Uses of Life Insurance Flashcards
What are Cross-Purchase Plans?
Cross-Purchase Plans are agreements that provide that upon a business owner’s death, surviving owners will purchase the deceased’s interest, often with funds from life insurance policies owned by each principal on the lives of all other principals.
For example, if the partnership consists of four partners, each partner will purchase, own, and pay for a policy covering each of the other partners. In this case, there would be a total of twelve policies.
What are Entity Plans?
Entity Plans are agreements in which a business assumes the obligation of purchasing a deceased owner’s interest in the business, thereby proportionately increasing the interests of surviving owners.
Therefore, if the partnership consists of four partners, the partnership will purchase, own, and pay for a life insurance policy covering each of the four partners. In other words, four policies will be purchased to fund the agreement. Policy proceeds will be paid to the partnership, which will then be used to purchase the deceased partner’s interest.
What is the Human Life Value Approach?
The Human Life Value Approach is an individual’s economic worth, measured by the sum of the individual’s future earnings devoted to the individual’s family.
What is the Human Needs Approach?
The Human Needs Approach is a method for determining how much insurance protection a person should have by analyzing a family’s or business’s needs and objectives if the insured were to die, become disabled, or retire.
What is Key Person Insurance?
Key Person Insurance protects a business against financial loss caused by the death or disability of a vital member of the company, usually individuals possessing special managerial or technical skills or expertise.
What is Needs-Based Selling?
Needs-Based Selling describes the ethical duty of a producer to sell a product that fits the prospect’s needs rather than the producer’s needs. An example of a needs-based violation is a prospect being sold insurance with the highest premium (and the most significant commission) instead of the proper coverage. By committing themselves to professionalism and the client’s needs, insurance producers can act responsibly and ethically.
What are Split-Dollar Plans?
Split-Dollar Plans are arrangements between two parties. Life insurance is written on one party’s life who names the beneficiary of the net death benefits (death benefit less cash value). The other party is assigned the cash value, with both typically sharing premium payments.
The most common type of SDP is an employer providing funds to pay that part of each annual premium equal to the annual increase in cash value. The employee pays the balance. For example, if the annual premium was $500 and the cash value increase was $420 after the premium was paid, the employer pays $420 and the employee $80. The employer is entitled to receive death proceeds in an amount equal to the policy’s cash value. The employee’s beneficiary will receive the balance of the policy proceeds. SDPs can also be used among family members (i.e., parent/child) or stockholders in a corporation. Other split-dollar plan variations include single bonus plans, reverse split-dollar plans, and employer (non-contributory) pay-all plans.
Determining the proper amount of Life Insurance
Planning for the income needs of survivors is extremely important. The planning process involves: (1) information gathering including personal information (i.e., ages, health history) and financial information such as wages, personal assets, investments and earnings, pension plans and savings; (2) identifying and prioritizing the client’s objectives; (3) analyzing the client’s current financial condition; (4) developing and implementing a plan; and (5) periodically reviewing the plan.
What is the Human Life Value Approach?
The human life value approach is a capitalized value of an individual’s net future earnings. In other words, it looks at the potential lost earnings of a person as a measure of how much insurance to purchase. A person’s future earning capacity ends abruptly when they die prematurely. Therefore, to determine how much life insurance is needed to protect this individual’s dependents, we may multiply the projected earned income per year by the number of years until retirement. Generally, the present value of the individual’s projected earnings minus expenses (i.e., income taxes and cost of living) are multiplied by the years until retirement age. This formula provides an approximate coverage amount that is needed. Therefore, determining the value of an individual’s earning potential over a period of time is known as the human life value approach.
The Human Life Value Approach calculates the amount of money a person is expected to earn over his lifetime to determine the face amount of life insurance needed, thereby placing a dollar value on an individual’s life.
What is the Needs Approach?
The needs approach is used when the amount of life insurance needed is based upon the individual’s (or family’s) financial goals and objectives. Therefore, education fund goals, emergency funds, bequests, charitable gifting, or retirement income goals of a spouse will influence the amount of coverage needed. This formula suggests that all family members’ ages, wages, and health history need to be reviewed.
The needs approach will focus on determining lump sum needs and will utilize all the costs associated with death (i.e., postmortem costs) plus financial objectives to arrive at a person’s or family’s total capital needs. Then, the liquid assets of the person are calculated. Liquid assets include savings, pension or profit-sharing benefits, life insurance proceeds, Social Security retirement income, interest from bonds, dividends from mutual funds or stocks, rental income, and any other income the person is entitled to. It is especially important to consider Social Security since no retirement income is provided to survivors during the so-called “blackout period.” The blackout period is the period of time from the insured’s death until the surviving spouse is permitted to receive retirement income benefits. However, benefits are provided for other dependents (i.e., children) during the blackout period until the youngest child reaches age eighteen (18). By subtracting liquid assets from total capital needs, the individual will arrive at the approximate amount of life insurance “needed.”
What is the Blackout Period?
The blackout period is the period of time from the insured’s death until the surviving spouse is permitted to receive retirement income benefits. However, benefits are provided for other dependents (i.e., children) during the blackout period until the youngest child reaches age eighteen (18). By subtracting liquid assets from total capital needs, the individual will arrive at the approximate amount of life insurance “needed.”
What is the Multiple Earnings Method?
The “multiple earnings method” selects a number of years to replace the insureds annual salary. For example, five times a person’s annual salary.
What is the Interest-Only Method?
The “interest-only method” determines how much insurance is needed to maintain after-tax family consumption levels if the insurer holds the principle for future payments.
What is the Single Needs Method?
The “single needs method” identifies the amount of insurance needed based upon a specific need (i.e., loan or debt, education fund, death taxes, etc.).
What is the Capital Needs Analysis?
The “capital needs analysis” determines the immediate cash needs of an individual or family, such as
final expenses, medical expenses associated with death, probate costs, cost of living expenses, debt elimination, an emergency fund, education funds;
Federal and state death taxes, which must be paid within six months of the death; and continuing income needs (i.e., readjustment income, dependence period income, life income for a survivor, and retirement income).
