Chapter 4

Question 1

industrial life insurance

Answer 1

insurance issues very small face amounts, such as $1k or $2k. Premiums are paid weekly and collected by debit agents. They were designed for burial coverage.

Question 2

ordinary life insurance

Answer 2

made up of several types of individual life insurance, such as temporary (term), permanent (whole).

Question 3

group life insurance

Answer 3

insurance written for members of a group, such as a place of employment, association, or a union. coverage is provided to the members of that group under one master contract. the group is underwritten as a whole, not on each individual member. one of the benefits of group coverage is usually there is no evidence of insurability required.

Question 4

term life insurance

Answer 4

gives you the greatest amount of coverage for a limited period of time. Term insurance is only good for a limited period of time because it has a TERMination date. Term insurance is an inexpensive type of insurance, making it an attractive option for large policies. Term life is the cheapest type of pure life insurance, and due to having a termination date and not having any cash value, it will ALWAYS be cheaper than a whole life policy with the same face value. It provides a pure death protection since it only pays a death benefit if the insured dies during the policy term.

Term is often renewal and convertible. For example, if you have a 10-year renewable and convertible term; after the 10 years are up, the policy terminates or you can renew it. If you renew it, the premium price will go up, and you will have the policy for another 10 years. This cycle continues until you are too old to renew or it’s too expensive. All TERM insurance has a final TERMINATION date where you can no longer renew it. If the policy is CONVERTIBLE, you can CONVERT it into whole life (think rent to own) at any time. Any time you renew or convert ANY type of insurance, you don’t have to worry about your health, as your insurability is locked in. However, the price will always go up, because your attained (or current) age is used for your new policy. TERM is typically thought of as “renting” – you have a roof over your head, but they’re going to raise the price until it no longer makes sense for you to keep it or at some point that TERMINATE the contract and kick you out.

Question 5

Level term

Answer 5

aka premium level term, has a level face amount and level premiums. premiums tend to be higher than annual renewable term because they are level throughout the policy period. however, the premiums will increase at each renewal. life insurance written to cover a need for a specified period of time at the lowest premium.

provides a fixed, low premium in exchange for coverage which lasts a specified time period.

Term insurance always expires at the end of the policy period.

Question 6

Decreasing term

Answer 6

term life insurance that provides an annually decreasing face amount over time with level premiums. these policies are usually used for mortgage protection. a decreasing term policy is a type of life policy which has a death benefit that adjusts periodically (according to a schedule) and is written for a specific period of time. decreasing term policies are usually written for a mortgage or other debt that typically decreases over time until it is paid off.

For example, a 15 year decreasing term policy could protect a 15 year mortgage. As the mortgage balance reduces each year, the face value of the insurance policy will adjust accordingly to match. After the mortgage is paid off, the insurance policy will expire.

Question 7

Credit policies

Answer 7

typically purchased using a decreasing term life insurance policy, with the term matched to the length of the loan period and the decreasing insurance amount matched to the declining loan balance.

Credit life insurance is designed to cover the life of a debtor and pay the amount due on a loan if the debtor dies before the loan is repaid

credit policies can only be purchased for up to the amount of the debt or loan outstanding.

Ex. if you wanted an insurance policy to protect at $20k 5 year auto loan, you would use a 5 year decreasing term life insurance policy with an initial face value of $20k. you will pay the same level premium every month for the 5 year term of the policy. the face value will start out at $20k and change according to a schedule (the decreasing balance of the auto loan). after 5 years, the care will be paid for and the insurance policy will no longer be needed.

Question 8

increasing term

Answer 8

term life insurance that provides an increasing face amount over time based on specific amounts or a percentage of the original face amount.

Question 9

convertible term

Answer 9

a term life policy that has a provision that allows policy owners to convert their term insurance into permanent policies without showing proof of insurability. Convertible term provides temporary coverage that may be changed to permanent coverage without evidence of insurability.

The conversion privilege of a group term life policy allows an individual to leave the group term (temporary) plan and convert his or her insurance to an individual (permanent) policy without providing evidence of insurability.

