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CFP Exam Review > Insurance Planning > Flashcards

Insurance Planning Flashcards

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1
Q

Basic insurance concepts - Risk

A

A condition where there is a possibility of a loss (a situation where an exposure to loss exists)

  • starting a business
  • buying real estate
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2
Q

Basic insurance concepts - Peril

A

The cause of a possible loss, the event insured against perils like windstorm, fire, and theft

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3
Q

Basic insurance concepts - Hazard

A

A condition that may create or increase the chance of loss arising from a given peril like:

  • Owning a home on an earthquake fault line
  • Owning a home by a river
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4
Q

Elements of Insurance

A
  1. Large number of homogeneous exposure units
  2. Loss must be definite and measurable
  3. Must be fortuitous or accidental
  4. Must not be catastrophic (for the insurance company)
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5
Q

Methods to avoid/reduce loss

A

Methods are:

  1. Avoidance: do not drive, do not purchase property but rent it
  2. Diversification: duplication of assets or activities at different locations
  3. Transference: INSURANCE
  4. Retention: voluntary - recognizes that the risk exists and assumes losses (deductible, co-insurance)
  5. Risk reduction: sprinkler system, safety programs
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6
Q

Insurable Interest

A

Property/Casualty: at inception AND at time of claim

Life: at inception but need not be at time of claim

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7
Q

Parts of the Insurance Contract

A
  • Declarations page: factual statements that identify the specific person, property or activity being insured
  • Definitions: explanation of key policy terms
  • Insuring agreements: spells out the basic promise of the insurance company
  • Conditions: spells out in detail the duties and rights of both parties
  • Exclusions: circumstances when the insurer will not pay

REMEMBER “DICE”

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8
Q

Negligences

A
  1. Attractive nuisances (swimming pool / vacant lot)
  2. Negligence per se (violate a statue)
  3. Strict liability (product liability)
  4. Absolute liability (workers compensation)
  5. Vicarious liability - respondent superior (principals responsible for their agents)
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9
Q

Defenses for negligence

A
  • Assumption of risk (skiing, stock car races)
  • Contributory (jay walking, being drunk)
  • Comparative (A is 20% negligent, B is 80%)
  • Last clear chance (road rage)
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10
Q

Calculating life insurance needs (two methods)

A
  1. Capital utilization approach: uses annuitization to provide needed income but leaves no money at the end of the planned period.
  2. Capital needs approach: uses interest only, so the original capital is still left at the end of the income period (also called capital retention or interest only).
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11
Q

Insurance rating service / category

most comprehensive service

A
  • A.M. Best / A++ to F

* Standard & Poor / AAA to CCC

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12
Q

Sections of Homeowner’s Policy

A 
Section I (Coverage: A B C D)
A - dwelling and attached structures
B - structures separated from dwelling (detached garage, fences)
C - contents and personal property
D - loss of use

Section II (Coverage: E F)
E - liability
F - medical payments

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13
Q

Property excluded under personal property coverage

A
  1. Animals, birds, or fish
  2. Motorized land vehicles and aircraft
  3. Property of roomers, boarders, and other tenants
  4. Property contained in an apartment regularly rented or held for rental to others by the insured (unless specifically endorsed)
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14
Q

Perils Covered (Basic Form)

A
  • Windstorm
  • Hail
  • Aircraft
  • Riot
  • Vandalism
  • Vehicles
  • Explosion
  • Smoke
  • Fire
  • Lightning
  • Theft
    (Remember: WHARVES/FLT)
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15
Q

Perils Covered (Broad Form)

A
  • Rupture of a system
  • Artificially generated electricity
  • Falling objects
  • Freezing of plumbing

(Remember: Basic plus RAFF)

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16
Q

Homeowner’s Forms of Coverage

A

Coverage: | A | B | C | D |
HO-1: Basic | Basic | Basic | Basic
HO-2 (home): Broad | Broad | Broad | Broad
HO-3 (home): Open | Open (10% A) | Broad (50% A) | Open (30% A)
HO-3/15 HO-5: Open | Open (10% A) | Open (50% A) | Open (30% A)
HO-8 (older home): Basic | Basic | Basic | Basic
HO-4 (renter’s): | | Broad | Broad (30% C)
HO-6 (condo): ** | ** | Open | Broad (50% C)

** Can have some coverage for A and B (named perils)

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17
Q

Homeowner Policy Exclusions

A
  1. earthquake
  2. flood
  3. neglect
  4. intentional loss
  5. ordinance / law
  6. power failure
  7. war
  8. nuclear hazard
    * NOTE: sink hole is a covered peril for the exam
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18
Q

Replacement Cost Coverage

A

Insurance required = replacement cost * coinsurance percentage

Amount paid by insurance = (insurance carried / insurance required) * Loss - deductible

