Chapter 11 - Life Insurance
Financial Impact of premature death on different types of families
-"Traditional families": dad is bread winner for mom and family --> single people and single parent families --Two Income families: "DINKS" (double income w no kids) --> "DIWKS" (double income w/ kids) --blended families: a family consisting of a couple and their children from this and all previous relationships. --sandwiched families: Those sandwiched between aging parents who need care and/or help and their own children.
Universal life Insurance
-Flexible premium, interest-sensitive life insurance that separated the savings and the protection elements. The performance/ experience varies by policy. --> UL is popular when interest rates are high -->Characteristics: -Interest rate, unbundling, flexibility, expenses, two forms offered, income tax treatment.
Human Life Value Approach
-Human life value approach (HLV): is the present value of the family's share of the deceased breadwinners future earnings . Its the value in dollars today of the lost income stream of the family -Assume a breadwinner would provide $25,000 (net) annually to his family for 25 years. At an interest rate of 6%, the HLV is $319,584 --> Pros and cons: easier and simpler, does not take into account inflation or the likelihood of increases in wages or living expenses
Other types of life insurance:
-Modified life insurance: whole life with premiums, discounted initially, and higher thereafter. -Preferred risk: premium discount for superior risk -Second to die life insurance: covers two people, pays on the second death. Common use? (parents for children) -Joint life insurance: covers two people, pays on the first death -Juvenile life insurance: low face value that increases at a certain age, often w/o an increased premium. -Industrial life: small face value (500-5000), expensive cash value policies, premium collected at the insured's home. No longer popular. -Group life Insurance: a popular employee benefit, over 99% is term life insurance (low cost, no individual underwriting, limited amounts, etc.)
Variable life insuracnce
-Permanent insurance combined with a mutual fund -VL has fixed premiums and no cash value gaurantess. The policyowner selects a mutual fund (offered by the insurer) where the cash value is invested. VL is/was popular when equity markets were doing well. --> A minimum death benefit is guaranteed, but it can be higher if investment experience is favorable. --> Agents selling VL must have a securities license
Whole Life insurance
As the most basic form of cash-value life insurance, whole life insurance is a way to accumulate wealth as regular premiums pay insurance costs and contribute to equity growth in a savings account where dividends or interest is allowed to build-up tax-deferred. -premiums are level, exceeding the cost of mortality in early years and are less than the mortality cost in later years. As a consequence, a savings reserve (cash value) develops -->The cash value may be borrowed at interest. Outstanding loans reduce the benefit paid to the beneficiary in the insured dies. the policy owner can also surrender the policy for the cash value --whole life premiums may be paid until death (or age 100), or for a limited period (ie 10 or 20, etc.)
The Needs Approach (best method)
Determine the assets/income available to the family if the breadwinner dies. (employer provided life insurance, savings account, social security, etc.) --> determine the obligations to be met if breadwinner dies. Permanent needs (final illness and funeral expenses; some needs are temporary ie mortgage and education expenses) --> Consider readjustment, dependency, and blackout periods --->Buy life insurance to fund the gap between available financial resources and obligations to be met.
Variable-universal life
Exactly like universal life, but with two exceptions: 1) the policy owner selects the investment 2) a minimum interest rate is not guaranteed
Do you need Life insurance?
Life insurance protects against the economic consequences of premature death --> Costs of premature death are both economic and noneconomic. Economic justification: We must all die, but the time of death is uncertain. If the breadwinner dies prematurely, it will financially disturb the whole depended family members. Life insurance policy is a valued policy that pays a stated sum to a named beneficiary and is not a contract of indemnity. The insured event is the uncertainty of the time of death. If the insured earns an income, and others are dependent on that earning capacity for at least part of their financial support, the purchase of life insurance is economically justified. When the breadwinner dies prematurely without standing financial obligations and dependents to support, it may result in financial insecurity for the surviving dependents. Life insurance can be sued to restore the family's share of the income of deceased breadwinner.
Types of Life Insurance
Term life insurance is pure insurance protection (no savings) for a specified period. Its a good option if: -->term life insurance pays the face value if the insured dies during the coverage period. no payment is made if death occurs after the coverage period. -term life insurance may be renewable (renewals take place w/out you having to renew policy) and or convertible to whole life insurance w/out the insured having to prove that he/she is still insurable -can buy more insurance of term than you can whole life