taxes, retirement, and other insurance concepts

FIFO

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

amounts received by beneficiary

GENERAL RULE AND EXCEPTIONS life insurance proceeds paid to a named beneficiary ar egenerally FREE OF FEDERAL INCOME TAX If taken as a lump sum. an exception to this rule would apply if the benefit payment results from a transfer for value, meaning the life insurance policy is sold to another party prior to the insureds death.

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.

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 of the assets.

pretax contribution

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

surrender

early termination of a policy by the policyowner

life settlement contract

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

Modified endowment contracts

to determine if an insurance policy overfunded, the internal revenue service (IRS) established what is known as the 7-pay test. an life insurance policy that fails a 7-pay test is classified as a modified endowment contract (MEC), and loses the standard tax benefits of a life insurance contract. in a MEC, the cumulative premiums that would be required to pay the policy up usuing guaranteed mortality costs and interest. all life insurance policies are subject to the 7 pay test, and any time there is a material change to a policy (such as increase in the death benefit) a new 7 pay test is required. whether form a life insurance policy or a MEC , the death benefit received by the beneficiary is tax free.

3. stock purchase

used by privately owner corporations when each stockholder buys a policy on each of the others

1. cross purchase

used in partnership when each partner buys a policy on the other

settlement option

when the beneficiary receives payments consisting of both principal and interest, the inferest portion of the payments received is taxable as income.

SIMPLE plans

(savings incentive match plan for employees) plan is available to small businesses that employ no more than 100 employees who receive at least 5000 in compensation from the employer during the previous year. to establish a SIMPLE plan, the employer must not have a qualified pan 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 3% of the employees annual compensation. taxation is deferred on both contributions and earnings until funds are withdrawn.

the following taxation rules apply to roth IRAs:

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

LIFO

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

key person

a business can suffer a financial loss because of the premature death of a key employee- someone who has specialized knowledge, skills or business contacts. key person insurance can lessen the risk of such loss.

life settlement provider

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

gross income

a persons income before taxes or other deductions

2.cash value accumulations

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

IRA

individual retirement account: allows individuals to make tax deductible contributions until the age of 70.5. plan participants are allowed to contribute up to a specified dollar limit each year, or 100% of their salary if less than the maximum allowable amount. individuals who are age 50 or older are entitled to make additional catch up contributions. a married couple could contribute a specified amount that is double the indificual amount, even if only one person had earned income. each spouse is required to maintain a separate account bot exceeding the individual limit. withdrawals may begin at 59.5 but no later that 70.5

self employed plans

make it possible for self employed persons to be covered under an IRS qualified retirement plan. these plans allow the self employed individuals to fund their retirement programs with pretax dollars as if under a corporate retirement or pension plan. to be covered under a Keogh retirement plan, the person must be self employed or a partner working part time or full time who owns at least 10% of the business.

policy endowment

maturity date

currently insured

or partially insured, and by that qualify for certain benefits if he or she has earned 6 credits (of quarters of coverage) 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

life settlement broker

person who, for compensation, solicits, negotiates, or offers to negotiate a life settlement contract. they represent only the owner, and have a fiduciary duty to the owners to act according to their instructions and in their best interest.

1. 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 the the policyowner.

Personal insurance needs 1. survivor protection

the death of the primary wage-earner will usually stop the flow if income to a family. the death of nonearning spouse who cares for minor children can also cause great financial hardship for the survivors. life insurance can provide the funds necessary for the survivors of the insured to be able to maintain their lifestyle in the even of the insured death. this is known as survivor protection. planning for survivor protection requires careful examination of current assets and liabilities as well as determining what surivors needs may be.

4. stock redemption

used when the corporation buys one policy on each shareholder.

2. entity purchase

used when the partnership buys the policies on the partners

rollover

withdrawal of the money from one qualified plan andplacing into another plan.

estate creation

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. the purchase of life insurance creates an immediate estate. estate creation is especially important for young families that are getting started and have not yet had time to accumulate assets. when an insured puchases a life insurance policy, he or she will have an estate of at least that amoung the moment the first premium is paid. there is no other legal method by which an emediate estate can be created at such a small cost.

simplified employee pension plans (SEP)

a type of qualified plan suited for the small employer or for the self employed. in a SEP an employee establishes and maintains an individual retirement account to which the employer contributes. employer contributions are not included in the employees gross income. the primary difference between a SEP and an IRA is the much larger amoung that can be contributed each year to a SEP (an IRS established annual dollar limit or 25% of the employees compensation, whichever is less

the cash value of a business owner life insurance policy or an employer provided policy

accumulates on a tax deferred basis and is taxed in the same manner as an individually owned policy

buy-sell agreement

is a legal contract that 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. THERE ARE SEVERAL TYPES OF BUY-SELL AGREEMENTS THAT CAN BE USED FOR PARTNERSHIPS AND CORPORATIONS

403(b) tax sheltered annuaties (TSAs)

is a qualified plan available to employees of certain nonprofit organizations under section 501(c)(3) of the internal revenue code, and to employees of public school systems.

