Topic 11

Question 1

What is convertible term assurance?

Answer 1

Convertible term assurance includes an option to convert the policy into a
whole‑of‑life or endowment assurance, at normal premium rates, without the
life assured having to provide evidence of their state of health at the time of
conversion (indeed, there is no requirement for any additional underwriting).The cost is an addition of, typically, around 10 per
cent of the premium

Question 2

Certain rules and restrictions apply to the conversion option:

Answer 2

„ The conversion is normally carried out by cancelling the term assurance
and issuing a new whole‑of‑life or endowment policy. A new endowment
can extend beyond the end of the original convertible term policy.
„ The option can only be exercised while the convertible term assurance is
in force.
„ The sum assured on the new policy cannot exceed the sum assured of the
original convertible term assurance: if a higher level of cover is required
after conversion, the additional sum assured will be subject to normal
underwriting.
„ The premium for the new policy is the current standard premium for the
new term and for the life assured’s age at the conversion date

Question 3

Family Income Benefit

Answer 3

Usually, these policies pay a tax‑free regular income (monthly or quarterly)
from the date of death of the life assured until the end of the chosen term.
As an alternative to regular income payments, beneficiaries may choose to
receive a lump sum payment, which is calculated as a discounted value of the
outstanding regular instalments due.Since, usually, the cover reduces as time passes, this policy can be described
as a form of decreasing term assurance.

Question 4

PENSION TERM ASSURANCE

Answer 4

Pension term assurance was a type of policy that people could
take out at the time they set up a personal or stakeholder
pension plan. It offered the advantage of tax relief on the
premiums at the policyholder’s highest rate. A new pension
regime introduced in April 2006 created a loophole that meant
virtually all term assurances could be issued as pension term
assurance and obtain tax relief. Sales of the product increased
very rapidly. By December 2006 the government had acted to
close the loophole and no pension term assurances have been
issued since then. However, some people will still hold this
product, so financial advisers need to be aware of it

Question 5

Whole of Life

Answer 5

Premiums may be:
„ payable throughout life (ie for the full term of the policy, whatever that
turns out to be); or
„ limited to a fixed term (eg 20 years) or to a specified age (such as 60 or 65).
If limited premiums are chosen, the minimum term is normally ten years

Question 6

Surrender value

Answer 6

Because whole‑of‑life assurance (unlike term assurance) will definitely pay out
sooner or later, life companies build up a reserve to enable them to pay out
when the life assured dies. This enables companies to offer surrender values
on whole‑of‑life policies if the client cancels them during their lifetime. These
surrender values are, however, generally small in relation to the sum assured.

Question 7

JOINT‑LIFE SECOND‑DEATH POLICIES

Answer 7

When a whole‑of‑life policy is used to provide the funds likely
to be needed to pay inheritance tax on the death of a married
couple or civil partners, it is normal to use a policy that will
pay out when the second spouse or partner dies. These types
of whole‑of‑life policies are known as ‘joint‑life second‑death’
or ‘last survivor’ policies.
The reason for this is that, in most families, the estate of the first
spouse/partner to die passes to the surviving spouse/partner (free
of IHT), and the IHT becomes due only when the surviving spouse/
partner dies and the estate passes to the family or to others.
These policies are ‘written under trust’: ownership passes to
the trustees to ensure that the proceeds of the policy are used
to meet the IHT liability and do not pass into the value of the
estate, thus becoming liable for IHT in their own right.

Question 8

FEATURES OF WHOLE‑OF‑LIFE ASSURANCE POLICIES

Answer 8

Non-profit
Fixed level of life assurance in return for payment of a fixed premium
With-profits
Fixed minimum level of cover to which bonuses are added to reflect investment profits.
Low cost
Promise a certain level of cover which is provided by the combination of with-profits and
a decreasing term assurance. As bonuses are paid to the with-profits element, the
decreasing term element reduces.
unit -linked
Units issued to the planholder. A minimum level of cover is set at outset which is
increased when the value of the units held rises above that amount.
Unitised with-profits
Issues units with a guarantee that unit prices will either never fall below a certain level or
will increase by at least a stated minimum amount.

