Exception To The Rule

Advisors attempting to obtain large blocks of insurance death benefit on behalf of ultrahigh-net-worth clients will quickly find that there is a frustrating lack of supply regardless of price or demand. Despite this surprising state of affairs, an insurance broker can still obtain $100 million of death benefit, but only by proceeding very carefully through various obstacles. This is an area, though, where the broker must be both educated and intentional, for a mistake in the process can often result in the client being deprived of an otherwise available amount of death benefit for several years, perhaps permanently.

Several factors are responsible for the reduction of death benefit availability over the past several years.

First, the last decade has witnessed several mergers and consolidations in the reinsurance market that have unexpectedly reduced capacity. The normal expectation would be that a merger or consolidation of such entities would have the effect of adding (or possibly increasing) their combined death benefit capacities, but this has not occurred. Instead, the merged companies have used those transactions as an occasion to reduce their risk levels, resulting in decreased overall capacity.

Second, over the past several years, reinsurance companies have not experienced their targeted overall return on invested capital, thus causing them to reduce risk in both capacity and underwriting.

And third, reinsurance underwriters do not actually interact with individual clients or brokers, and thus have no concern that brokers will go elsewhere in the future. As a result, they feel less compelled to make "business decisions," ones marginally outside normal underwriting guidelines to enhance or secure a relationship.

The process of obtaining $100 million of death benefit can be viewed as involving four steps, each of which secures a different "level" of the desired death benefit. The first step is to secure the primary insurance carrier's own internal retention, that is, the amount of death benefit that the insurance company could itself retain absent any reinsurance support. This amount is based on the percentage of the insurance company's capital base that regulators and the company's board will allow the company to risk. Though most insurance carriers' retention levels are much lower, they may, in rare cases, reach approximately $30 million. The initial step for the advisor, therefore, is to seek out an insurance company with high internal retention, provided that such a company will provide the desired underwriting result.

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THE PROCESS OF OBTAINING $100M OF DEATH BENEFIT CAN BE VIEWED AS INVOLVING FOUR STEPS, EACH OF WHICH SECURES A DIFFERENT "LEVEL" OF THE DESIRED DEATH BENEFIT.

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The second step for the advisor is to determine the amount of additional death benefit that the insurance carrier may, by treaty with reinsurance companies, legally bind for those companies based on its own internal underwriting. This "automatic binding" limit is subject to a "lesser than" standard, meaning that the insurance company may automatically bind reinsurance companies to a certain level, but in no event may the total amount of insurance currently in force and applied for exceed what is referred to as the "jumbo limit." For example, a few insurance carriers would be able to automatically bind reinsurance companies to an additional $50 million of death benefit, provided that such amount, when added to all existing coverage, did not exceed a jumbo limit of $65 million.

The third step is to determine the level of death benefit that reinsurance companies will offer to underwrite separately, without respect to the underwriting level previously provided by the insurance carrier itself for its own retained risk and for the risk automatically bound. Though insurance companies are more than hesitant about offering underwriting substantially different from that ultimately offered by reinsurance companies, it is not uncommon for the reinsurance underwriting to be more conservative (i.e., less favorable for the insured) than that offered by the primary insurance company, for some of the reasons mentioned above. It is possible for the broker to obtain an additional $10 million to $15 million of death benefit capacity as a result of this third step of obtaining direct reinsurance underwriting.

If we've so far achieved perhaps $90 million of death benefit for the client, where do we obtain the last piece that provides the desired $100 million of coverage? With the primary selected carrier and the reinsurance companies tapped out, it is now possible for the broker to approach additional carriers about their own internal risk retention limits. A separate underwriting process is involved as new carriers are approached, but the effort can result in an additional availability of $15 million to $20 million of coverage, thus allowing the client to obtain in excess of the sometimes magic $100 million level of death benefit.

What does the future hold as to death benefit limitations? Though some expansion is expected, the process is slow, and investors looking at new investments tend to talk in terms of $5 million blocks of risk, not the $50 million blocks for which one would hope. Should the market be expanded, brokers will best access that additional capacity by utilizing the above four-step process, even as they try to explain to the client why he can't, as in other areas of life, get all he is willing to buy.

 

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Pat Trammell and David Byers are principals of Capital Stratagies Inc., an M Financial Group firm, which specializes in advanced insurance planning for family offices.