Tuesday, September 30, 2014

No. 69: Indexed Universal Life—The Debate over Sales Illustrations

A debate is in progress over sales illustrations for indexed universal life (IUL) policies. Here I review some background on illustrations and identify some companies and organizations involved in the debate.

Universal Life
Prior to the advent of universal life (UL), I advocated disclosing to consumers yearly prices per $1,000 of the protection component and yearly rates of return on the savings component of traditional cash-value life insurance policies. However, dividing cash-value life insurance into its protection and savings components was anathema to life insurance companies.

When UL burst on the scene in 1979, an official at E. F. Hutton Life, which issued the first UL policy, said to me: "Belth, I hope you are satisfied." His comment was prompted by the fact that UL splits cash-value life insurance into its protection and savings components. However, I was not satisfied, because UL created a whole new world of possibilities for the use of deceptive sales illustrations. 

At that time, market interest rates were high, and they were headed to all-time highs in the early 1980s. UL made it possible to create fabulously attractive sales illustrations based on the notion that double-digit interest rates would persist far into the future. In other words, the interest rates used in UL sales illustrations were based on new-money interest rates. The practice led to "vanishing premiums" and other problems, all of which developed into a major scandal. Consequently, reforms were put in place regarding the preparation of UL sales illustrations.

Indexed Universal Life
Now we have exactly the opposite situation. Market interest rates are at all-time lows, and the promoters of IUL want to base sales illustrations on historical (referred to in the current debate as "look-back") interest rates rather than the currently low interest rates. The Life Actuarial Task Force (LATF) of the National Association of Insurance Commissioners (NAIC) is trying to develop rules regarding the preparation of sales illustrations for IUL policies.

ACLI and Three Dissident Companies
On May 14, 2014, the American Council of Life Insurers (ACLI), a major association of life insurance companies, sent LATF a four-page "Proposed Actuarial Guideline for Indexed Universal Life Illustrations." Because ACLI is dominated by companies anxious to sell IUL, it comes as no surprise the ACLI proposed that "IUL illustrations have a maximum illustrated rate of the disciplined current scale based on a standardized look-back period of 25 years."

On August 12, three life insurance companies—Metropolitan Life, New York Life, and Northwestern Mutual Life—sent LATF a three-page letter expressing concern over the ACLI proposal. The three companies do not sell IUL, but explained their concern that IUL illustrations as contemplated in the ACLI proposal "could ultimately negatively impact the reputation of the entire life insurance industry." The three companies said they were developing a more detailed proposal.

On September 5, the three companies sent LATF an eight-page proposal. Attached was a two-page proposed actuarial guideline. The three companies said their proposal "provides the appropriate level of transparency, consistency, and consumer protection." They also said the proposal "is based on a sound theoretical framework and is supported by our robust analysis." (The proposal implied, but did not state, that American United Life supported the work of the three companies.)

On September 9, ACLI sent LATF a three-page letter responding to the August 12 letter from the three companies. ACLI expressed the belief that the August 12 letter "is not consistent with the Model Regulation and ASOP (Actuarial Standards of Practice), and is also inconsistent with the way that other general account products are illustrated."

The New York Department
On September 10, the New York Department of Financial Services (NYDFS) sent a three-page "Section 308 letter" to all life insurance companies authorized to do business in New York. The letter asked a series of five questions about whether the company sells indexed universal life or any other indexed life insurance products. If so, the letter asked for certain information about the products, for sales illustrations, and for the amount of business by face amount and by premiums for the past three years (separately for New York sales and national sales). The companies were required to respond to the letter by October 1, 2014. The letter was signed by Michael Maffei, assistant deputy superintendent and chief of the life bureau, and responses to the letter were to be sent to William B. Carmello, chief life actuary in the Albany office of NYDFS.

Supporters of the ACLI Proposal
At least nine life insurance companies wrote LATF in support of the ACLI proposal. Listed in chronological order, with the dates of their letters indicated in parentheses, the companies are:
Minnesota Life (August 25)
Penn Mutual Life (September 2)
Midland National Life (September 4)
National Life (VT) (September 4)
AXA Equitable Life (September 5)
Lincoln Financial (September 5)
Pacific Life (September 5)
Transamerica Life (September 5)
John Hancock Life (September 15)
Also, on September 5, M Financial Group sent a letter in support of the ACLI proposal. To my knowledge, it is the only agents' group that has entered the debate.

The Shadowy ALIA
Affordable Life Insurance Alliance (ALIA) is a shadowy organization with no website, and its letterhead shows no address or other contact information. On September 5, ALIA sent a five-page letter to LATF in support of the ACLI proposal.

The ALIA letter was signed by Scott R. Harrison, its executive director. He is an attorney in private practice. I asked him for a mission statement and the identity of member companies, officers, and directors. In response, he said the mission—as stated by Dennis Glass of Jefferson-Pilot Life (now part of Lincoln Financial) when ALIA was organized in March 2005—is "to ensure that American consumers have access to safe and affordable life insurance." Harrison did not identify the member companies, officers, and directors, so I asked again. He did not respond.

When I wrote about ALIA in the February 2012 issue of The Insurance Forum, in the context of ALIA's support for so-called principles based reserves, I said the member companies at the time were Aviva, John Hancock Life, Lincoln Financial, and Pacific Life. I think ALIA is incorrectly named. It should be named Alliance for Elimination of Redundant Reserves (AERR) or Alliance for Weakening Life Insurance Reserves (AWLIR).

General Observations
LATF and NAIC face a serious challenge in developing rules to curb the use of deceptive sales illustrations for IUL policies. Not the least of their challenges is to develop a disclosure mechanism that would be meaningful to the average consumer. Consider these nuggets from the ACLI proposal and from the dissidents' proposal, and try to imagine the effect they would have on the average consumer:
ACLI: "For illustrations on a policy form for which credited rates can be based on an index, actual index performance in conjunction with the illustrated index crediting parameters should be displayed. That display should show index performance that begins on January 1 and should include at least 20 years of performance ending in the previous calendar year."
Dissidents: "The Indexed Derivative Return required to achieve the illustrated crediting rate must be clearly disclosed to consumers for all illustrations other than the required minimum guaranteed illustration."
ACLI, the supporters of its proposal, and the dissident companies all claim IUL is a general account product, is not a security, and is not subject to the many requirements that would be imposed if IUL were deemed to be a security. I disagree. I think any product whose performance is based in part on the performance of a market index is a security.

For readers interested in seeing some of the documents referred to in this post, I am offering a complimentary 23-page PDF consisting of the May 14 proposal from ACLI, the August 12 letter from the three companies, the September 5 proposal from the three companies, the September 9 letter from ACLI, and the September 10 "Section 308" letter from NYDFS. Send an e-mail to jmbelth@gmail.com and ask for the IUL package.