You will be able to explain how a participating whole life policy builds cash value and how bonuses are declared.
Ryan's pitch for a new policy came with a table. Jun Hao would pay S$4,000 a year for 30 years for a whole life plan with a S$200,000 sum assured. At age 65 the table showed a total surrender value well above everything he'd paid, and a death benefit that had grown well past S$200,000. "That's the bonuses," Ryan said. Jun Hao asked where bonuses come from. Ryan said the insurer declares them every year based on how the fund does.
That's true, and it leaves out most of what you need to judge the table. This lesson explains how a participating whole life policy builds value, so you can read the illustration in lesson 3.2 knowing which numbers are promises and which are projections.
Most traditional whole life and endowment plans in Singapore are participating policies. A participating policy is one that shares in the profits of a pool of money the insurer keeps for policies like it, called the participating fund, or par fund.
Every par policyholder's premiums, after the cost of cover and expenses, go into the par fund. The insurer invests it, mainly in bonds, with some equities, property and other assets. The fund pays out claims and surrenders, and holds reserves to meet the guarantees in every policy.
When the fund earns more than it needs for the guarantees and costs, part of the surplus is distributed to policyholders as bonuses. The insurer's shareholders are allowed a share of what is distributed too, within limits set under MAS rules. The details of how the insurer manages its par fund, and how it decides bonuses, are set out in documents the insurer publishes and in the product summary.
So your policy's growth depends on three things you don't control: how the par fund's investments perform, how much the insurer's claims and expenses cost, and how much the insurer decides to distribute.
Par policies typically use two kinds of bonus, and the difference between them matters more than the amount.
A reversionary bonus is added to your policy, usually once a year, as an increase in the sum assured. Once declared and added, it normally can't be taken away. It forms part of what the policy pays on death or at maturity. If you surrender early, though, you usually get only its cash value, which is less than its face amount.
A terminal bonus is paid only when the policy ends through a claim, maturity or surrender. It isn't added to the policy along the way. Until the day it is paid, the insurer can raise it, cut it or remove it, depending on how the fund has done. In many policies the terminal bonus is a large part of the projected value in later years, which is exactly the part least certain to arrive.
Some policies pay cash bonuses instead, which you can take or leave with the insurer to accumulate at a non-guaranteed rate. The product summary tells you which bonuses your policy uses.
When you read an illustration, the reversionary bonuses already declared on an existing policy are part of its value. The future bonuses shown in the illustration, reversionary and terminal, are both projections.
Par funds don't pass every good or bad year straight through. Insurers smooth bonuses across years: in strong years they hold some surplus back, and in weak years they draw on it, so bonuses change gradually.
Smoothing has two consequences. Bonuses lag the markets in both directions, so a run of good years shows up slowly, and so does a run of bad ones. And when an insurer does cut bonuses, the cut tends to reflect several years of weaker returns at once, which can be a shock to policyholders who saw only steady numbers before.
Insurers usually send a yearly bonus statement to each par policyholder, and many publish the par fund's past investment returns and bonus decisions. Ask for both before you buy. A history of steady bonuses is information, though not a promise.
Every par illustration splits values into guaranteed and non-guaranteed. The guaranteed values are what the contract promises if you keep paying, as long as the insurer stays solvent. They are usually well below the totals Ryan pointed to, especially in the early decades.
Everything above the guaranteed line depends on future fund performance and on bonus decisions the insurer hasn't made yet. That includes future reversionary bonuses as well as the terminal bonus. The illustration shows those at two assumed rates of return, which lesson 3.2, Read a whole life illustration from first page to last, explains.
The practical rule follows. Judge a par policy first on its guaranteed values. If it suits you on those, anything extra is a bonus in both senses. If it only makes sense with the projected bonuses, you are relying on returns nobody has promised you.
On Ryan's table, Jun Hao circled three things: the guaranteed death benefit, S$200,000; the guaranteed surrender value at age 65; and the share of the total at 65 that came from terminal bonus. As an existing policyholder, he also looked up his old whole life policy's latest bonus statement to see how much reversionary bonus had already been declared on it.
You'll do the same with an illustration of your own: find each bonus type it uses, and sort what's already declared from what's only projected.
Find the bonus types in a whole life illustration and write which ones are already declared and which are projected.
Junxiong-WFG Organisation is an authorised representative of AIA Financial Advisers Private Limited (Reg. No. 201715016G).