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The end of 2020 brought a major change to the life insurance industry. A last-minute change to legislation established a new–lower–guaranteed interest rate for cash value life insurance policies. The exact rules vary a bit depending on the insurance product, but the most notable change affected whole life policies because they would need an overhaul to use the newly permitted interest rates. And not surprisingly, every life insurance company we're aware of–eventually–got around to rolling out a new whole life product that officially replaced older offerings around the end of 2021.
Two big changes came along with the legislation:
First, the new interest rate assumptions allow these policies to have lower death benefits and still pass the Modified Endowment Contract rules.
Second, the new contracts have a lower guaranteed interest rate. This means that the guaranteed accumulation cash value component of the whole life policies is lower compared to older whole life policies.
This change predictably brought about some frenzied buying in 2021 as people clamored to buy older whole life policies with higher guarantees. And now that's over, what do call it day on whole life insurance and look for the next thing? Hardly. We wanted to understand the difference this change in guarantees materially makes for future whole life insurance buyers. The results? Not exactly what you'd think.
Income Scenario Higher Guaranteed vs. Lower Guarantee
Testing the material change means looking at how new policies produce value for the policy owner when compared to how the old product did this. So we crunched a BUNCH of numbers to see how the old–higher guarantee–products compare to the new–lower guarantee–products when focusing on a retirement income scenario.
Our comparison used a male age 45 assumed preferred who purchases a whole life policy with a $50,000 per year premium looking to maximize cash value accumulation in the policy with the goal of producing as much income as possible beginning at his age 66 through his age 100.
We solved income using the current dividend and then ran the numbers through five different additional dividend scenarios:
- 0.25% reduction in the dividend
- 0.50% reduction in the dividend
- 0.75% reduction in the dividend
- 1.00% reduction in the dividend
- No dividend paid ever
We evaluated the dividend change in terms of how many fewer years the policyholder could generate the original income amount derived by the current dividend rate.
Here's a table comparing the old product to the new:
| Old Whole Life | |
| Current Income Generated Age 66 Through Age 100 | $ 79,724 |
| -0.25% | Age 97 |
| -0.50% | Age 94 |
| -0.75% | Age 92 |
| -1% | Age 90 |
| No div | Age 83 |
| New Whole Life | |
| Current Income Generated Age 66 Through Age 100 | $ 83,308 |
| -0.25% | Age 96 |
| -0.50% | Age 94 |
| -0.75% | Age 92 |
| -1% | Age 90 |
| No div | Age 80 |
Interestingly, the new product produces more income than the old product. This is perhaps a function of the lower death benefit allowed because of the lower guarantee. In any event, the new product projects an income that is $3,584 higher than the old product. This is roughly a 4.5% increase in income. There's little reason to believe that this will change considerably across other fact patterns (e.g. different age, gender, or premium amount) but we did not test this.
The change in years that these policies can produce the original income number under lowered dividend assumptions is close to identical. In fact, it is identical in three scenarios. It differs very slightly in the 0.25% reduction and differs most considerably in the no dividend scenario. This makes sense since the no dividend scenario would be most dependent on the guarantee accumulation rate, which we know is higher with the older product.
What are We so Afraid of?
I get the desire for guarantees and I've sold A LOT of whole life insurance to people who appreciate the guarantees whole life insurance provides. No argument from me that the absolute guarantees of whole life insurance are cool.
But what if we wander outside the boundaries of what is absolutely guaranteed for just a moment and think of terms of what's likely? I know this seems uncharacteristic for a “whole life insurance agent” but there are a few interesting observations here.
First, what is the likelihood that this or any life insurance company goes to the guarantee from inception to the end of time? It's not zero, but it's also not high. I'd argue that we need to think in terms of what's more likely. I think a reduction of 50% is far more likely than no dividends ever. And in that situation, the impact on the policies in terms of a shortened period of income generation is the exact same.
But can we also take a moment and take heed of the fact that in all but 1 of the above 10 scenarios, the policyholder can continue to generate the same income projected today in several altered dividend scenarios to a point past his current life expectancy. The one exception is the no dividends scenario for the new product. This individual's life expectancy is currently just shy of 82 years. But let's also remember that the no dividend scenario with either product is an almost zero probability event. We have very good reason to believe that this company will pay a dividend next year and will most likely pay one for several years in the future. If it did stop paying a dividend, the guaranteed result is higher as a result of the dividends earned up to that time.
What Changed?
So what changed for people seeking to purchase whole life insurance to grow their wealth? Not much. And the probability that something could change and make a meaningful impact on these policies highlighting their differences is low.
But There is One More Question We Haven't Asked
Since we're comparing the old product to the new. And since the old product did project less income by almost $3,600 annually. What happens if we take the new product and ask it to produce the same income? And what happens to the results if we reduce the dividend? Here's what that looks like:
| New Whole Life | |
| Specified Income Generated Age 66 Through Age 100 | $ 79,724 |
| -0.25% | Age 99 |
| -0.50% | Age 96 |
| -0.75% | Age 93 |
| -1% | Age 91 |
| No div | Age 81 |
The answer, as you can see, is we pick up a few years. So now we produce the same income as the old product and we can do it under declining dividend scenarios for a longer period than the old product could for every scenario except the guarantee where the old product still beats us by two years. The old product still shows an advantage in the least likely of all scenarios. Everywhere else, the new product looks similar.
Now, in my opinion, the difference between being able to generate $3,600 more with an asset or generating $79,724 per year until age 96 instead of 94 really isn't enough of a difference to care one way or the other. I think selecting either product will ultimately produce results so similar that trying to justify one over the other is a waste of time. Consider the fact that there are many other likely scenarios that unfold rendering these results practically identical for the end user's purposes. If, for example, he dies at age 88 It doesn't matter if the effective dividend reduction throughout his lifetime is 0.25%, 0.50%, 0.75%, or 1%. He can still generate the same amount of income for the same amount of time. This is true regardless of which product he owns.
Those who rushed to buy old products last year did lock in a slightly higher guarantee and that's fine. They also benefit from compounding values at an earlier point versus waiting to buy something new now, and that offers up a lot more power with respect to building wealth than a lot of people realize.
But for those who think the ship has sailed with regard to a good whole life product because the older product has a higher nominal guaranteed interest rate, there's a very reasonable counterargument. There is practically no difference in buying power these products can produce when compared to each other.
There are Times When These Differences Will Matter
This example involves one specific life insurance company comparing an old whole life product to a new one from the same company. We cannot assume that these results will be duplicated across life insurers. It may be the case that an old product elsewhere really was the better option versus new offerings.
We also have to accept that the old products might have had an advantage in terms of the death benefit. Because the MEC limits were lowered through the lower guaranteed rate of accumulation, newer products will offer lower death benefit amounts. That's not to say that one cannot reach those death benefit levels, but it will cost them more in terms of premiums.
And on that note, the one negative that certainly comes from this change in guarantees is the cost of owning a permanent death benefit purely for death benefit's sake. Buying whole life death benefit–or really any other permanent form of life insurance death benefit–will cost more in terms of the annual premium you must pay, due to these new lower guarantees.
