What’s Wrong With Life Insurance?

Critical issues impacting the life insurance sector continue to abound, both from within and outside the industry. Why is it so? Synchron Director, Don Trapnell, examines the industry’s challenges and puts forward a potential solution – and it’s all about level premiums…

Five main issues continue to plague the life insurance industry, impacting the life offices themselves, the corporate regulator, advisers, consumer advocates and also from a big picture perspective. I believe these issues are inter-related, stem from one root cause and can be largely solved with one remedy. But first, let’s look at these issues one by one:

1. Life insurance companies

Life insurance companies continue to raise concerns about sustainability. They have been complaining for some time about advisers with high lapse rates. It’s partly for this reason that the Life Insurance Framework reforms came into being. Just for the record, I do not believe there is a culture of churn amongst advisers in Australia.

2. Corporate regulator

Like life insurance companies, the Australian Securities and Investments Commission appears to believe that there is a culture of churn amongst advisers. While I agree that there is a high lapse rate, I believe affordability is the issue; not advisers.

[Editor’s Note: Since this article was submitted for publication, ASIC has made a statement that qualifies its approach towards the incidence of churning. See: Lapse Data Suggests Churn Numbers May Be Low].

3. Advisers

Advisers are concerned about the quality of the cover available for their clients, whether it is sustainable and whether it can be called on when a consumer needs it most. Advisers are also concerned about the impost of legislation and regulation on the viability of their businesses.

4. Consumer advocates

One of the complaints put forward by consumer groups is that life insurance becomes increasingly expensive as time moves on, ultimately becoming prohibitive for people when they need it most – that is, as they get older and become more likely to claim on it. I happen to agree with them on that.

Australia has a ridiculous love affair with stepped premium (yearly renewable) products

5. The big picture

At a big picture level, the criticism of the industry is that Australia remains chronically under-insured. This is due at least in part to the affordability issue.

So, what’s the answer?

As I have said on numerous occasions, I believe Australia has a ridiculous love affair with stepped premium (yearly renewable) products. We need to move on to level premium products, that is life insurance products with fixed premium rates (and advisers can’t churn a level premium product).

Under level premiums, consumers know upfront how much their policies will cost on an ongoing basis and whether or not they can afford it, so the affordability issue will go away. Advisers will also have clarity around income and therefore the viability of their businesses, while the life insurance industry will be more sustainable and the number of insured Australians is therefore likely to rise.

The problem with the answer

Although I firmly believe level premium products are the way of the future, here’s the rub:

Because Australia has built up a culture of re-rating and renewing premiums each year, the cost of buying into life insurance via stepped premiums is actually quite low on a global scale. Moving from a stepped premium product to a level premium product makes the buy-in quite high.

When you extrapolate level premiums over a life time, it is a lot more economically advantageous to hold a policy that has a level premium than to have one where the premium goes up every year. There is a cross-over point at about the six-year mark, from which point the amount the policy owner saves on an ongoing basis more than compensates for the higher cost at the start. But this doesn’t really help with affordability at the beginning. The cost of buying into a level premium policy is still very high. Depending on the age of the client at entry, the initial cost of a level premium policy can be up to three times that of a stepped premium.

This outcome means consumers are even less likely to take out life insurance, making the industry even less sustainable.

Solution 1

Following several overseas fact-finding missions we started to look at better ways of buying in. The concept we developed, and discussed with life companies, was a product where premiums might be level for say five, ten or 15 years. At the end of that period, the consumer can then decide whether to move to stepped premiums or take another five, ten or 15-year level premium product. That lowers the cost of buying in.

This concept has been embraced by AIA Australia and is now available in the market. I understand other life companies are following this lead.

Synchron has no financial interest in the success or otherwise of this AIA Australia product or any similar products. We just happen to believe in it! The product on offer is a standard life insurance contract, which offers a new way of paying.

Solution 2

AIA Australia also offers another payment option where, by paying a slightly higher stepped premium, once the policy arrives at the crossover point where it’s cheaper to have level premiums, the client automatically moves over to paying level premiums from that point. So, stepped premiums build up slowly to the level premium cost, and then don’t go any higher. That’s another good way of transitioning a consumer into a level premium environment, so that the product will be there when it’s needed most.

Let’s get on with the job!

To solve the challenges faced by the life insurance industry, we need to continually think outside the square. We need to look further afield, to other geographic locations and perhaps even in other industries. We need a Yes, we can! attitude and, for the good of consumers, life insurers, advisers and Australia as a whole, we need to stop whinging and start moving with the times.

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