Reviewing Your Policies With Your Financial Professional: Understanding Your Policy

It’s All in the Application

The information on your application, as well as the medical information received by the insurance company’s underwriting department, determines the actual premium you’ll pay the company. When you receive a life insurance policy, you usually have a 10-day free look period.  You have the right to return the policy within 10- days and get a full refund of your premium (that’s 10-days from the day you receive it, not when it is issued) if you choose.

Most people, if they do review their policy, will look at the policy specifications page. The errors that are found stem from the information on the application. In addition, there are things in your application that can affect how the policy is underwritten. Here are six things on the application you need to look at 1) when you buy a policy and 2) when you review your policy(ies), plus one thing you should never do:

1.  Birth date: Some companies issue policies with your age as of your last birthday. More commonly, they are issued at the age nearest your birthday. Say you sign up for life insurance on July 2, 2006 and your birthday is Jan 1, 1964.  If the company issues the policy age nearest birthday, you are considered age 43, since July 2 is closer to January 1, 2007. If you’re a year older, you’re annual premium will be higher. 

You can backdate the policy up to six months. If it’s term insurance, it’s usually not necessary; there’s no real benefit. If it’s a cash-value policy, you can save yourself substantial premiums over the life of the policy.  

2.  Smoking Status: There’s a big difference between smoker rates and non-smoker rates. Generally, the company wants to know if you smoked any cigarettes in the last twelve months. If you have, you are considered a smoker. The company may also offer you a preferred rate (lower than the non-smoker rate) if you’ve never smoked or haven’t had any form of tobacco in several years. 

If you have a policy that is a few years old and you were smoking at the time but have since stopped, notify your insurance agent. The company will typically lower the rate after you sign a statement and provide medical evidence.

3.  Beneficiary:  See the section on Your Beneficiary below.

4.  Dividend Election: Make sure the right dividend election box is checked on the application (only applies to dividend paying policies). Don’t find out several years later the dividends were left to accumulate at interest rather than buying additional insurance or reducing the premium. 

If you purchase a variable life policy, make sure the subaccount allocations are correctly marked.

If you have a whole-life policy in which the dividends were used to accumulate at interest, consider switching future dividends to buy paid-up additions. The interest on the dividends that accumulate at interest are taxable, paid-up additions are not!

5.  Death Benefit: Don’t take the death benefit for granted. You’ll usually find it in the policy along with some of the other critical information already mentioned. Make sure it’s the amount you planned on.

 If you have a universal life policy, make sure the correct death benefit option is selected. 

6.  Riders:  If you elected a rider, make sure it’s noted and attached to the policy. For example, you may have requested a disability waiver of premium rider. If it’s not checked off on the application and you become disabled, you’ll be responsible for the premium even though you told the agent you wanted the rider.

7.  Don’t lie: Fraud and misrepresentation can prevent the company from paying a death benefit to your beneficiary.

If you think you can hide a medical problem, chances are it’s coded with the Medical Information Bureau (MIB).  The MIB is a membership organization of life insurance companies which acts as a medical information exchange.  Insurance companies routinely submit medical information to the MIB that they obtain while paying claims or underwriting life insurance applications.  The insurance company requires you to give them permission to check with the MIB as well as obtain your medical history records from the doctors that have treated you. 

If you have a medical problem, discuss it with your insurance agent. Your agent will advise you how insurance companies view your condition and may even recommend some companies that have more liberal underwriting standards.

Ownership

In most cases, you should own the insurance on your life. Depending on the purpose of the insurance, the owner can be either you or your spouse, your child, a corporation, a business partner, or a trust. 

While the beneficiary is entitled to receive the death proceeds from the policy, the owner is entitled to certain ‘rights’ while the insured is alive. The owner has the right to 1) assign or transfer the policy; 2) surrender the policy and receive the cash value; 3) borrow from the cash value; 4) elect and change the beneficiary, and; 5) select among the various settlement options.

