Six Commitments of Life Insurance
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There are six important factors that you should be aware of prior to purchasing a life insurance contract:
- First Commitment - Product Universe
- Second Commitment - Premium Level
- Third Commitment - Premium Duration
- Fourth Commitment - Insurance Design Goals
- Fifth Commitment - Illustration Performance
- Sixth Commitment - Insurance Company
Overview
In order to make an informed decision regarding your life insurance, you must first understand the three components of every permanent insurance contract. The three components are:
- Premium : the amount of money paid for a policy.
-
Cash Value
: the balance that may accumulate, tax-deferred, in the policy. Policy performance is largely determined based on the amount of cash value per dollar of premium. Cash value can give the policy owner
- flexibility to skip out-of-pocket premiums;
- create the potential for more tax-free death benefit;
- or, create a tax advantaged withdrawal stream.
- Death Benefit : The cash paid out to the beneficiary, possibly income tax free, at the death of the insured.
In addition to the three components of insurance, there are also three variables at work inside every permanent insurance policy. They are:
-
Investment returns
-
Long term, what investment returns can be earned?
Investment results of the insurance company impact the performance of dividends and interest crediting. The better the company's investment results, the better able the company is to provide a higher credited interest rates to its policyholders. -
Mortality
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Long term, at what age are people going to die?
The more diligent an insurance company's underwriting practices, the better its mortality experience will be and the resulting mortality performance of its insurance policies and the better the long term value for its policyholders. -
Expenses
-
Long term, what is the cost of overhead for the company to deliver its products?
If per policy costs are not kept to a minimum they could impact the company's profits or returns and, therefore, may increase the company's need to increase premiums or limit excess expense credits.
The amount of cash value and death benefit delivered, per premium dollar expended, is a function of actual long term outcome of these three variables.
Who bears the risk?
Who do you think bears the risk of adverse (less favorable than originally assumed) results — you or the insurance company? The degree of interest, mortality and expense risk that you assume will impact the policy performance.
- If You Bear No Risk : The policy you purchase will have a lower cash value and death benefit per premium dollar expended.
- If You Bear Substantial Risk : The policy you purchase will be subjected to greater increases or decreases in cash value and death benefit.
The risks and guarantees derive from the type of product you choose and the level of funding of the policy.
If you consider that the future may or may not exist as it does today, what do you worry about more: lower investment returns (interest rate risk) or people not living as long in the future (mortality risk)? Your views here will help determine which type of insurance is best suited to your risk tolerance.
Go to:
- First Commitment - Product Universe
- Second Commitment - Premium Level
- Third Commitment - Premium Duration
- Fourth Commitment - Insurance Design Goals
- Fifth Commitment - Illustration Performance
- Sixth Commitment - Insurance Company
