Topic 11: Life Assurance

Question 1

What is Gift Inter Vivos?

Answer 1

A seven-year term assurance policy designed to protect a potentially exempt transfer (PET). The sum assured at the start is the same as the potential IHT on the gift, and remains the same for the first three years. It then reduces by 20% a year until the end of year six, by which time the policy stops. The sum assured reduces each year in line with taper relief on the PET.

Question 2

What is Family Income Benefit?

Answer 2

A form of decreasing term assurance policy, with the insured amount expressed as a guaranteed tax free income payable each year for an agreed term. If the insured person dies, the income is paid from that point until the end of the term. As the total amount payable reduces each year the insured survives, the total payment reduces each year – hence the decreasing term comparison. It may also be possible for the beneficiaries to take a discounted lump sum instead of income, equal to the income that would be paid less a discounted amount.

Question 3

What does with profits mean?

Answer 3

Policy premiums are invested in the insurer’s with profits fund. Each year the insurer assesses the fund’s profits for the year, after deducting expenses and money to cover future liabilities (death claims, etc). Some of the profits are retained and the rest may be allocated as annual bonuses to policyholders – this is totally discretionary. In bad years, retained profits can be used to cover bonuses even if limited or no profits are made – this is referred to as ‘smoothing’. There may also be a terminal bonus paid on death or the end of the policy term.

Question 4

What is Unit Linking?

Answer 4

Premiums buy units in a chosen investment fund, and the value of each unit represents an equal share of the fund value. Each month, units are deducted to cover the cost of life cover and other expenses. The rest of the units remain invested. At any given time, the policy value is equal to the unit value x the number of units in the policy.

Question 5

What is life assurance?

Answer 5

Products
that are designed to provide financial protection when someone dies.

Question 6

Whats the difference between Insurance and Assurance?

Answer 6

There is a difference between the meaning of assurance and
insurance. Assurance means protection against the effects of an
event that will happen at some point, such as death. Insurance
is protection against the effects of an event that may or may not
happen; such as death within a specific period of time or a person
falling ill. This section uses the terminology of assurance but,
technically, term policies are insurance rather than assurance.

Question 7

What is term assurance?

Answer 7

Term assurance is the most basic form of life assurance – pure protection for a limited period with no element of investment. For this reason, it is also the cheapest.
Term assurance can be used for personal and family protection and also for a wide range of business situations. Business use includes key person insurance to protect against the loss of profits resulting from the death of an important
employee, and partnership insurance schemes to enable surviving partners to
buy out the share of a business partner who has died.

Question 8

What are key features of term assurance?

Answer 8

• The sum assured is payable only if the death of the life
  assured occurs within a specified period of time (the term).
• The term can be anything from a few months to, say, 40
  years or more.
• If the life assured survives the term, the cover ceases and
  there is no return of premiums.
• There is no cash‑in value or surrender value at any time.
• If premiums are not paid within a certain period after the due
  date (normally 30 days), cover ceases and the policy lapses with no value. Most companies will allow reinstatement
  within 12 months provided all outstanding premiums are paid and evidence of continued good health is provided.
• Premiums are normally paid monthly or annually, although single premiums (one payment to cover the whole term) are allowed.
• Premiums are normally level (the same amount each month
  or year), even if the sum assured varies from year to year.

Question 9

What is Sum Assured?

Answer 9

The amount that will be paid out under the terms of the policy

Question 10

What is Life Assured?

Answer 10

The person whose life is covered by the policy, ie the policy is designed
to pay out if this person dies while the policy is in place.

Question 11

What is a surrender value?

Answer 11

The sum payable by the insurance company to the policyholder if the
policyholder chooses to terminate the policy before the end of the term, or before the insured event occurs.

Question 12

What is the difference between level term and decreasing
term assurance?

Answer 12

With level term assurance, the sum assured remains constant throughout the
term. Premiums are normally paid monthly or annually throughout the term, although single premiums can be paid.
Level term assurance is often used when a fixed amount would be needed on death to repay a constant fixed‑term debt such as a bank loan.

With decreasing term assurance, the sum assured reduces to nothing over the
term of the policy. Premiums may be payable throughout the term, or may be
limited to a shorter period such as two‑thirds of the term. This policy could be
used to cover the outstanding capital on a decreasing debt.

Question 13

What is convertible term assurance?

Answer 13

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.
The cost is an addition of, typically, around 10 per cent of the premium.

Question 14

What certain rules and restrictions apply to the convertible term assurance?

Answer 14

• 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 15

What are increasing term assurance?

Answer 15

Some companies offer increasing term assurance where the sum assured increases each year by a fixed amount or a percentage of the original sum assured.
This type of policy can be used where temporary cover of a fixed amount is
required but where the cover needs to increase to take some account of the effects of inflation on purchasing power.

