CFP Insurance Module 3: Life insurance and annuities
Which of these regarding Registered Indexed-Linked Annuities (RILAs) is true?
Equity-indexed annuities (EIAs) are the most conservative of the three indexed products in that they offer some potential for gain and no risk of loss. RILAs with a floor option enjoy more potential for gain with some risk of loss. Lastly, RILAs with a buffer offer the greatest gain and loss potential.
Marcellus just annuitized his variable annuity and selected a life income with a 10-year period certain payout option. His first monthly income payment from the annuity is $1,500. If Marcellus dies after receiving income payments for 12 years, which of the following statements is CORRECT?
The answer is income payments will stop. Under a life annuity with a period certain payout option, income payments are guaranteed to continue for the annuitant's life. Payments continue beyond the annuitant's life only if the annuitant dies before the end of the guaranteed period.
Barb is the beneficiary of a $1 million life insurance policy. The insured recently died, and Barb is considering different settlement options. If her primary objective is to avoid paying any income taxes on the amounts received under the settlement option, which of the following settlement options will best meet her needs?
The answer is lump sum. Life insurance death benefits received in a lump sum are generally excluded from gross income. The payments under the other settlement options include both a taxable interest component and a tax-free principal component.
Which of the following is a dividend option?
The answer is paid-up additions. Using dividends to purchase small amounts of paid-up insurance is a dividend option. Reduced paid-up is a nonforfeiture option, while fixed payment and life income are settlement options.
Which of the following is a dividend option? A) Paid-up additions B) Fixed payment C) Life income D) Reduced paid-up
The answer is paid-up additions. Using dividends to purchase small amounts of paid-up insurance is a dividend option. Reduced paid-up is a nonforfeiture option, while fixed payment and life income are settlement options.
Frank and Julie recently purchased an annuity to help provide them with retirement income. They will pay the premiums with after-tax dollars, and they will begin receiving income payments from the annuity at age 65. After analyzing these facts, which type of annuity did Frank and Julie purchase?
The answer is deferred nonqualified annuity. They purchased a deferred annuity because income payments will begin in the future. Also, the annuity is nonqualified because the premiums are paid with after-tax dollars.
Brendan and Sasha, both age 28, are considering the purchase of an annuity to help them save monthly for their retirement at age 65. They want an annuity that will allow them to participate in the equities market, and because of their long-term investment horizon, they are not particularly concerned about safety of principal. Which of the following annuity products best meets their needs?
A variable annuity will allow the Brendan and Sasha to participate in the equities market. Fixed annuities are more suited for investors who are concerned with safety of principal. Because the couple wants to save monthly, a single premium deferred annuity is not a wise choice.
A client is in the process of purchasing a universal life insurance policy. The client desires an increasing death benefit. Which of the following universal life death benefit options will meet the client's needs?
Option B provides an increasing death benefit.
Which of the following life insurance riders is an extension of benefits rider?
The answer is critical illness rider. Riders for critical illness, long-term care, and waiver of premium for disability are examples of riders that are classified as extension of benefits riders. These differ from other riders in that they do not increase the death benefit, but rather, address other issues that allow the policy to remain in force when significant life events occur.
Joint life insurance includes which type of policies?
Both first-to-die and second-to-die policies are joint life policies. LO 3.2.4
Which of the following statements regarding dividend options is CORRECT? Cash received under the cash dividend option is not taxable. Dividends received under the dividend option are taxable.
The answer is I only. Cash received under the cash dividend option is not taxable because they are considered a return of premium. Dividends received under the dividend option are not taxable as they are also considered a return of premium.
Whole life policy illustrations exhibit all of the following except
The answer is anticipated earnings in variable subaccounts. Traditional whole life policies do not contain variable subaccounts. Whole life policy illustrations exhibit guaranteed premiums, cash values, and death benefits.
What of the following types of life insurance have historically been used as mortgage protection?
The answer is decreasing term life insurance. Decreasing term life insurance features a level premium with a decreasing death benefit and has historically been used for mortgage protection because the death benefit can be set up to track the declining principal balance on a mortgage.
Which of the following annuities includes a participation rate feature?
The answer is equity-indexed. Equity-indexed annuities have participation rates that determine how much of the increase in the underlying index will be used to calculate the interest rate credited to the owner.
Ruby, 30, wants to purchase an annuity by making monthly premium payments until she retires at age 60. She wants to be able to vary the amount of the premium payments depending on her disposable income. She wants to attain a guaranteed minimum return on her investment, but also wants to be able to earn returns linked to the stock market. Which of the following annuities best meets her needs?
The answer is flexible premium deferred equity-indexed annuity. Because the client wants to make varying premium payments over a period of years, she needs a flexible premium deferred annuity. An equity-indexed annuity will provide her with both a guaranteed minimum return and the opportunity to earn returns linked to the stock market.