rollovers

is a tax free distribution of cash from one retirement plan to another. General IRA rollovers must be completed within 60 days from the time the money is taken out of the first plan. if the distribution from the first plan is paid directly to the participant, 20% of the distribution must be withheld by the payor. the 20% withholding of funds can be avoided if the distribution is made directly from the first pla to the trustee or administrator/custodian of the new IRA plan. this is known as direct rollover.

executive bonus

is an agreement where the employer offers to give the employee a wage increase in the amount of the premium on a new life insurance policy on the employee. the employee owns the policy and therefore has all control. since the employer treated the premium payment as a bonus, that amount is TAX DEDUCTIBLE TO THE EMPLOYER and INCOME TAXABLE TO THE EMPLOYEE. it is assumed that the employee were not willing to accept these conditions, the employer would not provide the benefit.

life expectancy

is 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

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, but other types of groups are also eligible for coverage. it is usually an annually renewable term insurance. two features that distinguish group from individual insurance. -evidence of insurability is usually not required, (unless an applicant is enrolling for coverage outside the normal enrollment period) -participants (insured) under the plan do not receive a policy because they do not own or control the policy. each person under this plan is issued a certificate of insurance for evidence of coverage. group owner is the policy holder. underwriting for group is based on group characteristidcs and makeup. another unique aspect is tht the cost of the coverage is based on the average age of the group and the ratio of men and women.

a distribution from an IRA

is subject to income taxation in the year the withdrawal is made. in case of an early distribution (prior 59.5) a 10% penalty will also apply. there are certain conditions under which the 10% penalty for early withdrawals would not apply -participant is age 59.5 -participant is totally disabled -the money is used to make the down payment on a home (not to exceed 10000, and usually for first time homebuyers -withdrawals are for post secondary education expenses -withdrawals are for catastrophic medical expenses, or upon death

insured

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

policy death benefits

paid under a business owned or an employer provided life insurance policy are received income tax free by the beneficiary (in the same manner as a individually owned policies) if the general requirements for qualified plans are met, then following tax advantages apply. -employer contributions are tax deductivle to the employer, and are not taxed as income to the employer -the earnings in the plan accumulate tax deferred -lump sum distributions to employees are eligible for favorable tax treatment.

3. policy owner

policyonwer may borrow against the policys cash value. money borrowed against the cash value is not income taxable; however, the insurance company charges interest on outstanding policy loans. policy loans, with interest, can be repaid in any of the following ways: -by the owner while the policy is in force -at policy surrender or maturity, subtracted from the cash value -at the insureds death, subtracted from the death benefit.

401 k plans

qualified retirement plan allows employees to take a reduction in the current salaries by deferring amounts into a retirement plan. the company can also match the employees contribution, whether it is a dollar for dollar or on a percentage basis. under a 401 k plan participants may choose to either receive taxable cash compensation or have the money contributed into the 401 k, referred to as cash or derred arrangement plans (CODA). contributions into the plan are excluded from the individual employees gross income up to a dollar ceiling amount. the ceiling amount is adjusted annually for inflations.

transfer (or direct transfer)

refers to a tax free transfer of funcs from one retirement program to a traditional IRA or a transfer of interest ina traditional IRA form one trustee directly to another.

business of life settlement

refers to any ativity relating to the solicitation and sale of a life settlement contract to a third party who has no insurable interest in the insured.

term 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.

taxation of IRAs and Roth IRAs

rules apply to contributions made to traditional IRA plan: -tax-deductible contributions for the year of the contribution (based on the persons income) -Contributions must be made in "Cash" in order to be tax deductible (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.

earned income

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

purpose of the group

the group must be created for a purpose other than to obtain group insurance

under key person insurance

the key employee is the insured, and the business is the -applicant -policyowner -premium payer -beneficiary in the even of death of a key employee, the business would use the money for the additional costs of running the business and replacing the employee. business cannot take a tax deduction for the expense of the premium. however, if the key employee dies, the benefits paid to the business are usually received tax free. no special agreements of contracts are needed except that the employees would need to give permission for this coverage.

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.

3. group life and employer sponsored plans

the premiums that an employer pays for life insurance on an employee, whereby the policy is for the employees benefit, ARE TAX DEDUCTIBLE TO THE EMPLOYER as a business expense. if the group life policy coverage is 50000 or less, the employee does not have to report the premium paid by the employer as income (not taxable to the employee) Any time a business is the named beneficiary of a life insurance policy, or has a beneficial interest in the policy, any premiums that the business pays for such indsurace are not tax deductible. therefore when abusiness pays the premiums for any of the following arrangements, the premiums are not deductible. -key employee insurance, -stock redemption or entity purchase agreement -split dollar insurance.

vesting

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

third part ownership

third party owner is a legal term used to indentify an individual or entirty that is not an insured under the contract, but that has a legally enforceableright under it. most involving this are written in business situations or for minors in which the parent owns the policy

social security

uses the quarter of coverage system to determine whether or not an individual is qualified for social security benefits. the type and amount of benefits are determined by the amount of creditys or Qcs a worker has earned. anyone working in jobs covered by social security or operating his/her own business may earn up to a maximym of 4 credits for each year of work. the FULLY INSURED refers to someone who has earned 40 quarters of coverage (the equivalent of 10 years of work) and is therefore entiltled to receive social security retirement, medicare, and survivor benefits.

