Historically, life insurance policy valuations have been approximately 300% of cash surrender values.
The obvious questions are - why is the spread so large and what are the component parts to a policy valuation? Let's examine these issues piece by piece.
Cash surrender value is the excess premium paid into a policy over cost of insurance and policy and administrative costs including broker commissions.
Many policies are funded at 100% of "target premium" a figure used to calculate the first year's broker commission.
It may not guarantee that a policy won't lapse even if the premium is paid in full and on time.
Often the primary purpose of the insurance is to create a level death benefit for the least amount of premium with cash accumulation values being a secondary consideration.
Cash surrender values are minimal early on and increase over time as more premium is paid.
Average policy cash surrender values are 4 - 5% of the death benefit.
In a surrender, you are effectively selling the policy back to the issuing carrier for an amount predetermined at policy inception based on projected premiums, interest or crediting rates and policy expenses.
Carriers do not monitor the health of the insured to issue revised accumulation projections.
The only variables affecting projected valuations are changes in the estimates themselves.
Policy valuations in the secondary market (competitive bidding process) do have the luxury of looking at a person's individual health status to value the policy.
The initial premium on a new policy is actually determined based on a person's age, sex, health and behavioral components (lifestyle).
This premium frequently is projected on a level basis.
No premium adjustment is made for health impairments as the insured's health is not monitored by the carrier.
In a secondary market valuation - the key component is the current health of the insured.
The underwriting is a review of medical records by a company certified and registered to provide life expectancies on the insured.
There is an inverse relationship between the health of the insured and the policy valuation.
An individual's life expectancy is that point on a mortality curve where 500 out of 1000 people with similar morbidity (disease) factors are still alive.
The shorter the life expectancy, the higher the policy valuation.
In effect, the policy valuation is a net present value calculation based on the future return of the death benefit discounted for carrying costs over a period of years.
Every potential secondary market buyer will use the same data.
It is interesting to note there can be wide disparities in policy valuations depending upon a buyer's willingness to accept a higher or lower return on investment or how that particular policy may fit their portfolio parameters.
Ongoing premium is the next important component to policy valuation as the buyer wants to know the ongoing carrying costs for the duration (life expectancy) of the contract.
Policy type, policy size and carrier rating are secondary components to the policy valuation models.
All potential policy bidders submit their offers to the broker who presents the highest offer to the client.
While it is fashionable to say that there is no incentive for a carrier to offer more than cash surrender value to an insured you can see that there is no correlation between a market valuation and the determination of cash surrender value.
There are circumstances where the cash surrender value is the fair market value.
This is where no one wants to bid on the policy - generally due to the good health/young age of the insured.
The obvious questions are - why is the spread so large and what are the component parts to a policy valuation? Let's examine these issues piece by piece.
Cash surrender value is the excess premium paid into a policy over cost of insurance and policy and administrative costs including broker commissions.
Many policies are funded at 100% of "target premium" a figure used to calculate the first year's broker commission.
It may not guarantee that a policy won't lapse even if the premium is paid in full and on time.
Often the primary purpose of the insurance is to create a level death benefit for the least amount of premium with cash accumulation values being a secondary consideration.
Cash surrender values are minimal early on and increase over time as more premium is paid.
Average policy cash surrender values are 4 - 5% of the death benefit.
In a surrender, you are effectively selling the policy back to the issuing carrier for an amount predetermined at policy inception based on projected premiums, interest or crediting rates and policy expenses.
Carriers do not monitor the health of the insured to issue revised accumulation projections.
The only variables affecting projected valuations are changes in the estimates themselves.
Policy valuations in the secondary market (competitive bidding process) do have the luxury of looking at a person's individual health status to value the policy.
The initial premium on a new policy is actually determined based on a person's age, sex, health and behavioral components (lifestyle).
This premium frequently is projected on a level basis.
No premium adjustment is made for health impairments as the insured's health is not monitored by the carrier.
In a secondary market valuation - the key component is the current health of the insured.
The underwriting is a review of medical records by a company certified and registered to provide life expectancies on the insured.
There is an inverse relationship between the health of the insured and the policy valuation.
An individual's life expectancy is that point on a mortality curve where 500 out of 1000 people with similar morbidity (disease) factors are still alive.
The shorter the life expectancy, the higher the policy valuation.
In effect, the policy valuation is a net present value calculation based on the future return of the death benefit discounted for carrying costs over a period of years.
Every potential secondary market buyer will use the same data.
It is interesting to note there can be wide disparities in policy valuations depending upon a buyer's willingness to accept a higher or lower return on investment or how that particular policy may fit their portfolio parameters.
Ongoing premium is the next important component to policy valuation as the buyer wants to know the ongoing carrying costs for the duration (life expectancy) of the contract.
Policy type, policy size and carrier rating are secondary components to the policy valuation models.
All potential policy bidders submit their offers to the broker who presents the highest offer to the client.
While it is fashionable to say that there is no incentive for a carrier to offer more than cash surrender value to an insured you can see that there is no correlation between a market valuation and the determination of cash surrender value.
There are circumstances where the cash surrender value is the fair market value.
This is where no one wants to bid on the policy - generally due to the good health/young age of the insured.
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