Ch.4 Taxes, Retirement, and Other Insurance Concepts

Gross Income

a person's income before taxes or other deductions

Buy-sell Funding

A buy-sell agreement is a legal contract that establish the intent of someone else to purchase the business upon the insured's death & sets a value (purchase price) on the business. ; spouses of business partners sign as well as all business partners; premiums paid by business, business receives benefits and then goes to the spouse who accepts $ in exchange for the deceased partner's portion of business; contract provides the business of they money needed to buy-out the deceased's portion -owner or partner's death: business must be sold in order to settle the deceased's estate unless the ind owner (sole proprietor) or partners have made prior arrangements, the surviving family (or partner) may be forced to sell the business at a loss. -determines what will be done with a business in the event that an owner dies or becomes disabled. This is also referred to as a business continuation agreement. -Any type of life insurance is used to fund the agreement; can be used fully or partially to fund -Partnership buy-sell agreements allow the surviving partner(s) to purchase the deceased partner's share of the business from the deceased's family; can be cross-purchase or entity plan > Cross-purchase Plan: each partner involved purchases insurance on the life of the other partners; each partner is the owner, premium-payor, & beneficiary of the insurance on the lives of the other partner(s) -amount of insurance is equal to each partner's share of the purchase price >Entity Plan: the business itself is obligated to buy out the ownership interest of any deceased or disabled partner

Premature Annuity Distribution- 59 1/2 rule

A distribution from an IRA is subjected to income taxation in the year the withdrawal is made. -Under 59 1/2 = 10% penalty Exceptions to 59 1/2 rule: -total disability -catastrophic medical expense -down payment on a first home up to 10k -post-secondary education

H. Social Security Benefits (Old Age Survivors Disability Insurance) OASDI

A federal program enacted on 1935, which is designed to provide protection for eligible workers & their dependents against financial loss due to old age, disability, or death. -few exceptions, almost all individuals are covered by Social Security -plays a role of federal life and health insurance, which is important to consider when determining an individual's needs for life insurance -uses the Quarter of Coverage (QC) system to determine whether or not an individual is qualified for SS benefits -the type & amount of benefits are determined by the amount of CREDITS or QCs a worker has earned -anyone working in jobs covered by SS or operating their own business may earn up to a maximum of 4 credits for each year of work -Fully Insured: refers to someone who has earned 40 quarters of coverage (10 yrs of work), and is therefore entitled to receive SS retirement, premium-free Medicare Part A, & survivors benefits. >if an individual is entitled to premium-free Medicare Part A, automatically eligible for Medicare Part B, but must pay a monthly premium -CURRENTLY INSURED status (or partially insured): qualify for certain benefits if he or she has earned 6 credits during the 13-quarter period ending with the quarter in which the insured: >dies >becomes entitled to disability insurance benefits >becomes entitled to old-age insurance benefits For younger workers, the number of quarters required to qualify for the benefits differs by age according to a table established by SS

IRA vs. Roth

IRA distributions are taxable Roth distributions are NOT taxable IRA grows tax deferred Roth grows tax free (if account open for at least 5 years) IRA contributions are tax deductible (made with pre-tax dollars) Roth cont are not tax deductible (made with after-tax dollars) IRA 10% penalty for early nonqualified distributions prior to age 591/2 (some exceptions apply) Distributions are taxable Roth: qualified distribution cannot occur until account is open for 5 years & owner is 59 1/2. Distributions are not taxable IRA: payouts must begin by age 72 Roth: no required minimum age for payouts

IRA vs Roth

IRA: contributions are with pre-tax dollars (tax deductible) Roth: contributions are with after-tax dollars (NOT tax deductible)

Group life 1. Conversion Privilege

If an employee terminates membership in the insured group, the employee has the right to convert to an individual policy WITHOUT proving insurability at a standard rate, based on the individual's attained age. -The group life policy can convert to any form of insurance issued by the insurer (usually whole life), except for term insurance -face amount/death benefit will be equal to the group term face amount, but premium will be higher -employee has 31 days after terminating from group to convert -during this time, employee is still covered by group -if insured dies during the conversion period, a death bene equal to the maximum amount of individual insurance which would have been issued must be paid by the group policy, whether or not the application for an ind policy was completed. -if master contract is terminated, every ind who has been on the plan for at least 5 years will be allowed to convert to ind permanent ins of the same coverage * when converting from group life to ind life, evidence of insurability is not required

MEC cont.

