The internal rate of return (IRR) can be a useful performance metric when evaluating life insurance policy design options and comparing to other assets.
How is the IRR used to evaluate life insurance?
Death benefit IRR is the policy’s rate of return displayed annually. It is calculated by comparing the cumulative premiums against the death benefit payout in an assumed year of death. This assumed year of death is usually based on a life expectancy table. The death benefit IRR will typically decrease over the life of the policy.
Since life insurance death benefits are not income taxable at death it is important to compare the life insurance IRR value to alternate investment opportunities on a tax-equivalent basis.
For example, if a life insurance death benefit IRR is 5.50% at age 90 and the client’s marginal tax rate is 35%, an alternative financial product would need to achieve a tax-equivalent IRR of 8.46% to offer equal performance.
You can calculate that tax equivalent rate like this:
5.50% / (1 – 35%) = 8.46%
Consider this example:
71-Year-Old, Female
Purchases $500,000, lifetime guaranteed universal life
Approved Standard Non-Tobacco
Annual premium $17,281.32
| Age | IRR on Net Death Benefit | Tax Bracket | Tax Equivalent IRR on Death Benefit |
| 80 | 22.88% | 25% | 30.51% |
| 85 | 9.25% | 25% | 12.33% |
| 90 | 4.05% | 25% | 5.40% |
| 91 | 3.40% | 25% | 4.53% |
| 95 | 1.47% | 25% | 1.96% |
*Age 91 Life Expectancy based on 2008 Valuation Basic Table (VBT)
I would guess that on a weekly average I direct advisors to the IRR page within the product illustration at least a dozen times. There is almost always an “A-HA Moment.” We now have a simple way to look at the life insurance.
The funding scenario and rate classification can both impact the IRR positively or negatively. I would encourage discussing your opportunity with one of our sales managers before looking to present to your client.
