I get asked often to have a look over someone’s existing insurances and give them my opinion on them. One common theme I see is almost a “default” option recommended to medical professionals (and taken up) is to set their policy up on a “level” premium structure. The theory is sound; “pay a higher premium now and you never have to worry about the premiums going up again in the future!” As I said, the theory is sound but a bit like communism, it doesn’t always work out that way in practice.
To set the record straight, level premiums can be increased by an insurer at any time they please, just the same as stepped premiums. In the past insurers have tried to shield their level premium clients from premium increases but this is becoming increasing rarer these days as insurers struggle with low returns on their premium investment pools and higher claim rates. Most people on level premiums will have been notified of a premium increase that is outside and above the normal CPI increase.
Please don’t get me wrong here; I am an unashamed fan of level premiums to ensure long-term affordability but I would like to raise two points to consider:
1. When should you consider level premiums? From the premium matrixes and cost/benefit analysis I have done, I find that an entry age of early to mid-thirties is often a good age to consider a level premium structure (there are always exceptions to every rule). Up to that age, the premium increases as well as the entry premiums for level and stepped premiums are not massively different so why not retain the flexibility to adjust your cover type and sum insured during the time that your career path, income level and personal situation is evolving (quite often rapidly!). Not all insurers allow you increase your cover on a level premium structure readily so sometimes it can be worthwhile retaining that flexibility until you are at a stage in life where you are ready to “lock it in” with only a minor chance of adjustment possibly required.
2. Do ALL your premiums need to be level? Generally speaking (depending on the type of cover), you will need to hold a policy on level premiums for around 10 years until you realise the savings over a stepped premium policy. Following on from this then, unless you intend to hold a policy (at that particular sum insured) for much longer than 10 years (you don’t just want to break even on the total premiums paid, you want to be in front), I would suggest that you consider if a stepped premium structure suits you. The purpose of the policy needs to be taken into consideration as well. Some insurers also offer the ability to “split” a policy up between stepped and level so you have the best of both worlds. An example of this may be the following scenario:
A client (Bob) is 35 years of age, married with one child in year 6 at a state school. His wife is a full time homemaker and they have their son booked into a prestigious private secondary college. He has a mortgage on the family home of $1,500,000 and has just started his first practice with borrowings of $500,000 which he expects to repay over the next seven years. Bob has stated that in the event that he was to pass away, he would like that his wife to own the house, pay off the debt on the practice (which may or may not be worth much if he was to pass away relatively soon after opening), fund the projected private schooling costs for their son (estimated to be $250,000) as well as provide an ongoing income for her of $50,000 per year for the next 15 years. If we consider splitting the premiums up between stepped and level, I would suggest a policy structured in the following way:
- LEVEL PREMIUMS; $2,250,000 to cover the mortgage on the house and the future income for Bob’s wife as these are both long term requirements.
- STEPPED PREMIUMS; $750,000 to cover the debt on the practice (as this expected to be paid off in 7 years) and the future schooling costs for their son (as this is for 5 years).
The baseline cover of $2,250,000 can be maintained long term and the stepped premium cover can be reduced as debt is paid down and their son completes school.
Again, please take this as a general scenario and you should not make decisions without getting proper advice on your personal situation. If you would like to discuss further, please feel free to contact me for an obligation-free discussion on 07 3382 6723 or email@example.com