The case for life insurance in superannuation

As the debate about life insurance in superannuation continues to create divisions in the industry, Geoff Black explains the importance of maintaining the status quo.

Consumers have accepted life insurance in superannuation as a valued benefit for many years. Is it just as relevant today?

And should consumers value the ability to access life insurance through their superannuation and the concessions that go with it?

Late last year the Cooper Review released another in a series of issues papers for superannuation, with responses due in mid to late February.

The committee appears to accept that life insurance is a valuable benefit within the superannuation framework.

There are two issues.

Firstly, many consumers want life insurance in superannuation. Secondly, life insurance in superannuation can help to close the ‘underinsurance gap’.

Without the minimum levels of default life cover offered by default super funds today, many Australians would have no life insurance at all.

The good news is that many people who have insurance in superannuation recognise their risks, and are either going to trustees to top up this cover or to advisers to get additional protection.

One problem with the issues paper was that it referred to data extracted from the Australian Prudential Regulation Authority (APRA) supporting a 44 per cent ‘proceeds ratio’, which created the impression that only 44 per cent of premiums are paid out in claims back to members or their estate.

This raised the question: does the committee feel that members of superannuation funds are getting value for money?

The figures disclosed in the issues paper, while sourced from APRA, are quite misleading. They were for a limited period, and only represented cash flows in a time when the market was growing rapidly.

Often there is a significant delay between the occurrence of a claim and the actual payment.

There are many reasons for this: it often takes some time for the superannuation fund to be notified that a claimable event has occurred, and when a claim is payable there may be disputes about how the benefit is to be distributed to dependants.

These situations are common, and unfortunately result in delays.

Recognising this, insurance companies establish reserves to reflect any notification delay, which in some instances can take years. In the group life market, which is the purist form of life insurance, loss ratios (ie, premiums less claims paid less claims reserves) are about 80-85 per cent.

Many superannuation funds also have profit share arrangements so that if there are fewer claims than expected, a portion of the premium is paid back to the fund.

This represents very good value to the member. In addition, most funds allow members to top up their cover at the default premium rates, enabling members to have a level of cover that meets their specific needs.

In retail life insurance, products sold as a superannuation benefit have an advice component.

Consumers are receiving a customised service through a full advice process that costs money.

Normally this is paid via a commission, and averages out at about 25 per cent of the premium. After deducting commission, the true insurance cost is far smaller — albeit higher than group insurance, reflecting the cost of underwriting.

The highly competitive nature of the life insurance market in Australia ensures members of superannuation funds get very good value out of their life insurance, whether it is through a group life arrangement or through individual policies.

The other issue that arose from the Cooper Review was what type of insurance benefits should be allowable in a superannuation environment.

Life and disability insurance is a good thing, and most people do not have enough cover in these areas.

The strong governance and administrative capability associated with superannuation makes it a logical place to manage these benefits.

This is particularly relevant at claim time when trustees have responsibilities to ensure benefits are paid to beneficiaries.

Cooper asked whether total and permanent disability (TPD) should be required to be a default benefit.

Last year insurers paid nearly 6,000 TPD claims worth over $350 million, according to the Investment and Financial Services Association.

This illustrated the importance of TPD, and clearly highlighted that it is a worthwhile benefit.

Cooper also asked to what extent income protection should be embedded into superannuation. Many people do not know how to access such cover, and are therefore not protecting their most important asset: their ability to earn an income.

While many people will purchase income protection outside the superannuation environment because of its tax deductibility, providing it through a superannuation fund (especially via a default mechanism with an opt-out option for those who already have cover provided through the workplace) can be an efficient mechanism to offer cost-effective income protection.

If life insurance accessed through superannuation were to cease through legislative change, a valuable safety net would be removed resulting in a high degree of hardship for many Australians.

Clearly this is not a desirable outcome given the great value this benefit provides.

Geoff Black is chief executive of group and investments at TOWER Australia.