Chapter 12: Insurance Concepts Flashcards
1
Q
Why do property and casualty insurance contracts typically pay little or no benefit in the event of flooding or other natural disasters?
A
Insurance is designed to deal with specific risks, which are risks that affect only one or a few people at a given time. Flooding, for example, is a fundamental risk that would affect a large group of people all at once.
2
Q
What type of risk management technique is insurance?
A
Risk transfer
3
Q
What are all forms of risk management?
A
- Risk transfer (insurance), transferring risk of loss to someone else
- Risk acceptance, simply accepting that a loss is possible and dealing with the consequences
- Risk control, taking steps to reduce the likelihood of a loss (quitting smoking, changing jobs to a less risky one, etc.)
- Risk reduction, reducing the consequences of a loss (wearing a seatbelt for example)
- Risk segregation, spreading possible losses across a number of venues (diversification of investments for example)
4
Q
How is insurance in Canada legislated and regulated?
A
Legislated and regulated at the provincial level with each province having their own Insurance Act. At the Federal level, the Insurance Companies Act deals primarily with the structure of insurance companies and their reserves.
5
Q
What do the Uniform Acts do?
A
Uniform Life Insurance Act and Uniform A&S Act represent the similar body of legislation concerning areas such as beneficiary designations and the payment of claims.
6
Q
Which factors outside of the insurance acts have a heavy influence on the typical structure of insurance contracts?
A
Common Law and Contract Law.
7
Q
What is key to an insurer’s viability?
A
The calculation of premiums and the selection of appropriate risks.
8
Q
Why would one driver pay more insurance than another (such as a young driver paying more than an older driver)?
A
This is not a rating. Instead, these two individuals are being insured in different pools.
9
Q
What is the only exclusion common to life insurance contracts in Canada?
A
Suicide in the first 2 years.
10
Q
Since auto insurance is a statutory right, how do auto insurers handle the highest risk insureds?
A
They cannot be declined insurance. Instead, most auto insurers belong to some sort of a facility insurer who takes on the highest risk insurers on some sort of an industry-wide pooling basis.
11
Q
What is the Contra Proferentem rule?
A
The drafter of an insurance contract (insurance company) will face consequences if a lack of clarity creates a dispute in the contract. The insurer must provide absolute clarity in its policy wordings.
12
Q
Are insurance companies required to maintain reserves, or is this optional?
A
They are required to maintain reserves as a consumer protection measure.
13
Q
How does an insurance company realize profit from their reserves?
A
When the reserves perform well due to good investment performance or low claims experience (or a combination of both).
14
Q
What is the consideration in the case of an insurance contract?
A
The initial premium.
15
Q
There are up to 3 parties to an insurance contract. What are those 3 parties?
A
The insurer
The insured
The life insured
16
Q
What is the difference between the insured and the life insured?
A
The insured (policy owner, contract owner, applicant) is the party who deals with the insurer to acquire and then own an insurance policy. The life insured is the person whose life is being insured. It is when a covered event happens to this person that a claim will be paid.
17
Q
How does a mutual insurance company differ from other insurers?
A
Rather than share capital, it is owned by its policy holders (such as Equitable Life).
18
Q
Why is an insurance contract a unilateral contract?
A
The onus is put on only one party (the insurance company) to act a certain way with respect to the contract. The insurer has all the obligations, the insured has none.
19
Q
What are the 3 sets of considerations for dealing with false representations?
A
- Mistake
- Misrepresentation
- Fraud
20
Q
What must an insured have in order to set up an insurance contract?
A
Insurable interest towards the property or life being insured.
21
Q
What is a fraternal benefits society?
A
Provide a range of member benefits, usually perform works of public service, and operate as not-for-profit entities (such as Faith Life Financial).
22
Q
What happens if the insurable interest relationship later changes?
A
Generally does not change the potential for a claim to be paid. (Except in the case of property and casualty insurance where their must be insurable interest at the time of purchase and the time of claim).
23
Q
What are two common scenarios where one party would take out insurance on the life of another?
A
Businesses insuring the lives of employees
Parents ensuring the lives of their children
24
Q
What happens if a mistake is made on a life insurance application?