Once a policy fails the 7-pay test and becomes a MEC, it remains a MEC MEC-an overfunded life insurance policy All life insurance policies are subject to the 7-pay test, and any time there is a material change to a policy (such as an increase in the death benefit), a new 7-pay test is required. - whether from a policy or a MEC, the death benefit received by the beneficiary is tax free Taxation rules that apply to MEC's cash value: -Tax-deferred accumulations -any distributions are taxable, including withdrawals and policy loans -distributions are taxed on LIFO basis-known as "interest-first" rule -distributions before 59 1/2 are subject to a 10% penalty

2. Group life

The premiums that an employer pays for insurance on an employee, whereby the policy if for the employee's benefit, are TAX DEDUCTIBLE to the EMPLOYER as a business expense -if group coverage is 50k or less, the employee does not have to report the premium paid by the employer as income (not taxable to the employee) Anytime a business is the named beneficiary of a life policy, or has a beneficial interest in the policy, any premiums that the business pays for such insurance are not tax deductible (if business is benefiting financially= not tax deductible) . Therefore, when a business pays the premium for any of the following arrangements, the premiums are not deductible: -key employee -stock redemption or entity purchase agreement -split-dollar insurance The CASH VALUE of a business owned life policy or an employer provided policy accumulates on a tax-deferred basis & is taxed in the same manner as an ind owned policy POLICY LOANS are not taxable to a business. Unlike an ind taxpayer, a corporation may deduct interest on a life policy loan for loans up to 50k POLICY DEATH BENEFITS paid under a business owned or an employer provided life policy are received income tax free by the beneficiary (in the same manner as in individually owned policies

Estate Creation

The purchase of life insurance creates an IMMEDIATE ESTATE -a person may create an estate through earnings, savings, and investments, but all of these methods require disciplined action and a significant period of time -estate creation is important for young families that are getting started & have not yet had time to accumulate assets. -when policy purchased, they will have an estate of at least the amount of the first premium paid. -there are not legal method by which an immediate estate can be created at such a small cost

401k qualified retirement Plan

allows employees to take a reduction in their current salaries by deferring amounts into a retirement plan -company can also match the employee's contribution, $ for $ or % -participants may choose to either receive taxable cash compensation or have the money contributed into the 401k >referred to as cash or deferred arrangement plans (CODA) -contributions into the plan are excluded from the individual employee's gross income up to a dollar ceiling amount. -ceiling amount is adjusted annually for inflation -plan allows participants 50 or over to make additional catch-up contributions (up to a limit) at the end of the calendar year -plans permit early withdrawal for specified hardship (death or disability) -loans permitted in certain instances up to 50% of participant's vested accrued benefit or specified dollar limit (set by the IRA annually)

Pretax contribution

contribution made before federal and/or state taxes are deducted from earnings

3. Modified Endowment Contracts (MECs)

(Following the elimination of many traditional tax shelters by the Tax Reform Act of 1984, single prem life insurance remained as one of the few financial products offering significant tax advantages, consequently:) To curtail purchasing policies for the sole purpose of setting aside large sums of money for the tax-deferred growth as well as tax-free cash flow available via policy loans & partial surrenders, & to determine if a policy is overfunded, the Internal Revenue Service (IRS) established what is known as the 7-PAY Test. -any policy that fails a 7-pay test is classified as MODIFIED ENDOWMENT CONTRACT (MEC), and loses the standard tax benefits of a contract. -in a MEC, the cumulative premium paid during the first 7 years of the policy exceed the total amount of the net level prems that would be required to pay the policy up using guaranteed mortality costs and interest (any extra money you put in) -loses features that were available to you like loans that aren't taxable

Characteristics of concern to a group underwriter:

-Purpose or nature of the group: the group must be created for a purpose other than to obtain group insurance -Size of the group: the larger the number of people in the group, the more accurate the projections of future loss experience will be. This is based on the LAW OF LARGE NUMBERS of similar risks -Turnover of the group- from the underwriting perspective, a group should have a steady turnover: younger, lower-risk employees enter the group, and the older, higher-risk employees leave -Financial strength of the group: because group insurance is costly to administer, the underwriter should consider whether or not the group has the financial resources to pay the policy premiums, and whether or not it will be able to renew the coverage *unique aspect is that the cost of coverage is based on the average age of the group and the ratio of men to women. -in order to reduce adverse selection, the insurer will require a minimum number of participants in the group, depending on whether the employer or employees pay the premium

