Policy Nonforfeiture Options

Three Standard Options

Nonforfeiture options prevent the loss of the cash value and apply when the policy is surrendered or lapses. (A policy lapse occurs when the policy's premium is not paid. A policy surrender occurs when the owner actively cancels the policy.) Life insurance policies commonly contain three nonforfeiture options: cash surrender option extended term insurance option reduced paid-up insurance option

Automatic Option

Sometimes an owner of a lapsed policy that was issued on a standard basis fails to elect one of the nonforfeiture options. Insurers typically apply the extended term insurance option automatically when no other option is elected.

Jerry asks his insurance company to pay him the cash value of his permanent life insurance and cancel the policy. Jerry is using which of the following nonforfeiture options? cash surrender option policy loan and withdrawal provision reduced paid-up insurance option extended term option

cash surrender option

Nonforfeiture Options and UL Insurance

Unlike other permanent policies, universal life (UL) policies do not contain the three standard nonforfeiture options. This is due largely because UL policies remain in force as long as their cash value allows the insurer to make a monthly deduction to cover the policy's insurance and operational costs. A UL policy lapses when the cash value no longer covers those deductions. In those situations, a UL policy has very little or no cash value left. Nothing is left to apply the nonforfeiture option against. However, a UL policyowner always has the option of surrendering the policy for its full (or partial) cash value

Cash Surrender Option

Under the cash surrender option, the policy is surrendered and the insurer simply pays the cash value to the policyowner in a lump sum. At that point, the policy is canceled, and the insurer's responsibility under the terms of the contract ends. Surrendered policies cannot be reinstated. Most states allow insurers to delay paying the cash surrender value for up to six months. However, few companies elect to defer payment.

Which of the following most correctly describes the nonforfeiture option(s) available with universal life insurance? cash surrender and extended term options only cash surrender and reduced paid-up options only cash surrender option only cash surrender, reduced paid-up, and extended term options

cash surrender option only

Which of the following is NOT recognized as a standard life insurance nonforfeiture options? extended term insurance reduced paid-up insurance policy loans cash surrender

policy loans

Dan surrenders his whole life policy and decides to apply its $20,000 cash value to buy $35,000 of whole life coverage for the remainder of his life. Dan has chosen which of the following? extended term option cash surrender option cash surrender and withdrawal provision reduced paid-up option

reduced paid-up option

Reduced Paid-Up Insurance Option

Under the reduced paid-up insurance (RPU) option, the lapsed policy's cash value is applied as a single premium to buy a paid-up policy of the same type as the lapsed policy. The paid-up death benefit is the amount that the cash value buys as a single premium at the insured's age. Returning to our example, if Ted elects the reduced paid-up option to apply his $12,000 in cash value, that amount will buy $28,000 of paid-up whole life coverage. The reduced coverage will apply for the length of Ted's life. A paid-up policy under the RPU option requires no further premiums. The paid-up policy does retain a cash value. The cash value will continue to grow throughout the life of the policy. However, it will do so at a sharply reduced rate when compared to the policy during the period that premiums were being paid. The new policy has all the features of the original policy. If the lapsed policy was a participating policy, the paid-up policy is eligible for dividends if and when the insurer declares them. Furthermore, a policyowner of a lapsed policy can elect the RPU nonforfeiture option regardless of whether the lapsed policy was issued on a standard or substandard (rated) basis.

Extended Term Insurance Option

Under the extended term insurance option, the insurer applies the cash value of the lapsed policy to buy a term insurance policy. The term insurance is bought in an amount equal to the face amount of the lapsed policy. The term coverage lasts for whatever period the cash value buys. For example, assume Ted bought a $50,000 whole life insurance policy at the age of 39. Fifteen years into the policy, Ted decides to apply the extended term nonforfeiture option. At that point, the cash value in his policy is $12,000. The $12,000 is used to buy $50,000 of term life insurance based on Ted's current age of 54. This will provide him with life insurance for about 14 years. An extended term option allows the policyowner to have insurance coverage for some period with no further premium payments required. Unlike the reduced paid-up option (described in the next section), policies under extended term insurance are not eligible to receive dividends, even if the original policy was a participating policy. In cases where the original policy was issued on a substandard (rated) basis, the extended term nonforfeiture option is normally not available.