All About Survivorship Life Insurance Policies

What Is a survivorship life insurance policy?

A survivorship life insurance policy, also known as a second to die life insurance policy, covers the lives of two insureds. As its name implies, a policy of this type only pays a death benefit after both insureds have passed away.

What are common uses?

The primary use of survivorship life insurance is for estate planning purposes. This could mean building an estate or securing a legacy for heirs if one does not already exist. Or, if a sizable estate already exists, the death benefit could be used to offset estate taxes, thus helping to preserve the estate.

Additionally, since it is easy with life insurance to designate beneficiaries and their shares, it is a good way to divide an estate, or at least a portion of it, in the manner desired. (As opposed to tangible items that may have unknown monetary values, or more often sentimental value to family members, which can lead to bickering).

Finally, it could be a way to ensure that you leave something behind for your heirs, while also allowing you to enjoy your life and use your money while you are still living.

Another possible use is for parents of special needs children. A policy of this type would ensure that there would be assets available to take care of the child after both parents pass.

What are some of the typical riders or features offered?

These types of policies are most often purchased by married couples, so a common feature that companies offer is the ability to split the policy into two separate policies in the event of divorce or annulment. Since these policies are often purchased for estate tax purposes, splits are also often allowed in the event that certain tax law changes are made. Often these splits do not require evidence of insurability.

Companies sometimes also offer the ability to split policies at any time, but with underwriting required. In any of the cases, you of course would need to pay the new premiums for the separate policies.

There are also a number of other riders available that deal with trusts, tax rules, and other complicated stuff. Often there is an estate planning attorney involved with these types of policies to ensure they’re set up properly. 

What are death the benefit options?

The most common death benefit options that you’ll see are a level death benefit, an increasing death benefit equal to a specified amount plus the cash value, or a death benefit equal to a specified amount plus the premiums paid and less any withdrawals. The first two are standard universal life policy options, while the last one tends to be seen mostly on survivorship life insurance policies. 

How much does it cost? (Warning: this section might put you to sleep – but go ahead and read it anyway)

As mentioned, one of the features of survivorship policies is that they cost less because they only pay a death benefit after the death of the second insured. But how much less expensive are they?

Before we look at a few examples, let’s construct four hypothetical insurance policies. The first, which we’ll call policy A, insures the life of person A. The second, which we’ll call policy B, insures the life of person B. The third, which we’ll call policy F, will pay out at the first death of person A or person B. The fourth, which we’ll call L, will pay out at the second death of person A or person B. (Think F for first and L for last). Policy L is a survivorship policy and the one we’re most interested in. All policies have the same death benefit and internal workings (mortality rates, expenses, interest rates, etc.).

Let’s compare what happens with the policies. After the first death, policy F is going to pay a death benefit (regardless of who dies first). One of policy A or policy B will pay a benefit, depending who dies. After the second death, policy L will pay a death benefit on the remaining insured. The remaining policy A or B will also pay a death benefit. So policies A and B have paid benefits equal to the benefits of policies F and L.

This leads us to the following statement:

Price(A) + Price(B) = Price(F) + Price(L), or if we drop the Price() part for simpler notation,

A + B = F + L

If the logic is hard to follow, here’s a table that shows what each policy will pay on the deaths of A and B (DB stands for death benefit):

Policy Death of A (First) Death of B (Second) Death of A (Second) Death of B (First)
A DB 0 DB 0
B 0 DB 0 DB
F DB 0 0 DB
L 0 DB DB 0

 

So if you add up the death benefits for the two insureds, you can see that policies A and B combined pay the same death benefits as F and L combined. So what was the point of all that and what does it tell us? Well, since we are interested in the price of L and how much cheaper it is than two individual policies, we can express the relationship in this way:

L = A + B – F

Since we are just working with symbols, this doesn’t seem to tell us much, but let’s consider four possibilities to see what we can find out: (1) A is extremely healthy and B is extremely healthy, (2) A is extremely healthy and B is extremely unhealthy, (3) A is extremely unhealthy and B is extremely healthy, and (4) both A and B are extremely unhealthy.

In all cases F needs to be larger than A and larger than B (a policy that pays when the first of A or B dies should cost more than one that pays only when one person dies). (Maybe F could equal A or B if the policy is issued just at the time the insured is jumping out of a plane with a faulty parachute, but we won’t consider cases like that).

In the first case, since both A and B are extremely healthy, F is only going to be a little bit larger than either A or B (or the maximum of A and B) since neither one is likely to die soon. So L is going to be a bit smaller than the minimum of A and B (or a bit more than a bit smaller than the maximum of A and B).

