Over the last few years, we have had clients approach ric with questions about “expiration date” and “expiration extension provisions” and their importance in life insurance policies. Historically an invisible risk, due to improvements in medical care and good health habits, policyholders are living longer and the odds of surviving to policy maturity are increasing. The risk of the insured living to maturity is especially true for policies issued before 2009, which used older mortality tables developed in 1980 or even as early as 1952. It is not unusual for these contracts to have a policy maturity at the age insured of 90, 95 or 100.
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The scope of this problem is significant. giving up a policy while you are still alive, or being forced to give it up, because you outlived the expiration date without an available expiration date extension, can create a taxable event that causes the owner to lose one of the most important benefits. tax-advantaged life insurance, after a lifetime of faithfully paying premiums. Most policies issued after 2009 are priced using the 2001 Commissioners’ Ordinary Standard Tables (CSO) with updated trends. the current tables calculate the probabilities of mortality up to 121 years of age of the insured. coverage of the death benefit or “policy expiration” normally extends until this age, guaranteeing that the contract will extend until the death of the insured.
Typically, for whole life plans, the policy is designed to vest at contract expiration, meaning the cash value equals the death benefit. if the insured lives to the “expiration date”, the policy will pay the amount of the cash value in a lump sum to the owner. Still, without a maturity extension available in the contract, a taxable event will occur. Policy expiration can become even more problematic for universal life plans, as the benefit per contract varies and these plans are typically funded with the intention of minimizing cash value. therefore, trustees need to better understand what “extended maturity provisions” may be provided in the contract. the expiration extension clause will specify the final resolution of the contract, once death has occurred. Below is a list of different “extended expiration provisions” available in universal life policies, ranging from most desirable to least desirable.
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To better understand each of the options listed above, we’ll review a sample of how policy proceeds are paid upon death after the expiration extension.
- The total death benefit plus the cash value maturity extension is typically associated with universal life contracts that have an “increasing” death benefit. Most increased death benefit contracts have a total death benefit equal to the death benefit plus the cash value of the policy. after policy expiration, the total death benefit will remain equal to the base death benefit plus any remaining cash value.
- The full death benefit or cash value, whichever is greater, is the most common provision in universal life contracts. A policy designed to expire at a minimum cash value with this provision would continue beyond expiration with the death benefit in effect just before the expiration date. alternatively, if the cash value at maturity exceeds the face amount of the policy, the death benefit provided by the maturity extension clause would equal the cash value.
- Some universal life insurance policies have supplemental coverage, which increases the total death benefit. if the expiration extension specifies only the base death benefit, any supplemental coverage will be lost if the insured survives beyond the expiration of the policy.
- many universal life contracts have a maturity extension equal to cash value only. this can be a problem for policies that are designed to have a minimum cash value at maturity.
- For older policies, it is not uncommon for there to be no expiration extension provisions. In these cases, the death benefit is eliminated and the insurance company will pay the cash value of the policy if the insured survives to the expiration of the policy. A taxable event would occur if the cash value of the policy exceeds the cost basis of the policy, which is typically the premium money paid on the policy.
Remedial options exist for policies that experience a significant decrease in death benefit after policy expiration. For example, if the insured is under the age of 85 and in good health, it may be prudent to replace the current policy with a policy that provides coverage in the event of death. If the insured is older than 85 or is no longer insurable, it is important to know the insured’s health status. if they are not healthy, living to maturity may not be a concern. if they are healthy, it is important for the trustee to understand the risks of outliving the coverage and potentially losing the death benefit and all premiums paid on the policy if there is little or no cash value at maturity.
In conclusion, it is important for the trustee to do the following when assessing the risk of surviving to the expiration of the policy:
determine the expiration date of the policy.
review the insurance policy and illustrations to determine the expiration extension provision.
If there is no provision in the contract, it is advisable to contact the carrier to provide written correspondence of the post-expiry benefit provision.
If the expiration extension is not equal to at least the total death benefit, the following information must be determined:
- age of the insured
- health status of the insured
- if insurable, are there more competitive products with expiration extensions equal to the total death benefit available?
- if not insurable, is the insured aware of the possible drop in the death benefit if he/she survives to the expiration of the policy?
ric provides unparalleled service to trustees and fiduciaries who manage unique and difficult-to-value assets. We are an independent risk manager and registered investment adviser with the specialized experience necessary to manage, analyze, value and manage life insurance, annuities, invested variable assets, closely held businesses and other unique fiduciary-owned assets. Since 2001, ric has been the nation’s leading provider of independent risk management solutions for banks and trust companies.