A
If the mistake is on the age or gender of the life insured, the premium/amount of benefit will be retroactively adjusted to match the amount of premium paid. Other mistakes are not specifically addressed in the Insurance Acts, it is up to the insurer to determine how to handle the mistake. Usually, insurers will work with the client to “make the situation right”.
25
What is the difference between misrepresentation and fraud?
In misrepresentation, the client has offered up an incorrect response to a question or failed to disclose some relevant information. This may have been deliberate or may have been innocent. Insurer can only deny claims on the basis of a misrepresentation during the contestability period.
Fraud is more serious. If the insured deliberately lied about something or withheld information in order to gain an advantage with respect to the contract. Most often argued with respect to smoking status or recreational drug use. The contract can be voidable at any point.
26
What is a common reinstatement period for life and accident & sickness contracts?
Two years.
27
What must be done to reinstate a life/accident & sickness policy that has lapsed?
Pay missed premiums and provide updated underwriting evidence.
28
What is the usual grace period of an insurance policy?
Usually 30-days. Since premiums are paid 1 month in advance, this allows for 60 days between the date when the last premium was paid to the date when the policy would lapse.
29
When does CSV in a life insurance policy typically start to accrue? Why?
When would CSV start to accrue earlier?
After 8-10 years because the insurer has substantial expenses associated with initially placing a policy. CSV could start to accrue earlier if large deposits are paid up front.
30
In which ways can a policy's CSV be accessed?
- Complete surrender of policy
- Partial surrender of policy
- Policy loan
- Withdrawal
- Non-forfeiture provisions
31
What is a partial surrender and on which policies can a partial surrender be completed?
A partial surrender allows a policyowner to reduce, on a proportional basis, the amount of death benefit payable as well as the premiums. At the same time, the policyowner would receive a proportional amount of the CSV. This can be done on some whole life policies.
32
When might a CSV withdrawal be an option for policyowners? How does this differ from a partial surrender?
Typically only allowed when extra deposits gave been made in the past. Different as it does not result in a proportional reduction of the death benefit.
33
What are 3 non-forfeiture provisions?
1. Automatic premium loan (APL)
2. Reduced paid up insurance (RPU)
3. Extended term insurance (ETI)
34
How does an APL work?
An automatic premium loan is the first step an insurer will take in the event of premiums missed on a policy with a CSV. This creates a policy loan that will pay the missed premium on the policy, typically for short-term situations. Policy would lapse once the CSV is all used up.
35
How does reduced paid up insurance work?
RPU is a permanent solution to an inability to pay premiums. It converts the policy from a larger face amount to a smaller one and no more premiums are required. This decision is normally irreversible.
36
What is extended term insurance?
A non-forfeiture provision that allows a policy to stay in force despite an inability to continue premium payments. The policy would become a term policy while retaining its original face value. The policy would remain in force for a term determined by the amount of CSV.
37
Which type of insurance policies are normally issued for one-year terms?
Homeowners' insurance, auto insurance, disability insurance, and group insurance.
38
What does it mean if a policy is non-cancellable, guaranteed renewable?
Insurer promises the renewal will be available for some period, coverage and premiums are not subject to any potential changes.
39
How does an optionally renewable insurance contract differ from a guaranteed renewable insurance contract?
Slightly more restrictive towards the insured than guaranteed renewable contacts. Premiums are typically les as a result.
40
Which types of insurance contracts are often commercial/cancellable? What does this mean?
Most property and casualty contracts and group insurance contracts. The insurer sets a number of conditions under which they will not renew.
41
When can cancellable disability contracts have premiums adjusted?
Based on the experience of a class of insureds.
42
Which 3 sets of risk do auto insurance normally provide protection against?
1. Liability risk
2. Collision risk
3. Personal injury risk
43
When might it not be practical to cover collision risk on a vehicle?
For an older vehicle.
44
What are endorsements under an auto insurance policy?
Extend coverage to circumstances not normally covered under the auto policy or increase the possible number of claims that can be submitted. Some can control premiums by reducing the available amount of coverage.
45
What are the standard coverages in a homeowner's policy? (8)
- Dwelling building
- Detached structures
- Personal property
- Additional living expenses
- Personal legal liability
- Voluntary medical payments
- Voluntary payment for damage to property
- Voluntary compensation for residence employees
46
In a standard homeowner's policy, how much is usually covered for contents?