Question 9

Qualifying or non qualifying

Answer 9

Tax at the rate of 20 per cent is deemed to have been
deducted from most income and gains on life assurance funds. For qualifying
policies there is no further liability to tax. For non‑qualifying policies there
is the possibility of higher‑rate income tax at 20 per cent or additional rate
income tax at 25 per cent.

Question 10

Flexible whole‑of‑life

Answer 10

When whole‑of‑life policies are issued on a unit‑linked basis, they are generally
referred to as ‘flexible whole‑of‑life’. Their flexibility lies in the fact that they
can offer a variable mix between their life cover and investment content.The key to flexibility is the method of paying for the life cover
by cashing in units at the bid price:
„ The policyholder pays premiums of an amount that they
wish to pay – or feel that they can afford to pay.
„ The premiums are used to buy units in the chosen fund or
funds, and these units are allocated to the policy.
„ The policyholder selects the level of benefits that they wish
to have:
— If a high level of life cover is required, a larger number of
units will be cashed each month, and a correspondingly
lower number will remain attaching to the policy. This
means that the investment element of the policy (which
depends on the number of units) is also lower.
— Conversely, a low level of life cover means fewer units
are cancelled and hence the policy offers a higher level
of investment

Question 11

Universal whole‑of‑life assurance

Answer 11

The flexibility of unit‑linked whole‑of‑life assurance is sometimes extended
further by adding a range of other benefits and options to the policy. When that
is done, the policy is usually referred to as universal whole‑of‑life assurance.
Figure 11.4 summarises other benefits and options that may be added. Most
of the additional benefits will be at extra cost, the additional cost being met
by cashing more units.

Question 12

Unit‑linked
whole‑of‑life

Answer 12

Level until
value of
units exceeds
death benefit

Question 13

Low‑cost
whole‑of‑life

Answer 13

Must ‘qualify’ to
be tax‑free on
surrender (always
tax‑free on death)

Question 14

Endowment policies

Answer 14

Endowment policies are life‑assurance products that combine life assurance
and savings

Question 15

Endowment policies

Answer 15

The range of investment structures is similar to those for a whole‑of‑life
plan; the difference between an endowment and a whole‑of‑life plan is that
an endowment runs over an agreed term. If death occurs during the term, life
cover (the sum assured) is paid out, while if the plan runs for the full term and
‘matures’ an investment value is paid out. During the term, the policyholder
undertakes to maintain payment of regular premiums

Question 16

Non‑profit endowment

Answer 16

A non‑profit endowment has a fixed sum assured, which is payable on maturity
(ie at the end of the policy term) or on earlier death; premiums are fixed for the
term. Because the return is fixed and guaranteed, the policyholder is shielded
from losses due to adverse stock market movements; on the other hand, they
are equally unable to share in any profits the company might make over and
above those allowed for in calculating the premium rate (hence the name,
non‑profit). For that reason, non‑profit policies are rarely used today

Question 17

Full with‑profits endowment

Answer 17

Like its non‑profit equivalent, a with‑profits endowment has a fixed basic
sum assured and a fixed regular premium. The premium, however, is higher
than that for a non‑profit policy of the same sum assured, and the additional
premium (sometimes called a bonus loading) entitles the policyholder to share
in the profits of the life assurance company.
The company distributes its profits among policyholders by declaring bonuses
that increase the value of the policy and are payable at the same time and in
the same circumstances as the sum assured.

Question 18

Reversionary bonuses

Answer 18

– these are normally declared each year and,
once they have been allocated to a policy, they cannot be removed by the
company, provided that the policy is held until the end of the term or
earlier death. Some companies declare a simple bonus, where each annual
bonus is calculated as a percentage of the sum assured; others declare
a compound bonus, with the new bonus being based on the total of the
sum assured and previously declared bonuses. Most companies set their
reversionary bonuses at a level that they hope to be able to maintain for
some time, in order to smooth out the short‑term variations of the stock
markets. A trend of falling bonus rates over a number of years means that
bonus rates are much lower now than they were in the 1980s and 1990s

Question 19

Terminal bonuses

Answer 19

– these are bonuses that may be added when a death or
maturity claim becomes payable. Unlike reversionary bonuses, a terminal
bonus does not become part of the policy benefits until the point of a death
or maturity claim, thus allowing the company to change the terminal bonus
rate – or even remove the terminal bonus altogether. Terminal bonuses are
intended to reflect the level of investment gains that the company has made
over the term of the policy, so the rate of bonus often varies according to
the length of time that the policy has been in force. Since the 1990s, many
companies have reduced the level of their terminal bonuses.

