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 Posted: Tue Dec 08, 2009 4:26 am Post subject: newbie needs help on whole life insurance |
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My parent bought whole life insurance that pays dividends many years ago. The sales representative told my parent that she can stop paying premium in approximately 12 years because the it policy would be able to pay for itself at that time. And at the same time the policy will make annual distributions to my parent. What does that mean? Is there such thing?
The reason why I'm asking is because they're into the 13th year now and they are still paying the expensive premium. When I called the representative, they told me that the account has accumulated certain cash value and dividend, but the accumulated dividend can only cover approximately 3 years of premium.
I did some research, I understand that the cash value is like equity, but is it truly equity like we really own the money? if yes, when can we cash out the equity? if we cash out, the policy terminates? I understand that when the insured dies, the beneficiary would get paid the face amount, but what happen to the cash value? who gets it? Also, what happen if the insured dies of old age (not due to accident), is it still covered by the policy? what happen to the cash value?
Thanks in advance for your help. |
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zhl203
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| Posted: Wed Dec 09, 2009 11:51 am Post subject: |
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zhl . . .
You are asking all the right questions -- and some that should have been asked 12-13 years ago.
IF the policy is Whole Life (it's a dividend-paying policy so it probably is), the agent lied when he said the policy will pay for itself after any number of years. That's a concept known as "vanishing premium" and the use of that phrase has been outlawed in almost every state for about 15 years or so. But let's leave that one aside.
Read the contract. It should say on the very first page, or very near the front, that "Premiums are payable to the insured's age 100" (or words to that effect). So yes, the premiums will need to be paid to keep the policy in force. Dividends are either paid in cash, used to purchase paid up additional insurance, or left with the insurer to accumulate at interest (which causes a taxable event). There may be a couple of other "dividend options" in your parent's contract.
Not sure exactly what "annual distributions" is supposed to mean, but it probably refers to receiving the "dividends" in cash. But understand that dividends are nothing more than a refund of excess premiums paid. The insurer didn't need them to make its profit, so it gives some of the "divisible surplus" back to its current policyholders in proportion to the premiums they have paid compared to every other policyholder's premiums.
The cash value in a Whole Life policy is not YOUR MONEY. It's their money (the insurer). The credit the "inside buildup" toward the eventual payment of the death claim. As the cash value accumulates, it means they have to come up with less of their money at the moment of death. Here's an example I use to help illustrate the point:
Inflate a balloon. What's inside? Air -- nothing. But the inflated balloon represents the death benefit. If the insured dies tomorrow, the balloon pops and money rains down on the beneficiary. But since there isn't any inside the balloon yet, it will all be the insurance company's money.
OK . . . you pay your premiums and the contract says that if the insured is still alive at age 100 (new policies today say age 120/121), the policy matures or endows, and a check equal to the face amount of insurance is paid to the owner of the policy (presumably the insured) because it's all inside the balloon by then.
Your question "But what happens to the cash value?" is directed to all the other years between the first day of the policy and age 100.
So let's go back to the balloon. Every year as premiums are paid, some of the air in the balloon is replaced with cash. You can pop the balloon at any time, without dying, and some of the cash will be returned to you. But the policy is dead. So we're not going to kill the balloon.
Year after year, premiums are paid and more cash is accumulating inside the balloon. Funny thing is, the balloon is still the same size as it was on Day 1. That's because the cash is only replacing the air, not adding to the volume of the balloon. At any point in time, if the insured dies, the balloon pops and money rains down on the beneficiary, as previously stated.
People think of the money inside the balloon/policy as theirs, but it's not. If you have a savings account at a bank, when you make a withdrawal how much interest do they charge? None. It's your money. But borrow the money from a life insurance policy and the insurer makes you pay interest, because, technically, it's their money, they just earmark it for you for the future.
Because the money in the balloon is in the insurer's "policy reserves" as it accumulates, it reduces the amount of "present" money needed to pay a death claim in addition to the reserves to equal the death benefit.
So here's the bottom line. When you have a Whole Life policy, the cash value belongs to the insurer. When a death occurs -- we hope for one due to old age, but dead is dead, and the company pays (except suicide in the first one or two years, or one of the few exclusions that may be in the policy, such as war or act of war, military service, flying an airplane, or certain hazardous occupations or hobbies -- many policies only have the suicide exclusion), you can think of the death benefit in one of two ways.
