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New Rules for Illustrations vs. the Real World

Jeffrey Stemler, Sr. VP Advanced Planning

The NAIC has long been charged with providing regulations regarding illustrations that project Life Insurance policies’ potential outcomes. The NAIC is very concerned that illustrations show realistic assumptions as to possible/likely outcomes. For those of us who have been in the industry for a while, we’ve experienced numerous changes and modifications to the illustrations we present. More changes will be going into effect November 25th of this year.

It should be noted that the changes have no effect on how the policies function, just how they are illustrated.  The changes are contained in AG49A and can be summarized as follows:

  • The current spread between illustrated crediting rate and policy loan rate will be decreased from 1% to .50%.
  • All riders/options will still be available including those that provide multipliers, however they will not be taken into account for creating the illustrations.

At this time, these changes will not apply to inforce illustrations.

What does this mean?

For the consumer, anytime you make illustrations more conservative you increase the chances that the projection of possible returns are understated and actual results will be greater.

For the producer, the answer varies. If the producer’s only approach to making a recommendation is to highlight the rate of return, he/she will be disappointed. The projected results for income will be reduced.  How much is not confirmed yet, but a reduction of 45% would seem possible – this is without companies coming out with new products or riders. We know through discussion with carriers, policy changes are on the way that are designed to show increasing payouts, while complying with the AG 49A regulation.

The real question is, how will IULs fit into the real world with other investment choices when we take into account the real threats to our retirement funds.

First we have to identify the key issues:

  • Many economists agree that taxes must be increased because of the National Debt. What is the impact on our retirement due to increased taxes and how do we prepare for this possibility?
  • A standard investment portfolio often contains a mix of stocks and bonds which are subject the gains and losses in the market. Economists point out the sequence of returns has a huge impact in the first few years of retirement. The exposure is not if the market goes up but if it declines. The reason declines can be so devastating is that if you need a “constant” withdrawal amount to meet expenses, you’re cannibalizing your account with no way to replenish the funds because you aren’t working.
  • Another issue that is raising its’ head more often is, the most popular qualified plans – 401(k)s and IRAs cannot accept enough contributions to fully fund a high income earners retirement.

Since illustrated rates are going to decrease significantly, will overfunded IULs still be viable compared to other investment alternatives? The answer is “YES”.

Remember, the product is not changing just the illustrations. Allianz, for example, is working on how to explain the impact of purchasing the 40% multiplier on future income payouts from the policy.

However, to begin the decision process for determining investment choices, this discussion needs to start with comparing each investment’s attributes.

Whole Life Insurance Non-Qualified Investment Portfolio Qualified 401(k) Overfunded IUL
Tax-Deferred Growth Y N Y Y
Tax-Free Distribution Y N N Y
Competitive Return N Y Y Y
High Contributions Y Y N Y
Additional Benefits Y N N Y
Collateral Opportunities Y Y N Y
Safe Harbor Y N Y Y
No Loss Provisions Y N N Y
Guaranteed Loan Options Y N N Y
Unstructured Loan Payments Y N N Y
Liquidity, Use and Control Y Y N Y
Deductible N N Y N

Overfunded IUL is the only investment choice that covers all three of the key elements affecting a successful retirement:

  • Taxes upon distribution
  • Losses due to the market
  • Contributions based on how much you can afford

Bottom line, if we stay focused on the issues to be solved, overfunded IUL will continue to be an integral part of retirement income planning.