Luke Cosme

Most athletes will tell you that the pain of losing is far greater than the joy of winning. Pat Riley, the legendary coach and team executive, said it even more succinctly: “There’s winning, and there’s agony.” This is a psychological concept called loss aversion that was first posited in the 1990s by Nobel Prize winning economist Daniel Kahneman and his research partner, Amos Taversky. Kahneman used to do an experiment with his students called the Coin Flip Scenario. He asks a student if he or she wants to flip a coin. If it lands on tails, then the student pays him $10. If it lands on heads, how much would he or she have to win to make it a worthwhile gamble? For most people, they would have to win at least $20 to make the bet. In short, the pain of losing $10 can only be offset by the possibility of winning an amount much greater than $10. This is because, for most of us, pain is more acute than pleasure.

This same result plays out over a wide variety of situations, including personal finance decisions. This is why diversification is so important and a core part of every good financial plan. However, even in something as seemingly straightforward as diversification, there are differences of opinion. For some diversification is finding a good potential return and layering it with a great potential return. This is the “if some is good, more is better” approach. This can work in some situations, but, if the two options are closely correlated, you’re really not protecting against the downside risk. You’re really just trying to maximize the positives and hoping to weather the storm when things don’t go your way. However, if we believe that diversification is more about risk management, then our approach should be one of mitigating negatives rather than maximizing positives. In life insurance, I would suggest that putting all of your client’s money into one type of product is closer to the former than the latter, even if you have multiple index options from which the client can choose. To truly diversify your client’s plan you need to look at more than one product. Much has been written in these pages and elsewhere of the power of indexed universal life, so for this article I’m going to talk about the benefits of looking at whole life, not as an alternative, but in conjunction with an IUL.

The First Day is the Worst Day
A whole life policy provides guaranteed cash value growth each and every year. That means that regardless of market conditions, interest rates or company decisions the client sees an increase every year. In addition to the guaranteed cash value growth, whole life also provides a non-guaranteed element—dividends. While dividends cannot be guaranteed to be paid, the impact that they have on the policy, once paid, is guaranteed. If the client elects to use dividends to purchase paid-up additions, then both the guaranteed cash value and the guaranteed death benefit of the policy increase. That means that those increases can never be taken away. In an IUL the potential for increases in cash value is potentially significant, but it is not guaranteed and can be more or less than what is illustrated. If the return is less, or potentially zero, the cash value in an IUL can also potentially decrease as cost of insurance charges are applied. For a client that is concerned about seeing her values potentially go down or even stagnate for a period of time, whole life can be a solution. If a portion of her money goes into whole life, then that portion will either grow exactly as illustrated on the guaranteed side, or if a dividend is paid, will look even better. In short, with whole life the first day is the worst day her policy will ever have. If anything changes, it changes for the better.

Guaranteed Contribution
The most important part of any financial plan is the money that goes into it. That is especially true for insurance. If the client can’t pay the premium, then the plan won’t work as promised regardless of interest rates or market performance. So what happens if your client becomes disabled and can’t afford to pay their premiums? Most IULs offer a Waiver of Monthly Deduction rider, which is valuable, but doesn’t guarantee that the premium is paid. Rather, it waives the costs that are deducted, so while the cash value won’t decrease due to cost of insurance charges, it also won’t grow as planned because the premium isn’t being paid. Again, for a client who is concerned about seeing her values stagnate in a vehicle that she planned to use for retirement income, whole life can be a solution. With the Waiver of Premium rider on whole life every dollar of the client’s premium into their base whole life policy continues to be paid. Many companies also have a Disability Benefit rider that will waive some or all of the additional premium being paid into a paid up additions rider. This means that, if a client becomes disabled, the portion of her retirement savings that she allocates to whole life continues to be contributed just as if she were paying it herself. In short, with whole life you not only guarantee the cash value growth, you also can guarantee the contribution.

The moral of this story is that our conversations should not be whole life or IUL. The choice shouldn’t be binary, especially when we consider the concept of loss aversion—the pain of losing is far greater than the joy of winning. Whole life ensures that some portion of your client’s plan is guaranteed to grow, even if the client becomes disabled. So to truly diversify your client’s plan and mitigate those negatives, we should be talking about whole life and IUL.

Most athletes will tell you that the pain of losing is far greater than the joy of winning. Pat Riley, the legendary coach and team executive, said it even more succinctly: “There’s winning, and there’s agony.” This is a psychological concept called loss aversion that was first posited in the 1990s by Nobel Prize winning economist Daniel Kahneman and his research partner, Amos Taversky. Kahneman used to do an experiment with his students called the Coin Flip Scenario. He asks a student if he or she wants to flip a coin. If it lands on tails, then the student pays him $10. If it lands on heads, how much would he or she have to win to make it a worthwhile gamble? For most people, they would have to win at least $20 to make the bet. In short, the pain of losing $10 can only be offset by the possibility of winning an amount much greater than $10. This is because, for most of us, pain is more acute than pleasure.