If you like to think of the cash value as "your money," the insurer gives you all of your money and just enough of theirs to equal the death benefit. No one gets the cash accumulation PLUS the full death benefit in Whole Life (if you want both, then you have to get a form of Universal Life with "Option 2").
The only other way to view it is they keep the savings and pay the whole death benefit. It's not stealing, because it's really their own money. And the contract tells you that this is what they will do. So they are honoring the contract.
The cash value in the policy, although not yours, is available to you in at least four ways: you can borrow any amount up to the available "loan limit" listed in the contract. The values are for the END of any policy year ($0 in years 1 and 2, probably a few thousand at this point in your parent's policy depending on the face amount and premium). So you could borrow most of it for as long as you want. Never have to repay the loan (but interest will accrue and be added to the loan if you don't at least pay the interest each year), and because the loan amount will be less than the total premiums that have been paid, even if the policy dies, it will not cause a taxable event. But borrowed money plus the interest on it will be deducted from the death benefit if the insured dies. The loan is considered an advance payment of the death benefit.
#2: You could simply "cash in" the policy and receive the surrender value, which will be less than the total premiums paid. The surrender value may be the same or higher than the loan limit. It is not normally less. But this terminates the policy. It can be reinstated usually up to three years into the future, but all past due premiums have to be paid, and the cash value received will now be treated as a loan and begin bearing interest if not repaid. And the insured must prove insurability.
#3: You could use the cash value to buy an extended term policy. Same face amount as the original Whole Life policy, but only for a certain number of years and days into the future. The insured's age and the amount of cash value will determine the length of the new term policy. You will see the values listed on the Table of Guaranteed Values in the policy.
#4: You could take the available cash value and use it to buy a new policy fully paid up to age 100 or 121. But the insurance amount will be reduced from the original face amount -- probably by at least 50% or more. That, too, is in the same Table of Guaranteed Values.
You don't say what the insurance amount is, or what your parent's current age is, so it's difficult to be more specific. But this is the nuts and bolts of how a cash value policy works.
Do you have any other questions?
If your parent is thinking about cancelling the insurance, but still needs life insurance, they need to apply for and be approved for a new policy BEFORE they cancel the existing policy. Not the other way around. Once the new policy is approved, then your parent would write a letter to the first company and request that the policy be terminated and the surrender value sent to them.
If you are in California, I can give you more information in person or by mail/email. If you're not in California, you'll need to find another agent who you can trust to give you good information.
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MaxHerr
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| Posted: Wed Dec 09, 2009 12:18 pm Post subject: |
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If on the other hand, the sales representative said, "based upon the current dividend scale, you can stop making out of pocket premium payments in approximately 12 years", no lie was told.
Premiums never vanish, but the need for out of pocket payments can.
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asruefj
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| Posted: Wed Dec 09, 2009 7:01 pm Post subject: |
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MaxHerr,
First off, thanks so much for your detailed explanation. My parents bought the life insurance when they were new immigrants into the U.S.A. Because they didn’t have any financial knowledge, they bought the insurance based on what the representative said to them: they only need to make premium payments for approximately 12 years. At that time, I was only a small kid. As I graduated from college and entered into the financial industry, I began to understand these things a little better, but not very clear. This is why I posted my question here. When I called the insurance company, they confirmed that it’s a whole-life insurance policy. They also told me the face amount also grew due to dividend reinvestment.
1. So you’re saying the cash value is not insured’s money, but the dividend is, correct?
2. Could it be that the representative implied by the year 12, my parents would have accumulated a lot of dividends in the account, which could be sufficient to cover the annual premium payments for the rest of the term?
3. Is the annual dividend to my parent fixed and predetermined?
4. The policy says “life-paid-up at age 98.” Does that mean my parent has to continue to premium until age 98? So if the insured is still alive at age 98, the insured will get the face amount and the policy terminates? If the insured dies (even if it’s due to old age), then the beneficiary gets the face amount upon insured’s death and the policy terminates?
5. My parent can apply for a new life insurance policy. Upon approval, they can surrender the current policy and get the cash value?
6. Borrowing against the cash value typically bears lower interest rates than other loans?
7. At certain point in time, the accumulated cash value may exceed the face amount, then what happens? |
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zhl203
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| Posted: Wed Dec 09, 2009 9:47 pm Post subject: |
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As to your questions, we'll take them in order:
| Quote: | 1. So you’re saying the cash value is not insured’s money, but the dividend is, correct?
