May 26, 2008

The High Cost of Joint First To Die (JFTD) Life Insurance

A family may need life insurance when either spouse dies. Or a small business may need a lump sum to buyout the shares of a partner upon death. Rather than buy coverage on each life, why not buy one policy to cover all the lives?

You can with Joint First To Die (JFTD) coverage. The death benefit is paid when the first of the lives insured passes away. Intuitively, one death benefit should cost much less than policies on each life. Since the oldest or least healthy life will likely die first, isn't the price close to coverage on that life alone?

That doesn't happen. With JFTD coverage, you also lose flexibility.

Suppose there's coverage for $1 million on two lives. If one dies, then $1 million gets paid tax-free. Suppose both die together or within days of one another? How much gets paid now? You can expect $2 million (may vary by company).

Actuarially Speaking
Using simulated actuarial notation, here is the mortality risk for a JFTD policy on two lives, x and y: Qx + Qy - (Qx * Qy) where
  • Qx = probability that life x dies
  • Qy = probability that life y dies
The death benefit is paid when either life dies but does not pay twice if both die together.

If you were buying two single life policies, the underlying mortality risk is Qx + Qy, which is quite similar. The discount for JFTD (Qx * Qy) is relatively small. Consequently, JFTD has limited appeal.

This is what was available when I designed products years ago:
  • Split Option: prior to the first death, can exchange the policy for individual policies on each life (e.g., upon divorce or separation)
  • Survivor Term Insurance: upon the first death, each survivor receives term insurance for a few weeks at no charge (which means that additional death benefits could be paid)
  • Survivor Option: upon the first death, each survivor can apply for a new policy on his/her life without underwriting with premiums based on the attained age (which means coverage can continue)
Products vary and I haven't seen a comparison in ages. There may be better (or worse) options today.

Loss of Flexibility
A JFTD policy offers the same coverage on each life. If each life needs a different amount of coverage (e.g., if one spouse earns a much higher income), single life coverage can be tailored. Another option is to buy coverage on the primary breadwinner and add a rider for the other spouse.

With Joint First To Die, the savings may be less than you expect but enough to be worthwhile.

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