These days, everybody wants the best deal on EVERYTHING.
The Internet has resulted in an explosion of “Quote Giving” websites: You want an airline ticket? You can get a quote. You want widget XYZ from China, you can get a quote. You want LIFE INSURANCE, you can get a quote.
For airline tickets and widgets, this is a wonderful thing. I personally love the fact that I can search dozens of providers to find the best possible price for my airline ticket or my widget from China. This is because I know exactly what air route and what product will fit my needs, and that all providers are offering essentially the same thing.
Unfortunately (or fortunately, depending on your perspective), LIFE INSURANCE isn’t like a seat on an airplane or a widget. In fact, it’s probably one of the most complicated purchase decisions any person can make. And the consequences of making a poor choice are surely worse than flying to the wrong city or not being able to fit your widget into your widget holder.
With life insurance, there are three broad structures: term, universal, and whole life. Universal and whole life can be fixed or variable. That’s five distinctly different products right there…all sharing the name “life insurance.”
In fact, the ONLY characteristic that these five financial products have in common is they result in a death benefit being paid if the insured dies while the policy is in force. The performance and behavior of four of these five products (all but term insurance) are driven by investment results, mortality experience, and insurance company expenses in a complex interconnected minuet, from the date of policy issue to the death of the insured (or the termination of the policy, if that occurs before the death of the insured).
I ask you now, how do you possibly “quote” 50 or 60 or 70 years of future events?
The answer: You don’t. There are no quotes in life insurance. What oftentimes you’ll see masquerading as “quotes” from the countless agents and thousands of websites out there are actually “policy illustrations.” A policy illustration consists of rows and columns of numbers. It is simply a mathematical extension of ASSUMED investment or interest rates, mortality costs, and expense numbers to age 100 or 120, with nothing ever changing.
Did you read that? “…with nothing ever changing.” What DOESN’T change in 50 or 60 or 70 years? Answer: Not much.
Not to mention, even if everything did stay exactly the same for 70 years….these initial assumptions may be conservative, aggressive, or somewhere in between. A company which makes aggressive assumptions will print illustrations that will show low costs or high cash values. A company which makes more conservative assumptions will generate illustrations that show higher costs or lower cash values.
Neither illustration has any predictive value. So why do we even call them “quotes”? I don’t. You see, most policy illustrations (presented as quotes) have no bearing on reality. In fact, I often tell my clients that a life insurance illustration is merely a sales brochure, customized with their name and age.
So why the fixation with a quote? The experience of most people is in purchasing commodities—airplane tickets and widgets to use our previous examples. A price quote in the purchase of a commodity is a reasonable method of seeking value. That’s because most airplane tickets are pretty much the same, and most widgets will be exactly the same as one another. The only differentiating feature is PRICE.
Unfortunately, quotes are not nearly as useful when trying to figure out the value of a service. If you needed emergency heart surgery, would you “buy” the CHEAPEST surgeon? No, you probably wouldn’t. Most people in this situation would either “buy” the best, or more commonly, look for the best value in a surgeon. Price would surely be a factor, but so would the doctor’s experience level, success rate, catastrophic failures, etc.
You get the picture. Buying the cheapest commodity makes sense, but simply buying the cheapest service could cost you thousands upon thousands of dollars down the road, or as in the above example, your life.
Now, since this is a life insurance article, I’ll state the obvious: LIFE INSURANCE IS NO EXCEPTION! It is not a commodity. It is a risk management relationship between you and a life insurance company for the rest of your life.
Okay, so now you know there are no quotes in life insurance, just policy illustrations being thrown around with reckless abandon, being called “quotes” in order to entice you to buy one specific product or another.
I have met many, many people throughout my career that were faced with terrible situations because years before they met me, they made life insurance purchasing decisions based upon illustrations, without clearly understanding the product. The result was obviously disappointment and unmet expectations. Picking a life insurance policy based on an aggressive illustration (a factor you are not equipped to determine) will almost never result in a good decision.
Life insurance is a valuable, powerful financial tool. Like other powerful and complex tools, it must be used with skill and knowledge.
There is no “best” life insurance policy. There is no “best” life insurance company. There is only a range of optimal solutions for each person’s unique wants and needs. Not only are there many options, but each of those options carries with it dozens of consequences in your life: Wealth consequences, Tax consequences, Opportunity Costs, Asset Protection, not to mention all the normal stuff like death benefit, cash value, etc.
It’s absolutely inconceivable that your optimal solution can be created without sophisticated knowledge and experience. It is even more inconceivable that a “human-less” website can do that job. Don’t get me wrong, I am no enemy of the Internet--Web M.D. has great information, and can be a great research tool, but it is no substitute for going to a good doctor.
Now let’s assume that I’ve convinced you that the selection of a permanent or cash value insurance policy cannot be based solely on a policy illustration (commonly, though incorrectly, referred to as a “quote”). What about term insurance? Term insurance is “pure protection”. Isn’t the lowest premium per dollar of death benefit the best buy? Isn’t term insurance just a commodity?
As you’ll see, not even all term insurance is created equal…
First, term insurance can have a premium that increases annually just as the probability of death increases annually. This is called Annual Renewable Term, or ART. After a while, this premium becomes prohibitive. In response to this, the insurance industry developed level term insurance.
