What are the main features of modern life insurance?
Modern life insurance can basically be described as business in so-called investment-type policies. Although it comes in several varieties – such as investment-linked life insurance and variable annuities – the differences in these products mainly concern the extent to which capital can be paid into and disbursed by the products concerned. The benefits that they provide are, however, essentially the same.
Investment-type policies involve taking out life insurance, with the premiums – usually a single premium – being invested in various funds or asset classes. Some of these policies include cover in the event of death or disability. In contrast to traditional life business, the insurance company is merely responsible for the administration of these policies. This means that rather than investing the capital itself, it coordinates the investment of premiums with a bank.
If the premiums are invested in funds, customers often make the necessary investment decisions themselves. The insurance company receives commission for its asset administration services but is not involved in investing the insurance assets (unlike traditional life insurance that offers guaranteed returns).
Although modern life insurance policyholders therefore bear the investment risk, they can earn a far higher profit than they could from traditional life insurance that offers guaranteed returns. This is because customers benefit fully from any gains on investments.
This line of business is highly lucrative for insurers not only because they earn fees but also because they only have to provide a relatively small amount of so-called risk-bearing capital, as the policyholders bear the investment risk.