Why policyholders abandon their whole life insurance policies

By Jim Sloan on June 17th, 2010
Life Insurance

On the surface, it doesn't make much sense. People take out a whole life insurance policy, sometimes even undergoing medical tests to qualify for the coverage, then make payments on that policy for years--before suddenly abandoning the policy. They stop making payments, and their life insurance policy lapses.

In some cases, the policyholder is simply cashing out the accumulated value in the policy. In other cases, the insured can no longer afford the payments--maybe they've lost their job or gotten divorced. Sometimes they've just found a different policy that pays a higher death benefit for the same monthly premium.

Although there are no studies confirming all the reasons people abandon their whole life insurance policies, LIMRA--an insurance industry trade group--has published statistics on life insurance lapse rates. Analyzing these lapse rates for situations that have prompted other policyholders to walk away from their policies can help those shopping online for cheap life insurance quotes be better informed consumers.

Here are some life insurance buying tips we can glean from these statistics:

Avoid buyer's remorse by shopping carefully now

According to LIMRA's study, life insurance policies with smaller face amounts tend to be abandoned more often in the earlier years of a policy. This often happens, it says, because buyers regret purchasing the policy or have found a cheaper one that pays the same death benefit for the same price. Since the policy holder hasn't invested much in the original whole life insurance policy, he or she may be more willing to abandon it for what seems like a better deal.

Whole life insurance policies with larger death benefits tend to lapse in later policy years, however. This, LIMRA says, is because the policyholder has replaced the original policy or surrendered it. After a policyholder has paid premiums for many years, the policy's cash value may be high enough to persuade the insured to cash out the policy and pay surrender charges.

Women, stick to your guns

The lapse rate between the two sexes is about even, although women tend to abandon their policies more in the first few years than men do. Although men buy 56 percent of all whole life insurance policies, the amount of insurance they buy has been declining, while the face amounts of policies for women has increased slightly. Still, the amount insurance companies would have to pay in death benefits to men accounts for 66 percent of all the "exposure" the insurance industry faces in total death benefits for people who have taken out whole life policies.

Make a long-term commitment

Younger people who take out whole life insurance policies tend to let their policies lapse more often than older policyholders. Policyholders between the age of 50 and 80 tend to abandon or cash out higher-valued policies more often than those with policies carrying smaller death benefits. There is also a spurt of lapses when policyholders reach the age of 65--probably indicating people cashing out their policies in order to have more money for retirement, according to LIMRA.

Set up automatic electronic payments

Studies have also shown that people who have to make more frequent premium payments--twice or four times a year, for instance--are more likely to abandon their policies than those who make annual payments. The percentage of people making quarterly or semi-annual payments who abandon their payments is around 18 to 23 percent, while only 10 percent of those who make annual payments ever abandon their policies.

However, it's not the increased frequency of payments per se that drives lapses but possibly how "painless" those premium payments are to budget for. Those who make monthly payments only allow their policies to lapse about 13 percent of the time--a sign that many are using automatic electronic fund transfers, LIMRA says.

If you're a preferred customer, try to hold the course

Life insurance policyholders are divided into three categories: preferred customers, who get the lowest premium rates, standard customers, and substandard risk customers, who include people who have unhealthy or life-threatening jobs, medical conditions or habits, such as smoking.

Not surprisingly, preferred customers tend to purchase policies with higher face values than the other two categories because the same premium affords them more coverage. In the insurance companies' eyes, preferred customers will, on average, live longer and consequently pay more into their policy over time, allowing them to buy more coverage than others will get for the same premium.

During their earlier years of a whole life insurance policy, preferred customers don't abandon their policies as often as standard or substandard risk policyholders. But then in year five, based on the records of 12 companies who provided information, preferred customers suddenly start having a higher lapse rate than standard risk policy holders. And by year seven, the preferred customers are lapsing at a higher rate than either of the other two and they continue to have the highest lapse rate for the next 17 years.

Smokers allow their policies to lapse at a nearly 20 percent rate the first year, but the lapse rate steadily declines for the next 10 years until their lapse rate becomes roughly equal to the lapse rate for nonsmokers.

If you are shopping for cheap whole life insurance or looking for online insurance quotes, keep some of these factors is mind as you plan for your future.

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