Life Insurance Part IV Flashcards
To be enforceable in court, there must be an exchange of value between the parties to the contract, which is known as: A. Acceptance B. Offer C. Mutual agreement D. Consideration
Correct Answer(s): [D]
Under the Consideration clause, consideration is required as an element of a legally enforceable
contract. Consideration is defined as the exchange of values, but the exchange need not be equal. The
insured’s consideration is the premium paid plus the statements (representations) made on the
application. The insurer’s consideration is the promise to pay covered claims.
All of the following are true about immediate annuities EXCEPT:
A. There is no beneficiary
B. They pay for the lifetime of the annuitant
C. They are often used in structured settlements
D. There is no accumulation period
Correct Answer(s): [A]
Annuities have many uses, but the primary use is to supplement your retirement benefits. For
example, you have saved $100,000 by age 65 and you use the money to purchase an immediate
annuity from an insurance company. Monthly payments will begin right away and will continue for
your lifetime. Depending upon the payout option you select, there could be a beneficiary. Lawyers also
use annuities to fund structured settlements resulting from lawsuits, rather than making a cash
payment.
Which of the following properly describes an Adjustable Whole Life policy?
A. It is a combination of Term plus Equity-indexed Life
B. It is a combination of Level Term plus Decreasing Term
C. It is a combination of Term plus Whole Life
D. It is a combination of Term plus Variable Life
Correct Answer(s): [C]
Adjustable Whole Life is a combination of Term and Whole Life.
A tax deferred exchange of life insurance policies is permitted when exchanging all EXCEPT:
A. A life insurance policy for an annuity
B. A life insurance policy for another life insurance policy
C. An annuity for a life insurance policy
D. An annuity for another annuity
Correct Answer(s): [C]
Under Section 1035 of the Internal Revenue Code, certain tax deferred exchanges of life insurance
contracts are permitted. However, an exchange may not be made if it puts you in a better tax position.
You can not exchange an annuity, whose benefits are taxable, for a life insurance policy that has tax
free proceeds. Although you can change insurers on an exchange, the insured must remain the same.
How can a beneficiary/spouse of an annuitant who dies during the accumulation period avoid current
taxation on the benefits?
A. They can take lump sum now but defer taxes to a later time
B. They can continue the contract by selecting a life income or installment pay out option
C. Since annuities are life insurance products, there is no tax due
D. They may select the tax free death benefit
Correct Answer(s): [B]
If the beneficiary takes a lump sum pay out upon death of the annuitant during the pay in period, they
will have to pay taxes on any amount received over and above the annuitant’s cost basis. However, if
the beneficiary elects to take the proceeds over a period of time in installments, taxes will be deferred
until payments actually begin.
Since insurance contracts are written by the insurance company and can only be changed by the
insurance company, they are considered to be:
A. Aleatory contracts
B. Contracts of Adhesion
C. Unilateral contracts
D. Contracts of Utmost Good Faith
Correct Answer(s): [B]
All insurance contracts are considered to be contracts of ‘adhesion’, since they are written by the
insurer and the insured has no opportunity to negotiate the contractual language. Changes in the
contract may only be made by the insurer. However, if the contractual language is vague or unclear,
any ambiguity will be construed in favor of the insured.
The interest that accrues on a Life insurance policy loan:
A. Must be paid by the beneficiary
B. Is added to the amount of the death benefit
C. Must be paid every year
D. Is added to the amount of the loan
Correct Answer(s): [D]
When you take out a Life insurance policy loan, you are borrowing money from the insurer, who keeps
your cash value as collateral for the loan. Since the insurer planned on having your cash value to
invest, they will charge you interest on the loan. However, although policy loans and interest do not
have to be paid back according to any payment schedule, unpaid interest will continue to accrue and
will be added to your loan balance. At death, any unpaid policy loan plus accrued interest will be
subtracted from the death benefit.
Which of the following is true regarding Modified Endowment Contracts (MECs):
A. Policy loans are not taxable
B. They are regulated under federal securities laws as investment products
C. A 10% IRS penalty applies to cash surrenders under age 59 ½
D. They are considered to be tax ‘qualified’ plans under IRS rules
Correct Answer(s): [C]
A Modified Endowment Contract (MEC) is a Whole Life policy where cash value builds too fast, which
causes what is known as ‘over-funding’. Although such policies are not unlawful, they do lose much of
the favorable tax treatment afforded to most Life insurance policies, meaning that loans are taxable
and cash surrenders prior to age 59 1/2 are subject to a 10% IRS premature distribution penalty.
