on Insurance Uncategorized

Build Your Own Scenario: Variables to Test When Planning Insurance-Backed Transfers

High-net-worth (HNW) estate planning often relies on life insurance to provide liquidity, equalize inheritances, and mitigate estate taxes. But the difference between a plan that succeeds and one that fails usually comes down to scenario modeling: which variables you test, how realistically you stress them, and which providers and structures you choose. This guide walks you through the critical variables to include when building your own insurance-backed transfer scenarios focused on U.S. clients (with emphasis on New York, California, and Florida markets), provides an illustrative comparative model, and points to practical resources and providers commonly used in HNW planning.

Why build your own scenario?

  • Tailors planning to family objectives (liquidity, legacy, charitable goals).
  • Quantifies trade-offs among premium outlay, financing risk, and net-family-wealth.
  • Exposes fragilities: interest-rate sensitivity, mortality variance, policy-crediting under-performance, and state-level estate tax exposure.

Use granular scenarios when advising families in New York City (high state estate tax risk), Los Angeles (large asset bases, mixed property tax exposure), and Miami (no state estate tax but planning for federal exposure).

Core variables to test

1. Mortality & underwriting class

  • Underwriting class (Preferred Plus, Preferred, Standard) materially affects premium. For permanent policies on HNW lives, small downgrades can add tens of thousands annually.
  • Mortality improvement assumptions across the modeling horizon (10–30 years).
  • Scenario actions:
    • Test 1-step and 2-step class downgrades.
    • Model earlier-than-expected mortality for the insured(s).

2. Policy type and structure

  • Single-life vs. survivorship (second-to-die) policies.
  • Policy design: Guaranteed UL vs. Indexed UL vs. VUL vs. PPLI.
  • Ownership: Individually owned, Irrevocable Life Insurance Trust (ILIT), or corporate-owned.
  • Key decision: survivorship often reduces cost per death benefit for estate liquidity where wealth passes to the next generation; single-life may be better when one spouse has materially higher mortality risk. See comparisons in Survivorship Policy Modeling: When Second-to-Die Coverage Beats Single-Life Solutions.

3. Premium pattern & affordability

4. Cost of funds & financing structure

  • Premium financing often priced as SOFR + spread; current market spreads for high-net-worth premium finance lines typically range from SOFR + 125–350 bps depending on lender, credit, and collateral.
  • Key variables:
    • Loan tenor and amortization assumptions.
    • Covenant triggers and required collateral.
    • Repricing risks if the lender resets margin or calls collateral.
  • Track SOFR and term market dynamics via the New York Fed: https://www.newyorkfed.org/markets/reference-rates/sofr

5. Policy crediting / investment performance

  • For UL and VUL, test:
    • Base-guaranteed assumptions vs. illustrated crediting (e.g., guaranteed 2% vs. illustrated 6%).
    • Volatility in indexed strategies and downside floors.
    • PPLI alternatives that use private assets — performance assumptions and fee overlays vary; providers include Lombard International and Pricoa for custom PPLI structures.

6. Tax environment and state differences

7. Trust mechanics and ILIT design

8. Carrier selection and financial strength

  • Use carriers with strong ratings (e.g., Northwestern Mutual, New York Life, MassMutual, John Hancock) for long-duration guarantees.
  • For large face amounts or alternative structures, PPLI specialists and Lloyd’s markets may be appropriate.
  • Capture carrier-specific illustrated expenses, illustrated discount rate caps/floors, and guaranteed corridors.

