Personal insurances: Insurance premium styles

18 Feb Personal insurances: Insurance premium styles

A number of variables influence the insurance premiums payable on a personal insurance policy. In this article, we cover one such variable, insurance premium style and the options available.

Written and accurate as at: Feb 11, 2021

When it comes to wealth accumulation and the management of certain lifetime risks, an appropriately established personal insurance plan can be an important risk management strategy.

An appropriately established personal insurance plan can provide you (and your loved ones) with a safety net in the event you were to experience a financially stressful event, such as:

1. a traumatic event;

2. a disabling sickness or injury; or

3. an unexpected passing (or diagnosis of a terminal illness).

For example, when looking at cancer (e.g. prostate, breast, lung, bowel, leukaemia, and melanoma), 1 in 3 men and 1 in 4 women are diagnosed with some type of cancer before age 75. And, in terms of financial stress, the average lifetime cost of cancer is $126,280* for those aged 15-64 (cancer sufferers).

In this example, if you were diagnosed with cancer, trauma insurance can help with the financial stress associated with this traumatic event, so you can focus on treatment and recovery.

Importantly, when it comes to establishing an appropriate personal insurance plan, a needs analysis can assist with determining your personal insurance needs (types and levels of cover). Following this, the discussion can centre on other important considerations, such as the cost and affordability of the insurance premiums payable.

With this in mind, it’s important to note that there are a number of variables that can influence the insurance premiums payable on a personal insurance policy over the short, medium and long term.

One such variable is the insurance premium style—depending on the insurer, there can be several options available to choose from. Below is a general overview of the different insurance premium options.

Insurance premium styles

Stepped option

The insurance premiums payable, with a stepped premium style, are calculated based on your age and recalculated on the anniversary of the personal insurance policy each year.

With this option, you pay for the risk associated with your current age which means that the insurance premiums payable will generally increase each year—as your risk and potential for making a claim increases.

In terms of the advantages and disadvantages of this option, they can be as follows:

• Advantage. The insurance premiums payable are generally cheaper at the start of the personal insurance policy, which can make it affordable to hold your cover in the short term.
• Disadvantage. The insurance premiums payable can substantially rise over the life of the personal insurance policy (as you get older), which can make it unaffordable to hold your cover in the long term.

In summary, a stepped premium style may be appropriate if you are only looking to hold an amount of cover for the short term or if you have cash flow restrictions and are looking for an immediate cost saving.

Level option

The insurance premiums payable, with a level premium style, are calculated based on your age at the commencement of the personal insurance policy and remain fixed over time.

However, with this option, it must be noted that the insurance premiums payable can increase over time—in instances where there are CPI increases, or base rate, policy fee, and stamp duty increases.

In terms of the advantages and disadvantages of this option, they can be as follows:

• Advantage. The insurance premiums payable are fixed, which means you know in advance what they will be, and you can save money (compared to a stepped premium style) in the long term.
• Disadvantage. The insurance premiums payable can be substantially higher (compared to stepped premium style) in the short term and can convert to a stepped premium style at a predetermined age.

In summary, a level premium style may be appropriate if you are looking to hold an amount of cover for the long term, and you aren’t subject to cash flow restrictions.

Hybrid option

The insurance premiums payable, with a hybrid premium style, are in essence a blend of the features of both a stepped premium style and a level premium style.

With this option, the insurance premiums payable increase each year like a stepped premium style for a set period, and then lock into a fixed rate like a level premium style at a predetermined age.

However, as previously noted above, with this option, the ‘fixed rate’ insurance premiums payable can increase over time—in instances where there are CPI increases, or base rate, policy fee, and stamp duty increases.

In terms of the advantages and disadvantages of this option, they can be as follows:

• Advantage. The insurance premiums payable are cheaper than a stepped premium style in the long term and cheaper than a level premium style in the short term.
• Disadvantage. The insurance premiums payable are more expensive than a level premium style in the long term, and there can be a minimum age requirement that needs to be met to choose this option. Also of note, the ‘fixed rate’ can convert to a stepped premium style at a predetermined age.

Please note: A hybrid premium style isn’t available as an option with all insurers.

In summary, a hybrid premium style may be appropriate if you are looking to hold an amount of cover for the long term, but you also have cash flow restrictions in the short term.

Moving forward

When it comes to wealth accumulation and the management of certain lifetime risks, an appropriately established personal insurance plan can be an important risk management strategy.

Importantly, there are many things to consider in terms of establishing an appropriate personal insurance plan. One consideration can be cost and affordability of the insurance premiums payable.

With this in mind, it’s important to know that there are several different insurance premium styles available. However, as noted above, each of these options has advantages and disadvantages.

Therefore, take the time to understand how each option works, so that you can choose the one that is appropriate to your financial situation, goals and objectives. And, please remember, we are here to help.

If you have any questions regarding this article, please contact us.

*Zurich. (2018). The cost of care: The missing link in strategic financial advice equation. Health Research Whitepaper.