The Year in Review: Trust Owned Life Insurance (TOLI) in 2017

While 2017 was another challenging year for those of us who manage life insurance portfolios, ITM TwentyFirst started the year highlighting the efficiency of life insurance in an ILIT as a preferred method of passing wealth to the next generation. In our first post of the year we cited an example of a 65-year-old couple in good health purchasing a survivorship guaranteed universal life (GUL) policy. The policy relies on a fixed annual premium paid in full and on time each yemedium[2].jpgar for its guarantees, but for those with the cash flow to fund the asset, the return on the death benefit is very attractive.   As seen in the spreadsheet to the right, if the death benefit was paid twenty years out (age 85) the internal rate of return (IRR) on the death benefit would be 11.36%. If it was paid 30 years out (age 95) the IRR would be 5.36%. Even at age 100, the IRR would be over 3.6%. Remember, the policy death benefit is guaranteed (if the premium is paid in full and on time), which makes these returns even more attractive when compared to other “guaranteed” investments. Yes, life insurance can be a great way to leverage assets to the next generation, but managing the asset can be difficult and this was another trying year.

Restrictions were placed on in force illustrations for a handful of carriers, which limited our ability to review some policies. In a February post we noted that John Hancock cited “regulatory standards that govern illustration practices” for limiting the illustrations on some Performance UL policies issued between 2003 to 2010. The issue stemmed from the fact that “experience has differed from the current assumptions which are reflected in the illustrations.”  In at least one instance in 2016, restrictions on in force illustrations were a direct precursor to a cost of insurance (COI) increase.

Some carriers did increase the cost of insurance on policies. In July, we reported on a Lincoln National increase on a block of universal life policies. The carrier cited “updated projections” of “future costs” for providing coverage, stating “future expectations” of “cost factors, including mortality, interest, expenses and the length of time policies stay in force” changed, so COI rates were adjusted to “appropriately reflect those future expectations.” Other carriers with COI increases in 2017 included Phoenix and Transamerica.

Lawsuits against carriers for COI increases that started in 2016 spilled over into 2017, with lawsuits against both Transamerica and Lincoln National moving ahead. One case against Transamerica was heard this year. In that case, an African-American church in Los Angeles that had enlisted an investment group to finance 2,400 life insurance policies providing burial funds for congregants, filed suit, along with the investor, against Transamerica for a 50% COI increase. They alleged among other things, breach of contract in violation of California law and breach of the covenant of good faith and fair dealing. In September, a jury found in their favor and awarded $5,608,495.57 in damages.

Also in September, the New York State Department of Financial Services issued regulations to protect New Yorkers from “unfair and inequitable cost increases in in-force policies.” The new regulations prohibit “life insurers from changing non-guaranteed elements in a discriminatory way for members of the same class of policyholders . . . only certain enumerated factors, which do not include profit, can be considered when seeking to change non-guaranteed elements.” Carriers are required to notify the department 120 days prior to an adverse change in non-guaranteed elements. Consumers are to be notified at least 60 days prior to any changes. As far as we know, this is the only state that has developed regulations specifically around COI changes.

A new methodology for calculating policy reserves for life insurance policies took effect in 2017. Principle-Based Reserving (PBR) lessens the need for changes to regulations and laws as new products are introduced. Under the new methodology, states “establish principles upon which reserves are to be based rather than specific formulas.” According to the National Association of Insurance Commissioners (NAIC), under the current formula, the risks, liabilities and obligations are not always correctly “reflected,” and “for some products this leads to excessive conservatism in reserve calculations, for others it results in inadequate reserves.” Reserve requirements are just one part of the life insurance policy pricing formula, other factors such as mortality and overhead expenses and investment returns, also play a major role. While regulators believe the “right sizing” of reserves will benefit consumers as holding higher reserves tends to increase costs, and holding reserves that are too low puts the consumer at risk, it is not clear yet how it will affect pricing on new policies.

The overriding concern in 2017 has been the historic low interest rate environment we are still in. As we have written about in the past, the low rates create winners (borrowers) and losers (lenders), and since insurance companies get most of their investment income by lending premium dollars until benefits are paid, they are among the biggest losers. The low rates have been linked by some to the COI increases we have seen. The fixed investment environment has also put carriers in an unenviable situation. We reported on industry executives who believe the “persistent low rates” are “destroying the viability of insurance companies,” with many companies “not earning their cost of capital,” leaving the industry in an “environment” that is “unsustainable over any reasonable period of time.”

While 2017 has had its challenges, ITM TwentyFirst is growing dramaticallly. We have hired an additional New Business Development Specialist to assist with the increasing surge in demand from financial institutions to outsource their trust owned life insurance operations. Located in the northeast corridor, Walt Lotspeich is a 20-year veteran of the trust industry, and a great asset to our team. Our outsourcing service, the Managed Solution, is the fastest growing segment of our TOLI business, as trustees focus their internal efforts on more profitable business lines and allow us to take over the day-to-day back office operations of their TOLI business.

In 2018, we will continue to grow, and in the next month, we will be introducing a new affiliated company that will further cement our role as a leader in the Trust Owned Life Insurance space. For those who are interested in learning more about our view of the TOLI landscape in 2017 and beyond, we have scheduled a free webinar for December 12th at 2pm Eastern. TOLI Issues and Solutions – 2017 Year in Review will provide one hour of continuing education credit for CFP, CTFA and FIRMA members. If interested, please click here to register.