essential hurdle and an insightful perspective. After all, what if market data indicate that 60 percent or more of the individuals who are sold a particular life insurance policy wind-up being severely financially harmed by it, then how appropriate or suitable for sale to the general public is that policy? That is, should an insurer’s financial product that significantly harms more consumers than it helps ever be approved by the regulators for sale to the public? [see Endnote 1] Or, what obligations ought an insurer and its agents have to try to reduce such a product’s incredibly high harm rate?

Implications of Lapse Rates on Appropriateness

Currently-published life insurance policy lapse rates (often-cited by the industry’s lobbyists, the ACLI and NAIFA) are unfortunately based on each insurer’s total life insurance product line (term and cash-value policies combined into the one total rate.) Such total/combined lapse rates, however, are not very meaningful, given the very different financial implications of term and cash-value policies’ lapses. While the Society of Actuaries [see Endnote 2] has conducted studies of lapses with more detailed data from the relatively few insurers that voluntarily participate, its results are not available on an individual company basis. To calculate relevant lapse rates on specific companies’ cash-value policies, Breadwinners’ conducts a more thorough analysis of Annual Statement [see Endnote 3] Exhibit of Life Insurance data.

The large and often undisclosed and misrepresented upfront loads on most cash-value policies mean that these policies are unlikely to provide anything close to competitive or satisfactory value for purchasers if not kept for at least 20 years(Readers not familiar with the typical cash-value policy’s surrender values should see Tables 2, 4 or 5 in Policy Disclosure – Press Release). As shown below, actual lapse data on cash-value policies, however, plainly demonstrate that many insurers (and their regulators) have known, statistically speaking, that very few of their cash-value policies – policies purportedly sold to consumers as permanent/lifetime coverage – were likely to remain in-force for even two decades. Some insurers don’t even have 50% of their cash-value policies remain in force for 10 or 12 years, and given that the likelihood of lapsing is typically greater than average in the first few years, sometimes more than a quarter or a third of some types of policies (classified by size or some other characteristic) lapse within the first five years.

It is, of course, true that it is the policyholder who makes the decision to lapse the policy. But, again, when the data demonstrate that such lapses are common and pervasive, laying the responsibility for a lapse on the policyholder is hardly justified when statistically it was inevitable. Furthermore, when the financial performances of so many policies are so abysmal, a fact perpetuated for generations, if not centuries, by the industry’s inadequate disclosure practices (See NY Life’s Sy Sternberg’s and Northwestern’s John Keller’s statements. [hyperlink to paragraph 6 of Life Insurance: An Industry Built on Fraud), then there are at least a few serious flaws in the argument of blaming the policyholder for the lapse.

Data for four insurers provides some concrete evidence of the lapse problem. Insurer names and data have been slightly changed not to protect these fine corporations’ identities, which will possibly become publicized in future Congressional hearings, but to preserve, for the moment, Breadwinners’ proprietary data. Readers should be aware that these four insurers were chosen because of their actual well-known names and not because they have exceptionally-high cash-value policy lapse rates; the life insurers with truly exceptional high lapse rates on cash-value policies most likely make some of these company’s CEO’s beam with pride.

Note to industry insiders: All face amts are accounted for. Figures for Death Claims include matured policies; sales include additions.

Note to non-industry readers: Surrender Benefits are industry jargon for cash paid upon surrender.

Note to All: Webmaster is looking into the problem that sometimes data for the 4th insurer does not display on all browser.

Even without having conducted this type of multi-year analysis of insurers’ Annual Statement data, insurance commissioners could have applied the published lapse data to have analyzed this problem. But such is a subject for a future blog on a proposed test for Insurance Commissioners and future candidates for such. Isn’t it amazing that we don’t let people change bedpans, etc. without passing some appropriate tests, but be an Insurance Commissioner, step right-up.

Conclusion (Some say, “A must read,” despite its somewhat colorful or off-color language.)

Free enterprise does not mean free to loot; it does not mean – or, at least, it ought not mean - free to sell inappropriate products to inadequately-informed consumers. Free markets only function properly with appropriate rules, information, and enforcement. Good societies do not permit just anyone to sell nitroglycerin, morphine, or cigarettes, etc. to just any or every buyer; they build safeguards into the distribution of such products, and/or they prohibit those who have failed to wisely and appropriately distribute such potentially-harmful products from continuing such business.