Illustrative scenario: Survivorship UL vs. Premium-Financed Policy

Assumptions (illustrative only; run your own illustrations):

  • Estate value pre-insurance: $80M (NYC domiciliary, estate tax exposure).
  • Death benefit target: $40M survivorship policy to cover estate taxes and provide liquidity.
  • Ages: Husband 62 / Wife 60, Preferred underwriting.
  • Federal estate tax rate: 40%; NY marginal ~10–16% effective on large estates (modeled combined effective marginal rate ~50%).
  • Policy types:
    • Option A: Traditional Survivorship UL, fully paid via annual premiums over 10 years.
    • Option B: Premium financed policy with 5-year interest-only loan (SOFR + 200 bps assumed; SOFR sample 1.5% → financing cost 3.5%), loan repaid at death or by policy cash values.
  • Policy crediting illustrated performance: Base-guaranteed 3% vs illustrated 6%.
Variable Option A: 10-yr pay SUL Option B: Premium Finance (5-yr IO)
Initial annual premium (illustrative) $1,800,000 Lender funds $12,000,000; borrower pays interest ≈ $420,000/yr
Financing cost N/A SOFR + 200 bps → ~3.5% (illustrative)
Policy crediting illustrative 6% (illustrated) 6% (illustrated)
Downside scenario (crediting 3%) Cash values may require additional funding in later years Covenant/Collateral calls possible; borrower might need to recapitalize
Liquidity at death (after debt, taxes) Provides ~ $40M death benefit net to estate settlement Net proceeds reduced by outstanding loan balance if not repaid; ILIT structuring can mitigate estate inclusion if properly drafted

Key takeaways from this comparative test:

  • Premium financing reduces near-term client cash outlay but introduces market/credit risk — if SOFR spikes and the lender calls collateral, the family may be forced to de-risk or fund the loan.
  • A 3% vs. 6% policy crediting variance over 10–20 years can change expected cash value sufficiency dramatically; guarantee corridors must be stressed.
  • State domicile matters: New York planners should model combined federal + NY estate exposure; Florida residents avoid state estate tax but still face federal exposure.

Practical modeling checklist (what to run)

  • Base case vs. 6 adverse stress tests:

    1. Mortality shock (one spouse dies 5–10 years earlier).
    2. Credit performance shock (policy crediting 50% of illustrated).
    3. Interest rate shock (SOFR + 200 → SOFR + 400 bps).
    4. Underwriting downgrade (preferred → standard).
    5. Estate-tax law shock (loss of portability, lower exclusion).
    6. Lender action (collateral call at year 3 in a financed scenario).

  • Outputs to capture:

    • Net family wealth (post-tax, post-loan).
    • Estate liquidity at probate (cash needed to settle taxes).
    • Trust valuations and gift-tax consequences.
    • Collateral requirements and lender covenant triggers.

Vendors, pricing cues, and U.S. market reality

  • Carriers frequently used for HNW survivorship permanent solutions: New York Life, Northwestern Mutual, MassMutual, John Hancock — these carriers are selected for balance-sheet strength and experience with large face amounts.
  • Direct-origin term providers (useful for sample term pricing and smaller bridges): Haven Life (MassMutual) publishes sample rates and easy-to-get term quotes for sizing short-term liquidity solutions (see Haven Life rates: https://havenlife.com/rates).
  • Premium financing providers: private bank arms of J.P. Morgan, Goldman Sachs, Bank of America Private Bank, typically price to proprietary credit appetite and client collateral; expect financing spreads historically in a range roughly equivalent to SOFR + 125–350 bps for prime HNW credits (model spreads as scenarios).
  • For PPLI and alternative wrappers, specialist firms such as Lombard International and Pricoa provide custom structures — fees and minimums vary; PPLI is commonly used in California and New York HNW households where taxable investment growth is large.

Tools & further reading

Final checklist before presenting to a client (NY / CA / FL focus)

  • Run best, base, and six adverse stress scenarios capturing mortality, credit, policy performance, and tax-law variance.
  • Obtain firm-specific illustrations (carriers differ materially in illustrated expenses, secondary guarantees, and cap/floor behavior).
  • Get lender indicative terms in writing (SOFR base, spread, covenants) before committing to premium financing.
  • Confirm domicile-specific estate tax exposure and coordinate with trust counsel to optimize ILIT and gifting windows.

Building robust, advisor-grade scenarios means testing worst-case permutations, not only the base illustration. For high-net-worth families in New York City, Los Angeles, and Miami, insurance-backed transfers can be highly effective — but only when models incorporate underwriting variance, financing stress, and state-plus-federal tax outcomes.

Recommended Articles