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Universal life policies – Are the chickens coming home to roost?

The office of the Long-term Ombud has raised an extremely concerning trend in the August edition of its quarterly newsletter, OMBUZZ. An investigation identified at least 68 complaints received since 2018 from policyholders, often nearing or in retirement, having to face steep premium increases (or a drastic drop in their cover amount) as a result of premium reviews to their universal life policies. It cites four examples which clearly outlines the seriousness of the problem.

Background

Universal life policies are policies which were popular in South Africa from the mid 1980’s to early 2000’s, where the product design is characterised by both risk and savings elements in a policy.

Essentially, these policies comprised two elements: a life risk and endowment combination where actuarial calculations attempted to balance the rising cost of life cover with growth in the endowment during the chosen guarantee period. The Ombud notes: “The extent to which this materialises depends on the actual investment returns achieved relative to the assumptions made at inception.”

“For a given premium, the policyholder could elect the level of risk cover ranging from minimum risk cover, where virtually the entire premium is applied to the savings element, to maximum risk cover, where the risk component is as large as possible, with a very small savings component.”

“Policyholders could choose a guaranteed cover term, which guaranteed the cover for the selected term at the set premium (level or increasing). The guaranteed cover term is the period the policy can sustain the cost of providing the level of cover. The longer the guaranteed cover term, the higher the premium is set when the policy is purchased, so the guaranteed cover term was mostly shorter than the term of the policy, e.g. 10 or 15 years.”

“To mitigate the possible loss of cover after the guaranteed cover term, universal life policies commonly made provision for policy reviews, in terms of which the insurer would monitor the performance of the policies, and advise the policyholder should it appear that the investment account balance and future premiums would be insufficient to maintain the cover beyond the guaranteed cover term. However, the review clauses differ from insurer to insurer and are often vague as to what constitutes the review, when the review will be performed and what steps would follow. It appears that insurers did not necessarily institute policy reviews for a very long time, some state they did but decided to take no action, and in some cases subsidised the cost of cover for a while before implementing premium increases.”

“From the time these policies were sold, the inflation rate has declined considerably over the years, leading to lower investment returns than assumed. In addition, there were prolonged adverse economic conditions, especially after 2008, which compounded the problem of poor investment returns. The lower the investment account balance, the greater the amount at risk and the amount of the cover charge. This is further exacerbated by the increase in the cover charge with ageing, and the snowballing effect leads to a rapid depletion of the investment account. Insurers were jolted into action and policyholders were taken by surprise, especially by the level of increased premium required, leading many to question the insurer’s right to increase premiums and the timeliness of the review. Needless to say, the maximum cover policies require the steepest increases.”

“Universal life policies essentially transferred the investment risk, and in some instances the mortality risk, to the policyholder. Whether policyholders, or even the financial advisors selling the products, understood this risk, or contemplated the possibility of the premium being insufficient to maintain the life cover, is questionable.”

“Complainants are of the view that insurers prejudiced them by not informing them earlier that premiums were not sufficient to cover the cost of the cover. These complainants argue that this deprived them of the opportunity at an earlier stage to consider whether to carry on with the policy or to terminate it. Regular reviews would also have prepared them for gradual, reasonable increases rather than the drastic increases now required.”

The Ombud notes that it only focused on the issue of premium reviews. Other issues giving rise to complaints includes low or no maturity values as at the date of maturity, despite regular premium payments.

In closing

“The problem with Universal life policies is not unique to South Africa. It is also not a problem that this office is able to easily resolve by granting relief to individual complainants. These are issues which have a wider impact, and they involve the actuarial viability of policies. We have thus raised awareness of the issues with the Financial Sector Conduct Authority (“FSCA”) and National Treasury and to question whether an approach at industry level is required.”

The full article can be read here.

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