2. Could it be that the representative implied by the year 12, my parents would have accumulated a lot of dividends in the account, which could be sufficient to cover the annual premium payments for the rest of the term?
3. Is the annual dividend to my parent fixed and predetermined?
4. The policy says “life-paid-up at age 98.” Does that mean my parent has to continue to premium until age 98? So if the insured is still alive at age 98, the insured will get the face amount and the policy terminates? If the insured dies (even if it’s due to old age), then the beneficiary gets the face amount upon insured’s death and the policy terminates?
5. My parent can apply for a new life insurance policy. Upon approval, they can surrender the current policy and get the cash value?
6. Borrowing against the cash value typically bears lower interest rates than other loans?
7. At certain point in time, the accumulated cash value may exceed the face amount, then what happens? |
1. Correct. The cash value is considered part of the death benefit and makes up part of the face amount. The face amount consists of 2 elements: the cash value portion and the "amount at risk." The cash value provides living benefits and is part of the death benefit. The policy owner has access to the cash value while alive, through loans, partial/full surrenders, etc.
2. Your thought is correct, and thus the implication of a stupid agent. He was trying to convince your parents that the dividends would be sufficient enough to cover the premiums. These dividends, in turn, would be used to pay the premium on the policy. Bad mistake, now against the law to make such assertions.
3. The annual dividend is NOT fixed nor guaranteed. Policy dividends cannot be guaranteed by law as they are primarily a derivation of profit, and there's no way an insurer can guarantee profit.
4. Again, correct. This is a continuous premium whole life policy which, in your case, matures at age 98. The premium requirement will last until the policy matures in this instance.
5. Yes. Not necessarily a wise choice as you are much older and the premium will be based on your age at purchase.
6. Yes, perhaps. Policy loans in most states have a max. interest rate of 8.00%. There's more to this, and remember that any money you borrow will be subtracted from the face amount upon your death if the loan + interest have not been paid back to the carrier.
7. Big question- depends on a number of things. This could potentially cause a tax issue.
InsTeacher 
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InsTeacher
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| Posted: Wed Dec 09, 2009 10:50 pm Post subject: |
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InsTeacher has given you in essence the same answers I would. As to Q5, there may also be a conversion provision in the existing policy allowing for an exchange into a different contract, such as Universal Life, with the same company and no new underwriting if not asking for more coverage -- have to read the contract to know for sure.
It might be possible to give up the cash accumulation in exchange for a so-called "no lapse" guarantee. As long as all payments are made on time -- missing just one payment by one day could result in the loss of the guarantee, and make the policy much more expensive instantly (which is why I don't favor them for middle income families -- too much to risk) -- the policy will always provide a death benefit. This could mitigate some of the increased cost of insurance at your parent's age, the exchange of cash value into the contract will lower the "Net Amount at Risk" in turn lowering the premium requirement. Again, this is a risky strategy that could easily backfire, putting your parents in a much worse position than they are today.
The best solution might be to keep what they have, continue to pay the premiums, and supplement any additional life insurance need with 20- or 30-year term. The longer term will be more expensive, and may not be available at your parent's current age. But it's an option worth looking into. Same would be true of starting another whole life policy as a supplement to the existing WL policy. More expensive than term, but premiums guaranteed for the life of the contract. A non-participating policy (no dividends) will be a bit less expensive.
Neither of these policy options are required to be purchased from the existing insurance company, but the existing insurance amount will need to be disclosed in the application as "not being replaced or surrendered" if that will be the case. The existing $100,000 policy should not raise the eyebrows of the underwriter.
As to Q7, the primary cause of a taxable event in such a case is when the original policy is terminated before the death of the insured. The excess over cost basis (the premiums paid, less dividends received in cash) is the taxable portion. Highly unlikely to occur in a "straight whole life" policy until the last few years of the contract. The only other time such accumulation might be taxable is upon payment of the death benefit, and for the same reasons -- the distribution exceeds cost basis (or interest paid on the death benefit from the actual date of death to the time of the death claim payment). [In 2007, I processed a claim for the death of one of our corporate clients' insured executives in which the date of death was 6 years prior to discovering the death in the Social Security Death Index and filing the claim. The $250,000 policy paid several thousand dollars in accrued, taxable interest.][/quote]
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MaxHerr
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| Posted: Thu Dec 10, 2009 2:36 pm Post subject: |
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| Thanks to you both. |
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zhl203
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| Posted: Thu Dec 10, 2009 3:08 pm Post subject: |
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Sorry, may I have one more question? When I wrote to the insurance company, they said the following:"your policy has the Variable Additional Rider. This rider allows the owner to direct dividends into a separate account and purchase amounts of single premium variable life insurance.”
