2 Life Insurance

Question 1

Level Term Insurance

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Answer 1

This is standard / very common.
Over the initial guaranteed term (typ. 10-30 yrs)
- Premiums fixed
- Death benefit remains level

(Premiums increase upon expiration / renewal)

Question 2

Decreasing Term Insurance

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Answer 2

Typically associated with loans (eg to match the declining balance of a mortgage)
- Level premiums
- Decreasing benefits
- Typically 10-30 year term

Question 3

Can Term Insurance be participating?

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Answer 3

Yes, but rarely.

(Participating means it pays annual dividends from the profits/surplus of the insur. company and is more associated with whole life)

Question 4

Can Term Insurance be renewable?

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Answer 4

Yes

Question 5

Can Term Insurance be convertible?

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Answer 5

Yes, to permanent (eg whole or universal life)

Question 6

Can Term Insurance be variable?

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Answer 6

No. Term insurance is pure protection

Question 7

Life Insurance
Option A vs Option B

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• What kind of insurance?
• Premiums?
• Benefits
• Cash value?
• Suitability

Answer 7

Two types of Universal Life Insurance.

• Option A: Lower premiums; benefit = face amount; cash value growth reduces insurer’s risk; predictable & low cost
• Option B: Higher premiums; benefit = face amount + cash value; cash value growth doesn’t reduce insurer’s risk; larger benefit or inflation-adjusted legacy

Question 8

Guaranteed Issue Whole Life Insurance

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Answer 8

Approval is guaranteed with no medical exams or health questions required. Higher premiums, smaller benefits.

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Question 9

Limited Pay Whole Life Insurance

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Answer 9

Premium is paid for a limited number of years or to a specified age, after which the policy is considered fully paid but the coverage remains.

Question 10

Flexible Premiums

What type of insurance has this?

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Answer 10

A key feature of Universal Life. Can pay random additional amounts into the policy. Can’t do this in Whole Life.

Question 11

Graded premium life insurance

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Answer 11

Premiums increase over time to make policy more accessible. Benefit is still guaranteed.

Question 12

Second-to-Die Whole Life Insurance

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Answer 12

(also called Survivorship Whole Life) covers two people, typically spouses, and pays the death benefit only after both insureds have passed away.

Question 13

Modified Whole Life

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Answer 13

Premium structure changes over time—typically starting with lower premiums for an initial period (eg 5-10 yrs) before increasing to a higher, permanent level for the remainder of the policy.

Question 14

Permanent Life Insurance

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Answer 14

Includes both Universal Life Insurance and Whole Life Insurance.

• Higher premiums than term insurance at issue
• Builds cash value accessibly by loans & withdrawals
• May be participating (dividends)

Question 15

Life Insurance Non-Forfeiture

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Answer 15

Refers to options available to a policyholders when they stop paying premiums on a permanent life insurance policy (so they still get some value, and aren’t totally “forfeiting” their policy).

Three main options: CRE (Cash surrender, Reduced paid-up, Extended term option)

Question 16

Cash Surrender Value

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Answer 16

You get cash value as lump sum (minus any surrender charges) and the policy ends

Life Insurance Non-Forfeiture Option 1/3

Question 17

Reduced Paid-Up Insurance

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Answer 17

The policy remains in force, but the death benefit is reduced to an amount the current cash value can support with no further premiums.
- Term stays for life
- Benefit diminished

Retains a Cash Value that will grow at a reduced rate for the life of the policy

Life Insurance Non-Forfeiture Option 2/3

Cash value is used to buy a paid-up policy of the same type.

Question 18

Extended Term Option/Insurance

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Answer 18

The policy remains in force, but the death benefit is reduced to an amount the current cash value can support with no further premiums.
- Term is shortened
- Death benefit stays the same

May allow reinstatement of the permanent policy if the extended term has not expired.

Life Insurance Non-Forfeiture Option 3/3

The cash value serves a single premium to pay term life insurance.

Question 19

Automatic Premium Loan

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Answer 19

To auto-cover overdue premiums. Reduces benefit by loan amount.

Obviously subtracted (plust interest) from your death benefit (and added back and counted for calc’ing taxes)

Question 20

A

Immediate Single-Premium Annuity

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Answer 20

Converts a life insurance policy into an annuity that immediately starts paying you an amount for life based on your current age and the cash value of the lapsed or surrendered policy

An alternative to the three main Life Insurance Non-Forfeiture Options.

Question 21

Taxability of Life Insurance Cash Surrenders

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Answer 21

Taxable Ordinary Income = Cash Surrender Value – Total Premiums Paid (Cost Basis)

Some obvious adjustments if needed:
- If dividends were used to pay premiums or received as cash, then don’t count those / subtract them from your basis
- If there’s a policy loan, add it back to the cash value

Taxed as ordinary income, no matter how long

Question 22

What can participating life insurance dividends be used for?

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Answer 22

• Cash payout
• Reduce premium payable
• Accumulate at interest
• Purchase paid-up additions (PUAs, slivers of extra insurance, popular with whole life)
• Pay off policy loans or interest
• One-year term (buy as much 1-yr term as possible)

Question 23

Which life insurance non-forfeiture option preserves some cash value?

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Answer 23

Reduced paid-up

Question 24

Modified Endowment Contract (MEC)

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Answer 24

A type of life insurance policy that fails the 7-pay test and is considered more of an investment than insurance with corresponding tax consequences on cash distributions while the insured is alive.

Once a MEC, always a MEC

The death benefit is still tax-free

Question 25

7-Pay Test
- What?
- When applied?

Answer 25

FAILS if the total premium paid into a policy during a 7-year testing period exceeds what would result in a paid-up policy.

Then you have a MEC.

Applied
- At inception
- If there’s a material change (in the death benefit… or substantial addition of a flexible payment)

Question 26

Taxation of Life Insurance Death Benefit?

Answer 26

Generally tax-free
(Ofc may be subject to estate tax)

Question 27

Consequences for Loans or Withdrawals from a MEC?

Answer 27

• Taxed LIFO instead of FIFO
• 10% penalty if prior to age 59 1/2

“Taxable distributions”, living distributions.
Still Ordinary Income just like a regular policy.

Question 28

How to qualify for Viatical Settlement? Tax benefits?

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Answer 28

If you sell your policy to a viatical settlement co and are…
- Chronically ill (unable to perform two or more ADLs for ≥ 90 days): proceeds used for LTC services are tax-free, the rest (above basis) is taxable
- Terminally ill (have a condition where you’re expected to die in ≤ 24 months of certification by a physician): settlement is 100% excluded from gross income

ADLs = Activities of Daily Living = Bathing, Eating, Dressing, Continence, Toiletting, & Transferring

Question 29

Taxability of viatical settlements to the insurance company

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Answer 29

Simple: Cost is basis, any profits above that (from insurance payout) are taxable

Question 30

Life settlements vs Viatical settlements

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Answer 30

Both refer to life insurance policyholders selling their policies
- Viatical settlements: For terminally (proceeds tax free) or chronically ill (proceeds used for LTC tax-free)
- Life settlements: For insured who aren’t terminally/chronically ill, no tax benefits

Question 31

Cooling off period for a viatical settlements

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Answer 31

15 days required to be given to the viator by the viatical settlement company during which they can resend the agreement