How Whole Life Dividends Are Calculated

Near the end of last year we posted a blog reporting the 2019 dividend payouts for the big four mutual companies, all whose primary product line is whole life insurance. Dividends are a return of premium when carrier results exceed a very conservative projection for investments, income, and expenses.  Dividends are paid annually on participating whole life insurance and determined at the discretion of the board of directors.  They are paid in addition to the guaranteed cash values in the policy, but the dividends themselves are not guaranteed and will fluctuate. Over the last twenty to thirty years dividends have trended downward causing many whole life policies to underperform relative to expectations at policy issue.  The primary driver of this decline in dividends has been the drop in the dividend interest rate or DIR, the investment component of the dividend, but the dividend itself is based on the performance of three parts.

Investment Results: The interest rate portion of the dividend, the DIR, is based on the actual rate of return generated from the investment portfolio.  The cash value of a whole life policy is invested primarily in fixed instruments, a typical breakdown for the investments might be:

  • Bonds: 70%
  • Mortgages: 12%
  • Policy Loans: 4%
  • Cash and Short Term: 4%
  • Stocks: 4%
  • Real Estate: 1%
  • Other Assets: 5%

Over the last few years with low-interest rates affecting investment decisions, carriers have become a bit more aggressive in their investing style, but regulations limit the investment that can be made in equities.  Some carriers have developed venture capital investments in companies that can help them compete in the changing technology environment.  Investment returns are still driven by fixed investments that have lagged, and it is hoped that with current higher fixed market returns, carrier investments will trend upward.

Mortality: Carriers make conservative assumptions about the underwriting risks in their whole life policies.  The mortality most carriers experience is less costly – meaning there are fewer death claims than projected.  When this occurs, the dividend is affected positively.

Operating Expenses: Operating expenses of a carrier are reasonably easy to predict and include overhead and marketing expenses, including commissions and underwriting costs.  But as with mortality charges, the carriers make conservative assumptions about them, and when the operating costs are less than expected, the savings accrue to the dividend paid to the policyholder.

Dividends paid on a particular policy will be affected by the cash value in the policy, whether the policy has a loan and whether out of pocket premiums are still being paid on the policy. In general, a loan-free, premium-paying policy will have the highest dividend payments, all else equal.

The actual dividend paid will have a dramatic effect on the performance of a whole life policy and should be tracked annually especially if dividends will be or are currently being used to pay a premium.  Out of pocket premium expectations may have to be adjusted based on the actual dividends paid. 

Trustees of ILITs should monitor carrier dividends as part of the policy management process.

New Legislation Introduced in Congress Would Help Seniors and the Life Settlement Industry

A bill introduced in Congress could help spur sales of life insurance in the secondary market by allowing policyholders to use the proceeds from the sale of a life insurance policy to fund an account to be used for paying long-term care expenses on a tax-favored basis. 

HR Bill 7203, introduced by U.S. Rep. Kenny Marchant of Texas, a Republican, and U.S. Rep. Brian Higgins of New York, a Democrat, has been referred to the House Ways and Means Committee. The bill would allow policyholders to reduce “the amount of gain from the sale or assignment of a life insurance contract … by the amount of contributions to a long-term care account” as long as the contribution was made “during the 30-day period beginning on the date of such sale or assignment.”

Currently, in a life insurance policy sale, the policy owner is taxed on the amount above the cost basis – typically the premium paid. This new law would allow a policy sale to occur tax-free, and then allow the policyholder to place the proceeds into a newly created long-term care account that would be “exempt from taxation” as long as the account was used for paying for long-term care.

Tax-free distributions could be made from the accounts to pay for “qualified long-term care services” as well as “premiums for a qualified long-term care insurance contract,” for both the beneficiary and the beneficiary’s spouse, and after the death of the account beneficiary, the account would revert to the spouse.   

The accounts created would be held in trust by a bank, an insurance company, or “another person who demonstrates to the satisfaction of the secretary that the manner in which such person will administer the trust will be consistent with the requirements of this section.”

Any amount distributed from the account that was not used exclusively for long-term care would be includable in the gross income of the beneficiary and subject to a 20% surcharge, except in cases where the beneficiary dies or becomes terminally or chronically ill under current law. 

The proposed law greatly expands the tax advantages of selling an unneeded life insurance policy in the secondary market, and if passed, would provide the policyholder with another reason to explore the life settlement market.

We will report back on the progress of the bill as it moves through the legislative process.

