Guaranteed No-Lapse UL Insurance

Improper management of these policies may jeopardize the long-term coverage guarantee.

By Willie Goldwasser, CLU, ChFC

The new and popular secondary no-lapse guarantee life policies—those guaranteeing coverage to age 120 or beyond—are ideal estate-planning contracts that provide guaranteed coverage at a guaranteed premium with minimum or even no cash value buildup. However, these policies do contain a provision that can jeopardize the long-term coverage guarantee unless they are managed properly. The information provided here does not apply to single-payment policies. It affects only contracts under which a number of annual premiums (greater than one) will be paid.

We are all aware of the 30-day grace period that protects a conventional life insurance policy from lapsing during the 30 days following the premium due date. (Most variable life policies offer a 60-day grace period.) The grace period allows policy owners to pay premiums during the grace period without concern about a reduction in the policy’s death value.

Secondary no-lapse policies
Secondary no-lapse policies also offer a 30-day grace period. The policy death value, as with other forms of life insurance, is protected during that 30-day period. However, the payment of a premium after the policy anniversary date, but within the grace period, can jeopardize the lifetime guarantee of the contract.

THAT SMALL LOSS IN INTEREST CAN BE SUFFICIENT TO INVALIDATE THE LONG-TERM, NO-LAPSE GUARANTEE.

When policy illustrations are run to calculate the cost of a guaranteed no-lapse policy, a difference as small as $1 per year can reduce a policy’s guarantee from age 120 to below age 100. Similarly, premiums received after the policy’s annual anniversary date (but still within the grace period) do not earn a full 365 days of interest during the policy year. That small loss in interest can be sufficient to invalidate the long-term, no-lapse guarantee.

Some insurers will continue the guarantee if payment is received during a certain number of days after the anniversary date. One, for example, allows a “month,” where month is defined as the period from the XX date of one month to the XX date of the next month (e.g., Feb. 15 to March 15, which is a period of only 28 days). Some insurers do allow the full 30-day grace period, but most do not guarantee they will continue that practice in the future.

The purpose of this article is to make you aware of this issue in cases where:

1. You may be a trustee of a trust that owns such a policy.
   
2. You may own such a policy.
   
3. You have clients who, like most people, are likely to pay premiums during the grace period rather than before the premium due date (the policy anniversary date).

Many insurers do offer “make-up” provisions that allow additional payments to compensate for lost interest. If a premium has been paid after the anniversary date, the sooner that make-up payment is calculated and made, the smaller the make-up amount will be. Another alternative is to plan on paying something more than the required annual premium (perhaps adding $100 per $10,000 of annual premium as a safety factor).

Valuation when cash value is zero
Table 1 illustrates a typical no-lapse universal life (UL) insurance policy. The numbers shown in the table are the guaranteed premium, cash-surrender value and death value of a 10-pay policy issued on a super-preferred male. Note that although the guaranteed cash-surrender value goes to zero by year 20, the death value continues at a guaranteed $10 million to age 120.

I have seen presentations made to potential buyers showing the purchase of no-lapse UL insurance, such as is shown in Table 1, followed by the gifting of the policy to an irrevocable trust once the cash surrender value goes to zero. The concept is that the policy can be transferred to an irrevocable trust or to a family member with no gift-tax implications since the surrender value is zero.

Determining the policy’s value
The issue is the value of the policy at the time of transfer. Just because the surrender value is zero, is the policy’s value zero? We are familiar with the concept of interpolated terminal reserve, although only an actuary has the know-how and the patience to calculate it.

But let us think logically for a moment and make the following assumptions:

• You are the owner of the $10 million policy in Table 1.
• This is the 20th policy year, with the insured at age 79.
• The policy guarantees that no more premium payments need to be paid.
• The policy also guarantees to pay $10 million at death even if death occurred at age 120.
• The policy has no cash value.

Would you transfer the ownership and the right to receive $10 million to me because I am a nice guy? I think not. So why would anyone expect the IRS to accept a zero value as the measure of the gift of the policy? There will be a value imputed to the policy. To suggest otherwise carries the very high likelihood of a very unhappy policy owner and somewhere, someday, a very happy IRS agent.

Willie J. Goldwasser, CLU, ChFC, is a principal with Goldwasser-Appel Insurance Advisors, LLC, and a member of NAIFA-Boston. You may reach him at 617-332-6600 or willie@goldwasser.org.

TABLE 1 NO-LAPSE UL
		Premium	Surrender Value	DeathValue
Year	Age	($)	($)	($)
1	50	150,000	100,000	10,000,000
2	51	150,000	200,000	10,000,000
3	52	150,000	310,000	10,000,000
4	53	150,000	430,000	10,000,000
5	54	150,000	550,000	10,000,000
10	59	150,000	960,000	10,000,000
15	69	0	510,000	10,000,000
20	79	0	0	10,000,000
30	89	0	0	10,000,000
40	99	0	0	10,000,000
50	109	0	0	10,000,000
60	119	0	0	10,000,000
Table 1—Typical $10 million no-lapse guarantee policy issued to a 50-year-old