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19
Q

Automobile risk exposures

Requirements for a vehicle to be eligible for:
Insurance Services Office (ISO)
Personal Auto Policy (PAP)

A
  • Be owned by an individual or by a husband and wife living in the same household
  • Be a private passenger automobile
  • Not be used as a public or livery conveyance
  • Not be rented to others
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20
Q

Auto Insurance Policy Parts

A
  • Part A: limited to third parties
  • Part B: medical payments
  • Part C: uninsured / underinsured motorists
  • Part D: damage to the covered auto
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21
Q

“Covered Auto” as used under the policy

A
  • Any vehicle shown on the declarations page
  • Any of the following vehicles which you acquire during the policy period: private passenger auto, pickup truck, panel truck, or van
  • NO coverage for a pickup, panel truck or van used in a business (need commercial policy)
  • Any trailer you own listed on the declarations page
  • Any auto or trailer you do not own while used as a temporary substitute for any vehicle described in this definition which is out of normal use because of a breakdown, repair, servicing, loss, or destruction
22
Q

Persons insured under the medical payments coverage of the PAP

A
  • The named insured and any family member who suffers bodily injury caused by accident while occupying the covered auto
  • The named insured and family members who if, while a pedestrian, are struck by an y motor vehicle designed for use on public roads, or by a trailer
  • Other persons while occupant of the insured’s auto (passengers)
23
Q

Uninsured Motorist Coverage (UM)

A

This agreement promises to pay the amount an INJURED insured could have collected from the uninsured driver if such driver had carried auto liability insurance. The term “covered person” as used under the uninsured motorist coverage of the Personal Auto Policy includes the following:

  • The named insured and any family member
  • Any other person occupying the insured’s covered auto
  • Any person, for damages that person is entitled to recover because of injury to a person described above

Special note: UM is liability protection, NOT medical payments

24
Q

Perils covered under the “Other Than Collision” provision of the auto policy

A
  • Breakage of glass
  • Loss caused by:
    1. falling objects
    2. fire
    3. theft
    4. explosion
    5. earthquake
    6. windstorm
    7. hail
    8. water
    9. flood
    10. riot or civil commotion
    11. contact with birds or animals
25
Q

Umbrella Liability Insurance

A
  • Nearly always a correct answer, since it is smart coverage
  • Provides liability coverage (BI/PD) for catastrophic legal claims
  • Requires policy owner to carry certain underlying coverage of specified minimum amounts
  • Professional acts are specifically EXCLUDED
26
Q

Professional Liability

A

Malpractice: bodily injury (doctors, dentists)

Errors and Omissions (E&O): Monetary damages (financial advisors, lawyers, accountants, insurance agents, etc.)

27
Q

Workers Compensation

A
  • Unlimited medical expenses
  • Disability income (TAX FREE)
  • Death benefits
  • Rehabilitation (medical and vocational)
  • Absolute Liability
28
Q

Medicare does NOT cover…

A
  • Routine foot care, glasses, hearing aids and dental work

* Emergency care outside the U.S. (some exceptions for Canada, Mexico, and Caribbean)

29
Q

Medicare - Long-Term Care

A
  1. Benefits are limited - pays all of the first 20 days of skilled care and everything over a specified amount per day for the next 80 days of skilled care (maximum of 100 days)
  2. This limited benefit is subject to substantial restrictions:
    * Pays for skilled care only
    * Admission to a nursing home must follow within 30 days of a hospital stay of three days or more
    * The patient’s condition must be expected to improve
30
Q

HMO vs PPO

A

HMO:

  • Provider paid monthly fee regardless of services rendered (capitation)
  • Out-of-network care not covered at all

PPO:

  • Provider paid for actual services rendered
  • Out-of-network partially covered (usually 70%)
31
Q

COBRA Coverage Requirements

A
  • Must have 20 full/part time employees
  • terminated employees / dependents: continuation period up to 18 months. Qualifying event: voluntary termination; change from full-time to part-time
  • spouses and other dependents: continuation period up to 36 months. Qualifying event: employee’s death, divorce, legal separation, or eligibility for Medicare
  • children of employee’s: continuation period up to 36 months. Qualifying event: loss of dependent status (marriage); reaching dependency age limit specified by plan
32
Q

Health Savings Account (HSA)

A
  • Used in conjunction with High Deductible Health Plan (HDHP)
  • Distributions tax-free if used for health care
  • Contributions not spent are carried forward in the owner’s name and are portable
  • Unused assets become property of named beneficiary upon death
  • Distributions for non-medical are ordinary income taxable plus 20% penalty if under 65
33
Q

Definitions of Disability

A
  1. Own occupation - best definition for insured
  2. Modified any occupation
  3. Split definition - own then modified
  4. Any occupation (social security definition)
  5. Loss of income
34
Q

Disability Income - Policy Continuance Provisions

A

Noncancellable “noncan”: continuous term policy guaranteeing the insured’s right to maintain the policy at the stated premium

Guaranteed renewable: continuous right to maintain the policy, but the insurer may increase the premium by class of insureds.

