2 Other Insurance

Question 1

Ways to Address Risk

2.120

Answer 1

1. Avoidance
2. Reduction
3. Transfer
4. Retention

Question 2

Insurable Loss

Answer 2

Loss that arises from chance.

Non-chance losses are deprecation expenses.

Question 3

Adverse Selection

(in Insurance)

Answer 3

Refers to how individuals with higher risk factors are more likely to purchase insurance policies

Question 4

Asymmetric Information

(in Insurance)

Answer 4

Refers to how one party in an insurance transaction (usually the policyholder) has significantly more information about their risk level than the insurance company

Question 5

Law of Large #s

(in Insurance)

Answer 5

More events means more likely you’ll get the expected outcome

Question 6

Proximate Cause

(in Insurance)

Answer 6

First peril in a chain of events

Peril = Cause of the loss

Question 7

Cross-purchase agreement

2.164

• Good for?
• How many agmts?
• Tax consequences?

Answer 7

Owners buy life insurance policies on each other and agree to buy and sell their respective business interest upon death (or disability or retirement).
- Good for fewer owners
- n(n-1) agmts needed
- Benefits go tax-free to other owners
- Basis increased by death benefit/purchase amount :)

A type of “Buy-Sell” agreement.
Younger owners may have to pay more.

Question 8

Entity Purchase Agreement

2.168

• Nickname?
• Good for?
• How many agmts?
• Tax consequences?

Answer 8

Business buys life insurance policies on the owners to buy up their interest upon their deaths.
- aka Stock Redemption Buy-Sell Plan (if a corp)
- Good for more owners
- n agmts needed
- Benefits go tax-free to business
- Basis does not increase AT ALL for survivors :(… not even the amount of deceased’s original basis

A type of “Buy-Sell” agreement.

The company pays for, owns, & is the beneficiary of the policies.

Question 9

Wait & See Agreement
- How it works
- Pros & cons

2.172

Answer 9

Wait & See BOB…
Who purchases deceased partner’s stock?
1. Biz has first option
2. Owners (surviving partners) have 2nd option (if biz waived option #1 or purchased < 1/2)
3. Biz MUST purchase it back

Pros: Flexible
Cons: (complicated & expensive)

A type of “Buy-Sell” agreement.

Could be structured with cross-purchase agmt, entity purchase agmt, or both.