Life insurance companies are free to set their premiums according to their own marketing strategies. Almost all states have statutes prohibiting any form of rebating (sharing the commission with the purchaser) by the agent. The premium includes a loading to cover such things as commissions to agents, premium taxes payable to the state government, operating expenses of the insurance company such as rent or mortgage payments and salaries, and any other applicable expenses.
A few companies offer no-load or low-load life insurance policies. These policies are not really no-load, because certain expenses are unavoidable (e.g., the premium tax), but rather pay either no sales commission or a very low sales commission. Consequently, the cash value buildup tends to be larger in the early years. Although commissions are lower, these companies typically must spend somewhat more money on alternative methods of marketing and, therefore, may incur generally higher expenses in this area than companies that pay commissions to agents.
The bulk of an insurance company’s expenses for a policy are incurred when the policy is issued. It may take the company five to nine years or longer to recover all its front-end costs. The state premium tax is an ongoing expense that averages about 2 percent of each premium payment. Many companies pay 55 percent first year commissions when the plan of insurance is similar to an ordinary whole life policy. They will typically pay somewhat lower rates on low premium and high premium plans. Under most plans, the aggregate commissions paid to the selling agent over the years is approximately equal to the first year premium on the policy configured as an ordinary whole life policy. Commissions are typically paid on a renewal basis over a period of three to nine years. When a new plan of insurance requires additional premiums, the change is usually treated as a new sale for commission purposes as it would be with other policies.
Most adjustable life policies have no explicit surrender charges. However, many will pay a terminal dividend when the policy is surrendered. The terminal dividend is typically higher the longer the policy has remained in force. In essence, this is a form of surrender charge since the company is essentially holding back dividends it could otherwise pay currently and rewarding those policyholders who maintain their policy longer with a greater terminal dividend.
The costs of administration, recordkeeping, and service generally are somewhat higher with adjustable policies than with traditional fixed premium, fixed benefit policies. In addition, the company faces greater risk of adverse selection. Policyowners are more likely to exercise their rights to increase face amounts within the limits not requiring evidence of insurability and/or to reduce premium payments without reducing the face amount if the insured’s health declines. Consequently, expense charges and mortality charges tend to be somewhat higher in these policies than in otherwise comparable fixed premium, fixed benefit policies.
Reproduced with permission. Copyright The National Underwriter Co. Division of ALM