05. Insurance Planning Flashcards
1
Q
- What are the seven stages of adult life?
A
- Youth (independent)
- Young couples (interdependent)
- Young parents (dependent)
- Established parents (dependent)
- Mature parents (dependent)
- Pre-retirees (interdependent)
- Retirees (interdependent and independent)
2
Q
- What are the types of insurance that should be considered for each age bracket?
A
- Temporary disability
- Death
- TPD
- Medical trauma
3
Q
- What are the three needs required to be met after the death of a person?
A
- Money to cover the cost of the death
- Money to repay debts
- Money to replace the family income.
4
Q
- What needs are included in the ‘first need’ which is cost associated with death?
A
- Funeral and burial expenses
- Expenses of final illness
- Legal fees and probate costs
- Government charges
- The cost of child care
5
Q
- The ‘second need’ of death cover is covering debt. What is included in these costs?
A
- Home mortgage
- Hire purchase debts and credit cards
- Personal or business loans
- Unpaid bills
6
Q
- What are three key statistics with disablement?
A
- 7 of 20 men aged 25 will be disabled for 3 months or more before age 65
- 10% of disabilities will be permanent
- For every person killed on Australian roads 30 are hospitalised
7
Q
- What questions need to be answered to determine the level of disability insurance required?
A
- What benefits would come from the employer and for how long?
- Would govt welfare or workers comp be enough to maintain a comfortable standard of living?
- Could someone in the family assist personally or financially?
- Would savings be sufficient to supplement income?
8
Q
- What are the costs of living that are required to be met?
A
- Mortgage repayments
- Car repayments
- Repayments on loans and credit cards
- Children’s education
- Bills - electricity, gas and phone
- Food and clothing
9
Q
- What benefits are available in a lump sum in the case of TPD?
A
- Some superannuation plans
- Workers comp only for certain specific injuries
- Social Security does not.
10
Q
- What are the three approaches to determining the amount of life insurance needed?
A
- Human life value approach
- Needs approach
- Capital retention approach
11
Q
- What is the human life value approach to determining insurance?
A
It looks at the present value of the family’s share of the deceased breadwinner’s future earnings.
12
Q
- How is the human life value approach calculated?
A
- Estimate average annual earnings over lifetime
- Deduct taxes, life / health insurance premiums and money used for insured’s hobbies
- Determine number of years from not to retirement
- Using a reasonable discount rate, determine the present value of the family’s share of earnings
13
Q
- What are the problems with the human life value approach?
A
- Other sources of income are not considered
- Income and expenses are assumed to remain consistent - which is unrealistic
- Amount of income allocated to family is a critical factor but doesn’t take into account other factors (death in family)
- Long run discount rate is critical, get this wrong and the amount may fall very short
- The effect of inflation on earnings and expenses are ignored
- It may not be necessary or affordable.
14
Q
- What is the needs approach also known as?
A
- the Capital liquidation approach
15
Q
- What is the ‘needs approach’ to determining life insurance?
A
- All the needs of the family are considered, along with all sources of income and future requirements.
16
Q
- What are the family needs considered?
A
- Estate clearance fund - cost of death
- Income during readjustment period - 1-2 years
- Income during the dependency period - till youngest child reaches 18
- Income to the surviving spouse
- Special needs - mortgage redemption fund and educational fund
- Retirement needs
17
Q
- What is the purpose of a mortgage redemption fund
A
If interest rates on the mortgage are well below the current interest rates this may be used as a way to meet repayments while investing the full value. Care should be taken in this method because interest rates change.
18
Q
- What are the advantages of the needs approach?
A
- Reasonably accurate method for determining amount of life insurance to own
- Considers other sources of income and financial assets
- Quick to identify if there are inadequacies in cover
- Can be used to recognise needs during disability or retirement
19
Q
- What are the disadvantages of the needs approach?
A
- Assumes life insurance settlement options are used to disburse the proceeds.
- A computer is necessary to determine insurance amount
- Needs re-evalutation periodically to determine changes
- May or may not take into account inflation
- Does not consider preservation of the estate for children
20
Q
- What is the capital retention approach and what is its alternative name?
A
Also called capital needs analysis, it preserves the capital needed to provide income to the family and leaves income-producing assets for distribution later to children.
21
Q
- How is the amount of life insurance calculated under the capital retention approach?
A
- Prepare a personal balance sheet of asset and liabilities
- Determine the amount of income-producing capital - from the assets take off all liabilities, money required for final expenses, Emergency / Education fund and any non-income producing capital included in the assets ie. Car and equity in home). This gives the amount of capital available for investment. Assume an interest rate, say 5%, which means the annual income provided would be the amount of capital available multiplied by 5%.
- Determine the amount of additional capital needed (if any). If this works out to be $5K a year and you need $20K, then you are short $15K, divide this by the interest rate 15,000 / 0.05 = $300,000 is required.
22
Q
- What are the advantages of the capital retention approach?
A
- Simplicity and ease of understanding
- Preservation of capital (living only off income)
- Emergency and education funds can be used as a partial hedge against inflation
23
Q
- What is the major disadvantage to this approach?
A
A larger amount of life insurance is required to produce a given amount of income.
