Compensation in the life insurance industry incentivizes professionals to do things that are not good for clients.
If you remember this simple rule of thumb, you will be better-equipped to avoid expensive mistakes:
Start by assuming that compensation to the company or person you work with is equal to 100% of the year 1 premiums that you pay.
For permanent insurance (whole, universal, variable, etc.), payments continue past the first year, but albeit in smaller amounts in subsequent years.
Are there exceptions to those rules and variations around them? Sure. But directionally, that is what you need to know.
You can start to see the incentives created already:
- Incentive to sell permanent life insurance with more features and complexity ("fancier" product => higher premiums => higher compensation)
- Incentive to explain away bad underwriting outcomes, rather than advocate for the client (worse pricing for the client => higher compensation)
- Incentive to push inappropriately high amounts of coverage (higher coverage amount => higher premiums => higher compensation)
Scary - hence my decision to write about this on Halloween!
While I believe that not paying employees commissions is a step in the right direction, even when that's the case, the employer (i.e. the business itself) is still getting paid commissions. That's true here at AboveBoard and other brokerage agencies that have moved to this model (particularly tech-enabled ones). Read very closely if you think a business selling insurance is truly no-commission, and understand how they actually make money.
We see the fallout all the time at AboveBoard from bad incentives. Building a better way was a key reason we started AboveBoard Insurance Services (AboveBoard Financial's independent life and disability insurance brokerage).
A Real-Life Example of Bad Incentives Producing Bad Results
Speaking of seeing the fallout:
A doctor and new mom, age 36 and in excellent health, had been sold a $1 million permanent policy with annual premiums of over $22,000 / year by a well-known, national insurance and wealth management company.
$1 million was a dangerously inadequate amount of coverage, but her policy came at an eye-popping price. The product was also totally inappropriate, as her money should have been focused on student loan pay down and her excellent workplace retirement plan (she wasn't even capturing the full match, and the investment choices were top notch).
Five years into this "insurance trainwreck" and knowing something was not right, she came to AboveBoard for help.
$3 million of coverage for 20 years was what she really needed, given her high income and important role caring for her children. And she could get it for only $2,005 / year - that's 3x the coverage for less than one-tenth the cost.
AboveBoard's recommended strategy would have allowed her to plough the difference ($20,000 / year) into her workplace retirement fund, max out the match, max out low-fee, tax-deferred savings and still have something left over for getting tax-free growth in 529 plans for her children. The value of those actions would have far exceeded the value of the permanent life insurance.
That term policy comes with an outstanding conversion option, allowing her to keep the option for her future self to buy permanent coverage at best pricing rates, regardless of future health. A perfect balance of today's constraints (just starting to build savings after paying down student loans, shouldering high childcare costs and reduced work schedule) with her future self's needs (very likely to be wealthy, given her and her spouse's high earnings power).
So why didn't she get good advice when she tried the first time, 5 years ago? Remember the rule of thumb. With the inappropriate permanent policy, the payout that was over 11x higher in year 1 alone, with ongoing opportunity for more payouts.
In Search of A Better Way
When we set up AboveBoard Insurance Services (AboveBoard Financial's independent life and disability insurance brokerage agency), I asked myself, "how do we build an ethical insurance brokerage agency that places clients' interests first and achieves the best outcomes for clients?"
We considered fee-based and low-load insurance models, and determined that those were not good paths - at least not at this time, given market maturity - for a few reasons:
- They cut off access to most of the products in the industry, which has the perverse effect of making the consumer worse off most of the time.
- Fuzzy math - you have to be careful about a popular "shell game" in financial services: moving things around a bit and claiming it's something new and better. Charging someone "only" 75% for...3 times as long is different, but not better; it's actually worse.
- Doesn't really even make sense - When you buy a car, what you care about is the best price for the car you want. You don't care about how the manufacturer splits your money with the dealership, or what they call those payments. Similar deal with life insurance.
The life insurance industry is very old - it's one of the few sectors where it's common to see companies that are largely intact after more than 100 years. Things have been done a certain way for a long time. The life insurance industry is also quite good at doing a lot of things, such as pricing and managing risk. The products, when used appropriately, can be very useful and genuinely help people.
So how could we focus on the good, and appropriately manage the bad incentives that exist? The fact there's an incentive to do something does not mean you have to do it.
I ultimately concluded the right approach was to:
- Be radically transparent with consumers about how the industry works - hence these unusually direct blog posts (which you might not be surprised to learn are "frowned upon" in some circles!)
- Be radically transparent about how we reach our recommendations - hence our interactive life insurance calculator and willingness to talk through the results and personalize them based on our listening to your goals
- Build our process to be exactly what a savvy client would want done for them
- Publish AboveBoard Client Stories, anonymized real stories of what a consumer-first process looks like and how it helps people
To get a coverage recommendation and online quotes, visit our interactive life insurance calculator.
If you feel that you, like the person in our example above, might be stuck in a bad life insurance policy, email us at firstname.lastname@example.org for help.