Unit 2 Chapter 4 Life Insurance

Identify the three stages in the life-cycle model

Asset Accumulation Phase -Income replacement for dependents -Pay off debts -Fund financial objectives (eg education) -Retirement income for surviving spouse Conservation/Risk Management Phase -Income replacement and goal funding gradually declines -Other needs may rise >Buy-sell agreements related to a business >Liquidity for estate planning Distribution/Gifting Phase -Income replacement and goal funding may no longer be needed -Estate administration/taxes and family wealth maintenance -Medical expenses prior to death

Capitalized- Earnings Approach

Capitalize the net earnings (earnings less consumption and taxes) by an inflation adjusted discount rate taking into consideration the expected rate of return and the expected rate of inflation. This method is a variation of the human-life value approach.

Identify the parties to a contract

The owner, the insured, and the beneficiary Sometimes the same person holds all three interests in the policy (if the proceeds are payable to his or her estate) In other cases, different individuals, groups, or legal structures may be the owners and/or bene of a life insurance policy.

Generally, as clients age, the human-life value and the need for life insurance protection will increase

True

Identify the three methods used to determine life insurance needs

1. The human-life approach 2. The needs approach 3. The capitalized-earning approach

Which of the following life insurance policies has a fixed premium, a cash value and a death benefit that can fluctuate based on investment performance?

Variable whole life. Rationale Variable whole life has fixed premium, death benefit can fluctuate based on investment performance. There is no such thing as variable renewable term.

Level premium, variable death benefit, insured directs investments

Variable Life

Human-Life Value Approach

Determine the present value of the lost future income, taking into consideration the taxes and personal expenses of the insured, as well as the expected growth in income. This method will generally yield a larger need for younger people compared to older people.

Which of the following method(s) is/are appropriate to evaluate a person's life insurance needs? 1. The human life approach to evaluate life insurance needs takes into consideration the income replacement needs of a person's survivors including income during the readjustment period, income to widow(er), and educational funds for dependents. 2. The needs approach evaluates the estimated present value of income generated over a person's work-life expectancy that is needed and then adjusts for the expected consumption of the person and for taxes.

None of the above. Rationale The definitions of the human life approach and the needs approach to estimating life insurance needs have been reversed so that neither is correct.

Life insurance can be an effective tool for enhancing a family's wealth

True

Understand the process of life insurance underwriting

Underwriting- the process by which insurance companies decide whether to provide insurance to a customer and under what terms. Underwriters evaluate insurance applications and determine coverage amounts and premiums. Must evaluate risk exposure and determine premium to charge to insure that risk. By underwriting a policy, company accepts that risk. The underwriter attempts to quantify the impact of these factors on the likelihood of death and then determine an appropriate premium for that level of risk.

Flexible premium, variable death benefit, insurer directs investments

Universal Life

Flexible premium, variable death benefit, insured directs investments

Variable Universal Life

Rising premium, level death benefit, no savings component

Annual Renewable Term

Level premium, declining death benefit, no savings component

Decreasing Term

Generally, as clients age, the human-life value and the need for life insurance protection will increase.

That's false

Unholy trinity

When owner, insured, and bene are all different parties. Referred to as the Goodman Triangle as the result of the outcome of the court case, Goodman v. Commissioner. When this occurs, the owner of the policy is deemed to have made a taxable transfer or gift to the bene. *** Planners need to be very careful about potential gift and estate tax consequence of this type of arrangement!! ex. Parent 1 Insured, Parent 2 Policy Owner, Child Bene **When clients purchase life insurance, planner should know the identity of the insured, the owner, and the beneficiary. Without this knowledge, the planner will not be able to make appropriate recommendations for managing the client's risk and tax-planning needs

Level premium, level death benefit, low return on savings component

Whole Life

Which of the following is needed to calculate the client's human-life value? 1. Average annual earnings to the age of retirement. 2. Estimated annual Social Security benefits after retirement. 3. Costs of self-maintenance. 4. Number of years from the client's present age to the contemplated age of retirement.

1, 3, and 4. Rationale This question asks what information is needed to calculate the value of a life. Clearly you need options 1, 3, and 4. Social Security benefits are not earned; they are an entitlement.

Generally, people accumulate wealth throughout their lives.

False, the asset accumulation phase lasts from the time the person enters the workforce till retirement.

Needs Approach

Estimate the cash needs that the family will require after the death of the insured. These often include payment of final expenses, eliminating debt, funding specific goals (such as the education of children), income needs of the surviving spouse and family, as well as retirement income needs of the surviving spouse. Two periods: the readjustment period and the dependency period. Within the dependency period may be a period referred to as the "blackout period"

Which one of the following statements concerning whole life insurance is false? A) Level-premium whole life insurance accumulates a cash value that eventually reaches the face value of the policy at age 100 - 120. B) Whole life insurance offers permanent protection throughout the insured's lifetime. C) Whole life insurance can be participating, which means the insured must participate in self-directed investments for the cash value. D) Whole life insurance premiums paid throughout the insured's lifetime are ordinary life policies.

Whole life insurance can be participating, which means the insured must participate in self-directed investments for the cash value. Rationale Participating means the insured receives dividends. All other statements are true. For whole life insurance the insured doesn't receive dividends.

Death benefits paid from life insurance cannot be used to pay the decedent's hospital bills

False

Highlight/identify the reasons for life insurance

If a person dies prior to accumulating sufficient financial assets to meet his or her financial planning goals, family will feel the blow. Moving from asset accumulation to conservation/risk mgmt the need for life insurance to fund financial goals and income streams decline but very slowly. If person dies in this state it's because they are partially there and want to maintain and enhance family wealth. The tax benefits of life insurance make it an attractive tool to help to achieve these objectives. If person started business additional life insurance may be needed to: -Fund buy-sell agreements between the owners of the business when one of the owners dies -Provide liquidity for the estate of the business owner so that taxes and administration expenses can be paid without reducing the family's inheritance The need for life insurance in the distribution phase focuses on estate liquidity needs and a desire to create and sustain family wealth. Death benefits paid on a life insurance policy can be used to cover medical expenses prior to death, funeral expenses, probate, estate admin costs, estate/inheritance taxes.