Question 20

The term ‘with‑profits’

Answer 20

The term ‘with‑profits’ is used generally to describe a policy that pays bonuses
to the plan. In the context of mortgages, a full with‑profits policy describes a
policy set up with an initial sum assured equal to the mortgage debt. On death
or at the end of the term, the worst‑case scenario is that the mortgage is repaid
in full. If bonuses are added then these will generate an additional sum over
and above the mortgage when the policy pays out

Question 21

PRINCIPLES AND PRACTICES OF FINANCIAL MANAGEMENT

Answer 21

The FCA requires life companies that carry out with‑profits
business to publish a document called Principles and Practices
of Financial Management (PPFM). This sets out how a firm
manages its with‑profits business. Each year, the insurance
company has to certify to the FCA that its with‑profits funds
have been managed in accordance with the PPFM

Question 22

Where a claim is made on a term assurance policy the benefits
payable are always free of income tax. True or false?

Answer 22

True – term assurances have no investment element so proceeds are paid
tax‑free

Question 23

What is the main benefit of a convertible term assurance?

Answer 23

A convertible term assurance allows conversion of some or all of the plan
to a different type of plan, at a later date, without the life assured having
to provide evidence of their state of health.

Question 24

Which of the following statements relating to term assurance
is correct?
a) A decreasing term assurance will pay benefits only if the
insured dies within the policy term.
b) Gift inter vivos cover is maintained at the same level for
seven years.
c) A convertible term assurance policy can be converted to
an endowment or whole‑of‑life assurance only within two
years of the date of the original policy.
d) If a convertible term assurance policy is converted to an
endowment, the maturity date of the new policy must
not be more than five years later than that of the original
policy.

Answer 24

a. A decreasing term assurance will pay benefits only if the insured dies
within the policy term

Question 25

Which of the following is true of a whole‑of‑life policy?
a) It is designed to provide protection rather than investment.
b) Premiums are always payable throughout the full term of
the policy.
c) It can only be used on a with‑profits basis.
d) It will pay out only on the death of the insured and cannot
be surrendered.

Answer 25

a) It is designed to provide protection rather than investment

Question 26

Duncan and Alice, who are married, are taking out a whole‑of‑life
plan to provide for payment of inheritance tax liabilities on
their deaths. The policy would normally be set up in which of
the following ways?
a) Two single lives.
b) Single life.
c) Joint‑life first‑death.
d) Joint‑life second‑death

Answer 26

d) Transfers between husband and wife are free of IHT so any liability
generally arises on second death. A plan being set up to provide the
funds to pay IHT would be set up on a joint‑life second‑death basis

Question 27

The main advantage of writing a life assurance policy in trust
is to:
a) increase personal allowances.
b) ensure the policy obtains qualifying status.
c) create a tax‑exempt fund.
d) ‘ring‑fence’ the proceeds outside the individual’s estate.

Answer 27

d) ‘Ring‑fence’ the proceeds outside the individual’s estate

Question 28

Which type of whole‑of‑life policy offers a fixed level of life
cover at outset that may be increased by the addition of
bonuses?
a) With‑profits.
b) Non‑profit.
c) Unit‑linked.
d) Low‑cost

Answer 28

a) A with‑profits whole‑of‑life plan has a certain level of life cover at
outset which can then be increased as bonuses are added during the
term

Question 29

What other type of life assurance is combined with a with‑profits
plan in a low‑cost whole‑of‑life plan?
a) Non‑profits.
b) Decreasing term assurance.
c) Level term assurance.
d) Increasing term assurance

Answer 29

b) A low‑cost whole‑of‑life plan combines with‑profits with a decreasing
term assurance

Question 30

If a policy benefits from ‘waiver of premium’, what does it
mean?
a) No premiums are paid for the first 12 months of a life
assurance plan.
b) Reduced premiums are paid for the first 12 months of a
life assurance plan.
c) No premiums are payable if the life assured is unable to
work as a result of accident or sickness.
d) Any increase in premium as a result of medical underwriting
is added as a debt to the policy.

