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Future Of Life Insurance Planning Hinges On Compensation-Related Issues

Despite the central importance of the economy, the focus on compensation issues has risen since the 1990s and is now reaching a crescendo. This issue could have critical consequences for the life insurance industry in particular and the country in general. The Association for Advanced Life Underwriting (AALU) will be heavily engaged in the legislative and regulatory consideration of compensation-related matters, particularly as they relate to advanced life insurance planning.

Growing Concern About Executive Compensation

Concern about excessive executive compensation has been growing since the 1990s. Before that, criticism of executive compensation would often trigger a spirited response that the marketplace itself is best at finding the greatest efficiency and creating economic growth and jobs. The stock market crash in 1987 cracked that façade, followed by the Enron and World- Com scandals, Sarbanes-Oxley legislation, stricter regulation and proposed limits on nonqualified deferred compensation and finally - and the most troubling - the current financial crisis and the failure of banks and investment firms while their top executives prospered.

Potential Broadening of Consideration

We are now at a crossroad. The recently enacted economic stimulus bill included one provision that imposes further corporate governance standards and limitations on the most highly paid executives of companies that participate in the Troubled Assets Relief Program (TARP), including a ban on bonuses and other incentive compensation. The Senate approved two broader provisions, including a proposal by Sen. Claire McCaskill (D-Mo.) to limit the total compensation that could be paid to any employee of a TARP recipient to the amount of compensation paid to the president of the United States ($400,000 per year). There is reason to believe that Congressional negotiators did not drop the McCaskill amendment based on its shortcomings, but simply because they could not afford to keep it. The Congressional Budget Office estimated the amendment would reduce federal revenues by $14 billion by 2019.

Limits on employee compensation could be considered on a far broader basis. President Obama, U.S. Treasury officials and House Financial Services Committee Chairman Barney Frank (D-Mass.) have all suggested that it might be appropriate to extend some TARP compensation limits to all firms.

Potential Implications for Advanced Life Insurance Planning

What are the potential implications of this issue for advanced life insurance planning? The most obvious arena relates to nonqualified deferred compensation, which is commonly financed with corporate-owned life insurance.

A reduction in overall compensation for top employees would not only mean less compensation for them to defer, it could also decrease the compensation and practical deferral opportunities for other employees. It would contribute to decreasing net worth for many affluent families. The most common use of life insurance in advanced life insurance planning is in conjunction with estate planning. The drop in worth would also decrease the financial wherewithal and incentives to use life insurance, life insurance trusts and long-term planning to minimize and offset estate tax liability.

N.Y. Draft Producer Disclosure Regulations

In addition to potential indirect impact on advanced life insurance planning, compensation-related issues are also being considered with respect to life insurance producers. In February, the New York State Insurance Department released a draft regulation that would require full disclosure of producer compensation as well as a notice to those considering the purchase of life insurance, which would suggest that the interests of producers may be at odds with those of clients. AALU believes that the proposal is based on faulty premises, and the Department has provided no information that would suggest there is any problem in the life insurance arena. AALU and the broader life insurance industry are concerned that the proposal would inadvertently impair decision-making by the 75 million American families that benefit from life insurance products and increase the portion of the U.S. population with no life insurance coverage, already a troublingly high 40 percent. A good example of this type of unintended consequence is the experience in the United Kingdom, where commission disclosure was required in the early 1990s. Our understanding is that, after implementation, the level of commissions increased; coverage and service for those with middle and lower incomes decreased; and the number of producers declined from 180,000 to 5,000.

Prospects Bright, Despite Challenges

Despite these concerns, AALU is very optimistic about the prospects for advanced life insurance products and the benefits they bring to the broader public.

AALU is hopeful that any changes, particularly with disclosures, will facilitate the four-step process that AALU members typically engage in to provide maximum benefit to clients: (1) assess the client's needs; (2) help formulate plans that meet those needs; (3) assist with the purchase of life insurance products to implement those plans; and (4) provide ongoing service and administration to in-force policies.

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