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CFP Exam Prep > Insurance Planning > Flashcards

Insurance Planning Flashcards

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1
Q

What are two basic categories of life insurance?

A

Permanent (which includes universal and whole life insurance); and Temporary (which includes term life insurance).

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2
Q

Which option would be best if client’s cash flow is limited?

A

Term insurance is the least expensive of all options. There’s also term-to-100 life insurance policy, which can be considered to be a permanent life insurance with no cash value.

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3
Q

What are the features of whole life insurance?

A
  • It is a permanent insurance.
  • Cash value usually builds up after first year, which can be accessed via policy loans or withdrawals (this reduces death benefit).
  • Generally premiums are level.
  • Variable insurance contracts are another variation of permanent life insurance, with cash value based on performance of an index or investment fund.
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4
Q

What are the features of universal life insurance?

A
  • Offers lots flexible premiums and flexible benefits.
  • Comprised of a two-part contract containing renewable term insurance, or permanent insurance, and a cash value account.
  • Suitable for “wealthy” individuals who have excess cash flow, have maximized their RRSP contributions and are looking for other investment products that offer the potential for tax deferred growth.
  • Can rollover at ACB from parent to adult child as long as child is also the life insured and policy is transferred for no consideration.
  • Can also rollover to spouse at ACB.
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5
Q

What are life insurance policy provisions?

A
  1. Incontestable clause (after 2 years, insurance company can’t void the policy due to any misstatement)
  2. Grace period (period after due date of premium payment that policy remains in force)
  3. Reinstatement (policy is put back in force after being lapsed)
  4. Suicide clause
  5. Ownership
  6. Loan provisions (Policy loans are loans made by a life insurance company to a policyholder on the security of the cash value)
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6
Q

What are life insurance policy provisions? (Cont.)

A
  1. Non-forfeiture options (use cash value to purchase “reduced paid-up insurance” or “extended term insurance”, or as security for a loan)
  2. Settlement options (other ways to pay insurance benefit that’s not cash payment)
  3. Policy holder dividend
  4. Renewable term
  5. Conversion privilege
  6. Beneficiary designation
  7. Misstatement of age
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7
Q

Name the common life insurance riders?

A
  1. Waiver of premium (premium waived for a period of time due to insured being disabled)
  2. Guaranteed insurability
  3. Accidental death
  4. Cost of living adjustments
  5. Family riders and other insured (family insurance rider or family income rider)
  6. Level term
  7. Spousal term
  8. Child term
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8
Q

What is the benefit of having a permanent life insurance child rider?

A

An option to have a child adding additional life insurance based on family rider regardless of their health could help. Additionally, when the child becomes an adult, the policy can be passed to the child from a tax deferred basis.

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9
Q

How to create a tax advantage asset from permanent life insurance policy?

A

By naming the charity as both owner and beneficiary of the policy, the annual premium is eligible for a tax receipt as a charitable donation each year.

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10
Q

Can a permanent life insurance policy help with supplementing retirement income?

A

Cash values can be accessed for retirement income through a policy loan or partial surrender, or clients may be able to use the policy as collateral for a consumer loan.

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11
Q

How to calculate appropriate amount of life insurance?

A

Step 1: Calculate the total assets owned, by listing the current value of all assets that will form the individual’s estate at death (do NOT include home)
Step 2: Calculate estate obligations at death (ongoing income needs + immediate cash needs)
Step 3: Step 2 - Step 1 = Appropriate amount

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12
Q

Are individually owned life insurance’s premium tax deductible?

A

Generally no. Except when:
1) Charity is owner and beneficiary
2) Policy is required as collateral by a lender and the interest on the loan would otherwise qualify as a deduction.
The amount deductible is the lesser of the Net Cost of Pure Insurance and premium, prorated by the ratio of the loan balance to the total policy death benefit.

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13
Q

How to avoid tax consequences with dividends paid by policy?

A

Use dividends to buy paid-up insurance or term insurance, this will avoid tax consequences.

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14
Q

What happens when CSV is withdrawn from a policy?

A

There is a potential for taxation.

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15
Q

How to determine if there will be tax implication upon withdrawal from insurance policy?

A

If the ACB is lower than the cash surrender value, the withdrawal will be taxed.
If the ACB is greater than the cash surrender value, the withdrawal will not be taxed.

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16
Q

How to determine if there will be tax implication upon policy loans?

A

If the ACB is lower than the loan amount, the loan will be taxed.
If the ACB is greater than the loan amount, the loan will not be taxed.

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17
Q

What is Net Cost Pure Insurance?

A

It is cost of the insurance component, which is essentially determined by multiplying the net amount at risk by a mortality rate.

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18
Q

How to calculate ACB?

A

Adjusted Cost Basis = (Premiums – NCPI) – Dividends - Loans OR
Adjusted Cost Basis = Premiums + Interest – Dividends – NCPI

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19
Q

What happens when a permanent life insurance policy is surrendered in full?