Answer 30

c) Waiver of premium cover means that premiums are not payable (ie
they are waived) in the event that the insured is unable to work due to
accident or sickness.

Question 31

10) Which of the following is incorrect in respect of low‑cost
endowment policies?
a) The basic sum assured increases with the addition of
bonuses.
b) The basic sum assured is lower than the amount borrowed.
c) The policy is made up of a with‑profits endowment and a
decreasing term assurance.
d) The policy is guaranteed to repay the mortgage in full at
the end of the term.

Answer 31

The answer is d). The policy is not guaranteed to repay the mortgage in
full at the end of the term.

Question 32

Charu and Rajeev have written wills leaving everything to the survivor, and on their death the estate will pass to their children. They wish to provide a lump sum for the children to be able to settle any inheritance tax (IHT) liability on their inheritance. What life assurance arrangement would achieve their objective?

Question 1 options:

a)

A joint-life first-death whole-of-life plan for the potential IHT liability, in trust.

b)

A joint-life second-death whole-of-life plan for the potential IHT liability, in trust.

c)

Two single whole-of-life plans, in trust, each for 50% of the potential IHT liability.

d)

A joint-life second-death gift inter vivos policy for the potential IHT liability, in trust.

Answer 32

B

Question 33

What add-on benefit will ensure a life assurance policy will continue to provide cover when premiums are suspended due to the policyholder’s illness preventing them from working?

Question 2 options:

a)

Temporary disability cover.

b)

Terminal illness benefit.

c)

Income protection benefit.

d)

Waiver of premium benefit.

Answer 33

D

Question 34

A single parent wants to provide an income for his two children in the event of his death, payable until the youngest child is 21. What type of life assurance policy would suit his requirements and cost the least?

Question 3 options:

a)

Low-cost endowment.

b)

Whole-of-life assurance.

c)

Level term assurance.

d)

Family income benefit.

Answer 34

D

Question 35

Jason has a flexible whole-of-life assurance policy on a maximum cover basis. This means that Jason’s:

Question 4 options:

a)

sum assured will increase after ten years.

b)

plan will accumulate a higher investment value than a minimum cover policy.

c)

premiums are likely to increase after ten years.

d)

premiums will be higher than those of a balanced cover policy.

Answer 35

C

Question 36

What is the normal maximum age for exercising the renewal option on a renewable term assurance policy?

Question 5 options:

a)

50.

b)

55.

c)

60.

d)

65.

Answer 36

65

Question 37

Which of the following is true of a unitised with-profits endowment?

Question 6 options:

a)

It cannot be assigned to a lender.

b)

The full unit value is payable on surrender of the policy.

c)

Unit values cannot fall.

d)

Only terminal bonuses are added.

Answer 37

C

Question 38

In strong stock market conditions, which type of mortgage-linked endowment is most likely to allow early repayment of the mortgage?

Question 7 options:

a)

Unit-linked.

b)

With-profits.

c)

Low-cost with profits.

d)

Non-profits.

Answer 38

A

Question 39

The most appropriate life assurance policy to protect a repayment mortgage would be a form of:

Question 8 options:

a)

decreasing term assurance.

b)

level term assurance.

c)

increasing term assurance.

d)

convertible term assurance.

Answer 39

A

Question 40

During the lifetime of a full with-profits endowment, the death benefit should:

Question 9 options:

a)

stay level.

b)

decrease.

c)

fluctuate.

d)

increase.

Answer 40

D

Question 41

Jim has a with-profits whole-of-life plan, and Jenny has a low-cost with-profits whole-of-life plan, both offering the same death benefit. The main difference in the two plans is that:

Question 10 options:

a)

The fixed death benefit on Jim’s plan will be lower.

b)

Jenny’s policy will not benefit from regular bonuses.

c)

The value of units on Jenny’s plan will be lower.

d)

Part of the death benefit on Jenny’s policy is on a reducing basis.

Answer 41

D