The Basics

INDEXED LIFE RATES

Nearly every Indexed Life product on the market today offers some form of a fixed bucket strategy. This is a premium allocation option that receives credited interest in a manner like that of a traditional Universal Life product. A declared rate is set for the fixed strategy and the client receives that rate if the product is held for the strategy term (usually one year). Many Variable Universal Life products also offer a fixed bucket for clients desiring a more conservative allocation mix. However, the line between Fixed, Indexed, and Variable is drawn when it comes to differentiating how the non-guaranteed rates are credited on these products.

Remember that with a Fixed life product, such as Universal Life, the insurance carrier declares a stated credited rate for the non-guaranteed, current interest rate. Variable Universal Life is very different in that the insurance carrier does not limit the potential gains of the product; the client is investing directly in the market. Therefore, a Variable Universal Life client may realize a gain of 18.00% if the fund they invested in grows that much over a one-year period. With Indexed Universal Life, the insurance carrier purchases options based on an external index’s performance, and the client receives non-guaranteed, current interest that is limited in growth (based on the option price).

Like the handful of indexed crediting methods that can be confusing, the pricing levers that are used to determine the actual rate credited can be perplexing. There are three pricing levers that are utilized when calculating potential interest on Indexed products. Once you have a solid understanding of these levers, Indexed products are practically demystified.

Participation Rate – the percentage of positive index movement in the external index that will be used in the crediting calculation on an Indexed product. (Note that a product with a Participation Rate may also be subject to a Cap and/or Spread.)

Cap – the maximum interest rate that will be used inthe crediting calculation on an Indexed product. (Note that a product with a Cap may also be subject to a Participation Rate and/or Spread.)

Asset Fee/Spread – a deduction that comes off of the positive index growth at the end of the index term in the crediting calculation on an Indexed product. (Note that a product with a Spread may also be subject to a Participation Rate and/or Cap.)

Now that all of the disclaimers are aside, it can simply be said that most indexed strategies that have a 100% Participation Rate, utilize a Cap as the pricing lever. In turn, most indexed strategies that have greater or less than 100% participation rate utilize only the participation rate as the pricing lever, and do not use a cap. Only one Indexed Universal Life product on the market today has a spread. There are also trends among indexed crediting methods; averaging strategies tend not to have caps more often than others, and will often have more than 100% participation. Annual point-to-point methods generally utilize the participation rate or a cap to limit potential indexed gains. Monthly point-to-point always utilizes a cap.

It is really quite simple when you break it down. For example, on an Indexed UL over a one-year term where the S&P 500 ® has experienced an increase of 20%:

A participation rate of 55% would afford the client potential indexed crediting 11% (20% x 55% = 11%)
A cap of 8% would pass on potential gains of 8% to the client (20% limited by an 8% cap)
An spread of 3.00% would leave the client with 17% interest credited (20% – 3% = 17%)

Typically, an Indexed UL utilizes only one pricing lever on each strategy. This means that when an insurance carrier changes rates, or the contract comes upon the policy renewal, only the one pricing lever will be adjusted upward or downward. However, an insurance carrier may reserve the right to adjust more than one pricing lever in the event of declining rates if the policy was filed in this manner with the state insurance department. This does not necessarily mean that they alter more than one pricing lever by practice. Generally, the less “moving parts,” the easier the product is to convey to both the agent and client. For that purpose, insurance carriers try to limit the number of variables needed to describe each crediting method.

Indexed Universal Life is like Fixed Universal Life in that it has minimum guarantees to protect the client from a downturn in the market, reductions in current credited rates or caps, etc. These guarantees are very different, on the other hand, from traditional Universal Life. Fixed Universal Life products express their minimum guaranteed rates as a guaranteed annual return rate. If the minimum guarantee is 3.00%, and the rate gets dropped to that level, the insurance carrier will credit 3.00% annually. On an Indexed UL, the product is priced with a less rich guarantee, in order to afford the client higher upside potential interest crediting (as opposed to a Fixed UL). Indexed UL guarantees are typically expressed as Standard Non-Forfeiture (SNF) Minimum Guarantees, which are not paid out annually, but in the event of a trigger. This means that most Indexed Life products today credit zero percent annually, but pay out a stated percentage interest in the event of triggers such as a segment term maturing, death, lapse, surrender, policy maturity, or death. If any of these triggers are to occur, the minimum guarantee is typically credited and compounded.

Minimum guarantees on Indexed Life can generally be placed in three camps today. There are products that do pay a guaranteed annual return, like Fixed Universal Life products. You can expect to see lower upside potential on such products, as the cost of paying a minimum guarantee annually is costly as compared to paying a zero percent annual guarantee. There are products that pay a guaranteed annual return at a rate on both their fixed and indexed strategies, but the rate that is guaranteed on their fixed strategy is more favorable than the guarantee on their indexed strategy. Like the former guarantee, you can expect to see lower upside potential on such products. The third type of minimum guarantee is the most prominent today, the standard non-forfeiture minimum guarantee. There are many variations on this guarantee. Some carriers will pay out a zero percent guarantee annually, and “true-up” their guarantee at the end of a five-year period. Other carriers do not true-up their guarantees until death, lapse, or surrender. Still others do not “true-up” unless death occurs. If guarantees are important in the consideration of which product is appropriate, you should carefully evaluate the minimum guarantees- far beyond the rate. Read exactly how the rate is credited, not just the number, as it may perform differently than you think.

Another very important rate to consider when evaluating which product to purchase, whether Fixed or Indexed, is the renewal rates. These are the new interest crediting rates, caps, etc. that are declared at the end of the interest crediting term (typically one year). Many products today are copied off of another popular carrier’s product. If you want to evaluate the life insurance product beyond the contractual features, and the service and integrity of the insurance carrier; renewal rates should be taken into consideration. That being said, renewal rates are one of the most difficult pieces of information to get your hands on. Very few carriers feel that their renewal rates are an integral part of their sales story, and actually publish marketing pieces publishing these rates. This gives the potential consumer an idea of what the carrier may do to the future rates on the product that they purchase, based on past renewal rate histories.

If you do not have access to renewal rates, it may be helpful to research an Indexed UL’s minimum participation rates and caps, as well as the maximum asset fees. These can be an indicator of just how low the carrier could reduce the rates on the product. Note however, that due to policy filing efficiencies, many carriers opt for unusually low participation rates and caps, and rather high asset fees. (This avoids the cost of potentially re-filing the product in the event that market conditions decline, forcing the carrier to dramatically lower rates.) Often, agents are surprised when they see the maximums and minimums on the pricing levers for Indexed Life products. From a marketing standpoint, it is important to remember that the insurance carriers would most likely discontinue selling the product(s) before rates were ever reduced to these minimums/maximums.