This same result plays out over a wide variety of situations, including personal finance decisions. This is why diversification is so important and a core part of every good financial plan. However, even in something as seemingly straightforward as diversification, there are differences of opinion. For some diversification is finding a good potential return and layering it with a great potential return. This is the “if some is good, more is better” approach. This can work in some situations, but, if the two options are closely correlated, you’re really not protecting against the downside risk. You’re really just trying to maximize the positives and hoping to weather the storm when things don’t go your way. However, if we believe that diversification is more about risk management, then our approach should be one of mitigating negatives rather than maximizing positives. In life insurance, I would suggest that putting all of your client’s money into one type of product is closer to the former than the latter, even if you have multiple index options from which the client can choose. To truly diversify your client’s plan you need to look at more than one product. Much has been written in these pages and elsewhere of the power of indexed universal life, so for this article I’m going to talk about the benefits of looking at whole life, not as an alternative, but in conjunction with an IUL.

The First Day is the Worst Day
A whole life policy provides guaranteed cash value growth each and every year. That means that regardless of market conditions, interest rates or company decisions the client sees an increase every year. In addition to the guaranteed cash value growth, whole life also provides a non-guaranteed element—dividends. While dividends cannot be guaranteed to be paid, the impact that they have on the policy, once paid, is guaranteed. If the client elects to use dividends to purchase paid-up additions, then both the guaranteed cash value and the guaranteed death benefit of the policy increase. That means that those increases can never be taken away. In an IUL the potential for increases in cash value is potentially significant, but it is not guaranteed and can be more or less than what is illustrated. If the return is less, or potentially zero, the cash value in an IUL can also potentially decrease as cost of insurance charges are applied. For a client that is concerned about seeing her values potentially go down or even stagnate for a period of time, whole life can be a solution. If a portion of her money goes into whole life, then that portion will either grow exactly as illustrated on the guaranteed side, or if a dividend is paid, will look even better. In short, with whole life the first day is the worst day her policy will ever have. If anything changes, it changes for the better.

Guaranteed Contribution
The most important part of any financial plan is the money that goes into it. That is especially true for insurance. If the client can’t pay the premium, then the plan won’t work as promised regardless of interest rates or market performance. So what happens if your client becomes disabled and can’t afford to pay their premiums? Most IULs offer a Waiver of Monthly Deduction rider, which is valuable, but doesn’t guarantee that the premium is paid. Rather, it waives the costs that are deducted, so while the cash value won’t decrease due to cost of insurance charges, it also won’t grow as planned because the premium isn’t being paid. Again, for a client who is concerned about seeing her values stagnate in a vehicle that she planned to use for retirement income, whole life can be a solution. With the Waiver of Premium rider on whole life every dollar of the client’s premium into their base whole life policy continues to be paid. Many companies also have a Disability Benefit rider that will waive some or all of the additional premium being paid into a paid up additions rider. This means that, if a client becomes disabled, the portion of her retirement savings that she allocates to whole life continues to be contributed just as if she were paying it herself. In short, with whole life you not only guarantee the cash value growth, you also can guarantee the contribution.

The moral of this story is that our conversations should not be whole life or IUL. The choice shouldn’t be binary, especially when we consider the concept of loss aversion—the pain of losing is far greater than the joy of winning. Whole life ensures that some portion of your client’s plan is guaranteed to grow, even if the client becomes disabled. So to truly diversify your client’s plan and mitigate those negatives, we should be talking about whole life and IUL.

A question that we get frequently from clients is “Do I have to pay forever?” It’s not an unreasonable question, especially if the policy has been put in place to cover a specific need. If the purpose of my policy is to pay off my mortgage, why do I need to pay after my mortgage has been paid off? If I bought the policy for income protection, do I really need to pay the premium after I retire? The same question applies for retirement supplement. Even though many things can and will change between the time a policy is applied for and the time it is needed (or not), the idea that you have to pay forever can be a daunting proposition. Though they may never need to do it, it would be nice to have the option to stop paying at some point. The question for the agent is what happens if they do?

With participating whole life, your client has a non-forfeiture option designed for this exact situation—reduced paid up (RPU). RPU gives the client the ability to stop paying premiums and use the existing cash value as a single premium to purchase a lower guaranteed death benefit. That death benefit is guaranteed for life. No additional premium payments are needed. But that’s not all. The client still gets all of the benefits of participating whole life! The paid up policy has guaranteed cash value and guaranteed growth of cash value. The paid up policy has the ability to earn dividends, which can be used to increase the guaranteed cash value and the guaranteed death benefit. All of this happens automatically when the client selects RPU. He has a guaranteed paid up policy that continues to grow for the rest of his life.

Now some may argue that the same concept can be accomplished with an IUL. My answer to that would be “maybe, if…” Certainly we can structure an illustration to show a limited pay scenario, but will there be sufficient cash value to ensure that the death benefit will continue for life? What about the cash value? Maybe, if the client pays the same premium every year. Maybe, if the policy performs as illustrated. Maybe, if caps stay the same, participation rates stay the same, COI charges stay the same… That’s a lot of “maybe, if…” for a client who just wants to hear “No, you don’t have to pay premium forever.” Which answer do you think your client will prefer?

