Participating policies and bonuses: what the insurer's "par fund" actually does

The word "participating" on a whole life or endowment policy means you are participating in something: a large pool of money the insurer invests on behalf of every holder of that type of policy. Understanding what that pool does, and how its results reach your policy as bonuses, is the difference between reading a policy illustration and being misled by one.

What the par fund is

A life insurer that sells participating policies keeps the premiums for those policies in a separate participating fund, usually shortened to "par fund". The fund invests in a mix of bonds, equities and property. It pays the guaranteed benefits written into the policies, meets the claims and expenses of running them, and whatever remains is profit that is shared with policyholders.

That sharing is the bonus. As the LIA glossary puts it, the profits of the fund are distributed to policyholders as bonuses or dividends, and they are not guaranteed because they depend on three things: how the fund's investments perform, how many claims the fund has to pay, and the expenses it incurs. A non-participating policy, by contrast, has no share in any fund. Its benefits are fully guaranteed and there are no bonuses, which is why the two are priced differently.

The types of bonus

Two kinds of bonus appear on most Singapore par policies:

• Reversionary bonus. Declared periodically, usually each year, and added to the policy. Once added, it becomes a guaranteed benefit. The insurer cannot later take it away, though it may reduce the rate at which future bonuses are declared.
• Terminal bonus. A one-off amount that may be paid when the policy matures, when a claim is paid, or when the policy is surrendered. It is not locked in until that moment, and the rate can move up or down with the fund's recent experience.

Some policies also pay non-guaranteed cash dividends rather than adding bonuses to the sum assured. The mechanics differ but the principle is the same: the money comes from the par fund's surplus, and the insurer decides how much to declare.

A practical consequence is that the surrender value in early years can be well below the total of guaranteed benefits and declared bonuses. Both MoneySense and the LIA warn that the surrender value of declared bonuses may be less than their face value, and that early termination of a bundled policy usually loses money.

Reading the illustration

Every par policy comes with a policy illustration showing two projected outcomes. Since 1 July 2021 the LIA has capped the upper rate insurers may illustrate at 4.25% a year and required the lower rate to sit at least 1.25 percentage points beneath it, which gives the familiar 4.25% and 3.00% pair on Singapore-dollar policies. An insurer whose own best estimate of long-term returns is lower than the cap must illustrate at its lower figure; one whose estimate is higher may only show the cap.

Three things follow from how these rates are set:

1. They are illustration assumptions, not promises. The LIA's guidance states that the two rates are not upper and lower limits of what the fund might return.
2. They are about investment return, not your policy's return. Expenses, claims experience and the smoothing described below all sit between the fund's investment result and the bonus you receive.
3. The caps are reviewed yearly, so the figures on an illustration you receive this year may differ from one a friend received a few years ago.

The illustration also shows the guaranteed column separately. That column is the only part of the projection the insurer is contractually bound to pay.

Smoothing, and why bonuses lag markets

Par funds do not pass through each year's investment result directly. Insurers hold back part of the surplus in good years and release it in weaker years so that declared bonuses move more gently than markets do. This is why a par policy can keep declaring a modest bonus after a poor year, and why a strong year does not produce a windfall. The trade-off is transparency: you cannot infer what the fund earned from what your policy was credited.

Insurers send participating policyholders an annual statement of bonuses declared. Reading it against the original illustration tells you whether the policy is tracking the higher scenario, the lower one, or something else.

Questions worth asking before you buy

• What proportion of the illustrated maturity value is guaranteed?
• What has the insurer's actual bonus record been on similar policies over the past several years, and how does that compare with the rates illustrated then?
• How is the par fund invested, and what share is in equities?
• What is the surrender value at years five, ten and fifteen?
• Would a term policy for protection plus a separate investment do the same job at a known cost?

MoneySense's own comparison of term and bundled products is a useful starting point. A par policy can be a sensible way to save with some protection attached, provided you buy it for the guaranteed column and treat the bonuses as the upside.

Talk to an advisor

Illustrations from different insurers use the same headline rates but very different guaranteed proportions, bonus structures and expense levels. A licensed advisor can put two or three side by side and show you where the guarantees stop. Use the portal's advisor matching to find one who works with savings and whole life plans.

Sources

• LIA Singapore — Illustrated Investment Rate of Return for Par Policies
• LIA Singapore — Insurance Terms
• MoneySense — Understanding whole life insurance
• MoneySense — Life insurance: Comparing term and bundled products