Can you translate the above into layman’s term? What is a single premium variable life insurance? Thanks. |
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zhl203
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| Posted: Thu Dec 10, 2009 11:28 pm Post subject: |
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It must mean that the dividends are being directed into a tax-deferred account which uses the money to buy what are known as "paid up additions" instead of accumulating in the cash value of the policy which could result in a tax liability.
But these additions are apparently "variable" life insurance, and the additional value will rise or fall according to the value of the underlying investments. You should receive a prospectus annually that describes each of the subaccounts in the separate account along with information about how to reallocate values among the subaccounts. Do you have any statements indicating how many additional policies and what the face amounts are?
If possible, can you reply with the title of the policy your parent bought? It could be something like "Golden Years Wealth Builder Whole Life Insurance" or "Flexible Premium Life Insurance" or "Universal Life Insurance" or "Modified Premium Variable Life Insurance." It would be a big help, because the rider you describe is not commonly associated with a Whole Life policy. |
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MaxHHerr
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| Posted: Fri Dec 11, 2009 12:40 am Post subject: life insurance |
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| My 'Dear MAX'..LOL I'm just looking at the different threads, concerning Life Insurance. BOY!!...you sure explain things that I can understand!! I recently took out a Life (Whole) Insurance policy on my son...he's 16 now. This policy will build 'Cash Value'. Now...if I wanted to 'barrow' aqainst the policy, when it builds Cash Value' (and I was told I can), would that amount of money go to me or my son? |
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sdchargersfan
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| Posted: Fri Dec 11, 2009 5:49 pm Post subject: |
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Wendy . . .
The owner of the policy has exclusive access to the cash value. If and when the policy has sufficient CV form which to borrow, you would be the borrower, and you can do with the money as you please. You could give it to your son, or you could drive inland to Barona and place a wager on black or red or green on the roolette table (I know I spelled it wrong, the filters on this site won't let anyone use "gaming" terms including "CA SEEN OH"-- pathetic). (Personally, I would spend some of it at the buffet first! And Barona is a much nicer stop than Harrah's.)
The only thing that must be understood is that any use of the cash value, whether as a loan to you, or an "Automatic Premium Loan" to the insurer (if you forgot to or stopped making premium payments), disrupts the death benefit payable to the beneficiary. All unpaid loan principal and interest will be deducted from the proceeds before they are paid in the event, God forbid, your son were to die.
I presume that at some point in your son's adult phase, you are going to assign ownership of the policy (and probably the remaining premium payments) to him. When he becomes the owner, he'll have the right to take you off as beneficiary, and do whatever he wants with the CV or the policy. You won't be able to dictate what he does with "his property," even if you bought it for him. Just like a mom can't tell her son how to cut his hair or to pull his jeans up over his butt so that his boxers aren't visible to the whole world (hopefully yours doesn't do that!) LOL 
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MaxHerr
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| Posted: Sat Dec 12, 2009 3:28 am Post subject: |
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After a serious discussion within family, we have decided to surrender whole life insurance. So I understand that if we surrender now, we'll get the cash value plus the dividend, but is this a taxable event? Thanks.
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| Posted: Sat Dec 12, 2009 5:02 am Post subject: |
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You haven't exactly been given 100% accurate information here.
For starters the cash value of your policies and you can have it if you want with or without taking loans, or surrendering the policy.
You can take money as a direct distribution from the WL policy, you will pay taxes if the money taken goes beyond your cost basis. Life insurance enjoys FIFO (first in first out) distributions for tax consequences.
Usually to avoid taxes loans are used. Dividends can repay loan interest (it's another dividend option that you have available to you), but you'll usually accumulate more cash value inside the WL policy if you leave the loan interest alone and keep purchasing paid up additions with the dividends. Paying the interest on the WL policy goes right back into your cash value, to suggest that the loan interest is a charge the life insurance company is charging that is 100% taken from you as a result of using your money is incorrect.
The dividends can be used to reduce the premium on the policy. The statement that you only have enough dividends to pay for 3 years worth of premium doesn't make a lot of sense. It might be the case that you have enough PUAs to surrender and pay for three years worth of premiums.