There is good news for current IUL clients who have that concern. As long as they have cash value in their IUL policy, and they are insurable, they can create their own RPU solution with single premium whole life. For a client like those that we described earlier—they bought coverage to address a specific need and now don’t want to continue paying premium—they can take their cash value and purchase a single premium whole life policy with guaranteed death benefit and never pay another premium. Or a client with an IUL that is underperforming and doesn’t want to continue paying premium, they can purchase a single premium whole life and receive guaranteed cash value growth with the potential for even more growth with dividends. The best way to address a policy that has underperformed is to offer one that is guaranteed to perform. Remember, if you focus on the guarantees, then the first day of your single premium whole life policy is the worst day it will ever have. If anything changes it’s because the company paid a dividend, which will make the guaranteed side of the illustration look even better.

The RPU solution is not perfect and it is not free. By electing RPU, the client is lowering their death benefit and potentially decreasing the cash value growth. But, it provides flexibility for your clients. It protects them from potentially losing coverage altogether. It allows them to continue to benefit from a plan that may have served its initial purpose but has the potential to do much more. It helps you definitively answer the question “Do I have to pay forever?” It also gives you another reason to take another look at an old friend—participating whole life!

Flammable and inflammable mean the same thing. So do regardless and irregardless, though some (including my retired, English teacher mom) would tell you irregardless is not a word. In our industry, viable and marketable used to have similar meanings. A viable solution was one that addressed a client’s need, met a reasonable expectation and, in doing so, was considered by an agent among a number of solutions. A marketable solution was one that was designed to address a client’s need, set a reasonable expectation and, in doing so, was promoted by a carrier to be considered by an agent among a number of solutions. Unfortunately, viable and marketable mean very different things now because we have elevated two more words to the same definition: Probable and possible. If this word salad that I served is confusing please bear with me as there is a salient point.

Participating whole life has always been a viable solution for a client looking for additional money for retirement. Guaranteed cash values and guaranteed cash value growth give the client a baseline of what will be accessible at any point in time. The only variable? The client needs to pay the premium. The dividend in participating whole life provided a non-guaranteed aspect to the growth in the policy, an additional benefit that increases the cash value. The only variables? The company must perform well and declare the dividend that was illustrated. Was the policy going to perform exactly as illustrated each and every year? No, because of the variables. The client may not pay their premium. The company may declare a dividend that was higher or lower than what was originally illustrated. But, as a solution, it addressed the client’s need and set a reasonable expectation for what a client could expect because there were only a couple of variables to consider. The client’s result was probably going to be close to what was originally illustrated, so it was viable and it was marketable.

Then something changed. Our view of what was probable expanded. We traded guarantees for more upside. Instead of basing policy performance on company performance, we based it indirectly on the performance of a market index. The market goes up and the policy participates in a portion of that gain. The market goes down and the policy earns nothing, but at least it doesn’t lose anything. But what about the variables? The client needs to pay the exact premium, the market needs to increase by the exact same rate every year and the company needs to maintain caps and participation rates at the same level as when the policy was issued. Like participating whole life, the policy will not perform exactly as illustrated because of the variables. But what are those variables?

• The client may pay the specified premium, or they may pay more or less.
• The markets may do better than originally assumed or they may do worse. For the purposes of this article we are going to assume that they do not have the exact same return each and every year, because they never have.
• The company may keep caps or participation rates at the exact same levels as originally illustrated or they may increase or decrease them.

As a solution, it addresses the client’s need and sets a reasonable expectation, but there are many more variables to consider. As we layer on each of those variables, the client’s result moves a little further away from probable and more towards possible. We’re ok with that because possible tends to illustrate better, so it is now the bar for viable and marketable.

So, what’s the problem? Products are supposed to improve over time. Companies are supposed to find new ways to help clients. The new is supposed to supplant the old. Things are supposed to get better. If we assume that all is equal, that could be what is happening here. But is it? All we are doing is trading guaranteed growth and some non-guaranteed upside for very little guaranteed growth, more non-guaranteed upside and a promise that zero is your hero. For some clients, that is an acceptable trade-off, but many still prefer what is probable over what is possible. Either will work for the right client. The problem arises when we go back to the question of what is viable and what is marketable. If we only present what we think is a marketable solution rather than multiple viable solutions, we run the risk of clients and products being mismatched, or even worse, not being matched at all.

One step we can take to address this is to consider all viable solutions, not just the ones that we hear about most. Participating whole life has a place in the retirement supplement universe, because it still gives a client a probable solution. Indexed universal life has a place in the retirement supplement universe, because it still allows the client to take advantage of what’s possible. Even better, what if we gave them both? Participating whole life for guaranteed growth, even when markets are down, and indexed universal life for potentially greater growth when markets are up. That’s a plan that’s both viable and marketable.