Consider Using Ordinary Level Premium Whole Life Insurance as a Savings Vehicle

One can view ordinary level premium whole life mathematically (but not legally) as a combination of decreasing term insurance and increasing “savings fund.” Although the level premium payment method permits the policyowner to pay the lowest up-front outlay necessary to acquire lifetime coverage, the premiums are still greater than the mortality costs in the early years. Because premiums remain level while mortality costs increase at later ages, the insurer must set premiums in the early years high enough to prefund the excess of mortality costs over premiums in the later years. Consequently, ordinary level premium whole life policies build reserves to pay the future excess mortality costs and to serve as the basis for determining the policyowner’s cash surrender values.

The cash value normally increases each year until it reaches the face value at age one hundred. The cash value grows more slowly in the early years and more swiftly in the later years because the company typically recovers the expenses associated with the sale of the policy over the early years.

Policyowners may directly access cash values in ordinary life policies in two ways. First, policies permit policyowners to borrow cash values. As long as the policyowner continues to pay premiums, the policy remains in force, but the death benefit is the face amount reduced by any outstanding policy loans and unpaid interest on the policy loans.

Alternatively, policyowners may terminate or surrender their policies and receive the net cash surrender value shown in the policy as of the date of surrender. The net surrender value is the gross cash value shown in the policy minus any identifiable surrender charges, outstanding policy loans, and unpaid interest on policy loans plus any prepaid premiums, dividends accumulated at interest, cash values attributable to paid-up additions, and any additional terminal dividends. In this case, however, the policyowner must give up the insurance protection.

Because policyowners may access virtually the same amount of cash through policy loans as through surrender of the policy, loans are generally the better alternative if the policyowner expects the need for protection to continue.

In some cases, the policies may permit partial surrenders. Some participating policies permit policyowners to surrender paid-up additions without surrendering the base policy. Although it is not a matter of legal right, in practice some companies also will allow partial surrenders of ordinary life policies. In these cases, the insurer reduces the death benefit and premiums in proportion to the reduction in the cash value.

One additional method to access cash values without giving up coverage entirely may be to exchange a policy for another policy with a lower cash value under the exchange rules of Code section 1035. 

Reproduced with permission.  Copyright The National Underwriter Co. Division of ALM

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