Final answer:
The cash surrender value of a variable life insurance policy is calculated monthly. It reflects the performance of the investment components of the policy. Understanding the probabilities of claims is essential for setting fair premiums for both the insurer and the insured.
Step-by-step explanation:
The cash surrender value of a variable life insurance policy is typically calculated on a monthly basis. This means that the value of your policy, which you can withdraw if you cancel your policy, is updated each month to reflect the performance of the investment assets where the cash value is invested. It's part of the life insurance policy's features offering both a death benefit and an investment component, which accumulates a cash amount. It's crucial to understand that this value is different from the death benefit and can be used by the policyholder during their lifetime.
Imagine that 50-year-old men are divided into two groups based on family history of cancer. For those with a history, the probability of dying within a year is 1 in 50, while those without have a 1 in 200 chance. If the insurance company sells policies to each group separately, the actuarially fair premium would account for the respective risks. However, if the company cannot distinguish based on family history, the premium for the whole group will blend the individual risks, which may not be fair for all and could lead to adverse selection issues for the insurance company.
As a result, when selling life insurance, understanding the likelihood of a claim and the potential cost of that claim is vital for setting premiums that are both fair to the consumer and sustainable for the insurance company.