Normally around 60% of the dwelling building amount, but can be more.
47
What is the purpose of Voluntary Medical Payments in a standard homeowner's policy?
Without creating legal liability, a homeowner can claim up to $5K in voluntary medical payments for somebody injured by or on the insured's property (or by the insured themselves).
48
What is the purpose of Voluntary Payment for Damage to Property in a standard homeowner's policy?
Without creating legal liability, the insured can claim up to $500 for damages caused to the property of another. (Example. a child visiting a neighbour's house breaks a valuable piece of crystal)
49
What is the less expensive way to add coverage for water damage to a homeowner's policy?
Flood coverage is restrictive and expensive, so many insurers don't offer this coverage. Instead, opting for "sewer backup" coverage can provide protection if water damage causes a sewer backup and sewer water leaks into the home.
50
Do standard homeowner's policies cover wind damage?
Generally included unless there has been a previous wind claim.
51
Do standard homeowner's policies cover damage due to earthquakes?
No. Many insurers offer optional additional coverage for this purpose though.
52
What type of insurance should an individual purchase if they are renting an apartment and why?
Tenant's insurance to cover their personal property and liability.
53
What are the 3 separate coverages that should be considered when purchasing condo insurance?
1. Unit improvements - should be considered if the insured is contemplating improvements to their unit
2. Common area damage - covers special assessments due to area damage (such as a fire, not general wear and tear)
3. Contingent insurance for extras - extra coverage for gaps in traditional insurance coverage due to the grey areas (who owns certain parts of the property)
54
If a property owner owns several rental properties, what should they consider buying to insure these properties and why?
Commercial general liability policy rather than a home insurance policy as it can result in greater customization.
55
What is the normal maximum for TIA coverage?
Temporary insurance agreement - normally limited to 90 days of coverage with a maximum of $500K - $1M
56
What are the 3 components of a whole life policy?
1. Investment component
2. Protection component
3. Insurer's expenses
57
What is the purpose of the investment component of a whole life policy?
Used by the insurer to generate a policy reserve, which is used to fund the death benefit.
58
What happens as policy reserves in a whole life policy grow?
The Net Amount at Risk (NAAR) or protection component reduces.
59
What happens to the protection component of a whole life policy over time?
In early policy years, reserves are small, so the protection component (NAAR) will be quite large. As the policy reserve builds, the protection component decreases. Once the policy reserve has grown enough to fund the death benefit by itself, the policy is considered "paid up".
60
Why are clients typically not able to access full CSV of WL policy until they have paid premiums for a number of years?
There are usually heavy surrender chargers over the first 8 years or so.
61
When would a whole life policy with a $50,000 face value pay more than a $50,000 death benefit?
If additional deposits have been made.
62
What does it mean by a whole life policy being "participating"?
The policy owner participates in the profits associated with the pool of whole life policy owners.
63
When are participating policy owners rewarded with policy dividends?
Premiums are based on investments, mortality, and expenses. Whenever any of these perform better than expected, par policy owners will be rewarded with policy dividends.
64
What are the 3 primary ways policy dividends within a par policy can be used?
1. As cash or savings
2. Purchase more insurance
3. Reduce premiums
65
If a par policyowner decides to use their dividends with an accumulation or savings option, what does this entail?
Dividends are left on deposit with the insurer. This works like attaching a savings account to the life insurance policy.
66
What are the 3 ways policy dividends can be used to purchase more insurance?
1. Term additions (use dividends to purchase one-year non-renewable term to increase the amount of insurance in force without increasing premiums)
2. Special term additions (also used to buy 1-year term but only equal to the current CSV of the policy, any excess amount is paid out as cash)
3. PUA (dividends are used to buy a tiny par whole life policy with its own face value and its own CSV)
67
Why was premium offset so popular in the early 1980s and why is it not so popular today?
Premium offset was a sales technique where dividends allowed premiums to stop being paid in the future. At the time, bond yields were in the mid-teens, allowing insurers to offer policies with very generous dividend scales, showing that within a few years dividends would be able to pay the premiums. As bond yields fell, insurers cut their dividend scales, and the schemes fell through.
68
When was UL developed?
In the 1980s, specifically for the North American market.
69
What are the 2 basic components of a UL policy?
