Chapter 12- Life Insurance Contractual Provisions

Accelerated Death Benefits

Can be triggered by: terminal illness, acute illness, catastrophic illness, long term care, nursing home confinement.

Waiver of Premium Provision

Can be added to a policy, under this provision-if the insured becomes totally disabled from bodily injury or disease before some stated age, all premiums coming due during the period of disability is waived.

Suicide Clause

(Most life insurance policies have them) If the insured commits suicide within 2 years after the policy is issued, the face amount of insurance will not be paid; there is only a refund of the premiums paid.

Dividends can be taken:

-Cash, reduction of premiums, dividend accumulations, paid-up additions, term insurance (fifth dividend option).

Life Settlement

A financial transaction by which a policyholder who no longer needs or wants to keep a life insurance policy sells the policy to a third party for more than its cash value.

Settlement Options-Fixed Amount Option

A fixed amount is periodically paid to the beneficiary.

Assignment Clause

A life insurance policy is freely assignable to another party: two types of assignments- absolute, and collateral.

Class Beneficiary

A specific person is not named, but is a member of a group designated as a beneficiary, such as 'children of the insured.'

Incontestable Clause

After the policy has been in place for 2 years, the insurer cannot contest against the policy. Created to protect the beneficiary, the insurer has 2 years to discover any irregularities in the contract.

Absolute Assignment

All ownership rights in the policy are transferred to a new owner. Policyholder may wish to donate to a church, charity, educational institution.

Change of Plan Provision

Allows policyholders to exchange their present policies for different contracts. Creates flexibility, the original policy may no longer be appropriate for financial obligations.

Policy Loan Provision

Allows the policyholder to borrow the cash value. A policyholder must pay interest on the loan to offset the loss of interest to the insurer.

Cost of Living Rider

Allows the policyholder to purchase one year term insurance equal to the percentage change in the consumer price index with no evidence of insurability.

Automatic Premium Loan

An overdue premium is automatically borrowed from the cash value after the grace period expires, provided the policy has a loan value sufficient to pay the premium.

Payment of Premiums

Annually, semiannually, quarterly, or monthly. If the premium is paid other than annually, the policyholder must pay a 'carrying charge.'

Dividend-Reduction of Premiums

Appropriate when premium payments become financially burdensome. Policyholder must remit the difference between the premium and actual dividend paid.

Irrevocable Beneficiary

Cannot be changed w/o the beneficiary's consent. If the policyholder wishes to change the beneficiary designation, the irrevocable beneficiary must consent to the change.

Nonforfeiture Options (Cash-Surrender Options)

Cash value, reduced paid up insurance, extended term insurance.

Policy Dividends

Derived from 3 principal sources: -the difference between expected and actual mortality experience -excess interest earnings on the assets required to maintain legal reserves. -the difference between expected and actual operating expenses.

Accelerated Death Benefit Rider

Doubles the face amount of life insurance if death occurs as a result of an accident. The cause of death must be accidental.

War Clause

Excludes payment if the insured dies as a direct result of war.

Guaranteed Purchase Option

Gives policyholders the right to purchase additional amounts of life insurance at specified times in the future w/o evidence of insurability.

Life Income w/ Guaranteed Total AMount

If the beneficiary dies before receiving installment payments equal to the total amount of insurance placed under the option, the payments continue until the total amount paid equals the total amount of insurance.

Grace Period

If the insured dies during the grace period, the overdue premium is deducted from the policy proceeds. Provides considerable financial flexibility.

Misstatement of Age or Sex Clause

If the insureds age or sex is misstated, the amount payable is the amount that the premiums paid would have purchased at the correct age and sex.

Life Income w/ Guaranteed Period

If the primary beneficiary dies before receiving the guaranteed number of years of payments, the remaining payments are paid to a contingent beneficiary.

Joint and Survivor Income

Income payments are paid to 2 persons during their lifetimes, such as a husband and wife.

Life Income

Installment payments are paid only while the beneficiary is alive and cease on the beneficiarys death. No refund feature, guarantee of payments.

Contingent Beneficiary

Is entitled to the proceeds if the primary beneficiary dies before the insured.

Entire-Contract Clause

It protects the beneficiary. A statement made in connection with the application cannot be used by the insurer to deny a claim unless the statement is a material misrepresentation and is part of the application.

Aviation Exclusions

Most newly issued policies do not contain any exclusions with respect to aviation deaths.

Reinstatement Clause

Permits the owner to reinstate a lapsed policy. -Evidence of insurability is required. -All overdue premiums plus interest must be paid from the due date of the overdue premium. -The policy must not have been surrendered for its cash value. -The policy must be reinstated with a certain period, typically 3-5 years from the date or lapse.

