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| Risk & Reward |
A Hybrid Haven
Eileen Gunn
10/01/2004
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The fees that are charged for
private-placement insurance are generally smaller than those for other kinds of
life insurance, partly because these policies are far bigger, which gives a
client bargaining power, and partly because the companies offering them want to
make them appealing as investment vehicles. “On a good private placement policy,
the fees should be about 1 percent of the premium, capped at $50,000,” excluding
taxes, which will vary by state, Watson says. By comparison, on the more common
kinds of variable policies, he says, fees and commissions might total 9 percent
of the premium.
Fees can vary dramatically from firm to firm. “I’ve looked at
about 10 insurance carriers who do this, and I was surprised at the difference
in fees,” Watson notes. They can vary from 1 percent to a little over 2 percent
of the premium. If we like a carrier but it does not offer the lowest fees, we
should bear in mind that in many cases these may be negotiable.
| For those of us willing and able to abide by the restrictions,
complexities and costs these policies can be ideal low-risk investments. |
One limit to
our investment choices is the IRS’s requirement that, for these to be legitimate
insurance policies, the funds in which they invest must be set up specifically
for insurance policy use. This means the asset managers or hedge fund managers
must set up accounts specifically for this type of insurance company investment,
which some will be loathe to do. The IRS also requires our portfolio to have
some degree of asset diversification. In practice this may force us to invest
our capital in more than one fund (typically five or so), or to choose a fund of
funds with diverse underlying investments.
Watson says it is important to
research the private-placement carriers. “Some insurers have a wide selection of
well-performing funds,” he notes. “Others don’t have as good a selection in
terms of number or quality. I was surprised by the discrepancy when I started
looking into them for our clients.”
Essential Questions to Ask Your Advisor About Private-Placement Life Insurance:
1. Do I have enough long-term investment capital to consider funding a
private-
placement insurance policy?
2. Is my insurer willing to
negotiate fees?
3. Should I have an independent policy that acts as its
own fund of funds?
4. Does my insurance company have access to a wide
selection of well-performing funds? |
Also, the policies can change investments
in midstream, if we are disappointed with their performance. “If a fund isn’t
performing, we can pull the money away from that firm and find another fund that
meets the criteria we promised to the policyholders,” notes MassMutual’s
Dowling.
If we purchase a large enough policy (at MassMutual, a minimum $5
million premium paid over four years) our possibilities for customization
increase significantly. We can avoid the pooled investment funds altogether,
and, in effect, have our policy act as its own fund of funds, with its own
manager. This also gives us greater purview in our investment opportunities.
Because we are already in an insurance-only fund (albeit our own), the manager
can invest in funds available to the public. “The couture of it is attractive,”
Dowling says. “Like a custom dress, it’s made just for you.”
Unfortunately,
this does not mean we necessarily have more control over our investments. IRS
regulations require that insurers, not policyholders, make asset management
decisions. So we need to discuss our goals and risk tolerance with our insurance
carrier, and make clear our perferred types of investments. Once we have
purchased a policy, we cannot influence the choice of its assets. “Some clients
see the lack of control as enough of a deterrent to decide against doing a
private placement,” Citigroup’s Moore notes.
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