The Big Four Carriers Announce Their Dividends for 2019

For the last few years, we have tracked the dividends paid by four large mutual carriers whose main product offering is whole life.  These carriers are owned by their policyholders, not stockholders and operate with a long-term business view. Unlike most life insurance carriers, they sell their products through a career agency system – a dying breed.  Their dividend rate and payments are a major marketing tool for their agents and dropping dividends is never a major selling point.  But in the last decade, even they succumbed to the historic low-interest rate environment and dividends trended downward.  

The big four carriers we have tracked – Northwestern Mutual, Mass Mutual, Guardian Life, and New York Life expect higher dividend payouts for 2019. 

  • Northwestern Mutual: Will pay out $5.6 billion, up from $5.3 billion in 2018
  • Mass Mutual: Will pay out $1.72 billion, up from $1.6 billion in 2018
  • Guardian Life: Will pay out $978 million, up from $911 million in 2018
  • New York Life: $1.8 billion, up from $1.78 billion in 2018

All four carriers appear to have held or raised dividend investment rates (DIR), with none dropping, a good sign.  The DIR drives the actual dividend amount paid.  

  • Northwestern Mutual: At 5%, up from 4.9% in 2018
  • Mass Mutual: Stays at 6.4%, as in 2018
  • Guardian Life: Stays at 5.85% where it has been since 2017
  • New York Life: Although they have not released yet, it appears to stay at 6.2%, where it has been since 2015

Overall, the dividend direction is positive.  We will not be seeing the 8% plus dividends of the 90s or early 2000s, but the worst seems to be over with dividend interest rates heading up, not down.  And that is a reassuring sign for those of us who manage whole life policies. 

In a future blog, we will review the components that makeup and drive the dividend calculation.

How About Just Doing the Right Thing?

During an ITM TwentyFirst University webinar on trustee liability, I described a replacement case that came into our remediation department. A grantor with a whole life contract in his trust had decided to stop gifting. His agent advised him to complete a 1035 exchange of the cash value from the existing policy into a new current assumption policy. The exchange, with no other premium, would carry the new policy out past life expectancy on a non-guaranteed basis but not to policy maturity. The death benefit in the trust would be lowered, but the grantor was comfortable with this, as the focus was on limiting the costs associated with the trust. Our remediation team notified the trustee that the death benefit in the existing policy could be guaranteed to maturity by requesting a reduced paid-up policy with the existing carrier, which would contractually guarantee the existing policy’s death benefit with no additional premium. The death benefit would be lowered but would still provide $900,000 more in death benefit than the new non-guaranteed policy was proposing.

I was reminded of the case while reading an article in the Wall Street Journal explaining that the Fifth Circuit Court had “struck down” the Labor Department’s fiduciary rule, stating that the department “overreached” by requiring those who handle retirement accounts to act in the “clients’ best interest” and asserting that the “rule is unreasonable” (1). I understand the industry fight against this law. They are afraid that it will mire them in lawsuits and make the sale of some products much harder in the retirement plan community. The law as it stands only affects retirement accounts, but states are pushing to have “best interests” laws apply to non-qualified annuities and even life insurance (2), which would certainly increase the number of lawsuits.

What ever happened to just doing the right thing? In the case above, had the trustee allowed the replacement, the agent would have made approximately $20 thousand, depending on his brokerage arrangement, but the grantor’s beneficiaries would have lost almost a million dollars. Believe me, many trustees without specialized skills are allowing these cases to slip through.

At ITM TwentyFirst, we service trustees bound by fiduciary duty, and our new affiliated company, Life Insurance Trust Company, is bound by that same duty to maximize the benefit in the trust for the beneficiaries, but that duty does not extend to most of those selling life insurance products. This has created a conflict in the marketplace that trust owned life insurance (TOLI) trustees must recognize. Tomorrow, Tuesday, March 20, at 2PM, we are sponsoring a free webinar providing CE for CFP and CTFA designates that addresses the prudent purchase of life insurance. Click here to register, and if you cannot attend, stop back by our website for a replay at a later date.

 

1.) Fiduciary Rule Dealt Blow by Circuit Court Ruling, Lisa Beilfus, Wall Street Journal, March 15, 2018
2.) N.Y. Urges Life Insurance Fiduciary Standard in NAIC Rule, John Hilton, insurancenewnet.com, January 25, 2018

 

 

Mass Mutual Class Action Settlement Means Small Payout for Participating Policyholders

A class action lawsuit brought against Mass Mutual Life Insurance Company has resulted in preliminary approval of a $37.5 million payout. The payout benefits policyholders of Mass Mutual participating policies held between January 1st, 2001 and December 31st, 2016. A participating policy is one that receives dividends. ITM TwentyFirst has begun to receive notices of the payout that was agreed to in a document filed March 13th of this year in United States District Court District of Massachusetts.  ITM TwentyFirst manages or reviews almost 1,000 policies from the carrier, the majority being whole life participating policies.

