Wealth holders own life insurance for a variety of purposes. Some purchase insurance because of liquidity needs such as paying taxes or provide for their families at death. Others use cash value life insurance to benefit from the tax advantages it confers, namely tax free accumulation, tax free access, and tax free proceeds. Some also seek the substantial asset protection benefits that may exempt creditors from the accumulated cash and insurance proceeds.
But when wealth holders are asked what they dislike about insurance they uniformly respond with a series of objections. They don’t like the cost of insurance and the related commissions that’s typically exceed 125% of the first year premium. They are frustrated with the limitations to invest in a handful of expense-laden funds. They feel taken advantage of by the so-called “principle guaranteed” index funds that withhold valuable dividends and offer low caps on gains, and they feel robbed when they learn that these policies can crash as they age because of an excess of insurer fees. They dislike the high cost of “ratings” if they do not qualify for standard risks, and when they understand that they have skyrocketing internal mortality charges after age 65 that were not overtly disclosed at the time of the sale, they often become angry.
We understand and share these frustrations. If you feel the same about your life insurance portfolio, perhaps now is a good time to ask yourself the following questions:
What if there were a way that you could enjoy all of the benefits and advantages of life insurance without the painful negatives commonly associated with it? What would this mean for you and your family, and what would such a product look like?
Private Placement Life Insurance (“PPLI”) can solve many if not all of the perceived negatives relative to traditional life insurance. As with other forms of cash value life insurance, PPLI policies that stay in force can be permanently tax exempt, so that the investment return you earn is yours to keep. That said, all PPLI policies are not created equal.
Private Placement Life Insurance – Understanding the Basic Elements
Wealth holders have many choices when it comes to Private Placement Life Insurance (PPLI). Most options convey a uniform platform of services offered on a low or no-load basis, with annual fees at 1% (or less for larger holdings). Since traditional life insurance generally allocate 100% or more of the first year premium to loads and other expenses, the saved commissions and loads inure directly to the client.
How May These Savings Translate to You as a Consumer?
As a hypothetical case study, we begin with a typical “investment” oriented life insurance sale. Our candidate is a healthy 40-year-old male who has $100,000 a year pretax to invest. After taxes, our candidate nets $56,000 and can direct the funds into a “high cash value” life policy from a top rated insurance carrier for each of the next 10 years. We projected a 7% annual return in the policy, and reduced the death benefit component of the life policy to the minimum required by the tax code. In 10 years the policy illustrates $640,000 of cash value.
We then compared the above with a hypothetical PPLI policy. The PPLI policy, with an identical death benefit and rate of return, produces over $750,000 of cash. That’s $110,000 more wealth in tax free dollars, with an identical amount of insurance protection. It is also more than if our investor received the same return in a taxable investment with zero insurance and protection benefits.
Where did the lost $100,000 go in the traditional life insurance? It went to fees and commissions. Not shockingly, the arbitrage and savings from PPLI continue to compound over time in the client’s favor.
The first step in understanding PPLI is that there are two types: traditional and deconstructed. The differences between the types can be significant. We will look at both and contrast key features.
Money Management and Custody
Traditional PPLI deploys a substantial number of diversified investment choices provided through Insurance Dedicated Funds (IDF). The IDF’s often include hedge funds, indexes and opportunities to access pooled private equity transactions.
While these investment choices add substantial flexibility, the internal cost of IDF’s can cost even more than traditional mutual funds.
When it comes to investments, it’s important to note that while a client may suggest investment managers and approve an investment policy, it is not appropriate for the client to manage or in any way control or dictate the management of PPLI assets.
Deconstructed PPLI can use IDF’s for investment. However, generally uses Independent Insurance Managers and custodians. Going the deconstructed route means the client can suggest the investment managers and custodians, including existing trusted relationships.
Premiums and Investments
Traditional PPLI requires cash as premium and generally invests only in bankable investments such as stocks, bonds and funds.
Deconstructed PPLI can accept bankable and most types of non-bankable assets as premium and as ongoing investments. Non-bankable holdings may include artwork, private equity, real estate, life settlements, etc.). Some of the investments are better owned in a domestic PPLI policy, while others may be best owned through a PPLI carrier domiciled offshore.
When it comes to investments, it’s important to note that while a client may suggest investment managers and approve an investment policy, it is not appropriate for the client to manage or in any way control or dictate the management of PPLI assets. Doing so may breach what is known as the Investor Control Doctrine and invalidate the PPLI policy. For this reason and others, it is imperative that clients and their existing wealth management team work closely with insurance counsel that has a deep acumen in PPLI.
Insurance Death Benefit
Traditional PPLI generally provides insurance offered by the PPLI carrier or through an institutional reinsurer. These insurance charges are generally competitive with traditional life insurance, although with larger policies the internal term cost may actually be higher than traditional insurance.
Deconstructed PPLI offers much more flexibility with options that may lower the internal cost of insurance by 30% or more as compared with traditional PPLI (and even more so vs traditional life insurance). Some PPLI carriers don’t “mark-up” the reinsurance, and the best don’t take any commissions – offering complete transparency. The insurance options available through quality foreign and domestic PPLI providers may include efficient reinsurance structured through top rated insurers such as NY Life, Mass Mutual, Pacific Life, Prudential, The Guardian, and others. Clients can have the certainty of knowing that their loved ones will be paid the benefits that are promised by large US insurance companies regulated by state insurance departments.
Lastly, if you or a loved one has an insurance “rating” causing higher than normal pricing, or if there is not enough “capacity” in the marketplace to efficiently obtain all of the life insurance you want or need, deconstructed PPLI offers options that may save you hundreds of thousands or even millions of dollars over time. That said, each case is based on a client’s unique fact pattern and financial initiatives, and past performance is no guarantee of future success.
For many wealth holders, PPLI (and particularly, deconstructed PPLI) can be a far more efficient way to obtain the tax and nontax benefits of life insurance versus traditional fee-laden traditional insurance. Now that you know some of the differences, you can work with a professional and see how much money you might save by switching to PPLI.