Level premium funding
MR. WATSON: Everybody should be able to explain how a guy my age can keep a level premium, like whole life, level-from a guy my age (40) up to age 100. How can they keep that premium level?
MAN: Over-fund it today and pay lower funds later.
MR. WATSON: Good. The term insurance premiums are lower than whole life in the beginning. But they increase over time, whenever you renew the contract. A whole life premium costs more now, but less than it would be in the future when the premiums should be higher. The company averages the premium over a long period of time. The premium stays level, so you are overpaying it in the early years. Then in later years, when the premium should be high, you are paying less. That's an excellent, excellent example, what he said.
MAN: "Under this level premium funding approach, you pay more than what's necessary in the beginning, then in the later years, when the premiums should really be high, you are paying less because you over-paid it in the beginning."
Reserves vs Cash Value ***
- Reserves - monies set aside by the insurance company to guarantee payment for future claims (a liability to the insurance company).
- Cash Value - an asset belonging to the policy-owner in a Whole Life, Universal Life or Variable Life policy.
MR. WATSON: Who can tell me the difference between reserves and cash value?
STUDENT: Reserves are monies set aside by the insurance company to guarantee payment for future claims.
MR. WATSON: Who mandates that?
ALL: Each state.
MR. WATSON: Is it an asset or liability to the insurance company?
ALL: Liability.
MR. WATSON: Very good. It's a liability. (A liability is money that is owed for bills, etc. An asset can be used for anything).
MR. WATSON: The cash value comes from the difference between the term ($30.00) cost and the whole life premium ($100.00). In other words, the term premium is $30.00. The whole life policy is a $100.00. You are paying $70 too much. That extra money is going into your policy. It's called cash value. It's earning interest and it's growing.
MR. WATSON: Is that an asset or liability to the policy owner?
ALL: Asset, and it can be used for anything.
MR. WATSON: It's an asset. The reserves are a-
ALL: Liability to the insurance company. It's owed money.
ALL: Yes.
Modes of Premium Payment ***
MR. WATSON: Look, a mode is a way of paying the premium, a method. You can pay annually, semiannually, single payment, directly out of your checking account, whatever. Premiums are calculated by the insurance company to be paid in advance. That's why you pay more monthly than if you paid it annually. The company is losing interest it assumes it would have earned. Got it?
ALL: Yes.
MR. WATSON: The total cost would be less if you paid it annually. An annual premium might be $1200. Monthly, $105. If you paid the monthly premium of $105 times 12 months you would have paid $1260 total. The company figures it is losing the interest it could have earned had they had the annual premium in advance to invest. So you have to pay the lost interest to the company. Wow!