The settlement grew out of a case filed in 2012 against the carrier that, according to information provided by the court (1), alleges the carrier “withheld more surplus than allowed by Section 141 of Chapter 175 of the General Laws of Massachusetts.”  The suit, which was brought by a Massachusetts resident on behalf of herself and others with a similar claim, maintained that “MassMutual therefore was obligated to pay additional dividends on its participating policies in years during the Settlement Class Period.”

Mass Mutual, as its name implies, is structured as a mutual insurance company, owned by its policyholders, not outside investors.  The carrier denied any wrongdoing in this case, saying they settled the case to avoid additional expenses, disruption, and risk.

The amount of the payout “is based on annual dividends paid on each participating policy…as a pro rata share of the total amount of annual dividends MassMutual paid on all participating policies issued during the Settlement Class Period.” Therefore, the larger the dividends received by a policyholder during this time, the higher the benefit.

If you presently own a policy that is part of this settlement your benefit will be received as a paid-up addition to your policy. If your policy for some reason cannot receive paid-up additions, or if you previously owned a policy that is part of the settlement but no longer do, you will receive a check for your pro rata share.

You do have options as a policyholder.  You can exclude yourself and retain rights to pursue further claims against the carrier by notifying the court by July 3rd of this year, you can object to the settlement in writing by the July 3rd date, or you can attend a hearing scheduled for July 27th in Boston to speak out on the case. If you do nothing, the settlement amount will be paid out to you as noted above.

Attorney fees will be paid out of the settlement, but will be limited to no more than 25% of the settlement amount.

This is a preliminary settlement and if and when the court approves a final settlement, “a final order and judgement dismissing the case will be entered in the Action.”

While the $37.5 million settlement number may seem large, Mass Mutual will pay out an estimated $1.6 billion in dividends this year (2). The settlement amount will average approximately $22 per policyholder, a fraction of the dividends paid yearly on a typical well-seasoned Mass Mutual whole life policy.

For additional information, a website has been set up at www.mmlisettlement.com.  For a copy of the Agreement and the Class Notice, email mbrohawn@itm21st.com.

  1. Class Notice, United States District Court for the District of Massachusetts, Karen L. Bacchi v. Massachusetts Mutual Life Insurance Company
  2. Mass Mutual Press Release dated November 7, 2016

Dividends at The BIG 4 Carriers Mostly Down, But Are Interest Rates Finally Going Up?

A couple of weeks ago, we reported that Northwestern Mutual had declared its 2017 dividend and had not only lowered it but also increased some costs (see: Northwestern Mutual Dividend and Crediting Rates Drop, Expenses Rise). Northwestern Mutual was the first of the so-called “Big 4” mutual carriers to report. These A++ (AM Best)–rated companies are considered to be the gold standard among life insurance carriers. The others in the group (New York Life, Massachusetts Mutual, and Guardian Life) have now all reported in, and all but New York Life experienced a drop in their dividend interest rate (DIR).

These Big 4 mutual carriers are among the most solid, stable businesses in the country. Unlike the vast majority of carriers, which sell their products through a brokerage system, the Big 4 sell their products directly to the public through an agency system of career agents tied to the companies. The career model tends to increase persistency and repeat business among clients and loyalty among agents. However, even these firms have felt the sting of low interest rates and are struggling with their investment returns. As we noted in our prior post, Northwestern Mutual’s chief investment officer told the Milwaukee Business Journal that the low interest rate environment resulted in the company’s generating $6 billion less in income than it would have in a normal interest rate environment.

The DIRs below-right represent the investment components of the dividends paid. Other factors besides the investment portion include 1-divactual expenses and mortality experiences. If mortality and expenses are more favorable than expected, it positively affects the dividend paid.

While the DIR may have dropped at most of the carriers, the actual total dollar amount paid out to policyholders actually increased at two of the carriers. Policyholders own mutual carries like the Big 4 carriers, and the divide1-payoutnds received represent a portion of the divisible surplus left after all expenses and claims have been paid. As can be seen in the chart to the right,  New York Life and Guardian Life will pay out more to policyholders in 2017 than in 2016.