The most important factor to consider when determining whether to convert term insurance at the insured’s attained age or the insured’s original age is the premium cost. The number one factor which impacts life insurance premium cost is the insureds current or attained age. For example, a $25k policy on a healthy 7 year old boy will cost substantially less than a $25k policy on a 57 year old man.

Whether converting an individual or group term insurance policy, although your insurability is guaranteed, your age is typically reevaluated to your current (attained) age, not left at the age you were when you applied for the original term policy.

So you can convert from temp coverage to permanent coverage without evidence of insurability or good health, but your premiums will increase due to your attained age.

Question 10

renewable term

Answer 10

term insurance that guarantees the insured the right to continue their coverage after expiration of their initial policy period without having to prove insurability. provides temporary level coverage at the lowest possible cost for a limited period of time, but then allows the policy owner to renew the policy to maintain coverage past the policy’s termination. no need to prove insurability but the premium price will rise because attained age. If a consumer wanted coverage at the lowest possible cost that was good for a limited period of time but offered the ability to continue the coverage after the expiration, the consumer would want a renewable term policy.

Question 11

annual renewable term

Answer 11

term coverage that provides a level face amount that renews annually. this type of coverage is guaranteed renewable annually without proof of insurability

Question 12

term rider

Answer 12

type of insurance product which covers children under their parent’s policy. family plan policies usually cover the family head with permanent insurance, and the coverage on the spouse and children is term insurance in the form of a rider. A term rider is always level term. this is cheaper than every family member getting their own policy. Term riders allow for additional family members to be covered under one policy by attaching everyone to a main policy. Term riders can also allow an applicant to have excess coverage by adding an addiitonal term rider for them to the main policy.

Question 13

insuring clause

Answer 13

basic promise to pay benefits upon the insured’s death. generally, this clause is not actually titled as such, but appears on the cover of the policy.

Question 14

Owner’s rights provisions

Answer 14

defines the person who may name and change beneficiaries, select options available under the policy, and receive any financial benefits from the policy

Question 15

Free-look provision

Answer 15

gives policy owners the right to return the policy for a full premium refund within a limited period of time after the delivery of the policy

Question 16

modification provision

Answer 16

states that any changes made to the contract must be in writing and endorsed or attached to the policy. only an officer of the insurer or authorized home office personnel possess the authority to make changes or modifications, or waive a policy provision.

Question 17

consideration clause

Answer 17

value given in exchange for a contractual promise. in a life insurance policy, the consideration clause states that the policy owner’s consideration consists of completing the application and paying the initial premium.

Question 18

grace period provision

Answer 18

meant to protect the insured. if there is a slight lapse in the payment of a premium, it is to prevent the life insurance company from forcing the insured to provide insurability again. in monthly premium policies, the grace period is one month, but no less than 30 days. if an insured dies during the grace period and the premium has not been paid, the policy benefit is payable. however, the premium amount due is deducted from the death benefits paid to the beneficiary.

Question 19

reinstatement provision

Answer 19

in cases where a policy owner wishes to reinstate a lapsed policy, the reinstatement provision allows the policy owner to do so with some limitations. with reinstatement, a policy is restored to its original status and its values are brought up to date.

most insurers require the following to reinstate a lapsed policy:

• all backed premiums must be paid
• interest on past-due premiums may be required to be paid
• any outstanding loans on the lapsed policy may be required to be paid
• the policy owner typically will be asked to prove insurability

there is a limited period of time (3 years) in which policy may be reinstate after a lapse. some cases/states may be as long as 7 years.

a new contestable period usually goes into effect with a reinstated policy but there is no new suicide exclusion period.

Question 20

policy loan provision

Answer 20

state insurance laws require that cash value life insurance policies include a policy loan provision. This means that, with prescribed limits, policy owners may borrow money from the cash values of their policies. a policy loan is more an advance on the proceeds than a true loan. as such, these loans may not be called by the company and can be repaid at any time by the policy owner. if not repaid by the time the insured dies, the loan balance and any interest accrued are deducted from the policy proceeds at the time of claim. if the policy is surrendered for cash, the cash value available to the policy owner is reduced by the amount of an outstanding loan plus interest.