In contrast, the NAIC for more than 50 years has been led by individuals who – on the basis of their performance - should have been called, not regulators, but "regubaters." [4] It would seem that the NAIC owes the American public an explanation of why it has allowed such lapse-likely policies by some life insurers to be marketed, or to be marketed without sufficient precautions. And, if and when these chief regubaters apologize, be careful when you congratulate them for having done so and shake their hands, because they haven’t earned their regubater nickname for nothing.

As long as I’m throwing a few spears, let me briefly mention another group that ought to conduct a reassessment of its performance and role in the life insurance marketplace’s age-old problems: financial journalists who have written about life insurance. This past February’s Wall Street Journal article entitled “Whole-Life Insurance, Long Derided, Gets New Lease” is a serious contender for this year’s Breadwinners’ Award for Laughable Financial Journalism. For years, this awarded was consistently locked-up by The New York Times’ very own insurance reporter, Joe Treaster. But since his retirement, there could be serious competition for this year’s trophy. This subject is yet additional food for another blog, so please check back in the near future.

An Aside Regarding New York

New York, often regarded as a state with some of the toughest insurance regulations, has long required that an insurer demonstrate that at least 50% of the actuarial value of the premiums received on a product will be paid out in benefits before the product can be approved for sale. This test, however, is not very effective on cash-value policies, given that such policies contain a savings/investment component. (Simply doing the math on such a bundled product reveals that this 50% threshold becomes largely meaningless. For instance, the insurance component in a bundled product might return only 26% of its portion of the premiums in benefits while on its possibly equally-weighted savings component’s portion returning 75% (which everyone – aside, apparently, from the regubaters- readily recognizes is hardly an accomplishment).)

Given such, it would be interesting to see what would happen if New York’s Superintendent applied the state’s 50% test strictly to the insurance related aspects of cash-value policies, and also adjusted their analysis for real-world lapses. Admittedly, compiling the data for such a test could be a little challenging as interpretations would have to be made regarding, among other things, the allocation of sales costs to the insurance component and the savings component. But the data in Table 3 of the Policy Disclosure Press Release [insert hyperlink to Table 3 in Press Release] shows – for what has heretofore been a well-regarded whole life policy (90 Life) from Northwestern (although such regard might not have really been valid, given the marketplace’s age-old information problems) – that of this policy’s approximate $21,000 total present value costs over its first 20 years, 46% went for sales expenses and 11% went for taxes (state premium and the insurer’s income taxes). In light of those expense figures, that left less than 43% of the value of the insurance portion of the premiums for administrative and claim costs.

Northwestern Mutual’s actuaries and New York regulators are invited to submit actuarially-adjusted premium and benefit data reflecting actual product persistency patterns. Of course, doesn’t actuarially-adjusting the data for the percentages of policyholders who have lapsed their 90 Life whole life policies over the 20 years result in the insurance value received by a typical policyholder being even worse than the above percentages indicate? As some in the Milwaukee company have often long said, “God Bless, Mother Mutual.” In the future, such words by such individuals might mean something very different.

Endnotes:
1) Let me be clear so that this comment is not to be misconstrued as opposing insurance products – which are, after all, products that transfer risk from an individual to a group, or from many premium-paying individuals to a few individual claimants. Insurance protection’s peace-of-mind is a real benefit even when one is not the claimant. Rather, what I am suggesting is that a cash-value policy that is sold on the basis of being “permanent coverage” and yet is continued by the typical policyholder for only a relatively short and temporary period, and that thereby significantly harms its typical consumer more than it helps him or her (when the benefits and the costs of the coverage for the duration which coverage was actually received are compared) ought not be approved as an appropriate product for sale.

2) The Society of Actuaries latest lapse rate study is www.soa.org/files/pdf/research-2004-2005-ind-life-per-report.pdf – 2009-07-14. Breadwinners’ invites the Society of Actuaries: 1) to review all of Breadwinners’ content, and provide any comments it chooses, and 2) to establish a link from its site to Breadwinners’ for life insurance consumers seeking good information, service and products.

3) Buying a life insurance policy (and for that matter, Managing a Life Insurance policy – what a policy owner does after he or she has bought the policy), from an agent who doesn’t or can’t use or explain the data in Annual Statements (the financial reports that insurers file with regulators) might one day be recognized as being as foolhardy as going to a dentist or doctor that doesn’t take use or understand x-rays. In the information-deficient current life insurance marketplace, most mistakenly believe that all one needs to know about a life insurer is its financial strength rating. Just for chuckles, what were A.M. Best’s ratings on AIG, General American, Mutual Benefit and Executive Life six months before these companies went under, or ask your agent insurance adviser to conduct a mortality and operating efficiency study on your life insurer?