The perceived benefits of front-loaded discounts on life/risk premiums may well be illusory and increase lapse rates, according to new research released this week.
The research, conducted by actuarial research house, Rice Waner for PPS Mutual, appears to have confirmed what many life/risk advisers already know – that the front-loaded discounts increase affordability for the first year but simply lead to more cost over the medium to long-term.
It found that front-loaded discount policies with stepped premiums have on average lower premiums in the first policy year, but higher premiums from the third policy year onwards.
Commenting on the findings, PPS Mutual chief executive, Michael Pillemer said the report confirmed his belief that front-loaded discounts represented poor consumer practices that should be fixed by the retail life risk insurance sector in Australia.
“Increasingly, in a bid to secure market share, the retail insurance industry has adopted initial short term discounts for new business premiums. The research demonstrates how over 5–20 years, policies with front-loaded discounts have significantly higher premium increases relative to the first policy year,” he said.
“By way of example, customers of one insurer who have been offering a 25% upfront discount could face increases of 50% plus in premiums in the second year once you also take into account age-based increases and indexation. The effect that these sharp premium increases have psychologically on a client, and the increased likelihood the client will lapse as a result, should not be underestimated,” Pillemer said.
He claimed that front-loaded discounts were likely to increase lapses for three reasons. Firstly, they encourage customers to switch to a policy with a lower first year premium in the first instance. Secondly, they mostly have higher premiums on average from the third policy year onwards. Lastly, they will also differ even more markedly to new business quotes where the first year discount still applies.
Pillemer said the Rice Warner report also demonstrated the difference between non-true level premiums and true-level premiums in medium and long-term cost. Typically, the premiums are very similar for the first five policy years, but by the eleventh policy year the most affordable non-true level premium is higher than the least affordable true level premium.
“In 2019, life insurers lost $1.3 billion, lapse rates for traditional life insurers remained stubbornly high at about 17% and policyholders have had to endure significant and repeated increases in premiums (in some cases by more than 35% year on year),” he said.
Pillemer claimed that while many of the issues the industry is grappling with were a function of the macro socio-economic environment, an historic and aggressive chase for market share by various insurers has created highly undesirable outcomes for consumers.
“We must also not allow the inevitable criticism for poor risk management and product design to be sheeted back to advisers. All too often it is financial advisers that bear the brunt of these poor insurer practices,” he said.