Life insurance policy - cash values vs investment values

I am looking at Exhibit 6 page 413 (CFA curriculum)

It shows that the cash value of an insurance policy increases as Age increases, and the insurance value decreases as age increases.

Can someone please explain what this chart is? Is this saying that If I took out life insurance on my own life, at any time I can ‘sell’ my own life insurance for a cash value? This cash value increases as I get older? Why?

I am trying to understand the relationship between insurance value and cash value and why they are inversely related as you get older. Also I am trying to understand who this ‘value’ is attributed too. The holder of the policy? In this case me taking out insurance on my own life?

A typical feature of life insurance with a cash value feature is the right to surrender the policy for its cash surrender value. Once the policyholder fully surrenders the policy, all contractual obligations end. On surrender, it is the contract owner who receives the CSV. The contract owner does not necessarily have to be the life insured or the beneficiary.

The cash value accumulates as premiums are paid in over time. The difference between the face death benefit and the cash value is the insurance amount (aka net amount at risk). As the cash value builds up, the net amount at risk drops. On death, the life insurer pays the face death benefit, which is the sum of the cash value and the net amount at risk.

Don’t forget that many of these policies include survival of the policy as an insurance event as well (i.e. if the policy is for 20 years and you live longer than that, you will get paid the insurance amount, or even insurance amount plus interest in case the policy has an investment element, at the end of the 20th year). Thus, the insurer has a continuous incentive to buy out your policy (obviously for less than the PV of the cash outflow).

^ Yes, most life insurers will have large blocks of endowment insurance policies issued decades ago (before tax law changes made them unpopular). If the policyholder survives the 10/20/30 years or to age 65/75/85 etc., then the policy’s cash value = face amount and is paid out.

Life insurers make more money from keeping policies in force rather than having policyholder surrender. It’s the policyholder who has the unilateral right to surrender the policy prior to the maturity date.

What is your agency? I don’t know much about it, but it seems to depend on agency conditions. Me and my relatives we all deal with General Insurance , you can check it out, maybe your problems will be solved

I was looking for clarification on this too.

@BreadMaker, so to put numbers to an example… Am I understanding this correctly?

If I have a 10 year life insurance policy with a death benefit of $50,000 for example, and my gross premiums totals $5,000 per year. The cash value of my policy after 3 years would be $15,000 and I could choose to surrender the policy and take the $15,000 as cash value out and invest elsewhere?

I still don’t quite understand insurance value decreasing as age increases… I know it makes sense, but I can’t explain why…

Unless you’re a frighteningly old male smoker with serious life-threatening medical conditions, your premium would be faaaaaar lower than that!!! :stuck_out_tongue:

Let’s try a hypothetical whole life policy issued to someone aged 30: sum insured is $100,000, annual premium is $800, cash value @ end of first policy year is $30, cash value @ end of second policy year is $120. If the insured dies at the end of the first policy year, the insurer will pay the full $100,000 = $30 cash value + $99,970 insurance value (a.k.a. net amount at risk); if the insured dies at the end of the second policy year, again the insurer will pay $100,000 = $120 cash value + $99,880 insurance value. As time goes on, the cash value builds up and the insurance amount decreases.

Makes sense. But how are you getting the $30 cash value after a year? And then $120 after the second year? Do we need to know how to arrive at that?

Thanks!

The cash values are merely hypothetical in order to demonstrate the concept behind cash value and insurance amount. You do not need to know how to calculate them. :slightly_smiling_face:

Cool! Thanks for the explanation