Question

I recently applied for some life insurance and received a quotation with three different premiums included.  My broker suggested I take the highest premium (obviously), while I preferred the lowest one.

The difference between these premiums was something called premium patterns.  The highest premium had a fixed compulsory premium of 5% while the lowest premium had an aggressive age-related premium pattern.  What don’t I understand about the choice I need to make here?

nswer

Premium patterns are the annual increases that you will have on your life insurance premiums.  The fixed compulsory premium pattern means that your premiums should be increasing by 5% a year.  The age related patterns base the increase on your age at the time of the increase.  In other words, the older you get, the bigger your increase in premium will be.

If you are taking out life insurance to cover a short-term risk, such as vehicle finance or a loan, it might make sense for you to choose the lower premium as it will take a couple of years before the bigger annual premium increases reach the starting premium of the fixed 5% premium.

However, if you intend having the life insurance for the whole of your life, then you should seriously consider choosing the fixed 5% premium increases, or even look at taking a level premium increase, which might be a little higher at inception, but it will be more affordable for the rest of your life. The big increases in premium really start to take place once you reach your mid-50s. 

Here is an example of the premium patterns for a 50 year old:

As you can see, the age related premiums have started off 24% lower and end up being 40% higher once the policy has run for 20 years. 

An old trick that the less scrupulous insurance salesmen use is to get you to move your life insurance to them, is to change your premium pattern to an aggressive age related one.  This will have an immediate reduction in premium but future increases will cost you in years to come.

When you take out life insurance, you need to have a clear idea as to why you need it.  If it is to cover a short term debt over a 5 to 8 year period, then an age related premium pattern could work.  As you can see from the example above, the age related premium was lower for the first 10 years. 

If you want the cover for the rest of your life, then you should look at a pattern with a fixed increase, or even a payment pattern that is level.

The impact of these age related increases is really felt in your later years where the premiums effectively double every 5 years.  Many pensioners are unable to meet these high increases as their pensions do not increase by the same rate as the premiums do, and often result in cover being cancelled and much needed liquidity in an estate being lost.

If you find yourself in this situation, you should get a quote to have the cover reduced and the premium pattern changed to a more affordable level.  If this is still unaffordable, you could offer the policy to your children before you cancel it.  You can cede the benefits to them and have them pay the premiums.  In many instances, this could be a good investment for them, and when estate liquidity is needed after your death, it could be available in this policy.