Reasons for buying a preowned policy |

In Singapore’s low interest environment, a fixed deposit with the bank only pays a depositor less than 2%. Together with a sluggish global economic environment, low interest rates are likely to be around for some years. What do you do with your hard earned money? Leave it with the bank as a saving or fixed deposit and see your money diminished in value?

Investing in stock and bond, there is a degree of risk you need to take. In an unforeseeable circumstances like what happened in 1987, 1997 and 2007, equity markets took a nosedive, averagely they took 5 to 10 years for some to recover back losses. Are you able to make a better investment decision compared with the professional fund managers?

Investing in local property? For the past 10 years the properties’ prices have doubled across the globe. In Singapore, with the current tightened lending rules, it is difficult to obtain mortgages together with high stamp duties for multiple properties, a potential buyer has to pay more money to buy second or more properties. The initial down payment can be very high.

What about precious metals? While precious metals make a sound investment during times of uncertainties and over a long period, entry and exiting timing are relatively difficult as precious metals fluctuate quickly and their prices can remain low for long period of time.

Are there no more investable instruments? Insurance policies as an investment class have been ignored. Most owners of insurance policies see their policies more as a protection instrument rather than an investment. Why see an insurance policy as an investment? The fundamental investment element of the insurance policies are its returns are derived from funds called “life funds” operating by the insurance companies.

In these fund, there are investments consist of properties, equities and bonds. Insurance companies are actually professional fund managers who take your money in the form of premium and invests them. They are no different from any other money managers. The only difference is that the life funds from collective investment trusts (like unit trusts) is that the life funds are also used make payouts to policyholders upon claims. Every year, the insurance companies declare their life fund’s performance. Life fund’s performance will determine profits and bonus attribute to the policy owners. Singapore based life insurance companies typically declare bonuses. Historically, these bonuses are higher than fixed deposits during normal years, except for years where investment returns are negative.

Back to insurance policies. Life insurance policies are classified into term and whole life. Typically term policies do not accumulate value as they only offer protection. On the other hand, traditional whole life insurance policies (non-investment linked policies) which have very higher premium, offer protection, saving and investment get to participate in life funds.

There are several types of life insurance policies.

1. Whole life

A whole life insurance policy is a form of life insurance policy with no tenure or end date. A policyholder needs to pay premiums from day one when he/she purchased the policy. The policyholder can choose to stop payments once the policy has broke-even (when cash value is equal to the total premium paid). There are participating and non-participating poli cies in which the policies get to participate in the returns generated by the life fund. These days there are many variations to the insurance policies, some policies offer a cash payout.

2. Endowment

An endowment policy is a form of life insurance policy with a fixed tenure. A policyholder pays premium for a fixed tenure like 15,20 years At the end of the tenure the policyholder gets a 100% capital return of the premium paid and the bonuses declared. The protection value for endowment is much lower compared to a whole life policy.

3. Annuity

An annuity is another form of life insurance policy. A policyholder will pay a fixed tenure of premium or a lump sum. At a predetermined time or age, he/she will enjoy a continuous cash flow and ends when the policyholder passes on.

There are several reasons why anyone should be buying a pre-owned insurance polic y?
Initially, when one buys an insurance policy from the financial advisor or the bank, there are distribution costs involved, like commissions and related expenses like marketing costs. In the initial years, premiums paid for an insurance policy are used to pay commissions, related expenses and the insurance element. The policy does not accumulate any values until these costs are paid first. Only after third or fourth years, the policy will get some values accumulated and gets to participate in the life fund’s performance.

In a situation, when a policyholder decides to lapse the policy in the initial years, the policyholder gets very little money back. Only after the policy has reached more than 10 years, the policy can breakeven on its paid premium and the cash value. Only then, the policy will work in the fav our of the policyholder.
For whatever reason, if the policyholder might want to lapse the policyholder, he/she has to go back to the insurance company to surrender and get back whatever value the policy holder. In the future, the same policyholder who wants to buy another policy, has to start all over again.

The opportunity is present for a third party to take over an existing policy. The new policy owner does not have to wait as long to obtain the maturity value of the policy. The advantages are a shorter waiting time and the time value of money prevails. The diminishing value of money is not profound as the wait is shortened.

Like in all other financial investments, historical performances of life funds do not guarantee future performances. Life insurance policies are another investme nt class. Potential investors have to do their own home work to determine if t he investment is suitable for themselves. They are to consult their personal financial advisors or accountants for further advice to determine their suitabilities.