Question 16

What are renewable term assurance?

Answer 16

Renewable term assurance includes an option to renew the policy at the end of
the initial term for the same sum assured, without the need to provide further
medical evidence.
The new term is of the same length as the initial term and the new policy itself includes a further renewal option. However, there is a maximum age, usually around 65, after which the option is no longer available.
The premium for the new policy is based on the life assured’s age at the date
when the renewal option is exercised.

Question 17

What is whole-of-life assurance?

Answer 17

Whole‑of‑life assurance is designed, as the name implies, to cover the life
assured for the whole of their lifetime. It will pay out the amount of the
life cover in the event of the death of the life assured, whenever that death occurs, provided that the policy remains in force. Like all protection policies, therefore, the overall benefit of this type of assurance is that it provides peace
of mind. It can be used in personal and business situations, and for certain
taxation purposes.

Question 18

What is a joint-life second-death policy?

Answer 18

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.

Question 19

What is Flexible whole-of-life?

Answer 19

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.

Question 20

Most companies offer three main levels of cover on their flexible whole‑of‑life
policies (although it is usually possible to choose other levels in between):

Answer 20

• Maximum cover – this is normally set at such a level that cover can be
  maintained for ten years. After that point, all the units will have been used
  up and increased premiums will be needed if the cover is to continue.
• Minimum cover – a minimum level of life cover is maintained (probably the
  minimum required for the policy to remain qualifying) and the number of
  units attaching to the policy builds up to a substantial investment element.
• Balanced cover – this is the level of cover, for a given premium, that the
  company expects to be able to maintain throughout the life assured’s
  lifetime.

Question 21

What is Universal whole-of life assurance?

Answer 21

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.

Question 22

What is Waiver of premium?

Answer 22

A policy provision that allows the policyholder to suspend paying
premiums but retain their policy cover if they are unable to work due to
sickness or disability

Question 23

What are Endowment Policies?

Answer 23

Endowment policies combine life assurance and savings. In the past they were often used as savings plans and were very popular as a method of funding interest‑only mortgages because the savings element can be used to build a fund to repay the mortgage, while the life cover provides a lump sum if the borrower dies during the mortgage term.

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, 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 24

What are Non-profit endowment?

Answer 24

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 25

What is Full with-profits endowment?

Answer 25

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 26

In regards to Full with-profits endowment, there are two types of bonus?

Answer 26

• Reversionary bonuses – 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.
• Terminal bonuses – 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.

Question 27

What are low-cost with-profits endowments?

Answer 27

The guarantees offered by a full with‑profits policy mean that it has high premiums. A low‑cost endowment overcomes this by having a sum assured that is payable on death, whenever it occurs, that is made up of two elements:
- with‑profits; and
- decreasing term assurance.
The policy offers a guaranteed death benefit equal to the mortgage, ensuring that it is fully protected on death. The basic with‑profits sum assured is lower than the overall level of mortgage to be funded, meaning that full repayment
is not guaranteed at maturity. Bonuses are added over time with the aim of building a sum equal to the mortgage by the end of the term. Until the with‑profits sum assured plus the bonuses are equal to the mortgage amount, any shortfall on death of the life assured is made up by a decreasing term
assurance. Once the basic sum assured plus bonuses increases beyond the mortgage amount, the decreasing term assurance element ceases.

Question 28

What are Unit-linked endowments?

Answer 28

Unit‑linked endowments work on the basis that, when a premium is paid, the amount of the premium – less any deductions for expenses – is applied to the
purchase of units in a chosen fund. A pool of units gradually builds up and, at the maturity date, the policyholder receives an amount equal to the total value of all units then allocated to the policy. Most unit‑linked endowments also provide a fixed benefit on death before the end of the term. The cost of
providing this life cover is taken from the policy each month by cashing in
sufficient units from the pool of units.

Question 29

What is Variable Term Assurance?

Answer 29

A variable term assurance works by the value falling and rising to compensate for changing investment values. For example, if
a customer has a £100,000 mortgage and the investment value
of the unit‑linked endowment is £30,000, then the variable
term assurance is £70,000. If, a month later, the plan value is
£29,900, then the variable term assurance increases to £70,100 to ensure the full value of the debt is always protected on death.

Question 30

What are Unitised with-profits?

Answer 30

Unitised with‑profits endowments were introduced to combine the security of the with‑profits policy with the greater potential for reward offered by the
unit‑linked approach. As with unit‑linking, premiums are used to purchase units in a fund, and the benefits paid out on a claim depend on the number of units allocated and the then‑current price of units.