Question 21

incontestable clause

Answer 21

specifies that after a certain period of time has elapsed (usually 2 years from issuance date) the insurer no longer has the right to contest the validity of the life insurance policy so long as the contract continues in force. this means that after the policy has been in force for the specified term, the company cannot contest a death claim or refuse payment of the proceeds even on the basis of a material misstatement or concealment.

Question 22

3 cases where incontestable clause does not apply

Answer 22

impersonation - when application for insurance is made by one person but another person signs the application or takes the medical exam

no insurable interest - if no insurable interest existed between the applicant and the insured at the inception of the policy, the contract is not valid to begin with. as such, the insurer can contest the policy at any time.

intent to murder - if it is proven that the applicant applied for the policy with the intent of murdering the insured for the proceeds, the insurance company can contest the policy and its claim. since the policy didn’t have legal purpose from the start the insurance company may simply deny coverage. the policy owner is powerless to enforce such a claim as no court of law will force an insurer to provide coverage under these circumstances.

Question 23

assignment provision

Answer 23

policy owners own their actual policies and may do with them as they wish. they can even give them away just as they can give away any other kind of property they own. this transfer of ownership is know as assignment.

the assignment provision sets forth the procedure necessary for ownership transfer. this procedure usually requires that the policy owner notify the company in writing of the assignment. the company will then accept the validity of the transfer without question. a policy owner does not need the insurer’s permission to assign a policy. th enew owner is known as the assignee.

an insurable interest does not need to exist between the insured and the assignee. as the owner of the policy, the owner of the policy, the assignee is granted all the rights of policy ownership. if the assignee does not change the beneficiary designation, the proceeds will be paid to the beneficiary named by the original owner. however, the assignee does have the right to change the beneficiary as long as the original beneficiary designation was revocable. if a policy owner names an irrevocable beneficiary the policy owner must get the beneficiary’s agreement to any assignment.

Question 24

absolute assignment

Answer 24

the transfer is complete and irrevocable, and the assignee receives full control over the policy and full rights to its benefits

Question 25

collateral assignment

Answer 25

the policy is assigned to a creditor as security or collateral for a debt. if the insured dies, the creditor is entitled to be reimbursed out of the benefit proceeds for the amount owed.

Question 26

discretionary provision

Answer 26

gives discretionary authority to the insurer when determining the eligibility of an insured for benefits under the policy

Question 27

nonforfeiture options

Answer 27

there are 3 nonforfeiture options from which policy owners can select

Question 28

cash surrender option

Answer 28

policy owners may request an immediate cash payment of their cash values when their policies are surrendered. the amount of cash value the policy owner receives is reduced by any outstanding policy loans or debts. insurers are required to make cash surrender values available for ordinary whole life insurance after the first three policy years.

Question 29

cost recovery rule

Answer 29

when a life policy is surrendered for its cash value, the cost basis (total premiums paid) is exempt from taxation

Question 30

reduced paid up option

Answer 30

nonforfeiture option to take a paid-up policy for a reduced face amount of insurance. by doing this, the policy owner does not pay more premiums but still retains some amount of life insurance. in essence, the cash value is used as the premium for a single-premium whole life policy at a lesser face amount than the original policy. when this option is exercised, the paid-up policy is the same kind as the original, but for a lesser amount of coverage. once the paid-up policy has been issued, the new face value remains the same for the life o the policy, which also builds cash values.

Question 31

extended term option

Answer 31

nonforfeiture option to use the policy’s cash value to purchase a level term insurance policy in an amount equal to the original policy’s face value, for as long a period as the cash value will purchase.

