Chapter 10: Life Insurance Planning and Purchasing Decisions Flashcards
Financial Needs Analysis
Approach used to determine life insurance needs.
Lump sum needs at Death
Ongoing Income Needs
Capital Needs Analysis
Determining how to meet income needs with earnings on a principal sum, without liquidating that sum.
Cost of Life Insurance: Surrender Cost Index
Shows the average amount of each annual premium that is not returned if the policy is surrendered for its cash value.
Cost of Life Insurance: Net Payment Cost Index
For clients more concerned with death benefit than cash value. Evaluates the cost of insurance protection based on the assumption that the insured dies after the policy’s 20th year.
Illustration
Presentation of nonguaranteed elements of policy over a period of years.
7 Required Elements of Illustration
- Name of insurance company
- Name and address of agent
- name, age and gender of insured
- Rating classification upon which illustration is based
- Generic name of the policy
- Initial death benefit amount
- Dividend option election or application of nonguaranteed elements
1035 Exchange
Tax advantages for replacement of life insurance contract
Must have:
-same insured and policyowner
-like for like (insurance for insurance; annuity for annuity)
Substandard Applicants
- additional hazard increases with age
- additional hazard remain constant
- additional hazard decreases
Rate Up Age Method
Used when extra mortality is increasing and will continue to increase.
Use standard policy but add years of age to applicant.
Extra Percentage Tables
Most common method for substandard applicants.
Classify applicants into groups based on expected percentage of standard mortality and charge premiums that reflect increase in mortality.
Flat Extra Premium
Premium is increased by flat amount and does not vary with age of applicant.
Used when hazard is constant and not likely to change.
Lien
Policy issued at standard rates, lien applied if death before end of period specified; death benefit reduced.
Temporary in nature (first few years of policy) until recovery.
Viatical Settlement
Sale of terminally ill insured’s life insurance in exchange for percentage of face amount.
Life Settlement
Transfer of ownership of life insurance policy to third party investor when insured is not terminally ill.
Stranger Originated Life Insurance (STOLI)
Speculators initiate coverage on older people and fund the premium payments with the intention of profiting upon death of insured.
Key Employee Life Insurance
Policy taken out by company to protect against the possibility of an income loss or increase in expenses resulting from key employee’s death.
Business is owner and beneficiary of life insurance. Premiums are not deductible and death benefits are not taxable.
Buy-Sell Agreement
Contract that binds owner of a business to sell at his or her death to a designated buyer at an established price.
Entity Agreement
Firm enters into agreement to buy the business interest of the deceased. Firm liquidates interest of deceased and redeems stock.
Cross Purchase Agreement
On death of one owner, his estate will sell the deceased’s interest and the other owners will buy it. All owners hold life insurance on other owners to fund this.
Sec. 79 Plans
Group life insurance plans that allow employer a tax deduction for premium payments made on behalf of participants.
Split Dollar Life Insurance Plans
Form of life insurance used as an executive compensation benefit. Corporation and employee split policy costs with corporation receiving return of its contributions and beneficiary receiving death benefit.
Transfer for Value Rule
If a policy is transferred from one owner to another for consideration, the income tax exclusion is lost.
Cash Value Accumulation Test
Cash value may not exceed the net single premium that would be needed to fund the policy’s death benefit.
Guideline Premium and Corridor Test
Limits the total premium that may be paid into the policy at any given time. The corridor requirement is met if the death benefit exceeds a specified multiple of its cash value at all times.
Inside Buildup
Increase in the cash value of a permanent life insurance policy. Not subject to tax as long as it is left inside the policy. Amounts taken out during life of insured are taxed.
1035 Exchanges
Replacing one insurance policy for another is a nontaxable event when old policy is assigned to new insurer.
Gift Tax
Tax imposed on transfers of property by gift during the donor’s lifetime.
Gift
- a completed transfer and acceptance of property, including money
- a transfer for less than full and adequate consideration
Annual Exclusion
Annual Limit of:
Lifetime amount of $5.25 million
Nontaxable Gifts
- gifts that do not exceed the annual exclusion
- gifts to the donor’s spouse
- gifts to charities
- tuition paid directly to an educational institution for someone
- medical expenses paid directly to a medical institution for someone
- gifts to a political organization for its use
Estate Tax
Imposed on the transfer of property at death.
Gross Estate
- property individually owned by the decedent at the time of death
- property held jointly by the decedent at the time of death
- insurance on the decedent’s life
- property transferred by the decedent during his lifetime
Incident of Ownership
Defined as an element of ownership or degree of control over a policy.