Taxation of Deferred Annuities

-Tax deferred accumulation -Early Withdrawals : 10% penalty LIFO > first part is money you put in, last part is the growth which hasn't been taxed. If you want to take out a little money, they will take out the growth money first, which is taxable -cash surrender: taxable interest & growth at ordinary income rate

B. Viatical Settlements

-allow someone living with a life-threatening condition to sell their existing life insurance policy and use the proceeds when they are most needed: before their death -while viatical settlements are not policy options, they are SEPARATE CONTRACTS in which the insured sells the death benefit to a THIRD party at a discounted rate. > the insured are referred to as VIATORS > viatical settlement PROVIDER means a person, other than a viator, that enters into the viatical settlement contract > Viatical PRODUCERS represent the providers > Viatical BROKERS represent the insureds -Viators usually receive a PERCENTAGE of the policy's face value from the person who purchases the policy. The new owner continues to maintain premium payments and will eventually collect the entire death benefit. -Ex: Frank has medical issues, sells policy to viatical company who gives him $50k. They take over the policy & they receive the full 100k death benefit

Taxation of Roth IRA

-contributions are not tax deductible -excess contributions are subject to a 6% tax penalty

F. Life Insurance Needs Analysis and Suitability

1. Personal Insurance needs -Survivor Protection -Cash Accumulation -Liquidity -Estate Creation -Estate Conservation

403 (b) Tax-Sheltered Annuities (TSAs)

A qualified plan available to employees of certain NONPROFIT ORGANIZATIONS under Section 501(c)(3) of the internal Revenue Code, & to the employees of public school systems (teaches is state funded schools) or church affiliations/ religious affiliations -contributions can be made by the employer through salary reduction & are excluded from the employee's current income. -limits employee contributions to a max amount that changes annually, adjusted for inflation. The catch-up provisions also apply -Money comes out of you paycheck before taxes (pre-tax) -growth on annuity- earnings on growth is all taxable when you take it out -WHAT TYPE OF AN ANNUITY HAS 0 COST BASIS (money that you have already paid tax on) (no after-tax money)? TSA

Simplified Employee Pensions (SEPs)

A type of qualified plan suited for the small employer or for the self-employed. -employee establishes & maintains an individual retirement account to which the employer contributes. -employer contributions are not included in the employee's gross income -SEP vs. IRA: SEP can contribute much larger amount (an IRS established annual dollar limit or 25% of the employee's compensation, whichever is less) -less expensive option for employer

E. Retirement Plans: Qualified

An employer-sponsored qualified retirement plan is approved by the IRS, which when gives the employer & employee benefits such as deductible contributions and tax-deferred growth Characteristics: - designed for the exclusive benefit of the employees and their beneficiaries -are formally written & communicated to the employees -use a benefit or contribution formula that does not discriminate in favor of the prohibited group (officers, stockholders, or highly paid employees) -are not geared exclusively to the prohibited group -are permanent -are approved by the IRS -have a vested requirement; employee always 100% vested (own) in the money you put in ex: 3 year vesting- you have no ownership of employer money they put in until 4th year; you own 100% in 4th year -Graded vesting schedule: first year= no vesting; no ownership. every year the % of ownership goes up. year 2 would be 20% 3 Years=25% *Qualified plans have tax advantages

Life expectancy

An important concept in life settlement contracts. it refers to a calculation based on the average number of months the insured is projected to live due to medical history and mortality factors

Individual Life Cash Value Accumulations

Any cash accumulations can be borrowed against by owner, or may be paid to the owner upon surrender -cash values grows tax deferred -upon surrender or endowment, any cash value excess of cost basis (premium payments) is taxable as ordinary income. -upon death, face amount is paid, and there is no more cash value -death benefits generally are paid to the beneficiary income tax free

Liquidity

As a result of the cash accumulation feature, some policies provide liquidity to the policy owner -that means the policy's cash values can be borrowed against at any time and used for immediate needs

Disability Benefit

Conditions for payment: Fully insured status & total & permanent disability prior or the retirement age Paid to: disabled worker & spouse & eligible dependents Type of payment: monthly disability benefit after a 5 month waiting period

