Lapse-supported pricing

A product is lapse-supported when its premiums assume that a meaningful share of policyholders will lapse or surrender before the insurer has to pay benefits, and the value those people forfeit helps subsidize the ones who stay. The pricing actuary builds expected lapse rates into the premium. If fewer people lapse than assumed, the product earns less than planned or loses money.

Say, hypothetically, an insurer prices a level-premium lifetime product expecting 5% of policies to lapse each year. Owners who keep paying into old age collect large death benefits, while those who lapse early leave behind premiums that bought little coverage. If actual lapses run at 2% a year, many more claims must be paid than the premiums were designed to support.

This has real consequences. Long-term care insurance is the best-known example: policyholders kept their coverage much longer than insurers projected, which contributed to large premium increases on older policies. In life insurance, products with long secondary guarantees and little cash value can be lapse-supported, and reserve rules address the risk. For buyers, the people who keep coverage benefit, so buying a policy you can't sustain is the costly outcome. See how life insurance companies make money and principle-based reserving and what it means for prices.