Financial professionals often look at clients solely through the eyes of an illustration. We assume what a client looks like today will continue into eternity, instead of realizing that life changes over time. One example of this has to do with clients being able to afford higher contributions to an indexed universal life insurance (IUL) policy in the future than what they can afford today.
Saving More in the Future
Let's assume you have a client that today can afford $500 a month towards an IUL policy to help fund retirement income. A good agent will illustrate a $500 a month policy that solves for the minimum death benefit. This minimum death benefit maximum premium approach reduces the internal costs of the policy. This strategy usually provides the best opportunity to grow cash values and deliver the highest tax free income.
However, often a client that can afford $500 a month today may be able to afford higher contributions five, ten, or 15 years from now. Unfortunately the original illustration will not allow for an increased premium because it solved for the minimum death benefit based on $500 per month premium payment.
4 Ways to Increase Contributions
There are are four main options you and your clients have to increase future IUL contributions, and each choice has different positives and negatives.
Option 1 - Increase the Death Benefit Later
After issue of a minimum death benefit maximum premium policy, if the client wants to increase premium contributions, you can increase the death benefit of the original policy to allow for the increased premium. The benefit of this approach is the original policy was originally structured in the most efficient way possible, and you have flexibility of when you and the client decide to increase contributions.
The downside is the client needs to go through underwriting again at the time the face amount is increased. It's impossible to know if the client is going to be in good health at that time, which may hinder their ability to get a face increase based on the original underwriting classification.
Option 2 - Write an Additional Policy
As with the first option, you can write the original policy, then at the time the client wants to increase contributions, you can write a second policy to accommodate the additional contributions. You would structure the second policy as efficient as possible, just as you did originally, however, you a few more downsides.
First, you have the same risk on health changes of the client being different than originally illustrated. With a new policy you may also open up a new and longer surrender charge duration for the client. In addition, you may run into minimum face requirements if the increase in contributions are not high enough to justify the minimum face allowed by the insurance company.
Option 3 - Predetermine the Contribution Increases
You can do some forward planning at the time of issue and determine a realistic premium pattern allowing for increases in contributions and run the illustration based on that premium pattern. The benefit with this choice is you don't take any underwriting risk because you are underwriting for a higher death benefit at issue.
The major disadvantage of this approach is that until the contributions are increased, the client is paying for a death benefit without being as efficient as possible. So this strategy will result in lower potential tax-free income, however it will provide higher death benefits in the early years. The biggest hurdle is if the client can't or doesn't increase their future contributions, they paid for additional death benefits they may not have needed.
Option 4 - Term Conversion
The last approach is one being used by financial professionals more and more frequently. If the carrier you are using has a term conversion program you can write the IUL based on the $500 a month premium pattern and also write a standalone level term policy with the same carrier. At the time the client wants to increase contributions you can exchange the term policy (or partially exchange if the carrier allows) into the IUL to increase the death benefit which will then allow the client to increase contributions to the IUL.
There are numerous benefits to this approach. First the client will only need to go through underwriting at the time the original IUL and term policies are written. In addition, although the client is paying for the stand alone term policy, the costs are much cheaper than if you start with a higher death benefit in the IUL. You also have complete flexibility regarding the timing of when the client chooses to convert the term policy into the IUL and if they can't increase contributions, they can easily just cancel the term policy. Lastly, there are very few clients out there that don't need additional death benefit coverage and this allows them to have it without reducing the efficiency of the policy they are relying on for tax-free income in retirement.
