Prior to 1980, most life insurance policies provided a fixed amount payable on death within a fixed term of years and for a fixed regular premium. However, the advent of computerisation allowed actuaries to offer much more flexible contracts to customers. Customers could choose the amount of life cover on the policy and increase or reduce it as their circumstances required. They could independently choose a premium to pay and increase or reduce it within certain limits.

The policy was capable of running for no fixed term. New benefits such as indexation were possible where both life cover and premium could be increased each year to cover inflation. Bear in mind, at that time inflation was commonly averaging 15% pa and the ability to increase benefits automatically without any medical evidence, even if your health failed, was revolutionary.

In order to provide the flexibility of benefits above, the Insurer needed to be flexible in how they charged for the risks assumed. Actuaries opted for a method of charging called a ‘recurring premium’ where you are charged for your current benefits at the price based on your current age. This meant the ‘mortality cost’, the actual cost of insurance, increases each year as you age.

As a further protection, these policies are reviewed on the tenth anniversary, on every fifth anniversary thereafter and annually when you reach age 70. This review is to check if, on reasonable assumptions, the premium being paid will be sufficient to maintain cover until the next review date. Where the premium is sufficient to cover the mortality charges until the next review date, this will be advised in the review letter.

Where the Insurer’s Appointed Actuary determines that the premium will not be sufficient to maintain cover to the next review date, the review letter will advise accordingly and offer the choice of:

  • Maintaining the current premium but reducing the amount of life cover
  • Maintaining the current level of life cover and increasing the monthly premium
  • Any other combination that will cover the continuing cost of life cover

Surplus funds paid in the earlier years are invested and they plus any growth help mitigate future premium increases.

Over time, a number of defects in this type of policy have become apparent:

  • They assumed growth rates which were common in the 1980’s of 12% to 15% pa and inflation was even higher. Today, average growth rates are closer to 6%.
  • The life cover tariff is based on mortality table of the 80’s. Life cover costs have reduced significantly in the meantime with life cover now almost 40% cheaper for non-smokers.
  • The tariff is cast in stone in order to prevent the company from arbitrarily increasing it to the detriment of the policy holders. It was not envisaged in the 80’s that life expectancy and survival rates would increase so far, so fast.