Question 32

dividend options

Answer 32

cash dividend option: when dividends become payable, they are usually paid on policy anniversary dates. policy owners who elect to take their dividends in cash automatically receive their dividend check after the company approves a dividend.

accumulation at interest option: another option is to leave the dividends with the company to accumulate with interest, available for withdrawal at any time. note that while policy dividends are not taxable, any interest paid on them is taxable income in the year the interest is credited to the policy, whether or not it is actually received by the policy owner.

paid-up: additions option: dividends can also be used to purchase paid-up additions of life insurance. the amount of paid-up addition that is purchased each year is determined by the insured’s attained age, the amount of dividend paid, and the type of coverage purchased.

reduced premium dividend option: allows a policy owner to use the dividend to pay all or part of the next premium due on the policy. sometimes called the reduction of premium dividend option.

one-year term dividend option: a fifth option, though not utilized as frequently as the others, is to use dividends to purchase as much one-year term insurance as possible.

Question 33

guaranteed insurability option rider

Answer 33

allows a policy owner to purchase additional life insurance coverage at specified dates without providing evidence of insurability.

Question 34

waiver of premium rider

Answer 34

provides valuable added security for policy owners. it can prevent a policy from lapsing for nonpayment of premiums while the insured is disabled and unable to work. available on both permanent and term insurance policies.

Question 35

payor rider

Answer 35

if the individual paying the premiums on a juvenile life policy becomes disabled or dies, the payor rider ensures that premiums will be waived

Question 36

accelerated benefit rider

Answer 36

allows the insured to receive a portion of the death benefit prior to death if the insured has a terminal illness and expected to die within 1-2 years.

Question 37

accidental death benefit rider (multiple indemnity)

Answer 37

pays an additional sum of the beneficiary if the insured dies due to accident. the amount paid is a multiple of the policy face amount, such as double or triple the original benefit. truly the cheapest way to add a lot of coverage for a period of time.

Question 38

accidental death and dismemberment

Answer 38

may be added to a life insurance policy. pays benefits for dismemberment and accidental death. pays a principal sum for loss of both hands, both arms, both legs, or loss of vision in both eyes.

Question 39

cost of living rider

Answer 39

allows the policy face amount to be adjusted to account for inflation based on the consumer price index

Question 40

return of premium rider

Answer 40

pays the total amount of premiums paid into the policy in addition to the face value, as long as the insured dies within a certain time period specified in the policy. it also returns premiums to the living insured at the end of a specified period of time, as long as the premiums have been paid.

Question 41

automatic premium loan rider

Answer 41

allows the insurance company to deduct overdue premium from an insured’s cash value by the end of the grace period if payment is missed on a life policy. the insurance company can automatically take out a loan for you against your cash value to cover your premium in the event they don’t receive payment from you.

Question 42

Whole life

Answer 42

insurance that provides death benefits for the entire life of the insured. it also provides living benefits in the form of cash values. it matures at age 100 and normally has a level premium.

Question 43

Whole life insurance

Answer 43

provides both living and death benefits. provides permanent life insurance protection for the insured’s entire life. it also provides living benefits such as cash value and policy loans.

Advantages: covers entire life of the insured, living benefits - cash value and policy loans, fixed premiums

Drawbacks: protection is more expensive because of living benefits, premium paying period may extend beyond the income-earning years

comparable to buying a house – you can pay the house off slowly or quickly, but once you pay it off you own the house. there are different whole life types, difference is how the policy is paid.

Question 44

Straight whole life

Answer 44

basic whole life insurance with a level face amount and fixed premiums payable over the insured’s entire life. Premium payments made until death of insured or age 100 (maturity of policy)

Question 45

Limited pay whole life

Answer 45

whole life insurance where the insured is covered for his entire life, but premiums are paid for a limited time. as the premium payment period shortens, cash values increase faster and the fixed premiums are higher.

ex. under a paid-up at 65 policy, premiums are only paid until the insured is 65 years old. With a 20-pay life policy, the insured only pays for 20 years. these policies are in effect until the insured’s death or they reach age 100.

Question 46

Single premium whole life

Answer 46

allows the insured to pay the entire premium in one lump sum and have coverage for the insured’s entire life

• an immediate nonforfeiture value is created
• an immediate cash value is created
• a large part of the premium is used to set up the policy’s reserve

Question 47

modified whole life

Answer 47

low premiums in the early years and jumps to a higher premium in the later years and remains fixed thereafter. premiums increase just once.

