Chap 8: Life Insurance Flashcards
What are the 2 basic types of life insurance?
Temporary life insurance /Term life insurance
Permanent life insurance
Term life insurance (definition)
Term Life insurance is the most basic form of life insurance. It provides coverage for a specific term usually ranging from 1-20 years, and then terminates. Most term policies also offer additional riders that can be added to the policy. The most common are riders that are added to allow individuals to renew the policy for a new term or convert it to permanent insurance policy without a medical
3 types of permanent life insurance
Term to 100
Whole life insurance
Universal life insurance
Universal life insurance
Is permanent insurance broken down to its simplest form and custom tailored to meet the needs of the insured. The insured individual has full control over the policy, including the investments and the premium. It can also be purchased as a term policy. May have a cash surrender value, but no dividend
Whole life insurance
Term is guaranteed and usually leveled. Provides dividends. Cash surrender value guaranteed depending on the dividend return
Dividends on life insurance
Dividends from mutual life insurance companies are a refund of premiums and are not taxable.
Dividends from stock life insurance companies are taxed as regular dividends.
Term Life Insurance
Premiums are guaranteed for the term. No savings componant= no dividend or Cash surrender value. Premiums include pure premium, expenses and profit
Life Insurance: 2 types of funds
- Segregated Fund
- Mutual Fund
Structure of a Segregated Fund
Contracts or policies – individual variable annuity contracts. As an annuity contract, when the policy matures, the policyholder can either withdraw the accumulated value of the contract or can receive a stream of income, a single life annuity. Fund is subdivided into units.
Structure of a Mutual Fund
Trusts usually, sometimes corporations. Fund is subdivided into trust units or corporate shares.
Regulation of Segregated Fund
Provincial and federal insurance legislation – not securities regulation as long as it guarantees the return of at least 75% of capital.
Regulation of Mutual Fund
Provincial securities regulation.
Creditor protection of a Segregated Fund
The insurance company owns the assets in the fund and the policyholders are preferred creditors so the assets of the seg fund are largely creditor-proof.
Creditor protection of a Mutual Fund
The assets of a mutual fund trust are owned by the financial institution who is the trustee of the fund and the assets are protected by trust law from claims against the trustee.
The assets of a mutual fund corporation are owned by the fund corporation and creditors have no claim against the fund manager.
Creditor protection for the investor in a Segregated Fund
Death benefit and maturity value
Creditor protection for the investors in a Mutual Fund
There is no protection available
Value of the contract for a Segregated Fund
Value of the contract fluctuates based on the market value of the assets in the underlying fund.
Value of a contract for a Mutual Fund
Value of the unit shares fluctuates based on the market value of the assets in the fund.
Guaranteed Value in a Segregated Fund
Value at death or maturity is guaranteed usually between 75 and 100%.
Guaranteed value in a Mutual Fund
There is no guarantee
Management Expense Ratio (MER) in Segregated or Mutual Fund
Both charge management fees that lower the return. The fee, called a Management Expense Ratio (MER), covers management and operating expenses and is stated as a percentage. Historical returns are usually stated before the MER is deducted. The MER also covers the cost of insurance for the seg fund.
Redemption in a segregated Fund
Early redemption or surrender of all or part of the policy at the net asset value (NAV) is permitted before maturity but it affects the guarantee and their may be an early redemption penalty (fee). Disposal of all or part can lead to a capital gain or loss depending on the unit value at the time of redemption.
Redemption in a Mutual Fund
Can redeem units on demand at the net asset value (NAV) of the units or shares. Disposal of all or part can lead to a capital gain or loss depending on the unit value at the time of redemption.
Death Benefit in a Segregated Fund
Payment of the guarantee at death or maturity is taxed as a capital gain since this is a variable life annuity, not considered to be a tax-exempt life insurance death benefit.
Death benefit for a mutual fund
there is no death benefit
Proceeds at death in a Segregated Fund
Greater of guaranteed value or market value.
Proceeds at death in a Mutual Fund
Market Value
Probate for a segregated Fund
None with a named beneficiary that is not the estate
Probate with a mutual fund
Goes into the estate to be distributed after probate fees and capital gains taxes are paid.
