When is it insurance & when is it a cult?
It is no secret that the average term that a life insurance policy stays in force is somewhere between five and seven years. Better underwriting and improved mortality has resulted in a decrease in the cost of life insurance and when added to the attractive commission structure, there is a massive incentive to “churn” life cover (that is to replace an existing policy with a new and cheaper one). I don’t believe that there is anything inherently wrong with this – after all if you can get life cover for less then why not pay less? If companies were serious about stopping the churn they would have done something about it years ago, such as re-rating their products from time to time. In truth, the new business is good for them.
So when a friend of mine was recently advised to cancel cover with one company in favour of another there was nothing “unusual” about that. Except in this case, he had been advised to cancel a policy with no exclusions on it in favour of the new one which had exclusions on it. When I pointed out the foolishness of this decision he told me that the only reason he had done it was because he had left his retirement saving a bit late and the new insurance policy was promising him a very healthy pay out at 65 (if he paid his premiums for that long) and this would go a long way to solving his slow start at retirement planning.
He did admit that he did not fully understand the product and that it did possibly sound too good to be true. And so in an effort to help him to understand what he was buying, I sat through two sales pitches from 2 of the company’s sales agents. They were really slick and very impressive.
I understand the intention behind the product – people are changing life cover every few years so let’s see if we can find a way to tie them in for longer (or for life). To do this, let’s offer them an amazing pay out at 65 and then offer them the ability to keep an amount of life cover for which they no longer need to pay. Although if everyone who signed up did this, the scheme would clearly not work and so the company is apparently counting on 97.5% of people cancelling their cover before they turn 65 so that the 2.5% who don’t cancel their cover can benefit.
I admit that I don’t fully understand the product (I suspect that there are actually few who fully do) but from what I can see there are at least the following assumptions that need to be met in order for it all to work:
- You need to stay with the cover for the entire term – in my mate’s case that is 23 years (remember the average policy stays in force for less than 7 years).
- If you do, then you are one of the 2.5% who will benefit (they hope that 97.5% won’t stick with the cover).
- There is no guarantee on premium increases except for the first 10 years when it will be CPI + some (age related) factor. After the first 10 years it could go up by as much as 25% and I suspect that if more than 2.5% keep their cover in force then the increases could be substantial.
- You have to maintain the top tier status of their reward program in order for this to work. The reward program is enhanced by a healthy life style and shopping spend – you need to spend more than R9000 pm on the credit card and need to shop at the “preferred” suppliers to really benefit.
- Apart from ad-hoc paybacks every 5 years (which are all somehow linked to your premium and reward status) if you leave before the end then you leave with nothing.
So what if you get to 55 only to find that you have a potential massive lump sum “invested” in this policy but, because of factors out of your control, you can no longer afford the premium? You could face a situation where you no longer need the cover or worse, can no longer afford the premiums and you would walk away with nothing. And what happens when a competitor company comes along with the “next best thing” which really is cheaper than the current policy and I am stuck with this one?
In my friend’s case, this new policy was about R5000 more expensive than similar cover through a competitor company…but as I understood the product, the idea behind this was that they were going to take some of the extra R5000 and invest it into something that would effectively pay out part of the total amount available to him at 65. Under the above assumptions, however, if he leaves before then, he would get very little (if anything) back!
If this were my policy I would rather take cheaper, simpler (and more transparent) cover elsewhere and then invest the difference (of the premium) into a (unit trust based) retirement annuity (if it makes tax sense) or else into some UT/ETF’s. That way I get the full benefit of what is invested – it is all mine! I get life cover that I need, an investment that is all mine and at any stage in the future if I need to change either my cover or my RA there is no penalty to me.
I am free to leave/alter either at any stage without it affecting the other. I am free to come and go as I please and shop where I want. Now that sounds a lot less like a cult to me