1. Life insurance
2. Investments
70
How is the minimum premium of a UL policy set?
The min premium is based on mortality costs and policy expenses. The mortality costs can be based on either T-100 or YRT pricing. Choosing YRT structure will keep their cost of insurance (COI) low and maximize their investments. A client looking for certainty in their insurance costs will choose T-100 or level COI.
71
Why can it be a dangerous practice to sell a UL policy with a YRT cost structure?
If the policy is being sold with a YRT structure because the client couldn't afford T-100, it's likely that the client's YRT costs will increase to a point where the policy is too expensive, resulting in a policy lapse.
72
Why can it be a dangerous practice to sell a UL policy with a YRT cost structure?
If the policy is being sold with a YRT structure because the client couldn't afford T-100, it's likely that the client's YRT costs will increase to a point where the policy is too expensive, resulting in a policy lapse.
73
When would a client choose a YRT UL policy over a T100 or level COI one?
If they want to maximize their investments and can afford the annually increasing cost structure.
74
When would a client choose a T100 or level COI UL policy over a YRT one?
If they want certainty in their insurance costs (at the expense of accumulating a significant amount of investments early on)
75
What are the investment options within a UL policy?
Mutual funds, GICs, term deposits, indexed accounts, daily interest accounts, etc.
76
What are the 4 death benefit options for a UL policy?
1. Level death benefit
2. Level plus account value
3. Level plus cumulative gross premiums
4. Indexed
77
When might an individual with a level DB UL policy see their DB exceed the face value?
If the client had invested heavily in the policy and done well with their investments.
78
Which type of UL death benefit structure has the lowest COI?
Level death benefit.
79
Which type of UL death benefit structure has the highest COI?
Level plus account value.
80
How does the level plus cumulative gross premiums UL option work?
Death benefit will increase with every premium dollar paid. A policy with a FV of $100,000 in which the client is paying premiums of $1,000 annually would have a DB of $101,000 in the first year, $102,000 in the second, etc.
81
What are the 2 least common UL DB structures?
Level plus cumulative gross premiums and indexed.
82
How does a UL policy with an indexed DB structure work?
The death benefit grows every year based on inflation (or some fixed amount). The COI is only slightly higher than what a level DB option would carry and is useful for a client who expects their estate to grow in accordance with normal inflation.
83
Who is UL suitable for?
An informed client with disposable income looking for tax-deferred growth on their investments outside of traditional savings vehicles. Also useful for business owners, contractors, self-employed due to creditor protection of cash values.
84
How does an insurer determine the appropriate premium for a T-100 policy?
Take the cost of a term policy for every year between the time of purchase and age 100 and averages that cost out to determine the premium. Only additional cost is the policy factor.
85
What typically happens of a client who owns a T-100 policy reaches age 100?
They are simply considered paid up.
86
What is another way to describe "accidental death & dismemberment"?
Accidental death and loss of use
87
What are common exclusions for AD&D policies?
- Accident caused by impaired driving
- Acts of war
- Self-inflicted injuries
- Suicide
- Inhalation of poisonous gas
- Illness (mental/physical)
- Influence of non-prescription drugs
- Participation in illegal activities
- Flying on a private aircraft
- Ingestion of poisonous substances
- Loss resulting from dental or medical treatment
- Infection not directly resulting from an accident
88
What is an eligible funeral arrangement (EFA)?
Alternative to (or sometimes a benefit from) using life insurance to deal with funeral costs. Put in place normally by funeral directors or other professionals in this industry, allowing for up to $35K of coverage.
89
What happens if an amount is paid out of an Eligible Funeral Arrangement for something other than funeral or cemetery services? When might this occur?
The amounts, in excess of original contributions, are taxable.
This might occur if the plan is collapsed early or if there are amounts in the EFA in excess of what is needed to pay for funeral/cemetery services.
90
Determine the taxable amount of the following Eligible Funeral Arrangement...
$38,000 in the EFA
$31,000 of contributions
$25,000 paid for funeral + cemetery services
Taxable amount = balance before distribution + amount paid for funeral/cemetery - contributions
($38,000 - $25,000) + $25,000 - $31,000 = $7,000
91
How much are workers' compensation benefits generally?
85-90% of after-tax income to a limit of about $6,000/month.
92
How are worker's compensation benefits treated for tax purposes?
