Policy reviews: A checklist for advisors

During a life insurance policy review, an advisor evaluates and analyzes an existing policy to assess its suitability, coverage, and effectiveness in meeting an individual's financial goals and needs. It involves reviewing the policy's terms, conditions, benefits, and premiums to ensure it aligns with the policyholder's current circumstances and objectives.

The importance of policy previews

It is important for an advisor to conduct a life insurance policy review with their clients for several reasons:

‍Assessing coverage adequacy: Life insurance needs can change over time due to various factors, such as a divorce or death of a spouse, the birth of children, or changes in financial obligations. A policy review allows the advisor to assess whether the current coverage amount is sufficient to meet the client's evolving needs and that the policy provides adequate financial protection for the client's loved ones in the event of their death.‍
Identifying gaps and shortcomings: Life insurance policies may have limitations or exclusions that can affect the payout or coverage. By conducting a policy review, the advisor can recommend appropriate solutions. This may involve suggesting policy riders, additional coverage, or exploring alternative insurance products to address specific needs.‍
Evaluating policy performance: Life insurance policies often have cash value components. During a policy review, the advisor can assess the policy's performance and determine whether it aligns with the client's financial goals. They can analyze factors such as underlying investment returns, cash value growth, and the policy's ability to generate dividends or bonuses. If the policy is underperforming, the advisor can recommend adjustments.‍
Beneficiary designation and estate planning: Life insurance policies require the designation of beneficiaries who will receive the death benefit. A policy review ensures that the beneficiary designations are up to date and aligned with the client's wishes. It also provides an opportunity to discuss estate planning considerations, such as the impact of taxes or the need for a trust, to ensure a smooth transfer of assets to the intended beneficiaries.‍
Cost optimization: Premium payments are a significant consideration for policyholders. During a policy review, the advisor can evaluate the premium structure and determine if it is still affordable and reasonable for the client's financial situation. They can explore cost-saving strategies, such as adjusting the coverage amount or modifying the policy type.

Potential scenarios to discuss with policy holders

Issues of ownership & beneficiary designations

A major component of a policy review should be discussing any issues around policy ownership or designating new beneficiaries. There are two main options for life insurance policies when it comes to ownership:

The insured is the policyholder.‍
The policyholder is a spouse or someone other than the insured.

In the first scenario, it’s easy for the insured to make beneficiary changes by contacting the insurance company and filling out a change of beneficiary form.

In the second scenario, changes may be more complicated. If, for example, a wife owns a policy on her husband, only she can make changes to the policy. In the event of a divorce, the husband may wish to change the beneficiary to the children. This would not be possible unless the husband owns the policy. Therefore, ownership would need to change from the wife to the husband, which could be difficult under certain circumstances.

Changes in life needs

Life insurance policies have a built-in cash value that can help individuals reach their financial goals. For example, a policyholder may wish to access the cash value of their policy for retirement income or use a portion of the money for a college fund for their children. Conversely, once children graduate or move out, the policyholder may require less cash value.

Changes in underwriting

The life insurance underwriting landscape continues to evolve. For example, a policyholder who admitted to being a regular marijuana user may have received smoker rates on a policy written 5+ years ago. However, as underwriting becomes more liberal, that same client may now get preferred nonsmoker rates.

Advances in medicine and technology have not only improved the quality of life for individuals with chronic conditions, such as diabetes, but in many cases, these individuals may also be eligible for better rates.

A policy review is perfect for re-evaluating products and exploring new policy rates.

1035 exchange

A 1035 exchange refers to a tax code provision that allows policyholders to transfer funds from one life insurance policy, annuity, or endowment policy to another similar policy without incurring immediate tax consequences. In essence, it is a tax-free exchange of one insurance contract for another.