Retirement Benefit

Conditions for payment: fully insured status & age 66 (or reduced benefits at age 62) Paid to: retired ind & eligible dependents Type of payment: monthly benefit equal to the primary insurance amount (PIA)

Survivor Benefit

Conditions for payment: worker's death Paid to: surviving spouse & dependent children Type of payment: lump-sum burial benefit if fully or currently insured -monthly income payments if fully insured

2. Contributory vs. Noncontributory

Contributory plan: when premiums for group ins are shared between the employer and employees >an insurer will require that 75% of eligible employees be included in the plan Noncontributory Plan: when employer pays all of the premiums > an insurer will require that 100% of the eligible employees be included in the plan

Survivor Benefits

Death benefits paid to the worker's surviving spouse & dependent children under specified circumstanced. -a lump-sum burial benefit is available for a spouse living with the worker at the time of death, or spouse or child who is eligible for SS in a month of the worker's death. Monthly income payments may also be paid to the following in the event of a fully insured (covered) worker's death: -surviving spouse, limited benefits avail at 60, full benefits payable upon reaching full retirement age (varies depending on year of birth) -surviving or divorced spouse, if caring for minor children under 16 or disabled children, sometimes called a parent's benefit. Once the minor reaches 16, the parent is not eligible for SS retirement benefits again until retirement or 60 ("Blackout Period") -dependent parents, 62 or older -unmarried children under 18, or up to 19, if full-time elementary or secondary (High school) students

3. Plans for Employers

In addition to individual plans, different types of qualified plans are available and have been designed for use by small and large employers

Roth IRA

Individual retirement account funded with after-tax contributions -can contribute 100% of EARNED income up to an IRA-specified maximum ($ changes every year) -contributions have no age limit - no RMD -grow tax free as long as account open for 5 years

Estate Conservation

Life insurance proceeds may be used to pay inheritance taxes and federal estate taxes so that it is not necessary for the beneficiaries to sell off the assets.

D. Group Life Insurance

Is issued to the sponsoring organization, and covers the lives of MORE THAN ONE INDIVIDUAL member of that group. -usually written for employee-employer groups -usually written as ANNUALLY RENEWABLE TERM 2 features that distinguish from individual: -evidence of insurability is usually not required (unless an applicant is enrolling for coverage outside the normal enrollment period) -participants (insureds) under the plan do not receive a policy bc they do not own or control the policy -instead, each insured participants under the group plan is issued a CERTIFICATE OF INSURANCE evidencing that they have coverage. -the actual policy or MASTER POLICY/CONTRACT, is issued to the sponsor of the group, which is often an employer. -the group sponsor is the policyholder and is the one that exercises control over the policy *Group insurance is written as annually renewable term insurance *in group insurance, the master contract is for the employer, and certificates of insurance are for the individual insured

Cash Accumulation

Life insurance may be used to accumulate specific amounts of monies for specific needs with guarantees that the money will be available when needed. Ex: some life policies (those that provide permanent protection, such as whole life) accumulate cash value that is available to the policyowner during the policy term

Individual Life Amounts Available to policyowners

Permanent life provides living benefits; several ways to receive living benefits

Tax Considerations for Life Insurance and Annuities

Premiums: Not deductible (personal expenses) Death benefit: not income taxable (except for interest) Cash Value Increases: not taxable (as long as policy in force) Cash Value Gains: taxed at surrender Dividends: not taxable (return of unused premium; however, interest is taxable) Accumulations: interest taxable Policy Loans: not income taxable Surrenders: surrender value- past premium= amount taxable Partial Surrenders: FIFO Settlement Options: death benefit spread evenly over income period (averaged). Interest payments in excess of death benefit portion are taxable Estate tax: if the insured owns a policy, it will be included for estate tax purposes. If the policy is given away (possibly to a trust) & the insured dies within 3 years of the gift, the death benefit will be included in the estate *FIFO method applies to life insurance only. The policyowner will receive their investment in the contract first before receiving any gains in the policy (or being taxed on those gains) Annuities follow a LIFO

Permanent Life Features and their Tax treatment

Premiums: no tax deductible Cash value exceeding premiums paid: taxable at surrender Policy Loans: not income taxable ; not tax deductible Outstanding loans: interest accumulates Policy Dividends: not taxable Dividends: not taxable Dividend Interest: Taxable in the year earned; deferred Lump-sum Death Benefit: not income taxable *Taxes must be paid either upon contribution or upon distribution, NOT both (if taxed on one end, will not be taxed on the other)