Question 48

graded whole life

Answer 48

under a typical graded premium life insurance policy, the premium increases yearly for a stated number of years, then remains level. premiums continue to stay level for the remainder of the policy.

ex. a policy can start out low in a graded whole life and increase a small amount every year up until the fifth year, then levels off for the remainder of the policy.

Question 49

family plan policies

Answer 49

designed to insure all family members under one policy. usually the family head is covered by permanent (whole life) insurance and the spouse/children are included on the same policy as level term life riders (family term riders)

the term coverage on the spouse and children are normally convertible to permanent coverage without evidence of insurability, if “attached” to someone else’s policy. Riders MUST ride on something.

Question 50

Family income policies

Answer 50

whole life and decreasing term insurance (begins date of purchase). Provides monthly income to a beneficiary if death occurs during a specified period after date of purchase. If the insured dies after the specified period, only the face value is paid to the beneficiary since the decreasing term insurance expired. Income this concern typically decreases over time because the household shrinks. They use decreasing term instead of level. With decreasing term, the benefit begins to decrease as soon as the policy begins.

Question 51

Family maintenance policy

Answer 51

whole life and level term (begins date of death). provides income to a beneficiary for a selected period of time if an insured dies during that time period. At the end of the income paying period, the beneficiary also receives the entire face amount of the policy. If an insured dies after the end of the selected period, the beneficiary receives only the face value of the policy. Maintenance “maintains” the family using level term. This means the family will receive a benefit for so many years after the insured’s death.

Question 52

multiple protection policies

Answer 52

pays a benefit of double or triple the face amount if death occurs during a specified period. if death occurs after the period has expired, only the policy face amount is paid. The period may be for a specified number of years - 10, 15, or 20 years or to a specified age such as 65. These policies are combinations of permanent insurance and level term insurance.

Question 53

Joint life policy

Answer 53

a policy that covers two or more people. The age of the insureds are “averaged” and a single premium is charged. it uses permanent insurance (as opposed to term) and pays a death benefit when one of the insureds dies. the survivors then have the option of purchasing an individual policy without evidence of insurability. The premium for a joint life policy is less than the premium for separate, multiple policies. ONE policy covers two. Think “joint accounts” with a bank. One account, two people.

Note: A variation of the joint life policy is the joint and survivor policy, or a “survivorship life policy” (it can also be known as a “second to die” policy). This plan also covers two lives, but the benefit is paid upon the death of the last surviving insured.

Compared to the combined premium for separate life insurance policies on two individuals, the premium for a survivorship life policy is still lower.

Question 54

Juvenile insurance

Answer 54

life insurance which is written on the lives of a minor. the adult applicant is usually the premium payor as well, until the child comes of age and is able to take over the payments. a payor provision is typically attached to juvenile policies. It provides that, in the event of death or disability of the adult premium payor, the premiums will be waived until the child reaches a specified age (such as 18, 21, or 25). Payor provision protects the insured in the even the payor dies or is disabled.

Question 55

Credit life insurance

Answer 55

designed to cover the life of a debtor and pay the amount due on a loan if the debtor dies before the loan is repaid. it is normally issued in an amount not to exceed the outstanding loan balance and is usually paid entirely by the borrower. a decreasing term policy is most often used.

Question 56

interest-sensitive whole life

Answer 56

a type of whole life insurance where the cash value can increase beyond the stated guarantee if economic conditions warrant. This is also called current assumption whole life insurance. It also gives the insured the opportunity to either increase the face amount or use the extra cash value to lower future premiums. Premiums can vary to reflect the insurer’s changing assumptions with regard to its death, investment, and expense factors. CAWL (current assumption whole life) policies are always a MEC due to accelerated premiums.