What are the 3 ways to assess how much life insurance you need
1) income or human life value approach
2) expense or needs approach
3) capital retention approach
Life insurance needs/ capital retention approach
Much like the expense approach except that the insurance proceeds are invested and only the income is used to meet the required financial needs
Term to 100 life insurance
A form of permanent life insurance that does not have a savings componant. Sometimes if the insured lives to 100, the face value is paid out even if the person is still alive
Available capital ( life insurance/ expense or need approach)
Asset available to produce income - what they owe if one spouse dies
3 ways proceeds from a life insurance can be taken
- lump sum payment
- interest option ( capital approach)
- Annuity
Prescribed annuity
The total tax amount is amortized evenly over the period
4 necessary criteria to qualify for a prescribed annuity
1) payments must be leveled, not indexed
2) annuitant must be the owner and an individual
3) value can not be commuted or surrendered
4) guaranteed term period can not be beyond the owner’s 91st birthday
Instalment refund annuity
Life annuity that pays for life the annuitant or the beneficiary until the payments = the purchase price
Cash refund annuity
Life annuity that pays the balance to the beneficiary in a lump sum when the annuitant dies
Life insurance: variable annuities
Pay an amount that varies each month according to the return on investment for the prior year? They are many variations of this type of annuity
Joint life insurance policy
Covers 2 or more lives. It pays out on the death of the first to die, at which point the policy terminates
Life insurance: last to die policy
Covers 2 or more lives and pays on the death of the last to die
Life insurance : second to die policy
Covers 2 lives and pays on the death of the second to die
Why is life insurance “creditor proof”
Creditors do not have access to the insurance proceeds when the insured dies. They only have access if the insurance is not payed to a spouse, child, grandchild or parent + proceeds are payed to the estate + policy is used as collateral on a loan
Life insurance trust
A testamentary trust that is set up with insurance proceeds
Life insurance riders: accelerated death benefit or living benefit
Allows the insured who are terminally ill to collect all or part of their life insurance benefit before they die
Life insurance: contingent beneficiary
Receives the proceeds only if the primary beneficiary dies before the insured or before the term of a guaranteed term annuity
Life insurance: revocable beneficiary
Can be cahnged after being named without the beneficiary consent, even if the beneficiary pays the premiums
Life insurance : guaranteed issue policy
Bought through mail or TV add. Very expensive and limited coverage with accidental death and dismemberment rider that pays double if the insured dies from accident rather than illness. Usually graded so that if the insured dies within 2 years, the beneficiary only gets a portion of the face value
Life insurance: level term
Coverage is the same throughout the life of the policy
Life insurance: decreasing term
Policy in which the face value ( death benefit) decreases over time but premiums are level throughout the term
Life insurance : term to 65
Has level premiums and is usually convertible to a whole life before it expires
Life insurance : extended term or paid-up term
A term policy bought by using the cash surrender value of a whole life policy as a lump sum insurance payment on a term insurance policy
Whole life insurance : ordinary or straight life
has continuous level premium and provides protection for life
Whole life insurance : limited payment life
whole life insurance where the premiums are limited for a specific amount of time but the protection continues for life
Non participating life insurance policy
the insurer assumes all the risks associated with its reserve and also keeps extra profits generated from the fund
Participating life insurance
the insurer allows the insured to “participate” in its reserve profit
Life insurance : Paid up policy
a policy that has not matured, but no further premiums are required
Life insurance : paid to age policy
policy is in force during the insured entire lifetime but the premiums cease at a specific age
limited payment life insurance
covers the insured’s entire life, with premiums payments required only for a specified period of years
life insurance : reduced paid up policy
policy where the CSV has been used to buy a paid up policy and the amount of the paid up insurance is less than the original death benefit
life insurance : policy loan
means the insured can borrow against the 85% or 90% of CSV
life insurance : premium vacation
means that the insured can use the CSV to skip premium payments without penalty or cost
variable life insurance
policies where the premiums are fixed but death benefit and CSV vary according to the investment experience of a separate account maintained by the insurer
Endowment life insurance
life policy where the face value is paid at maturity even if the insured is still alive. CVS and death benefit are taxed as income
3 dividend options for life insurance
1) Return of premium (non taxable as long as it is smaller than the premium)
2) Dividend can be invested back in the policy (term like policy, to purchase additional insurance, for premium vacation)
3) with universal life, div can be used to purchase segregated fund
Life insurance : net amount at risk
The face value of the policy minus the policy reserve
Net cost of pure insurance
Probability of death times the net amount at risk
Adjusted cost base of whole life insurance
The annual premium required
- net cost of pure insurance
: it becomes negative as annual premium stay unchanged but net cost of pure insurance increase over the years
What portion of the cash surrender value is taxable
Cumulative CSV
- cumulated adjusted cost base
- cumulative dividend paid
- any non taxable withdrawal made
In what circumstances is the cash surrender value paid out to the policyholders
- the policy is cancelled
- the policyholders takes out a policy loan
It is reduced by the surrender charge ( cost to cancel a policy)
4 types of death benefit for a universal life insurance
1) level death benefit
2) level death benefit + accumulated premiums deposit
3) level death benefit + account value
4) indexed death benefit
Segregated funds / individual variable annuity contract
An annuity contract between the insurance company and the insured in which the policyholders deposits money which is used to invest in a variety of products to achieve a specific mandate
Labour sponsored investment funds
Venture capitalist funds that invest in small to mid-size companies
Mutual fund corporation
Open ended corporation. Elect to pay capital gain by declaring a special capital gain dividend which is taxed as capital gain income to the investor