Individual Life Amounts Received by Beneficiary: General Rules and Exceptions

Proceeds paid to a beneficiary are generally FREE OF FEDERAL INCOME TAXATION if taken as a LUMP SUM -Exception: if the benefit payment results from a transfer for value, meaning the life policy is sold to another party prior to the insured's death

Qualified and Nonqualified differences

Qualified: -contributions currently TAX DEDUCTIBLE -plan APPROVED by the IRS -plan CANNOT DISCRIMINATE -earnings grow TAX DEFERRED -ALL WITHDRAWALS are TAXED Nonqualified: -Contributions NOT currently TAX DEDUCTIBLE -plan DOES NOT NEED IRS APPROVAL -plan CAN DISCRIMINATE -earnings grow TAX DEFERRED -EXCESS over cost basis is TAXED

Business of Life Settlement

Refers to ANY activity relating to the solicitation and scale of a life settlement contract to a third party who has no insurable interest in the insured

Rollovers and Transfers

Rollover: tax-free distribution of cash from one retirement plan to another -generally, IRA rollovers must be completed within 60 days from the time the money is taken out of the first plan -if distribution from the first plan is paid directly to the participant, 20% of the distribution must be withheld by the payor. -Direct Rollover: the 20% withholding of funds can be avoided if the distribution is made directly from the first plan to the trustee or administrator/custodian of the new IRA plan -The term Transfer (or direct transfer) refers to a tax-free transfer of funds from one retirement program to a traditional IRA or a transfer of interest in a Traditional IRA from one trustee directly to another

Taxation of Traditional IRA

Rules: - tax-deductible contributions for the year of the contribution (based on the person's income) -contributions must be made in "cash" in order to be tax deductible (the term cash includes any form of money, such as cash, check, or money order) -excess contributions are taxed at 6% per year as long as the excess amounts remain in the IRA - tax-deferred earnings (the money that accumulates in the account) are not taxed until withdrawn A distribution from an IRA is subject to income taxation in the year the withdrawal is made. In case of an early distribution (prior to age 59 1/2) a 10% penalty will also apply Conditions which 10% penalty for early withdrawals would NOT apply: -participant is age 59 1/2 -participant is totally disabled -the money is used to make the down payment on a home (not to exceed $10,00 and usually for first-time homebuyers) -withdrawals are for post-secondary education expenses -withdrawals are for catastrophic medical expenses, or upon death

Individual Life Dividends

Since dividends are a return of unused premiums, they are not considered income for tax purposes. -when dividends are left with the insurer to accumulate interest, the interest earned on the dividend account is subject to taxation as ordinary income each year interest is earned, whether or not the interest is paid out to the policyowner

G. Tax treatment of insurance Premiums, Proceeds, Dividends 1. Individual Life

Taxation Rules for Life insurance policies: -Premiums are not tax deductible -Death benefit: > tax free if taken as a lump-sum distribution to a named beneficiary > principle is tax free; interest is taxable if paid in installments (other than lump sum)

2. Business Insurance Needs

The most common use of life insurance by businesses is as an employee benefit, which serves as a protection for employees and their beneficiaries -other forms of insurance that serve business owners, their survivors & protect the business itself: business continuation agreements, compensating executives, and protecting the business against financial loss resulting from the death/disability of key employees

Individual Life Accelerated Benefits

When accelerated benefits are paid under a life policy to a terminally ill insured, benefits are received TAX FREE -when paid to chronically ill insured (ex: cancer), these benefits are tax free up to a CERTAIN LIMIT. >any amount received in excess of this dollar limit must be included in the insured's gross income

Individual Life Amounts Received by Beneficiary: Settlement Options

When beneficiary receives payments consisting of both principle and interest, the interest portion of the payments received is taxable as income -Principle is tax free, interest is taxable Ex: if 100k of proceeds were used in a settlement option paying 13k per year for 10 years, 10k per year would be income tax free & 3k per year would be income taxable

Eligibility: -HR-10 (Keogh): Self-employed -SEP: Small employer or self-employed -SIMPLE: Small employers (no more than 100 employees) -401(k): Any employer -403(b)- TSA: Nonprofit organizations

Who Contributes: -HR-10 (Keogh): Employer matches employee's contributions -SEP: Employer only -SIMPLE: Employer matches employee's contributions -401(k): Employer matches employee's contributions -403(b)- TSA: Employer and employees * Contributions to qualified plans are limited to maximum amount (established by the IRS); adjusted annually

