Life Insurance in 2005
The consumer’s dictionary of terms is different today than it was 25 years ago. “Mutual” is a term infrequently heard; “life settlements” and their cousin “viaticals” are becoming both popular and controversial. The word “premium” has new meaning-for both agents and consumers. “Risk shifting” is just as likely to mean a shift to the policy owner as a shift away. So that this site can be useful to the financial advisor or consumer, following are a few key terms and their definitions that will clarify meaning and allow easier reading. There are additional definitions in the glossary found on page 149.
- Term life insurance: Policies sold for a specific duration. Premiums are generally guaranteed for that duration and then are subject to market pricing (notwithstanding high guarantees) to renew beyond the original period of time.
- Permanent life insurance: Policies sold for lifetime needs. Policies may have specified premiums, wherein the insurer guarantees the sufficiency of the policy, or indeterminate premiums, which require policy owners to manage the economics and the risk of maintaining the policy throughout the insured’s lifetime.
- Level premium: Generally refers to the initial period of a term policy in which the premiums are both guaranteed and constant. At the end of the initial period,premiums will generally increase annually and at a significantly higher rate than the level premium.
- Indeterminate premium: A specific characteristic of Universal and Variable Universal policies in which the premium is estimated but not guaranteed. It is the policy owner’s responsibility to manage policy payments to ensure the sufficiency of the policy.
- Funding premium: The appropriate term to describe premiums for policies that are designed without fixed premiums. By adopting the modifier “funding,” policyholders won’t fall into the understandable trap of believing that the premium quoted for Universal Life conveys the same assurance it won’t change as that of its Whole Life cousin.
- Cash value. The reserve created in permanent life insurance from the premium overpayment in early years of the amount the insurer needs to cover its death benefit liability. This reserve is important in later years when the annual cost of the liability is significantly greater than the premium. The cash value is an asset of the policy’s owner. Indeterminate premium policies lapsed in the first 10-15 years may have a surrender charge, reducing the net cash value.
- Surrender value: The value for which any policy with cash value can be surrendered. In a participating Whole Life policy, the surrender value is typically equal to the cash value. The surrender value may be less in indeterminate premium policies, depending on how long the policy was in force before surrender.
- Account value. Especially applicable to Variable Universal Life and Universal Life, the account value is equivalent to the policy’s cash value before the deduction of any applicable surrender charges when determining the policy’s net surrender value.
- Net amount at risk The difference between the gross death benefit and the cash value. The net amount at risk should be largest in the early years, and progressively diminish as the insured gets older, corresponding to the smaller risk of dying in a given year when young and the higher risk of death in a given year as one gets older.
- Gross return: Generally a term for Variable Universal Life, a gross return is the long-term average return assumed to be earned before deducting the management fees and other expenses described in the prospectus. Variable Universal Life illustrations almost always assume a gross return, not to exceed the regulatory maximum of 12 percent. Annual fees can range from 0.25 percent to more than 2.0 percent of the account value.
- Net return: Insurers selling and managing Universal Life and Current Assumption Whole Life policies will declare, from time to time, a policy cash value interest crediting rate subject to the guaranteed minimum specified in the policy. Both the declared and the minimum crediting rates are net of investment management expenses.