Tax-free, but must be reported on the tax return to prevent the individual from collecting other benefits.
93
How much are CPP disability benefits?
Between $700-1300/month plus an additional $234.77 for children (per child) when eligibility criteria are met.
94
How are CPP disability benefits treated for tax purposes?
Taxable benefit.
95
How much income does EI replace? What is the waiting period for collecting EI and how long can benefits be paid for?
Up to 55%
2 week waiting period
Can be collected for up to 15 weeks
96
How are EI benefits treated for tax purposes?
Taxable.
97
What are the 2 components that group disability contracts are normally broken into?
1. Weekly indemnity (formerly known as short-term disability)
2. Long-term disability
98
How long do weekly indemnity benefits in a group disability contract usually pay for?
After a waiting period of 1 to 15 days, benefit is normally paid for 15 to 104 weeks. At which point, most group contracts graduate to an LTD claim.
99
What is the maximum % of income replacement from a weekly indemnity benefit in a group disability contract?
66.7%
Subject to maximums
100
How much income does group LTD normally replace?
66.7 - 75% of income, depending on whether or not the benefit is taxable.
101
What definition of disability do most group LTD plans use for the first 2 years? What is the individual LTD equivalent?
Own occupation, benefit is paid as long as they are unable to do their own job.
This is called "regular occupation" in individual benefits.
102
What is a typical exclusion for a group LTD contract?
Related to pre-existing conditions. Typical wording could be... if treatment was received for a particular condition in the year prior to the start of coverage, no LTD claims related to that condition can be submitted in the first 2 years of coverage.
103
What typically happens to the income ratio for individual LTD coverage as income increases?
Lower-income earners typically have a more favourable income ratio than high-income earners. An individual making a significant amount each year would have less of their income covered than some making $45K.
104
What defines the top occupation class (4A) with regards to LTD?
Professionals with low job risk, high motivation, high stability, and a small physical component to their jobs.
105
What are the 3 disability definitions?
1. Own occupation
2. Regular occupation
3. Any occupation
106
What is the difference between own and regular occupation definitions?
Under regular occ, benefits are paid as long as the insured cannot do a job that fits within the regular range of their skills, education, experience (with income topped up if they work a job that is paying less than they were making). Under own occ, they just cannot perform their own job duties.
107
Who often uses residual benefits in a LTD policy?
Self-employed persons or contractors who may return to work, but have their income limited due to disability.
108
What are residual benefits?
Proportional replacement of income based on the income lost due to disability if the insured is able to earn between 20-80% of their pre-disability income.
109
Are residual benefits normally included in a DI contract?
Sometimes included automatically. Often added as a rider.
110
How do partial benefits differ from residual benefits?
Partial benefits are normally used by wage-earners, residual by self-employed/contractors. If an insured is able to do 80% or less of their work duties (or work 80% less time), they will receive a benefit equal to 50% of the contract's face amount.
111
What is the presumptive definition in DI contracts?
Included in many contracts, presumptive benefits provide that an insured who is able to return to work despite a loss of sight, limbs (or loss of use), hearing, or speech, will still be considered disabled and receive full benefits.
112
What is the elimination period of DI policies?
Also called waiting period, it is the length of time between the onset of a disability and when benefits can be claimed. Commonly 30, 60, 90, or 120 days.
113
When would someone with a 90 day elimination period start receiving DI benefits and why?
120 days after becoming disabled because DI benefits are paid 30 days in arrears.
114
What are common living benefits riders?
- Return of premium ROP
- Waiver of premium
- COLA
- FPO / Coverage Enhancements
- Medical consults
115
When might an employee have to deal with individual underwriting for a group plan?
- If the employee declined coverage, then later decides they want coverage
- Optional coverage
- Coverage above the NEM
116
Explain the concept of estate equalization using life insurance.
In cases where there is a substantial illiquid asset (such as a farm or business) and multiple heirs, one or several heirs may be disadvantaged if they do not inherit the farm or business. A life insurance policy can be used to create an inheritance for the heirs not receiving the farm or business. Normally, the estate is named the beneficiary as there is some risk associated with using direct beneficiary designations.
117
Is there attribution of income in a life insurance policy?
No
118
Is there tax when a life insurance policy is assigned from a parent to a child?
No
