Introduction and overview
Private Placement Life Insurance (PPLI), Variable Universal Life (VUL) insurance, Unit Linked Life Insurance, Deferred Variable Annuities (DVAs), often collectively called "Insurance Wrappers" or "Portfolio Bonds" have boomed over the last 10 years. With good reason, insurance solutions, properly implemented are extraordinarily effective wealth planning tools. An insurance wrapper is defined as a variable endowment policy where the underlying investments can be determined by the Client and separately managed by an asset manager1. The value of the policy generally follows the increases and decreases on an underlying portfolio of investments. The following discussion applies primarily to policies issued by Swiss, Liechtenstein and to a lesser extent Luxembourg domiciled insurers. For other jurisdictions, other rules may apply.
Much has been written on insurance wrappers, to our knowledge however no-one has attempted to analyse the cost drivers and variability in pricing of the actual wealth planning service offered by insurance. The purpose of this article is to address the questions:
- What is the true cost of the service provided by unit linked life insurance?
- How much is the Client actually paying for tax optimisation and other benefits?
- What is the extent of hidden payments (cross-subsidisation) flowing between participants?
- What is the impact on investment return of the unnecessary charges?
- Does the tax deferral/tax advantaged investment argument hold up?
Unit linked life insurance products have been highly profitable for all providers involved. The benefits and advantages of life insurance as a wealth planning strategy are well known, less so the costs. The issue is that the products themselves and the cost structure are complex and highly variable, hence rather poorly understood.
The broker and the asset manager are the main recipients of fees and payments. As the Client facing entities, they own the Client relationships. The broker establishes the Client relationship and effectively owns that Client relationship for the term of the policy. If the Client comes directly to the asset manager or is a pre-existing Client, the asset manager owns the relationship. In both cases, the asset manager has extraordinary leverage and bargaining power as he has effective control of the assets.
There are considerable challenges in analysis. There are so many charges, fees, payments and kickbacks possible, over varying time periods, under different conditions, often subject to the discretion of the participants, it is challenging to analyse and present the industry in a way that is understandable. This and the sheer difficulty of obtaining reliable information seems to be why this work has to date not been done. Much of what is presented here is extraordinary, some examples presented are extreme and are not typical of the industry. The ranges of disclosed fees are published and available, presenting both worst and best case examples as they exist in the market2. We know that the worst case scenario presented here does still occur today. We do not know how widespread it is as there is so little reliable information available. For such a large industry, there has been virtually no published research on cost drivers in the industry, nor are there readily available statistics on the industry to analyse. There is an apparent "code of silence" prevalent in the industry, with many participants refusing to disclose information to non-participants.
For the individual Client it is often practically impossible to get a clear picture of what a policy is actually costing him. We work here to present the upper and lower bounds of what Clients are actually paying and the impact on total return over 5 years and 20 years (the estimated average term of a policy). The upper and lower bounds are relatively straightforward to determine, these are the upper and lower extremes of what is possible. We do see examples of both extremes, because the extreme high is so outlandish, we believe this occurs relatively rarely. However we simply don't know for sure, there is so little statistical information available. Furthermore, neither the insurance companies nor the asset managers involved are looking for publicity on costs.
Given the variation, to be meaningful, cost estimates must initially be made for at least the first five years. For analysis purposes, we estimate standard practice values or what we call "median" values for what we see as the norms or going rates for each payment prevalent in the industry. We believe this "median" is representative of the industry. Because there is so little published data, our estimates are based on what we observe as general practice. We call it the "median" rather than the average as we believe the worst case extreme while rare would push an average up and distort the analysis. Furthermore, we do believe most participants are reasonable and are work within accepted practice limits.
1 In our first illustration of how flexible and jurisdiction dependent the business is; in Sweden the policyholder can have control of the asset management. Plus still receive full tax deferral and other benefits.
2 Even worse examples than the worst case presented here do exist, these however are true exceptions and cannot last long. Either the policyholder or the insurance company generally take action.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.