Level term insurance is available in 10 year, 15 year, 20 year, and 30 year level products. The idea with level term insurance is that you “overpay” a little in the early years in order to save a lot in the later years. There is hot competition in the level term insurance market which drives down the premiums. This is a good thing for consumers. There are many instances in which level term insurance is the best solution.
If you go to Google right now and type in “20 year level term quote” you find dozens, if not hundreds of websites offering to give you a quote for this product. This leads people to believe that 20-year level term insurance from one company is the same as 20-year level term insurance from another company. At the outset, these comparisons and others can be extremely misleading to you.
Most life insurance companies divide the world of healthy, non-smokers into three or four underwriting classes. Each company has different names for each class (preferred plus, super preferred, elite, etc.), and each company has different underwriting standards for each class. Height, weight, blood pressure, blood lipids, medical history, and family history will all be considered when determining which of these rating you will receive. Believe it or not, you could be in the best underwriting class with one company and second or third best with another.
Here’s why that’s important: The difference between the best, healthy, non-smoker and the worst, healthy, non-smoker can double or even triple the premium. The best class from one company can be the equivalent of the second or third best class from another. So picking the company with the lowest “best class” premium, might not be the lowest premium FOR YOU! Furthermore, each company has different financial ratings and financial strengths, clouding the analysis even more.
If you want to make an intelligent, informed decision, ALL FACTORS MUST BE CONSIDERED.
Let’s assume for a moment that the dozens of companies “on the quote spreadsheet” are equal in safety and security (they are not), there are still significant differences in the actual products…
Does the policy include a disability waiver of premium? If so, what are its terms?
Is there a conversion option permitting a conversion to permanent insurance? If so, what permanent policy or policies are available through this option? Some companies allow you to convert to any policy they issue, while others restrict you to a “special” (i.e., expensive) conversion policy. Can this option be exercised for the entire level premium term, or is it limited to a short period after policy inception?
To illustrate the importance of these questions, let’s look at a true story of a person I’ll call “George”:
In the year 2000, George decided he wanted a $600,000, 20-year, level term policy. He was very healthy at the time and was able to get a “preferred plus, non-tobacco rating”. He shopped around and obtained a policy with an annual premium of just $2,423, guaranteed level for 20 years. It was the lowest premium he could find at that time.
In 2005, George’s health took a turn for the worse. He had a triple bypass. The days of getting “preferred plus, non-tobacco” were long gone. In fact, it was highly questionable whether he could even qualify for any life insurance again—at any price!
No problem you may be thinking…he had already bought his policy. However, as events developed, George determined that he had a need for permanent life insurance. In the year 2020, this policy was going to go away. If George died before that year, all was well (at least from a life insurance perspective), because his family would get the $600,000 death benefit. The problem was George wanted his death benefit paid at his death, regardless of how long he ended up living.
Remember that question I asked above about a conversion option? This option guarantees you the right to convert your term policy into a permanent policy with no medical exam (crucial in George’s case), and based upon your health when the term policy was originally purchased. Most term policies (but definitely not all) have this conversion option. However, the time period in which you may exercise this option varies greatly.
In George’s case, it was to end in 2006. So, while he was lucky it hadn’t ended yet, he surely would have been a lot luckier had the option been his for the entire 20 years. Now George had an immediate dilemma.
He could convert the policy right then, and pay a premium of $11,838 per year (a whopping increase of 389% or $9,415) in order to make sure that he had this insurance beyond the year 2020, or he could not. George made a conservative decision and made sure that his wife would see the money no matter what. He converted the policy.
Here’s the irony: Had George understood the significance of this conversion period when he made his original purchase decision, and not just shopped around for the cheapest policy, he might have paid a mere $200 or $300 more for the policy, but he would have had the entire 20 year period to decide whether or not to convert. In other words, saving about $200-$300 per year ended up costing poor George over $131,000.
Are you currently shopping for term insurance? Did you know about the conversion privilege or how long it lasts on each policy? If the policy has a conversion privilege, how good is the policy to which you can convert? Is it just an overpriced policy only available for conversions? Or are you able to convert to any permanent policy then offered by the company?
What happens if you become disabled? Some policies will automatically pay the premium for you, others will not. This one question could mean the difference between your family being protected, or not.
So there you have it. In the world of life insurance: A QUOTE IS NOT A QUOTE. Even the most basic product, like term insurance is fraught with complexities and traps for the unwary. So what can you do to make a good, sound life insurance decision?
First and most importantly: learn about the product. You will read conflicting descriptions and conflicting opinions. Your own common sense will go a long way to helping you sort through this information.
Second, pick an outstanding and honest financial professional to help you sort through the maze that is life insurance. Don’t get hung up on whether your insurance advisor is fee-based or commission based. Honest people are honest people, regardless of their compensation system. And by all means, avoid like the plague, those who are pushing a single product or relying solely on silly policy illustrations.
A good advisor will act as your teacher and educator. They will help you understand the issues, inform you of the advantages AND DISADVANTAGES of each alternative, help you analyze the best course of action for YOU, and assist in implementing your decision in a competent and professional manner.
The proper use of the right life insurance products WILL protect you and your family while you are alive and after you have gone. They can also provide an extraordinary foundation to your financial world, reduce your tax burden, protect your net worth, reduce your risk, and facilitate your philanthropic pursuits.
What, you thought it was all about death? There is so much more to life insurance than just the death benefit.
Good luck and enjoy the process!