Which of the following statements is true about a policy assignment?
A. It is valid during the insured’s lifetime only, because the death benefit is payable to the named
beneficiary
B. It permits the beneficiary to designate the person or persons to receive the benefits
C. It is the same as a beneficiary designation
D. It transfers the owner’s rights under the policy to the extent expressed in the assignment form
Correct Answer(s): [D]
There are two types of Assignments: Absolute and Collateral. An Absolute Assignment transfers all of
the policy owner’s rights to another party, such as when a parent assigns the policy to the child who is
also the insured. A Collateral Assignment occurs when the insured pledges his cash value to the bank
for a loan. This is seldom done anymore, since interest rates on Life insurance loans are generally
lower than those on bank loans.
An annuitant has paid monthly premiums into a deferred annuity over a period of time totaling
$20,000. Due to tax deferred earnings in the account, his account balance at age 60 is $30,000. If he
now takes a partial withdrawal of $5,000, how much is taxable:
A. None, since he withdrew less than his cost basis
B. None, since benefits of life insurance products are never taxable
C. $10,000
D. $5,000
Correct Answer(s): [D]
On annuity partial withdrawals, the IRS has ruled that the last money to be earned (the interest) is
the first money out to be taxed. This is also known as LIFO (last in - first out). Of course, this rule is
designed to discourage partial withdrawals. If the annuitant was under age 59 and 1/2, there would
also be a 10% IRS penalty on the amount withdrawn, unless the annuitant had died or become
disabled.
A parent who wishes to have complete control of their son’s life insurance policy until the son reaches
age 25 can do so through the use of which of the following?
A. Consideration Clause
B. Insuring Clause
C. Ownership provision
D. Payor provision
Correct Answer(s): [C]
Although you may not be the insured, you can still be the policy owner. If you buy a policy on your
minor child, you own the policy and your child is the insured. You control the cash values and may
designate the beneficiary. This is called the Ownership provision. At a certain age, say your child’s age
25, you may assign your ownership of the policy to your child, giving up all rights to the policy. This is
called an Absolute Assignment.
Which of the following is true about the Insuring Clause?
A. It contains the insurer’s enforceable promise to pay covered claims
B. It states that the insurer may contest a claim for material misrepresentation
C. It requires that the application be attached to the policy
D. It states the policy owner’s rights
Correct Answer(s): [A]
The Insuring Clause states that coverage is provided in accordance with the terms of the policy. It
includes the insurer’s promise to pay covered claims and is located on the first page of the policy.
All of the following are true about the Guaranteed Insurability Rider (GIR) EXCEPT:
A. Coverage may be increased in the future without a physical exam
B. Future increases are based upon the insured’s original age
C. This rider is usually available only to applicants under age 35
D. Most insurers allow increases on 5 or more future “option” dates
Correct Answer(s): [B]
You bought a $50,000 life insurance policy when you were age 25, thinking that would be plenty. Now
that you are married with children, you need more, but you can’t just call your agent and increase
coverage. You will probably have to buy a 2nd policy, and prove insurability again, unless you had the
GIR on your original policy. This optional rider allows you to increase coverage without a physical
exam at certain option dates in the future. However, increases are based on your current age.
All of the following are correct regarding Group Life insurance, EXCEPT:
A. On a contributory group the premium is shared between the employer and the employee
B. On a noncontributory group the premium is paid 100% by the employer
C. On Group Life the beneficiary could be the employer
D. On Group Life the beneficiary could be the spouse or kids of the employee
Correct Answer(s): [C]
On a Group Life policy the employer may not be named as beneficiary. You are looking for the false
statement.
All of the following are true when a person buys Life insurance on the life of another person EXCEPT:
A. They have all the rights of ownership
B. They must have an insurable interest in that person at the time of application
C. The policy proceeds will be taxable to the policy owner when the insured dies
D. This is called Third Party ownership
Correct Answer(s): [C]
As long as you have an insurable interest at the time of application, you can buy life insurance on
other people, such as your spouse, child, business partner or key employee. This is called ‘third party’
ownership, since you own the policy, but the other person is the insured. However, proceeds paid on
life insurance are never taxable.
