#130 | Regulators Revisit AG49
A couple of weeks ago at the NAIC meeting in San Francisco, the A Committee formally charged the IUL Illustrations Subcommittee with the task of “[providing] recommendations for modifications to AG49.” In other words, AG49 is about to get cracked open again – and what happens next is anyone’s guess.
Much has changed since AG49 was finalized in 2015. Back then, just Nationwide had an index return multiplier in the same vein of what is prevalent in today’s market, but theirs was illustrated very conservatively. The multiplier didn’t even puncture the AG49 Maximum Illustrated Rate for the product. In retrospect, it seems kind of quaint when compared to the landscape of Index Return Multipliers (IRMs) that have come to define the modern Indexed UL market over the past 2 years. Virtually every new Indexed UL product has one and, usually, it’s the headline story for the product. These days, the industry is selling multipliers, not caps. It’s a brave new world.
Why are IRMs so popular, powerful and provocative? First, they break the connection between the AG49 Maximum Illustrated Rate and the effective illustrated rate shown in the illustration. A 6% AG49 Rate on a product with an IRM can generate effective illustrated rates of anywhere from 6.6% to 9%, depending on the particular design and pricing. Second, an increasing number of insurers interpret AG49 to mean that any interest from the IRM can be added to the 1% maximum illustrated loan arbitrage restriction outlined in AG49. In other words, those products illustrated at 6% show loan arbitrage ranging from 1.6% to 4% after including illustrated interest from the IRM. Little wonder that illustrated rates have dropped in the wake of AG49 but, according to a study done by one life insurer, illustrated income has continued to climb.
Finally, life insurers have figured out that deducting a specific charge to fund larger IRM is an exceptionally good trade on the illustration. In the strange math of Indexed UL, $100 charged at the beginning of the year to fund an IRM shows back up at the end of the year as high as a $150 credit, which is restricted by the 50% illustrated option profit assumption in AG49. IRMs funded by policy charges can dramatically increase the risk and leverage of the policy, but the bet only draws a winning hand on the illustration. Life insurers who have employed this strategy have also realized that bigger bets always illustrate bigger returns and therefore generate more sales, even though they also mean more risk and leverage for policyholders. As I wrote in a previous post on Voya’s ICAR, this natural incentive to escalate the size of the charges and bonuses is part of what is fueling the IUL illustration war. It’s not stopping anytime soon. Companies are already upping the ante in their filings for next year.
It is hard to imagine that IRMs won’t be the chief subject of the regulators’ inquiry into AG49. Not only do IRMs completely define the IUL market, but they also almost entirely came into being after AG49 was codified. They’re the only new piece of information. Furthermore, the three reasons that IRMs are so popular run up right up against some of the key tenants of AG49 – limiting maximum illustrated rates, restricting illustrated loan arbitrage and defining the maximum allowable option profit assumption for actuarial testing. Even though IRMs don’t run afoul of the letter of AG49, the question for regulators will likely be whether or not they are in accordance with the spirit of the guideline.
AG49 is not an abstract, actuarial concept. As is readily apparent by now, the Indexed UL market revolves entirely around illustrated performance. Sales have followed the products with the best illustrations like a cat chases a laser pointer. This is a symptom of a much larger issue for our industry. Illustrations are not and were never intended by regulators to be performance projections. And yet, that’s exactly how many agents, distributors and even life insurers use them. Howe else can you explain the mad, crazed rush that life insurers have made to build IRMs in their products in order to maintain their competitive positioning on the illustration and in benchmarks? It’s almost as if people in our industry general think that the product that illustrates better will actually perform better, despite decades of proof that as-issued illustrations are almost entirely unrelated to actual policy performance. Illustrations are simply products of the rules that govern them – rules like AG49. Rules that can, do and will change.
Perhaps it’s time we stopped worrying about illustrated performance, which can change on the whim of the carrier or the guideline, and start using illustrations for their intended purpose – explaining to clients how our products work. Wouldn’t that be a change for the better?
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