In the second case, F will be relatively close to B and perhaps very close, so L will be relatively close to very close to A. F will be significantly larger than A so L will be significantly less than B. In this case, it’s sort of like person A purchasing a policy that’s a little bit cheaper than an individual policy since it is very likely B will die first. The third case is the same, except A and B are switched.

In the fourth case, F will be relatively close to both A and B, so L will be close to both A and B (which are both high). This is not a very realistic scenario since a company probably would not issue a policy to two people like this.

In all cases, obviously L must be less than the greater of A and B and also less than the smaller of A and B (why would the healthier person pay more for a survivorship policy than an individual policy?). Cases 2 and 3 will see the biggest reduction for the unhealthy person versus an individual policy premium. In real life, it tends to be something more like: both people are relatively healthy, or one person is healthy and the other not so much, but not necessarily (although possibly) extremely unhealthy.

Since all of the above didn’t offer us any numbers, just general concepts, we’ll go through a couple of examples. We’ll figure out the price of some fictitious policies (here’s a good article on how life insurance premiums are determined for more information).

First we need to figure out mortality rates for survivorship policies, which is not too difficult. We’ll use two 60-year-olds, one male and one female. The male is in great health and the female is in average health.

To figure out the probability that at least one of them lives to a certain age (since the policy only pays if both are dead), we can add the individual probabilities that each lives to a certain age and then subtract the probability that both live to a certain age (so that we are not double counting). There are too many numbers to list, but here is a summary of the probabilities of living to various ages:

Age Male Female Joint
70 .9528 .9328 .9968
80 .7809 .7052 .9354
90 .3070 .3232 .5309
100 .0163 .0473 .0628

You can see that the joint “person” has a much higher probability of surviving to most ages. And even though the female is only in average health, she eventually catches up to the male. Here is an article if you’d like to read more about life expectancy.

And here are a couple of graphs. The first one shows the mortality distributions. You can see that the joint distribution is shifted to the right and is more concentrated at older ages. The male is more concentrated than the female in the 80s, while she has heavier left and right tails (if you are really bored, you should read this).

This next graph shows the probability of living to various ages (the same as the above table, except for more ages). Again, you can see that the joint status is much more likely to survive longer. And the female/male lines cross over around age 90.

A few notes: first, we have been calling the combination of the male and female a joint person (or status). When companies issue these policies, they calculate something called a “joint equal age.” Essentially this equates the two lives to one life of a specified age. For example, the two 60-year-olds in our example might have a joint equal age of 57. The joint equal age will depend on the ages, genders, and health statuses of the two insureds.

Second, we have assumed that the two lives are independent. Since survivorship life insurance policies are often purchased by husband and wife, this is not the case. So in practice we would need to account for simultaneous deaths (e.g. a car crash), sometimes referred to as double tragedy. And when the first spouse dies (especially in old age), many times the second spouse will pass not much later. This is often referred to as heartbreak.

Ok, so if we’re only looking at mortality and interest, how much would policies cost for these two individuals and also for a survivorship policy on them? I’ll spare you the details, but assuming 5% interest, here are the annual premiums for a $250,000 benefit:

Person Premium Percent Savings
Male $5,220 30%
Female $5,603 35%
Joint $3,660 N/A

It turns out that the male is cheaper even though the female eventually overtakes him in probability of living to a certain age. This is because the higher death benefits at early ages for the female have a larger present value than the male’s. And in this example, the joint premium is approximately 30% lower for the male and 3% lower for the female.

We also could figure out the cost of a first to die policy (F = A + B – L), which would be $7,163 in this example. Of course, the real life savings will depend on the usual things like actual insurance company pricing and the ages and health ratings of the insureds.

Pros

To recap, here are some of the pros of survivorship life insurance policies:

  • You can save money on premiums versus buying individual policies
  • You can offset estate taxes to preserve your estate
  • You can create a legacy if one does not already exist
  • You can secure coverage on a person who might otherwise be deemed uninsurable

Cons

  • You must wait for two people to die for the benefit to be paid
  • Not suitable for situations where the livelihood of one of the insureds or beneficiaries is dependent on the other insured
  • Will probably have to deal with lawyers (and of course insurance agents)

Conclusion

Survivorship life insurance is a great way to preserve or create an estate for a reasonable cost, even when one person is not terribly healthy. It’s a bit more complicated than regular insurance due to two lives being involved as well as its frequent use in complex financial situations. If you read all of this and understood it, you probably now know more about this product than most. Good job!

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