Life Settlement Provider

a person (other than the owner) who enters into a life settlement contract with the owner

Life Settlement Broker

a person who, for COMPENSATION, solicits, negotiates, or offers to negotiate a life settlement contract -brokers represent only the policyowners and have a fiduciary duty to the owners to act according to their instructions and in their best interest

Tax Deductible

a reduction of taxable income, resulting in lower tax liability

Nonprofit organization

an organization that uses its surplus to fulfill its purpose instead of distributing the surplus to its owners or members

SIMPLE Plans (Savings Incentive Match Plan for Employees)

available to small businesses that employ no more than 100 employees who receive at least $5,000 in compensation from the employer during the previous year -to establish plan, the employer must not have a qualified plan already in place -employees who elect to participate may defer up to a specified amount each year, and the employer then makes a matching contribution, dollar for dollar, up to an amount equal to 3% of the employee's annual compensation. -TAXATION IS DEFERRED on both contributions and earnings until funds are withdrawn

Life Settlement Act

defines terms that are not in conflict with the sale of the original life insurance coverage, but which accurately identify the distinctions in the Life Settlement business

Surrender

early termination of a policy by the policyowner

Life Settlement Contract

establishes the terms under which the life settlement provider will pay compensation to the policyowner, in return for the assignment, transfer, sale, or release of any portion of the following: >the death benefit >policy ownership >any beneficial interest >interest in a trust or any other entity that owns the policy

Traditional Individual Retirement Account

individuals with EARNED income make tax deductible contributions regardless of age. -allowed to contribute up to a specified dollar limit each year, or 100% of their salary if less than the max allowable amount. ($ changes every year) -50 or older are entitled to make additional catch-up contributions -a married couple could contribute a specified amount that is double the individual amount, even if only one person had earned income. each spouse is required to maintain a separate account not exceeding the individual limit (SECURE Act of 2019 removed age restriction in 2020) -owner may withdraw the funds at any time. Prior to 59 1/2 is early withdrawals, subject to 10% additional tax -At 59 1/2, owner may withdraw assets w/o paying 10% additional tax. However, the owner MUST start receiving annual required minimum distributions from the IRA at 72 (secure act raised min dis age from 70 1/2- 72) -Money withdrawn from a traditional IRA is taxed in the year in which it is withdrawn regardless of your age when you take money out. (So, if you withdraw the full balance from the account and close it out, it will be taxed as ordinary income based on your tax bracket.)

Insured

is the person covered under the policy that is considered for sale in a life settlement contract

Key Person

lessen the risk of such loss by death of someone who has specialized knowledge, skills or business contacts. -may be issued as term or permanent life, with whole life & universal life being used most often Key employee is the insured, the business is all the following: -Applicant -Policyowner -Premium payer -Beneficiary Death of employee: business would use money for additional costs of running business & replacing employee. -business cannot take a tax deduction for the expense of the premium. -benefits paid to business tax free -no special agreements or contracts are needed except that the employees would need to give permission for this coverage

Policy endowment

maturity date

Retirement Plans: Nonqualified (not IRS approval; riskier)

not subject to the requirements regarding participation, discrimination, and vesting found in qualified plans. -require no gov approval & are used as a means for an employer to discriminate in favor of a valuable employee with regard to employee benefits -accept after-tax contributions -examples of nonqualified plans are individual annuities and deferred compensation plans for highly paid executives, split-dollar ins arrangements, and Section 162 executive bonus plans

Individual Life Policy Loans

owner may borrow against cash value -money borrowed is NOT income taxable -insurance company charges interest on outstanding Policy loans; policy loans, with interest, can be repaid in any of the following ways: -by owner while the policy is in force -at policy surrender/maturity, subtracted from the cash value -at insured's death, subtracted from the death benefit

LIFO Last-in, First-out Method

principle applied to asset management in life insurance, under which it is assumed that the funds paid into the policy last will be paid out first

FIFO (first in, first out)

principle under which it is assumed that the funds paid into the policy first will be paid out first

Survivor Protection

provide the funds necessary for the survivors of the insured to be able to maintain their lifestyle in the event of the insured's death -the death of the primary wage-earner will usually stop the flow of income to a family - the death of a nonearning spouse who cares for minor children can also cause great financial hardship for the survivors