Since the presidential election, we have seen a bit of an upturn in interest rates, and many prognosticators are anticipating a trend to higher rates in the Trump administration. An article in the Wall Street Journal last week cited the head of U.S. short-rates strategy at a major US bank, who believes that “government bond yields are likely to rise further.” That same article pointed out that “Investors have been scrambling for the past two weeks to position themselves for a Trump presidency that they believe will mean higher growth, higher inflation and a Federal Reserve that will be under pressure to raise interest rates in a way that hasn’t been seen for more than a decade.” (1.) While higher rates are not a simple fix, as they will affect many parts of the economy negatively, for many carriers that rely on fixed vehicles as their primary investment, higher rates, on balance, would be welcome.

  1. Traders Convinced Higher Rates Are Near, Wall Street Journal, by Min Zeng, November 23, 2016

Northwestern Mutual Dividend and Crediting Rates Drop, Expenses Rise

Over the last two years, we have written extensively about the impact of the low interest rate environment on life insurance policy performance, primarily Current Assumption Universal Life policies. Many carriers have pointed to low interest rates as a primary cause for their cost of insurance (COI) increases in these policies. Anyone who has attended one of our webinars on life insurance policy subjects (see: https://www.itm21st.com/Education) knows that we describe Universal Life as a living Excel sheet—you can see each expense and credit in the policy if you know where to look.

Whole Life insurance is a bit harder to decipher. It is the proverbial “black box” of life insurance and the moving parts that drive performance are much less transparent. A Whole Life policy has a guaranteed cash value shown in the “as sold” illustration provided at policy issue and a projected total cash value driven by dividends paid on the policy. The dividend is determined by the actual experience of the company. There are three areas that affect the dividend paid by the carrier.

  1. Investment Earnings: If the earnings of the insurance carrier are more or less than assumed, the dividends will be affected positively or negatively.
  2. Mortality: If the actual carrier mortality experiences are more favorable (fewer deaths occur than expected), the effect on the dividend will be positive.
  3. Expenses: If the carrier’s actual expenses are worse than assumed, then the costs allocated to each policy increase. Accordingly, dividends may be negatively impacted.

Last week, Northwestern Mutual released its 2017 dividend scale and according to information received by ITM TwentyFirst we expect a decrease in their dividend scale on Whole Life policies, driven by lower earnings as well as an increase in some policy expenses.

According to that information, the investment earnings portion will experience a drop in the dividend scale interest rate for 2017 to 5% from the 2016 rate of 5.45%. The mortality component will experience no changes from 2016, but the carrier has stated that expense charges in the policies will see an increase. Overall, dividends paid on Whole Life policies will “generally be lower” in 2017.

For Northwestern Mutual ’s Universal Life policies, which are not participating (i.e., they do not receive dividends), the company announced a crediting rate drop “consistent with the 0.45% decrease to the dividend interest scale rate.” Additionally, the company announced that its Universal Life policies, both fixed and variable, will see expense charge increases similar to those found in Whole Life policies.

This announcement is another acknowledgement of the challenging times that carriers face in this low interest rate environment. Northwestern Mutual is considered by many to be one of the gold standard carriers in the industry. Their AM Best A++ rating, reaffirmed in May 2016, is the highest that can be obtained and reflects the company’s “favorable level of risk-adjusted capitalization” and “earnings diversification…along with a relatively stable investment yield when benchmarked against other ordinary life companies.” A.M. Best also noted the company’s “inherent pricing flexibility to adjust dividend scales prospectively to recognize current investment experience” as a reason for its excellent rating. (1.)

With this notice, it appears that Northwestern Mutual is simply adapting to the current world we live in. According to Northwestern Mutual‘s chief investment officer, the low interest rate environment resulted in the company generating $6 billion less in income than it would have in a normal interest rate environment. Total dividends paid on all products will actually drop to $5.2 billion in 2017, from the $5.6 billion paid in 2016. In response, the company has embarked on cost cutting measures that would pare 100 jobs by the end of 2016, with hundreds more to come in 2017. (2.)

In the notice about the changes on their inforce policies, the carrier suggested that all illustrations showing the current (lower) dividend scale/crediting rate should also be accompanied by a second illustration showing the outcome assuming an “alternate rate of at least 100 basis points below the current rate.” This is the sign of a company that is proactively providing information to help its agents and policy owners monitor policies. Let’s hope it is not a sign of further rate decreases and/or expense increases to come.

At ITM TwentyFirst, we manage close to 2,000 Northwestern Mutual policies and will be monitoring the effect of these changes for policy owners.

 

  1. AM Best Affirms Northwestern Mutual ‘s A++ Rating; Highlights Solid Performance, PRNewswire, May 11, 2016
  2. Northwestern Mutual to pay $5.2B in dividends in 2017, Milwaukee Business Journal, October 26, 2016