A

When a policy is surrendered or “cashed in”, there will be an income inclusion for the policyholder equal to the cash surrender value less the ACB.

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20
Q

Is there a strategy to increase cash flow from policy loan (i.e. borrow from CSV)?

A
  • Yes, as long as only amounts up to the ACB are borrowed, this would have no tax consequences.
  • If borrowed amount > ACB, this difference gets added to income. When policy loans are repaid, the policyholder is eligible for a tax deduction up to this amount.
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21
Q

How will the tax will be treated as when withdrawing or surrending the policy?

A

The difference between CSV - ACB will be added to the policy holder’s income of the year. There are exceptions, such as transferring a policy between spouses.

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22
Q

Is corporate own policy different from personal?

A

Generally no - same principles are applied in regards with premiums, investment income tax and policy dividends.

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23
Q

What is Capital Dividend Account?

A

Capital Dividend Account is where the corporation would flow tax-free insurance proceeds through to shareholders on a tax-free basis.
The corporation may then pay a dividend or trigger a deemed dividend equal to the balance in the CDA and file an election to cause that dividend to be a tax-free capital dividend in the hands of the recipient.

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24
Q

What about partnership owned policies?

A

Essentially the same principles apply. A similar mechanism to the capital dividend account exists.

25
Q

Do the same principles apply to trust owned policies as well?

A

As a general rule, a trust, as owner of a life insurance policy is taxed in the same manner as an individual owner on death benefit and policy dispositions.

26
Q

What if a permanent life insurance is disposed by a non-resident (with beneficiary being resident of Canada)?

A

The insurance company is obligated to withhold tax at individual marginal tax rates on the gain portion of the cash surrender value.

27
Q

What happens when a policyholder transfers their ownership to someone else?

A

Original owner will include the difference between transfer price - ACB in their income. This transfer price is the new owner’s ACB.
Automatic rollovers on the transfer of an interest in a life insurance policy to a child, spouse or former spouse are exceptions to the general rule mentioned above.

28
Q

What is the difference between insurance policy disposition and capital property disposition?

A

Life insurance policies do not fall into the tax category of capital property, a taxpayer who disposes of his/her interest does not realize a capital gain; instead, the taxable policy gain is treated as INCOME and he/she will not be able to claim any losses.

29
Q

What are the two exceptions to the principle of taxing the transfer of a life insurance policy between individuals?

A
  1. Transfer can be made on a tax-free basis between spouses.

2. Transfer from parents or grandparents to child or grandchild (as long as the child/grandchild is the insured).

30
Q

Would there be tax implication when an owner transfer their policy to a spousal trust?

A

Yes. This includes transfer to a spousal testamentary trust, a protective trust, a trust in favour of oneself, and a joint spousal trust (married spouse or common-law partner) created inter vivos.

31
Q

What about when a corporation transfers a policy to an individual?

A

If the corporation and the transferee are dealing at arm’s length, the corporation must include in its taxable income the amount proceeds - ACB. Employee will have to include the policy’s fair market value as taxable benefits.

32
Q

If the employee is a shareholder, is there any option to save on tax when a corporation transfers a life insurance policy to this shareholder?

A

For the shareholder to avoid being taxed on the full value of the policy as income, the transfer can be made on the basis of a dividend in kind and take advantage of the dividend credit.
The corporation will in turn be able to increase its refundable dividend tax on hand account (RDTOH). RDTOH includes passive income of the corporation.

33
Q

What is a buy-sell agreements life insurance policy?

A

Buy-Sell Agreements are agreement made between business partners entailing that a deceased business owner’s interest will be sold and purchased at a predetermined price

34
Q

How to calculate the required disability benefit amount?

A

Disability insurance coverage limits are based on an individual’s annual earnings. Thus the amount of coverage offered by an employer sponsored plan may not provide adequate coverage, given an individual’s personal and financial circumstances

35
Q

What details entailed in the worker’s compensation disability plan?

A
  • Designed to protect both workers and employers against the impact of work-related injuries.
  • Employers pay yearly premiums.
  • Workers receive compensation for wage loss, medical and, vocational assistance while working towards their return to work.
36
Q

What would be the coverage under Worker’s compensation?

A

Coverage extends to full-time, part-time, temporary and casual workers, NOT business owners, partners in a business with workers, or directors of corporations

37
Q

Would the benefits under Worker’s compensation be taxable?

A

Compensation benefits are not taxable. However, individuals must report workers’ compensation benefits to Canada Customs and Revenue Agency.

38
Q

What are the payments for permanent disability under Worker’s Compensation system?

A
  1. Non-economic loss payments (NELPs) to recognize permanent clinical impairment (one-time cash payment).
  2. Economic loss payments (ELPs) to recognize disability or the impact a work-related injury/illness may have on a worker’s capacity to earn wages (paid monthly).
39
Q

What is Canada Pension Plan Disability Payment?