For the average individual with modest assets whose life insurance serves as a means to provide survivor income, the owner and insured should generally be one and the same.  Here are some major considerations relating to policy ownership:

1. If your estate is over the asset exclusion amount, consult with your financial advisor as to whether transferring ownership to an irrevocable life insurance trust is advisable. In doing so, the face amount of the policy is generally excluded from the insured’s taxable estate.
2. As the owner of a policy, you can assign a policy to another individual or entity. Transferring or assigning your policy to a trust is an example of absolute assignment. This means you retain absolutely no ownership interest otherwise known as incidents of ownership. Another type of assignment is called collateral assignment. You can use this type of assignment to secure a loan. You retain certain limited rights, like changing the beneficiary, but you do not have access to the cash value or the policy until your obligation is satisfied. Full ownership then reverts back to you.

Your Beneficiary

Your beneficiary is the person(s) or entity to whom you want the proceeds of the policy distributed upon your death. Typically, a spouse is named as the primary beneficiary.  Your decision is revocable which means you can change your beneficiary as often as you want. If you are buying the policy on the life of another person, the person or entity you name as beneficiary has to have an insurable interest in the life of the insured.

Not just anyone can apply for a life insurance policy on someone else’s life and name themselves beneficiary.   Blood and family ties qualify for insurable interest; so do most people or entities that would incur a financial loss in the event of death.  Insurable interest is necessary only at the time of application and not applicable to any subsequent beneficiary changes.

Whenever possible, don’t make yourself the beneficiary if you are the insured. The death benefit will automatically go into your estate and then be subject to probate. More importantly, the proceeds of the policy are now exposed to the claims of your creditors and they may never get distributed to the people you took out the insurance for in the first place.

It’s important to let your beneficiaries know that they are listed on your insurance policy (at least let the executor of your estate know). Make sure you don’t put the policy in a safety deposit box or other place that may not be accessible to your beneficiaries at your death. It’s also a good idea to let them know they can contact the life insurance company directly to submit a claim.

What If You Can No Longer Afford To Pay Your Premiums?

Discuss the following options with your insurance agent to help you make the best decision. 

If you have term insurance, try to find a similar policy with lower premiums.  If you have a policy that is more than a few years old, compare your existing policy to what’s available on the market today.

If you have a traditional form of permanent life insurance such as whole life, you have certain non-forfeiture provisions that prevent you from losing your cash value and/or death benefit. You have three options: 1) to surrender your policy and receive the cash value 2)  to use your cash value to buy extended term insurance, and 3) to convert your policy to a reduced paid-up policy. Your policy contains a table of guaranteed nonforfeiture values.

1. Cash Surrender Value. This is the amount you get when you surrender the policy. Your policy has a guaranteed cash value which starts to build, typically in its third year. The older your policy, the higher its cash surrender value. If you take the cash, the death benefit goes away. If you want to keep the same amount of insurance, consider option 2.
2. Extended Term Insurance. If you fail to pay your premium beyond the grace period (30 or 31 days, but in reality companies usually wait until the second month), and you did not elect the automatic premium loan, the company will automatically use the cash value to buy you term insurance that equals the amount of insurance in your present policy. The term insurance will remain in-force as long as there is enough cash value to support it. Say your policy is 10 years old. Your cash value may buy you extended term insurance for 10 more years. If you don't need as much insurance, consider option 3.
3. Reduced Paid-Up Insurance. The cash value in your policy will buy you a death benefit based on a single premium. This substantially reduces the face amount of the policy, but keeps the same policy intact. While no further premiums are required, the policy will continue to increase in cash value and pay dividends, at a lesser amount. If you’ve only had the policy a few years, the reduced face amount is probably not worth keeping--avoid this option.

If you’ve had a universal life or variable universal life policy for several years and the interest rate has well exceeded the guaranteed interest rate, or the sub accounts have performed well, you may be able to pay the minimum premium or skip a scheduled contribution and keep the policy in-force for a period of time until you can resume your regularly scheduled contributions. You may even have sufficient cash value to keep the policy in-force without putting in any more money. Have your agent run an in-force ledger to determine how well your policy will hold up without future premium payments under current rates. If the policy is either 1) going to lapse sooner than you’d like 2) you don’t think that you’ll be able to resume normal payments, and 3) you don’t want to reduce the death benefit, then you should consider purchasing term insurance.