Life Ins, Variable Annuities, Retirement & Ed Savings Plans

Question 1

The investment risk on the cash value accumulation in a universal variable life policy is assumed by the:

a. Insurance company
b. Investor
c. Investment adviser
d. Sponsor

Answer 1

b. Investor

The returns on a variable universal life insurance policy depend on the performance of the separate account. The risks of the separate account are borne by the investor.

Question 2

An accumulation unit in a variable annuity contract is:

a. An accounting measure used to determine the contract owner’s interest in the separate account
b. An accounting measure used to determine payments to the owner of the variable annuity
c. The same as a shareholder’s ownership interest in a mutual fund
d. The same as the insurance company’s profit from the separate account

Answer 2

a. An accounting measure used to determine the contract owner’s interest in the separate account

An accumulation unit in a variable annuity contract is an accounting measure used to determine the contract owner’s interest in the separate account. The separate account is the portfolio in which the customer’s contributions are invested. Some separate accounts consist of several subaccounts, with differing objectives and portfolios.

Question 3

Withdrawals from an IRA must commence:

a. Upon retirement
b. At age 70 1/2
c. By April 1st of the year in which the individual reaches age
70 1/2
d. By April 1st following the year in which the individual turns
70 1/2

Answer 3

d. By April 1st following the year in which the individual turns
70 1/2

Withdrawals from an IRA must begin no later than April 1st following the calendar year in which the individual reaches age 70 1/2. For example, if the owner of an IRA account turns 70 1/2 on December 10th, payments must begin the following April 1st.

Question 4

As a retirement vehicle, which of the following would probably provide the greatest protection of purchasing power?

a. Fixed annuities
b. Variable annuities
c. Corporate bonds
d. Series HH bonds

Answer 4

b. Variable annuities

Variable annuities would theoretically provide the greatest protection against loss of purchasing power because the payout can be based upon common stock, which historically has increased in inflationary periods, and would provide for a larger cash payout to offset the effects of inflation. All of the other choices would have their returns severely eroded by the effect of rising prices (inflation).

Question 5

The separate account of the variable life policy that Tom Jones bought is performing poorly. Does this have any influence on his death benefit?

a. No, the death benefit is fixed over the life of the contract.
b. Yes, but it could never drop below the highest death benefit attained during the time that the contract began building cash value.
c. Yes, but it could never drop below the fixed minimum.
d. No, the cash value can only increase over the life of the contract.

Answer 5

c. Yes, but it could never drop below the fixed minimum.

If the performance of the separate account of a variable life insurance policy is less than the Assumed Interest Rate (AIR), the death benefit will decline. However, the death benefit can never drop below the face value of the policy.

Question 6

An individual transferring an IRA from one trustee to another:

a. Must be at least 59 1/2 to any penalties
b. Will receive a check that must be rolled over within 60 days of receipt to avoid taxes
c. Is not subject to any taxes or penalties
d. May only do so once each year

Answer 6

c. Is not subject to any taxes or penalties

A transfer of funds from one trustee to another is not considered to be a distribution or a rollover. There is neither a limit to the number of transfers that an individual may do, nor are there any taxes or penalties. This differs from receiving a distribution from a retirement plan. The distribution must be rolled over into another qualified plan within 60 days of receiving the money in order to avoid taxes and penalties. Rollovers may only be done once each year.

Question 7

Which two of the following statements are TRUE regarding the cash value in a variable universal life policy?

I. It is fixed during the life of the contract.
II. It can fluctuate with the performance of the separate account.
III. Any loans taken will reduce the cash value.
IV. Loans have no effect on the cash value.

a. I and III
b. I and IV
c. II and III
    d. II and IV

Answer 7

c. II and III

In a variable universal life policy, the performance of the separate account could increase or decrease the cash value. Loans against the policy would reduce the cash value available.

Question 8

A retired teacher had participated in a tax-sheltered annuity. Contributions made on her behalf into the plan totaled $10,000. This year she received a lump-sum payment from the annuity of $16,000. How is the distribution taxed and what is her cost basis?

a. $6,000 is taxed as ordinary income and $10,000 is returned to her tax-free as it is her cost basis.
b. $6,000 is taxed as a long-term capital gain and $10,000 is returned to her tax-free as it is her cost basis.
c. $16,000 is taxed as ordinary income and she has no cost basis.
d. $16,000 is taxed as a long-term capital gain and she has no cost basis.

Answer 8

c. $16,000 is taxed as ordinary income and she has no cost basis.

Contributions made into a tax-sheltered annuity on an individual’s behalf are made in pretax dollars. Investment income and capital gains accumulate tax-free during the life of the annuity. All payments made out of the annuity are taxed as ordinary income. In this question, the retired teacher has no cost basis, as all contributions made into the plan were in pretax dollars. The $16,000 lump-sum payment she received is treated as ordinary income.