A

This is a monthly disability payment available for anyone contributing to CPP, and then became unable to work at any job on a regular basis because of a disability. The disability must be considered to be “severe and prolonged”.
To be eligible for a CPP disability benefit, an individual must have made enough CPP contributions in at least four of the last six years that they worked. This is taxable.
CPP disability ceases once the receiver receives the regular CPP payments.

40
Q

What is business overheard insurance policy?

A

This provides a monthly reimbursement benefit for certain specified business expenses. The policy can be designed to cover an individual for total disability, or partial or residual disability benefits during partial disability

41
Q

One very important thing to note about self-employed disability benefit?

A

Be aware, with a general disability policy, self-employed business owners can only insure the amount of net income that they report on their tax return. (actual earnings might be higher)
“Business overhead insurance” coverage does not depend on net income and thus could be used to supplement any potential shortfall.

42
Q

What details entailed in Employment Insurance?

A

Individuals can receive EI from 14 weeks up to a maximum of 45 weeks. EI benefits is 55% of an individual’s average insurable weekly earnings, up to a maximum amount.
The maximum yearly insurable earnings for 2021 is $56,300, which means the maximum weekly amount is $595. Benefits are taxable.

43
Q

What are the new changes in regards with the maternity/parental benefits?

A

Maternity (for the person giving birth): Up to 15 weeks, 55% benefit rate to a maximum $573 per week.

Standard parental benefit: Up to 40 weeks, (but one parent cannot receive more than 35 weeks of standard benefits), 55% benefit rate to a maximum of $573 per week.

Extended parental benefit: Up to 69 weeks, (but one parent cannot receive more than 61 weeks of extended benefits), 33% benefit rate to a maximum of $344 per week.

44
Q

What would be considered “total disability”?

A

Loss of income 75% or more, and results in individuals not being able to perform any other job.

45
Q

What would be considered “partial disability”?

A

Unable to perform one or more of the important duties of that occupation OR unable to perform the duties of that occupation at least 50% of the time.

46
Q

What are the differences between partial disability rider and residual disability rider?

A

Partial disability is paid as a stated amount when the insured is unable to perform some or all of their job full time (based on time lost - at least 50%)
Residual disability pays out the benefit equals to loss of income, which is at least 20% of your prior income due to a sickness or injury.

47
Q

How to determine if the disability benefits are taxable or not?

A

If premiums are paid with after-tax dollars, benefits are received tax-free.

48
Q

What are the principles of Canada Health Act?

A
  1. Public Administration
  2. Comprehensiveness
  3. Universality
  4. Portability
  5. Accessibility
49
Q

What are the two coverage types under home insurance?

A
  1. Actual Cash Value (Value of item - depreciation)

2. Replacement Value

50
Q

What is umbrella liability insurance?

A

A personal umbrella policy is used to cover claims in excess of existing basic contracts.

51
Q

What does property insurance policy cover?

A
  1. Cover the house itself
  2. Personal belongings
  3. Also includes third-party liability coverage (for example, somebody is injured while on your property or if you accidentally cause damage to someone else’s property).
52
Q

What happens if a spouse dies intestate?

A
  1. The surviving spouse inherits the matrimonial home
  2. If estate >$200k: The surviving spouse is entitled for the first $200k of the estate (if in Ontario), the rest is split evenly among the children.
  3. If estate <200k: Surviving spouse inherits all
53
Q

What would be the credit for normal charitable donation (not first time)?

A

If income is below $200,000, 15% for $200 and another 29% for any amount above $200.
If income is above $200,000, it would be 33% for any amount above $200.

54
Q

What happens when someone transfers ownership of a whole life policy to a charity?

A

The CSV fair market value = charitable donation amount
There will be policy gain which is added 100% to income = CSV - ACB
Future premium will be charitable donation if transferor continues to pay and charity is also beneficiary.

55
Q

If the life insured and beneficiary pass away at the same time, what happens to the life insurance proceeds?

A

It is assumed that the life insured passed away after the beneficiary, hence the life insurance proceeds would go to the life insured’s estate.

56
Q

What are the common ways to access/use cash value in a life insurance policy?

A

These are called non-forfeiture options:

1) Cash surrender
2) Reduced paid up: exchange for a lower death benefit policy but fully paid
3) Extended term: extended period with no further premium

57
Q

If a life policy CSV is used as a loan collateral, what can policy owner deduct (assuming they’re also borrower) if loan proceeds were not invested to generate income?

A

They can deduct the prorated amount of whichever is lower: premium or net cost of pure insurance.
Prorate = CSV/Loan Amount

58
Q

Is permanent life insurance’s CSV included in insurance needs analysis?

A

No. If it is, it would be incorrect.

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