35
Q

Taxation of Disability Policies

A

The INDIVIDUAL owns the contract and pays the premium:

  • Premiums are not deductible
  • Benefits are tax-free to the employee

The employee owns the contract and the EMPLOYER pays the entire premium under a bonus arrangement like Section 162 disability insurance:

  • Premiums are deductible by the employer as a bonus
  • Benefits are tax-free to the employee

The employee owns the contract and the EMPLOYER PAYS the entire premium under a salary continuation plan (group plan)

  • Premiums are deductible by the employer
  • Benefits are taxable to the employee
36
Q

Permanent Life Insurance - Low risk tolerance

A
  • Insurance company controls investment returns
  • Assets part of general account
  1. Whole Life
  2. Universal Life
37
Q

Permanent Life Insurance - High Risk Tolerance

A
  • Client controls investment return
  • Assets part of separate account
  1. Variable Life
  2. Variable Universal Life
38
Q

Dividend Options

A
  • Cash
  • Reduce premium
  • Accumulate with interest
  • Paid-up additions
  • One-year term / 5th dividend

Remember “CRAPO”

39
Q

Nonforfeiture Options

A
  • Cash
  • Extended term
  • Paid-up reduced amount
40
Q

Settlement Options

A
  • Cash
  • Pure life / single life
  • Refund
  • Period certain
  • Specified income / period
  • Interest only
41
Q

Modified Endowment Contract (MEC)

A
  • Entered into after June 21, 1988
  • Fails to meet the “seven pay test” (for exam this includes ALL single premium policies)
  • Distributions/withdrawals are taxed LIFO (interest first)
  • Distributions under 59 1/2 also subject to 10% federal penalty tax (if not disabled)
  • Death benefit is tax-free
42
Q

“MEC” Grandfather Life Insurance Rules

A
  • If the death benefit increases by $150K or less and the insured has guaranteed insurability (no proof of insurability), the policy will NOT lose its grandfathered (non MEC) status
  • If the policy increases by ANY amount and the insured must prove insurability, the policy MAY lose its grandfathered (non MEC) status
43
Q

Proceeds taxable due to transfer for value

A

If an interest in a life insurance policy is transferred for valuable consideration (not a gift), the proceeds in excess of the consideration paid for the policy, combined with any premiums paid by the owner, are taxable as ordinary income (like a viatical). The three main exceptions to this rule are as follows:

  • A sale or transfer to the insured
  • A sale or transfer to a partner or partnership in which the insured is a partner
  • A corporation in which the insured is a shareholder or officer
  • Divorce
44
Q

1035 Tax Free Exchange Rules

A

Life -> Life (ok)
Life -> Annuity (ok)
Annuity -> Annuity (ok)
Annuity -> Life (NO WAY)

45
Q

Buy-Sell Stock Redemption vs. Cross Purchase

A

Stock Redemption: No step-up in cost basis

Cross Purchase: Step-up in basis

46
Q

Split-Dollar Insurance:

EndoRsement Method vs. Collateral aSSignment Method

A

EndoRsement Method:

  • EmpolyeR is the owneR
  • Employee is not a shareholder

Collateral aSSignment Method:

  • Employee is owner
  • Employee is a Shareholder
  • Employee aSSigns the policy
47
Q

Annuity Taxation

A

Periodic Payouts:
Basis / Payout = Tax-Free

Lump Sum payouts:

  • LIFO (interest first rule)
  • Ordinary income plus 10% penalty under 59 1/2
48
Q

Flexible Spending Account (FSA)

A
  • Must be used by March 15th or forfeited to company (use it or lose it - Medical only. Dependent Care must be used by 12/31)
  • Not subject to income tax, FICA, FUTA
  • Health FSA may not be used to reimburse an employee’s premiums paid for other health plans (such as a MSA, HSA, and LTC)
  • Expenses for long-term care services cannot be reimbursed under a health FSA, but other medical expenses can be reimbursed.
49
Q

Fringe Benefit that are Tax-Free (major ones)

A
  • Health care premiums
  • Insurance premiums on non-discriminatory group life policy up to $50,000
  • Company car for working conditions only
  • Employer-provided transit passes ($300/mo cap 2023) or parking ($300/mo cap 2023)
  • OCCASSIONAL overtime meal money, cab fare, theater or sporting events tickets
  • Discounts on services limited to 20% of selling price charge customers
50
Q

Fringe Benefits that are Taxable

A

Health insurance premiums for self-employed, partners, and more than 2% owners of S corporations are taxable income.
However, 100% is deductible as an adjustment to income on the front of the 1040. This can include all types of health insurance programs.

CFP Exam Review (7 decks)

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