Entire-Contract Clause

Prevents the insurer from amending the policy without the knowledge or consent of the owner by changing its charter or bylaws.

Disadvantages of Policy Loans

The policyholder is not legally required to pay the loan. May let the policy lapse or may surrender the policy for any remaining cash value.

Settlement Options

Refers to the various ways that the policy proceeds can be paid.

Nonforfeiture laws

Require insurers to provide at-least a minimum non forfeiture value to policyholders who surrender their policies.

Specific Beneficiary

Specifically named and identified.

Reduced Paid-Up Insurance Option

The cash surrender value is applied as a net single premium to purchase a reduced paid up policy. Appropriate if life insurance is still needed but the policyholder does not wish to pay premiums. Jeremy-$100k ordinary life policy. The cash surrender value can be used to purchase a 'reduced paid up policy' for $77,300

Dividend-Dividend Accumulations

The dividend can be retained by the insurer and accumulated at interest. Can be withdrawn at anytime. The dividend is generally not taxable, however the interest income on the accumulated dividends is taxable income and must be reported annually for federal/state purposes.

Dividend-Term Insurance (Fifth Dividend Option)

The dividend can be used to purchase one-year term insurance equal to the cash value of the basic policy, and the remainder of the dividend is then used to buy paid up additions or is accumulated at interest.

Dividend-Paid up Additions

The dividend is used to purchase a small amount of paid up whole life insurance. These are purchased at net rates, and evidence of insurability is not required.

Other uses of Dividends

The dividends can also be used to convert a policy into a paid up contract. An ordinary life policy issued at age 25 could be paid up by the age of 48. The dividend can also be used to mature a policy as an endowment.

Incontestable Clause

The insurer can contest the claim after the contestable period runs out if: -The beneficiary takes out a policy with the intent of murdering the insured. -The applicant for insurance has someone else take a medical examination. -An insurable interest does not exist at the inception of the policy.

Incontestable Clause

The insurer cannot contest the policy after it has been in force two years during the insureds lifetime.

Extended Term insurance Option

The net cash surrender value is used as a net single premium to extend the full face amount of the policy into the future as term insurance for a certain number of years and days.

Primary Beneficiary

The person who is first entitled to receive the policy proceeds on the insureds death. More than one party can be named primary beneficiary. However, the amount that each party receives must be specified.

Entire-Contract CLause

The policy and attached application constitue the entire contract between the parties. All statements are considered to be statements rather than warranties.

Settlement Options- Fixed Period Option

The policy proceeds are paid to a beneficiary over some fixed period of time.

Settlement Options-Interest Option

The policy proceeds are retained by the insurer, and interest is periodically paid to the beneficiary.

Settlement Options-Cash

The policy proceeds can be paid in a lump sum to the beneficiary(s). Most policy proceeds are paid in a lump sum within weeks of following the insureds death.

Automatic Premium Loan-Disadvantages

The policy proceeds will be reduced if the premium loans are not repaid by the time of death.

Grace Period

The policyholder has a period of 31 days to pay an overdue premium. Universal Life, other flexible premium policies have longer grace periods such as 61 days.

Automatic Premium Loan-Disadvantages

The policyholder may get into the habit of using the automatic premium loan provision too frequently. If cash values are modest, and borrowed over an extended period, they could eventually be exhausted and the contract would terminate.

Ownership Clause

The policyholder possesses all contractual rights in the policy while the insured is living. The policyholder can designate a new owner of the policy.

Revocable Beneficiary

The policyholder reserves the right to change the beneficiary designation without the beneficiary's consent.

Collateral Assignment

The policyholder temporarily assigns a life insurance policy to a creditor as collateral for a loan. Only certain rights are transferred to the creditor to protect its interest, and the policyholder retains the remaining rights.

Advantages of Policy Loans

The relatively low rate of interest that is paid. No credit check on the policyholder's ability to repay the loan. Policyholder has complete financial flexibility in determining the amount and frequency of loan repayments.

Viatical Settlement

The sale of a life insurance policy by a terminally ill insured to another party, typically to investors or investor groups who hope to profit by the insureds early death.The policy is sold at a substantial discount.

Ownership Clause

These rights include: naming and changing the beneficiary, surrendering the policy for its cash value, borrowing the cash value, receiving dividends, electing settlement options. These rights can be exercised w/o the beneficiarys consent.

Dividend-Term Insurance (Fifth Dividend Option)

Use the dividend to purchase yearly renewable term insurance. It is not uncommon for a $40 dividend to purchase $10k of yearly renewable term insurance. (Only offered by a small proportion of companies).

Dividend-Cash

Usually payable after the policy has been in force for 1-2 years.