NO, it is not correct that your policy will endow at age 98, nothing you've diclosed about the policy would tell us this. It merely means that the policy will be guaranteed paid up (require no additional premiums) at age 98. The endowment age could be much later.
WL insurance has become a lot more flexible in recent years than a lot of people remember it to be. The problem is the rave of demutalization have left a lot of companies, and a lot of agents forsaking this form of life insurance and as a result few understand it very well. I don't care if the agent you talk to has the entire alphabet after his name, it's very possible he could mess this up.
Lapsing the policy is up to you, but I think there's a lot you still don't know, and might like to know about this product. |
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BNTRS
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| Posted: Sat Dec 12, 2009 5:37 am Post subject: |
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BNTRS
I think you make good points all around. I don't think anyone has said that the interest on policy loans goes "to the insurer" and not to the policy's cash value, although it's possible that someone might misunderstand that to be the case.
Perhaps what needs to be said is that the accrued interest is also deducted from the cash value -- either in advance (at the time the loan is taken) or in arrears (at the end of 12 months if it has not been repaid) -- and added to the loan principal. What is factual is that unpaid loan principal and interest will be deducted from the death benefit proceeds.
You're correct about the "paid up at age 98" business -- that it doesn't necessarily mean the policy endows at 98 -- but I think you're mistaken when you say "The endowment age could be much later." The contract is from the 1990s (purchased 12+ years ago) so it would fall under the CSO 1980 mortality tables and their age 100 "ultimate mortality" (all dead on paper, statistically). That's the whole basis of policies endowing at 100. And why, under the CSO 2001 with its age 121 ultimate mortality, newer policies now endow at 120 or 121.
Although there is no reason to believe that this policy paid up at age 98 would require two more years to reach maturity, it would not be later than age 100 in any event. It's not like some of the UL policies that read "premiums payable throughout the lifetime of the insured."
It's also true that a lot has yet to be disclosed about the policy which makes it difficult for anyone to give fully accurate information or advice.
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MaxHerr
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| Posted: Sat Dec 12, 2009 2:39 pm Post subject: |
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Maxx and BNTRS,
Thanks both for your help. Okay, below are all the details. Please let me know what else you need in order for you to help me. What would you do in our situation? Would you surrender the policy? How much would we get back if we surrender? Do we have to pay tax? What's your best suggestion.
Product type: Life Paid-Up at Age 98
My parent age: 53
Issue Date: 11/13/1997
Amount of Insurance: $150,000.00
Premium: Annual - $2,542.49
As of 11/13/2009:
Death Benefit Amount: $164,325.69
Surrender Value Quote: $29,528.51
Loan Value Quote: $29,528.51
Last Dividend Credited Amount: $936.00
Dividend Option: Paid Up Addtl Ins
Dividend/Rider Withdrawal:
Estimated Amount Available for Withdrawal: $6,428.51
Riders & Benefits:
Equity Additions(Variable Additional Insurance) Benefit / Coverage Amount: $14,325.69
When I inquired into the company, the responded below:
On 12/9/2009
"According to our records, your life insurance policy is a L98. This means the premium payments have to be paid to the anniversary date following your 98th birthday.
Your policy does not have the option of paying for itself. You policy has the Variable Additional Rider. This rider allow the owner to direct dividends into a separate account and purchase amounts of single premium variable life insurance."
On 12/11/2009
"I understand the importance of your concerns. Based on what you are
stating it sounds like your representative is talking about the
Accelerated Payment Arrangement.
Accelerated Payment (AP) is a premium payment arrangement that allows
you to systematically apply accumulated dividends to pay the annual
premiums, after premiums have been paid out of pocket for a number of
years.
In other words, AP uses the current annual dividend in conjunction with
the available dividend balance to help "bridge" the policy to the point
where the annual dividend exceeds the annual premium payment.
It is important to understand that a policy on AP is not fully paid-up,
nor will AP reduce the number of years in which premiums are required to
be paid. Since the AP arrangement is completely dependent on
dividends, it is not guaranteed. Any fluctuations in the dividend scale
will directly impact this payment arrangement.
According to our records, the above arrangement is not available for
your policy. Therefore, you will have to pay the premium payments. I
can't explain why you were told this plan would be available on your
policy. I would encourage you to speak with your representative. If you
would like me to contact the sales office and request a callback for
you, please let me know when will be the most convenient time for the
representative to contact you.
I understand that this is probably not the information that you were
expecting to hear but I hope that it has been helpful." |
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zhl203
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