Here are key points to understand about a 1035 exchange:

Tax-deferred exchange: The exchange allows policyholders to preserve the tax-deferred status of their investments and continue to grow their funds on a tax-deferred basis.
Qualifying policies: To be eligible for a 1035 exchange, the existing and new policies must be of the same or similar type.
No cash-out option: A 1035 exchange is not a cash-out option where the policyholder receives the funds directly. The funds are transferred directly from the insurance company of the existing policy to the insurance company issuing the new policy.
Tax implications: While a 1035 exchange allows for a tax-free transfer of funds, it is important to note that any gains or income accumulated in the existing policy will continue to be subject to taxation when they are eventually withdrawn.
Reporting requirements: When conducting a 1035 exchange, policyholders must adhere to specific reporting requirements to ensure proper tax treatment. This includes reporting the exchange on their tax return and filing Form 1040 or Form 1040NR.

Policy review checklist

There’s no set timeline for a policy review. The best time to conduct one is when an individual anticipates any of the aforementioned life changes. Generally, it’s good practice for an advisor to check in with a client annually or semi-annually.

When preparing for a policy review, it’s important to gather policy-related documents, the most important of which is the in force ledger.

In force ledgers

An in force ledger refers to a document or statement that summarizes the current status and details of an in force (active) life insurance policy. It offers a comprehensive snapshot of the policy's key information, including:

Policy details: The ledger includes the policy number, policy type (such as term life, whole life, or universal life), issue date, policyholder information, and the insurance company issuing the policy.
Coverage amount: This section outlines the death benefit paid to beneficiaries upon the insured’s death.
Premium payments: An in force ledger provides a record of premium payments made by the policyholder, including the frequency (monthly, annually, etc.), amount, and due dates.
Policy cash value: If the policy has a cash value component (such as is the case whole life or universal life insurance), the in force ledger displays the current cash value of the policy. The cash value represents the savings or investment portion of the policy that can accumulate over time.
Policy loans: If the policyholder has taken any loans against the policy's cash value, the in force ledger will include details of the loan balance, interest rate, and repayment terms.
Riders and options: The in force ledger lists any additional features, riders, or options attached to the policy. These could include opportunities to increase coverage, add disability benefits, or accelerate the death benefit in case of a terminal illness.
Beneficiary designation: The ledger also provides information about the designated beneficiaries who will receive the death benefit upon the insured's passing.

The time it takes to obtain an in force ledger from an insurance carrier can vary. Sometimes, it may take a few days; in others, it could take several weeks. We recommend that the policyholder or their advisor contact the insurance carrier directly to inquire about their specific timelines and requirements for obtaining an in force ledger.

Case study

John Smith is a 45-year-old married man with two children. He has worked with a financial advisor, Sarah Johnson, for five years. John purchased a whole life insurance policy ten years ago and wants to review its performance and relevance to his current financial situation.

John's whole life insurance policy has a $500,000 death benefit and a cash value of approximately $50,000. He has been making premium payments of $2,000 annually. Since purchasing the policy, John has experienced several significant life events, including the birth of his second child and an increase in his overall net worth. He is interested in exploring options to increase the death benefit, optimize the policy's cash value growth, and potentially reduce premium payments.

Sarah requests that John gather all relevant policy documents, including the in force ledger with the insurance company. She also asks John to provide updated financial information, such as his current income, debts, assets, and any changes in his financial goals.

Sarah thoroughly examines the policy contract, premium payments, and current cash value. She assesses the policy's performance, comparing it to the original benefit illustration and analyzing its projected growth based on the current premium payments.

During their policy review, Sarah discusses various policy optimization options with John. This includes evaluating potential riders or endorsements that could enhance the policy's coverage, reviewing any available policy loan provisions, and assessing the potential impact of adjusting premium payments.

Based on John's objectives, Sarah researches alternative policies available in the market. She compares various insurance products, considering term life insurance policies, hybrid life policies, or potentially a combination of different policies to meet John's specific needs.

Sarah presents her findings and recommendations to John. She discusses potential adjustments to the current policy, such as increasing the death benefit, modifying premium payments, or considering a partial 1035 exchange to optimize cash value growth.

John decides to change his policy, and Sarah assists him with the necessary paperwork and facilitates communication with the insurance company.

Through the policy review process, John now feels more confident in his insurance coverage and appreciates Sarah's ongoing support and guidance as his financial advisor.

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