Question 9

An investor has been making payments into a variable annuity for the last 20 years. The investor decides to annuitize and selects a straight-life payout. Which two of the following statements are TRUE?

I. The investment risk is assumed by the insurance company.
II. The investment risk is assumed by the customer.
III. The amount of the payment to the customer is guaranteed by the insurance company.
IV. The amount of the payment to the customer is not guaranteed.

a. I and III
b. I and IV
c. II and III
d. II and IV

Answer 9

d. II and IV

Unlike a fixed annuity, the investment risk in a variable annuity is assumed by the customer. The amount of the payment depends on the performance of the separate account. The payment could increase, decrease, or remain the same. The amount is not guaranteed.

Question 10

Joe Hopkins, a college student, earned $1,447 while employed part-time at the campus bookstore. He also earned $500 as a waiter at Shake ‘N Bake, a campus restaurant, and received $700 in interest income from his trust account. Based upon his income, what is the maximum contribution he could make to an IRA?

a. $500
b. $1,200
c. $1,947
d. $2,647

Answer 10

c. $1,947

IRA contributions are based on earned compensation. Mr. Hopkins’ combined earned compensation from the bookstore and restaurant is $1,947 ($1,447 + $500). The interest income may not be counted as earned income. In order to make the maximum $5,500 contribution to an Individual Retirement Account, an individual must have earned income of at least $5,500.

Question 11

Which of the following statements is TRUE concerning periodic payment variable annuities?

a. A client’s number of annuity units never changes.
b. A client’s number of accumulation units never changes.
c. Annuity contracts never have a beneficiary.
d. The monthly payout is fixed by the inflation index.

Answer 11

a. A client’s number of annuity units never changes.

During the pay-in period of a variable annuity, the client is continually purchasing accumulation units. These accumulation units are then exchanged for a fixed number of annuity units when the payout period begins. The monthly payout is determined actuarially and is based on the performance of the separate account.

Question 12

The advantages of a variable annuity, as compared to a fixed annuity, would include which two of the following?

I. Guarantee of a specific rate of return
II. Absence of investment risk
III. Protection against inflation
IV. Ability to vote regarding changes in investment policy

a. I and II 
b. I and III 
c. II and IV 
    d. III and IV

Answer 12

d. III and IV

Over time, stocks usually keep pace with inflation as their dividends rise. Variable annuities invest primarily in stocks and, although riskier than fixed annuities, should provide higher returns than fixed annuities in the long run. In a variable annuity, the contract holders own the separate account, vote on changes in investment policy, and elect the investment managers.

Question 13

Dr. Simon makes contributions to his Keogh Plan above the allowable amount. The trustee notifies Dr. Simon regarding the excess contributions. In order to avoid the penalty tax, Dr. Simon can:

a. Withdraw the excess any time during the year
b. Withdraw the excess before the tax due date
c. Move the excess into the next year’s contribution
d. Keep the contribution in the account with the stipulation that it will not grow tax-deferred

Answer 13

b. Withdraw the excess before the tax due date

As long as Dr. Simon withdraws the excess contribution before the tax due date, he can avoid the penalty tax on the excess contribution.

Question 14

Many investors prefer to receive variable annuity payments under the straight-life payout option because it:

a. Is the most conservative method for receiving payments
b. Allows for a beneficiary for the entire payout period
c. Provides the maximum cash flow of all payout options
d. Provides an equal amount each month for the investor’s lifetime

Answer 14

c. Provides the maximum cash flow of all payout options

The annuitant will receive the greatest cash flow from the straight-life annuity payout option. This option allows the annuitant to receive payments as long as the annuitant is alive. At death the payments stop. No beneficiary is designated and the insurance company is relieved of its obligation to make payments. The annuitant has the greatest degree of risk with this type of payout.

Question 15

Eligible investments for an IRA account include:

I. Junk bond mutual funds
II. Variable annuities
III. Chinese ceramics
IV. U.S. minted gold coins

a. I and II only
b. II and IV only
c. I, II, and IV only
d. I, II, III, and IV

Answer 15

c. I, II, and IV only

Tangible investments are generally not permitted in an IRA account. This would rule out art, antiques, and stamps. U.S. minted gold coins are an exception.

Question 16

A corporation wants to establish a pension plan but does not want to obligate itself to annual contributions because of the unsteady nature of its revenues. A plan that would offer flexibility and provide immediate vesting is a:

a. Defined benefit plan
b. Simplified employee pension plan
c. Defined contribution plan
d. Deferred compensation plan

Answer 16

b. Simplified employee pension plan

A simplified employee pension plan is suitable for a company that cannot make annual contributions because its profitability varies from year to year. When contributions are made, employees are immediately vested.