Question 57

Adjustable life policies

Answer 57

distinguished by their flexibility that comes from combining term and whole life insurance into a single plan

the policy owner determines how much face amount protection is needed and how much premium the policy owner wants to pay

allows you to vary your coverage as your needs change without requiring evidence of insurability

no new policy needs to be issued when changes are desired

adjustable life has all the usual features of level premium cash value life insurance

Question 58

Universal life

Answer 58

a variation of whole life insurance, characterized by considerable flexibility

changes may be made with relative ease by the policy owner with these flexible-premium policies

investment gains go toward cash value

unlike whole life (with its fixed premiums, fixed face amounts, and fixed cash value accumulations) universal life allows its policy owners to determine the amount and frequency of premium payments which will adjust the policy face amount

basic characteristics of a universal life policy are flexible premiums, flexible benefits, no minimum death benefit, and cash value withdrawals

cash value accumulations are subject to a minimum interest guarantee

any surrender charges of a universal policy must be disclosed

Question 59

Equity index universal life insurance (EIUL)

Answer 59

a permanent life insurance policy that allows policy holders to tie accumulation values to a stock market index, like the S&P 500. Indexed universal life insurance policies typically contain a minimum guaranteed fixed interest rate component along with the indexed account option. Indexed policies give policy holders the security of fixed universal life insurance with the growth potential of a variable policy linked to indexed returns. Potential extra interest based on the investments of the company’s general account.

Question 60

Modified Endowment Contracts (MEC)

Answer 60

A policy that is overfunded, according to IRS tables. Policies that do not meet the 7-pay test are considered MEC’s and will lose favorable tax treatment. The 7-pay test is a limitation on the total amount you can pay into your policy in the first seven years of its existence. The test is designed to discourage premium schedules that would result in a paid-up policy before the end of a seven year period.

Ex. if yearly premium is $500 in a seven year period a total amount paid would equal $3500. If you paid $3501 it now has exceeded the 7-pay test and is no longer a life insurance contract. It will now be taxed as an investment.

if withdrawn prior to age 59 1/2, there is a 10% penalty.

Taxation only occurs when cash is distributed

funds withdrawn from a MEC are subject to last-in first-out (LIFO) tax treatment, which assumes that the investment or earnings portion of the contract’s values is withdrawn first (making these funds fully taxable as ordinary income).

penalty taxes on premature distributions from a modified endowment contract normally apply to policy loans

Question 61

7-pay test

Answer 61

The 7-pay test is a limitation on the total amount you can pay into your policy in the first seven years of its existence. The test is designed to discourage premium schedules that would result in a paid-up policy before the end of a seven year period.

Question 62

Variable products

Answer 62

Because of the transfer of investment risk from the insurer to the policy owner, variable insurance products are considered securities contracts as well as insurance contracts. A producer is required to register with the National Association of Securities Dealers (NASD) to sell variable products

Question 63

Variable whole life insurance

Answer 63

created to help offset the effects of inflation on death benefits. It’s permanent life insurance with many of the same characteristics of traditional whole life insurance. The main difference is the manner in which the policy’s values are invested. With traditional whole life, these values are kept in the insurer’s general accounts and invested in conservative investments selected by the insurer to match its contractual guarantees and liabilities. With variable life insurance policies, the policy values are invested in the insurer’s separate accounts which have common stock, bond, money market, and other securities investment options. Values held in these separate accounts are invested in riskier, but potentially higher yielding, assets than those held in the general account.

The basic characteristics of a variable life policy are: fixed premiums, a guaranteed minimum death benefit which fluctuates over the minimum, and cash values which fluctuate and are not guaranteed.

Question 64

Variable Universal Life (VUL)

Answer 64

a type of life insurance that builds cash value. It combines all the characteristics of a universal life and variable life. In a VUL, the cash value can be invest in a wide variety of separate accounts, similar to mutual funds, and the choice of which of the available separate accounts to use is entirely up to the contract owner. The ‘variable’ component in the name refers to the ability to invest in separate accounts whose values vary-they vary because they are invested in stock and/or bond markets. The ‘universal’ component in the name refers to the flexibility the owner has in making premium payments. This provides the policy owner with flexible premiums, adjustable death benefits, a guaranteed minimum death benefit and gives the insured growth potential for higher returns, but also potential for loss. Evidence of insurability can be required for an individual covered by a variable universal life policy when death benefit is increased.