Information On Life Insurance

The non-profit life insurance endowment is a more popular type of contract. A growth bond guaranteeing 9% net would produce £1,538 from a £1,000 investment over five years. For the basic-rate tax­payer not subject to further tax this could be attractive. The pattern of interest rates is always shifting, however, so that it is not possible to predict how attractive the rates companies are offering at different times will be compared with the alternatives. The point is that the company is guaranteeing a rate over a period of years, whereas building societies and most other deposit-taking institutions do not guarantee a rate for more than a few months or a year at the most, except in special cases.

The income bond can be based on the combination of a deferred and immediate temporary annuity. Here the deferred annuity provides for the return of the original capital at the end of the period and the immediate annuity for the income. As noted above, the problem is that the deferred annuity proceeds are subject to basic-rate as well as higher-rate tax. But for the basic-rate taxpayer such plans can still produce a good return. Alternatively, the deferred annuity can be replaced by a non-profit endow­ment, in which case only higher-rate tax is payable on the gain at maturity.

In the case of these income contracts, the gain achieved in the capital return is the difference between the sum that is invested in the deferred annuity or non-profit life insurance endowment and its maturity value. The bulk of the single premium is required to produce the income payments via the annuity, and only a small proportion (depending on the term of the contract) is invested in the capital-producing portion.

Long-term life insurance income bonds for 10 to 15 years are available, and for some retired people these may be preferable to an annuity because they do guarantee the return of capital so that the investor retains control of it. However, there are normally no guarantees as to the surrender value if the investor wishes to withdraw early.

It was stated at the outset that unit-linked life insurance involves the shifting of investment risk from the life insurance company to the individual policyholder. In the ordinary unit-linked life insurance policy the choice is limited to that of a single fund, and in the more sophisticated policies discussed above the investor also has the ability to switch from fund to fund as he chooses. The logical extension of this approach would be for the funds available always to be fully invested in their selected type of asset.

Thus a property fund would always be fully invested in property, an equity fund in shares, and so on. In practice, this does not happen and the investment managers of each fund attempt to improve its returns by altering its content, principally by varying liquidity (the proportion of the fund held in cash) and by altering the type of investments held (for example, switching a major proportion of a property fund from offices to shops or the majority of an equity fund from leading or “blue chip” shares to smaller or “second-line” shares).

Thus in choosing a fund the investor is making a double selection. He is choosing the type of asset preferred (shares, property, fixed interest securities or a combination of these) as having most investment appeal; and he is also choosing the investment manager who will manage the fund(s) for him. For example, during 1973/74 the stock market plummeted from an index level of nearly 400 to one of 146. Some investment managers sold a large proportion of their shares in 1973 and early 1974, and investors in their funds cashing in later in 1974 fared well relative to those who had invested in funds where no such action had been taken. Then in early 1975 the stock market suddenly soared to over 300. Those funds that had sold their shares could not buy them back quickly enough to prevent their funds’ performance being far below that of the fully invested funds over the period of the rally in share prices.

The successful management of a life insurance company is not a simple undertaking, since all the factors mentioned above join up. Consider what might happen if a particular misguided company were to cease requiring medical examinations for people of middle age taking out substantial whole-life insurance policies (where premiums are payable throughout life). All over the country, professional advisors faced with overweight clients in sedentary jobs with general poor health would quickly steer them to this company where they would be able to take out policies for which any other company would charge them far more highly.  

The careless company could wake up three years later when the actuary did his sums and discover that its claims were far higher than predicted because it had taken on a lot of higher than average risks and that the assets acquired by the premiums of policyholders of this class were insufficient to meet the expected liabilities. All the company could do at this point would be to adjust its premium rates upwards for the future new business and transfer funds from its reserves to cover the life insurance claims. Such a transfer would be at the expense of either the shareholders in the company or the policyholders, or both.

The general trend in life insurance over the past two decades has been towards greater sophistication in the investment oriented policies, which have been refined and adapted to or to be “tacked on” when an investment oriented policy is sold. Unfortunately this runs counter to the needs of many people, but we are now starting to see protection policies advocated on their own merits. Since the administration costs of all policies are more or less equal (in terms of documentation, registration, etc.) many companies argue with some justification that the “package” is a more economical way for the individual to buy life insurance, especially if the premiums are low. But in some cases (especially when the premiums are larger) the individual can get better value by purchasing the protection and investment portions of the package separately.