Profit Sharing

qualified plans where a portion of the company's profit is contributed to the plan and shared with employees -if the plan does not provide a definite formula for figuring the profits to be shared, employer contributions must be systematic and substantial

C. Life Settlements

refers to any financial transaction in which the owner of a life insurance policy sells a life policy to a third party for some form of compensation, usually cash. -would require an absolute assignment of all rights to the policy -owners may choose to sell their policies bc they feel they no longer need coverage or the prem costs have grown too high -many cases, life settlement transactions are offered to senior citizens who may have a life-threatening illness and a short life expectancy. > the owner may select to sell the policy to a life settlement provider for an amount greater than what the surrendered policy for cash value would have been Ex: frank owns 1M policy, sold his business for 5M, no longer needs coverage. Cash value is 390k, life settlement provider offer him 575k after reviewing medical records. Ownership to company, company pays premiums *In a life settlement, the owner sells an existing life policy to a third party

Owner

refers to the owner of the life insurance policy who seeks to enter into a life settlement contract -the term does not include an insurance provider, a qualified institutional buyer, a financing entity, a special purpose entity, or a related provider trust

Earned Income

salary, wages, or commissions; but not income from investments, unemployment benefits, and similar sources of income

Self-employed Plans (HR-10 or Keogh Plans)

self-employed persons to be covered under an IRA qualified retirement plan. -these plans allow the self-employed individuals to fund their retirement programs with pre-tax dollars as if under a corporate retirement or pension plan. -to be covered, the person must be self-employed or a partner working part time or full time who owns at least 10% of the business - Contribution limits are the lesser of an established dollar limit or 100% of their total earned income >contributions tax deductible, and it accumulates tax deferred until withdrawal -upon participant's death, payouts can be available immediately. -If a participant becomes disabled, he or she may collect benefits immediately or the funds can be left to accumulate -when entering retirement, distribution of funds must occur no earlier than 59 1/2, no later than 72 -if withdrawn before 59 1/2, 10% penalty -at any time, payments may be discontinued with no penalty, & funds can be left to accumulate -person atleast 21, has worked for a self-employed person for one year or more, worked at least 1,000 hrs per year (full time) must be included in Keogh Plan. > the employer must contribute the same % of funds into the employee's retirement account as he/she contributes into his/her own account

Taxable

subject to taxation, payable to state and federal government

tax deferred

taxes on investments or gains (such as interest or dividends) are paid at a future date instead of in the period in which they are incurred tax

Values Included in Insured's Estate

the death benefit or face amount of a life policy may be included in the insured's taxable estate at death & is subject to the federal estate tax in the following: 1. Incidents of Ownership: any one of the rights of policy ownership (right to cash value, to change the beneficiary, to obtain loans, or to assign the policy) if the insured possessed any one of these incidents of ownership at the time of death, the entire face amount of the policy will be included in the insured's taxable estate, even though the actual proceeds were paid out to the beneficiary 2. Estate as beneficiary: if the insured's estate is the designated beneficiary at the time of the insured's death, the entire face amount of the policy will be included in the insured's taxable estate 3. Transfer of ownership: if the insured, as policyowner, assigns or transfers ownership of the policy OR makes a gift of the policy within 3 years prior to death, the entire face amount of the policy will be included in the insured's taxable estate

2. Individual Retirement Accounts (IRAs)

the most 2 common qualified individual retirement plans are Traditional IRAs and Roth IRAs. Anybody with earned income can contribute to either plan

A. Third-Party Ownership

the policyowner and insured are two different people. More common for a parent to be the policyowner and their child the insured -legal term used to identify an individual or entity that is not an insured under the contract, but that has a legally enforceable right under it

Vesting

the right of a participant in a retirement plan to retain part or all of the benefits

Individual Life Surrenders

when surrendering for cash value, some cash received may be taxable as income if cash surrender values exceeds the amount of the premiums paid for the policy. -when the owner withdraws cash value from a universal life policy (partial surrender), both the cash value & death benefit are reduced by the surrender Ex: Face amount: $300k Premiums paid: $70k Total cash value: $100k If the insured surrendered $30k of cash value, the full $30k would be income tax free. If the insured took out $100k, the last $30k would be taxable bc the $100k, exceeds the premiums that were paid in by $30k.

Rollover

withdrawal of the money from one qualified plan and placing it into another plan