Question 17

All of the following are typical characteristics of a 401(k) plan EXCEPT:

a. Employee contributions are fully and immediately vested
b. Employers must match employee contributions
c. An employee’s taxable income is reduced by employee contributions
d. Employee contributions grow on a tax-deferred basis

Answer 17

b. Employers must match employee contributions

In a 401(k) plan, an employee can usually make a pre-tax contribution into the plan and reduce taxable income. Employee contributions and growth in the account are tax-deferred. Employers are not required to match contributions but may do so.

Question 18

An individual worked for Worthington Corporation for 20 years and was covered under a qualified pension plan. During the accumulation period, the employer made all of the contributions. During the payout period, the pension plan participant will have to treat distributions as:

a. Part return of capital and part ordinary income
b. All capital gains
c. All ordinary income
d. Deferred income

Answer 18

c. All ordinary income

When the employer has made all of the contributions to an employee’s pension plan, the employee has a zero cost basis and the entire payout is treated as ordinary income.

Question 19

Which of the following retirement plans need not set standards for vesting, eligibility, and funding?

a. Keogh plans
b. Corporate pension plans
c. Deferred compensation plans
d. Profit-sharing plans

Answer 19

c. Deferred compensation plans

Deferred compensation is a nonqualified retirement plan. It need not follow the ERISA standards for vesting, eligibility, or funding. Deferred compensation is a discriminatory type of benefit normally reserved for the upper management or big producers in a company.

Question 20

Under what circumstances will the payout from a variable annuity increase?

a. If the rate of inflation exceeds the AIR
b. If the performance of the separate account exceeds the rate of inflation
c. If the performance of the separate account exceeds the AIR
d. If the performance of the separate account for the current period exceeds the performance of the separate account for the previous period

Answer 20

c. If the performance of the separate account exceeds the AIR

Whether the payment from a variable annuity changes depends on the relationship between the performance of the separate account and the assumed interest rate (AIR) in the contract. If the account performance exceeds the AIR, the payment will be greater than the last payment. If the account performance equals the AIR, the payment will be unchanged from the last payment. If the account performance is less than the AIR, the payment will decline from the last payment.

Question 21

An annuitant receives payments under a variable annuity for a number of years. At his death, his widow receives a lump-sum payment. The annuity was a:

a. Variable life annuity
b. Variable joint and last survivor annuity
c. Variable unit refund annuity
d. 20-year endowment annuity

Answer 21

c. Variable unit refund annuity

An annuity in which the beneficiary receives a lump-sum payment upon the death of the annuitant reflecting the value of the remaining annuity units is called a unit refund annuity. If the beneficiary receives the value of the remaining annuity units in installments, it is called an installment refund annuity.

Question 22

In which of the following would an investor own accumulation units?

I. In a periodic payment deferred annuity
II. In a single payment deferred annuity
III. In an immediate life annuity
IV. In an immediate annuity with a 10-year period certain

a. I and II only 
b. I and IV only 
c. I, III, and IV only 
d. I, II, III, and IV

Answer 22

a. I and II only

During the pay-in period of a variable annuity, an individual owns accumulation units. These units will be owned until the money is to be withdrawn. Once a person wishes to begin receiving benefit checks, the accumulation units are exchanged for annuity units. Individuals having deferred annuities wish to receive benefit checks at some future date and will hold accumulation units until that date. Those owning immediate annuities wish to receive payments immediately and do not hold accumulation units

Question 23

Dividends and capital gain distributions in a mutual fund IRA are:

a. Taxable to the investor in the year declared
b. Allowed to accumulate on a tax-deferred basis
c. Used to reduce the cost basis of the investment
d. Tax-deferred only if the IRA contribution funding the account was tax-deductible

Answer 23

b. Allowed to accumulate on a tax-deferred basis

All growth, distributions, and accumulations in an IRA are tax-deferred. Any tax consequences will commence when distributions to the holder of the account begin.

Question 24

All of the following are TRUE of the death benefit of a variable life insurance policy EXCEPT:

a. It is included in the estate of the deceased
b. It is not taxable to the beneficiary
c. It may be reduced to zero by poor performance of the separate account
d. The beneficiary may elect to receive the death benefit as an annuity

Answer 24

c. It may be reduced to zero by poor performance of the separate account

Although the death benefit of a variable life policy may increase or decrease due to the performance of the separate account, it will not decrease below a minimum guaranteed amount (the face value of the policy).

Question 25

Which of the following best describe a Keogh plan?

I. It is a retirement fund.
II. It is a tax-deferred trust.
III. It is a tax-free trust.
IV. It is a nonqualified plan.

a. I and II only
b. I and III only
c. I, II, and III only
d. I, II, and IV only

Answer 25

a. I and II only

A Keogh plan is a qualified retirement fund where money accrues on a tax-deferred basis. The investments in the plan are held by a trustee until withdrawn. Once withdrawn, funds are taxed at ordinary income tax rates.