4. surrenders

when a policyowner surrenders a policy for cash value, some of the cash value received may be taxable as income if the cash surrender value exceeds the amount of the premiums paid for the policy. when the owner withdraws cash value from a universal policy (partial surrender), both the cash value and the death benefit are reduced by the surrender.

5. accelerated benefits

when accelerated benefits are paid under a life insurance policy to a terminally ill insured, the benefits are received tax free. when accelerated benefits are paid to a chronically ill insured these benefits are tax free up to a certain limit. any amount received in excess of this dollar limit must be included int he insureds gross income.

noncontributory plan

when an employer pays all of the premiums. an insurer will require that 100% of the eligible employees be included in the plan.

contributory plan

when the premiums for group insurance are shared between the employer and employees. under this plan the insurer will require that 75% of eligible employees be included in the plan.

the following are taxation rules that apply to MECs cash value

-tax deferred accumulations -any distributions are taxable, including withdrawals and policy loans -distributions are taxed on LIFO basis (last in, first out) known as "interest first" rule -distribution before age 59.5 are subject to a 10% penalty.

tax treatment of insurance premiums, proceeds dividends

PREMIUMS are not tax deductible DEATH BENEFIT; -tax free if taken as a lump sum distribution to a named beneficiary -principal is tax free; interest is taxable if paid in installments (other than lump sum.

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. they are not policy options, they are separate contracts in which the insured sells that death benefit to a third party at a discounted rate. need to know -the insureds are referred to as viators. -viatical settlement provider means a person, other than a viator, that enters into a viatical settlement contract -viatical producers represent the providers -viatical brokers represent the insureds. viators usually receive a percentage of the policys face value from the person who purchases the policy. new owner continues to maintain premium payments and will eventually collect the entire death benefit.

social security benefits

also referred to as old age survivors disability insurance (OASDI) is a federal program enacted in 1935, which is designed to provide protection for eligible workers and their dependents against financial loss due to old age, disability, or death. with a few exceptions, almost all individuals are covered by social security. in some aspects, social security pays a role of feceral life and health insurance which is important to consider when determinging an individuals needs for life insurance.

nonprofit organization

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

Retirement plans. Qualified

and employer-sponsored qualified retirement plan is approved by the IRS, which then gives both the employer and employee benefits such as deductible contributions and tax deferred growth. they have the following characteristics: -designed for the exclusive benefit of the employees and their beneficiaries -are formally written and 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 vesting requirement

conversion privilege

another characteristic of group insurance is the 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 and a standard rate, based on the individuals attained age. group life policy can convert to any form of insurance issued by the insurer (usually whole life) except for term insurance. the death benefit will be equal to the face amount but the premium will be higher. the employee usually has a period of 31 days after terminating from the grou pin order to exercise the conversion option. during this time the emp.. is still covered under the original group policy.

life settlements

any financial transaction in which the owner of the life policy sells the policy to a third party for some form of compensation, usually cash. requires an absolute assignment of all rights to the policy from the original policy owner to the new policy owner. owners can sell the policy cuase they feel they don't need the coverage anymore, or the premium costs have grown too high to justify continuation of the policy. many are offered to life owners who are senior citizens with life threatenings illness and a short life expectancy.

policy leans

are not taxable to a business. unlike and individual taxpayer, a corporation may deduct interest on a life insurance policy loan for loans up to 50000

profit sharing plans

are qualified plans where a portion of the companys profit is contributed to a 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.

non qualified

are subject to the requirements regarding participation, discrimination, and vesting found in qualified plans. require no government approbal and are used as a means for an employer to discriminate in favor of a valuable employee with regard to employee benefits. they are accepted after tax contributions

liquidity

as a result of the cash accumulation feature, some life insurance policies provide liquidity to the policyowner. that means the policy cash alues can be borrowed against at any time and used for immediate needs.

amounts available to policyowner

as we already know, permanent life insurance provides living benefits. there are several ways in which policy owners may receive those living benefits from the policy.

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.

definitions

because settlements are not involved in the established of new life insurance coverage, the 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

2. business insurance needs

businesses use life insurance for the same reason individuals use life insurance: it creates an immediate payment upon the death of the insured. the most common use of life insurance by businesses is as an employee benefit, which serves as a protection for employees and their beneficiaries. there are also other forms of life insurance that can serve business owners and their survivors, and even protect the business itself. these include funding business continuation agreements, compensating executives, and protecting the business against fincanicial loss resulting from the death or disability of key employees.

turnover of the group

from the underwriting perspective, a group should have a steady turnover; younger, lower risk employees enter the group, and older, higherrisk employees leave.

Roth IRA

is a form of an individual retirement account funded with after tax contributions. an individual can contribute 100% of earned income up to an IRS specidied maximum, as with traditional IRAs. in contrast with a traditional IRA, roth contributes can continue beyond age 70.5 and distributes do not have to begin at age 70.5 Roth IRAs grow tax free as long as the account is open for at least 5 years.