Which of these types of life insurance policies pay a death benefit only if the insured dies during a specific time period? Term life insurance Ordinary life insurance Limited-pay life insurance
The answer is I only. Only a term life insurance policy pays a death benefit only if the insured dies within a specified period. In the case of term life insurance, the insured must die before the term expires for the beneficiary to collect the death benefit. Ordinary life and limited-pay life policies are types of permanent life insurance.
Which of the following factors should be analyzed when assessing the cost of a universal life insurance policy? The actual interest rate credited to the policy The actual mortality charge assessed to the policy The guaranteed interest rate specified in the policy
The answer is I, II, and III. All of these factors should be analyzed when assessing the cost of a universal life insurance policy.
Which of the following statements regarding the accidental death benefit (ADB) rider is CORRECT? The ADB rider is no longer synonymous with the term double indemnity. For large amounts of life insurance, the maximum amount of ADB rider offered by an insurance company is usually substantially less than the face amount.
The answer is both I and II. Both statements are true of the ADB rider.
All of the following factors are key considerations in determining a client's profile for life insurance purposes except
The answer is education level. Age, income, and health are important factors in determining appropriate life insurance products. Though education level may affect earning capacity, it is relatively unimportant in terms of the life insurance profile. LO 3.1.1
A client is in the process of purchasing a universal life policy. The client desires a level death benefit. Which of the following universal life death benefit options would help the client achieve this goal?
Option A pays a level death benefit.
Which of the following are features of a straight life, fixed, single premium immediate annuity? Payments do not increase with inflation. Payments stop when the annuitant dies. The annuitant may die before a return of the principal is realized. The income level may drop if the underlying investments go down in value.
Statement IV is incorrect. Payments from a straight life, fixed, single premium immediate annuity are fixed and are not dependent on underlying investments.
Which of the following statements regarding the disadvantages of annual renewable term life insurance are CORRECT? Term life insurance does not develop cash values or a savings plan. Term life insurance becomes increasingly uneconomical as the policyowner grows older. At the end of a stipulated period of time, the policyowner may be declined for renewal coverage. Initially, term life insurance has a higher premium than whole life insurance for the same amount of coverage.
The answer is I, II, and III. Initially, term life insurance has a lower premium than whole life insurance. Over time, however, the cost of a term life insurance policy will far exceed that of a whole life policy with the same face amount of coverage.
Which of the following is NOT a characteristic of term life insurance?
The answer is interest is accumulated on the cash value. Term life insurance does not have a cash value.
Which of the following is NOT a whole life insurance policy dividend option?
The answer is life income option. Life income is a settlement option, not a dividend option.
The final expenses of an estate include all of the following except
The answer is the decedent's investments. The decedent's investments would be considered assets, not expenses. Though disposition of these assets could possibly incur some expense, the assets themselves are not expenses.
All of the following statements concerning categories of annuities are correct except A) an annuity may be paid periodically in a fixed amount for a period determined by the insurer. B) a straight life annuity provides periodic (usually monthly) income payments that continue as long as the annuitant lives and terminates at the annuitant's death. C) a deferred annuity is one in which the first benefit payment is made one payment interval after the date of purchase. D) a joint-and-last-survivor annuity provides income that ceases only upon the last death among the covered lives.
The answer is a deferred annuity is one in which the first benefit payment is made one payment interval after the date of purchase. A single premium immediate annuity is one in which the first benefit payment is made one payment interval after the date of purchase.
Which of the following life insurance policy riders was developed in response to viatical settlements?
The answer is accelerated death benefits rider. The accelerated death benefits rider was developed in response to increased demand for viatical settlements (where policyowners sell their life insurance policy for a portion of the value of the death benefit). Once an insured meets the definition of terminally ill per the policy, a portion of the death benefits as defined by the policy (ranging between 25% and 98%) may be accessed.
Which of the following dividend options may create an income tax liability for the policyowner?
The answer is accumulate at interest. While dividends are not taxable since they are considered a return of premium, interest earned on accumulated dividends may create an income tax liability to the extent the cash value and interest exceed the policyowner's basis in the policy. Cash is a return of premium and not taxed. With paid-up additions and one-year term, the dividend is effectively "spent" as it is used to acquire additional death benefit and is not taxed.
Which of the following statements regarding the contestable clause of a life insurance policy is CORRECT? Generally, the clause prevents the insurance company from contesting the validity of the policy after it has been in force for two years. The validity of the contract cannot be questioned after the stated period except in limited situations.
The answer is both I and II. Both of these statements are correct.
Which of the following statements regarding the misstatement of age clause in a life insurance policy is CORRECT? The face amount of the policy will be adjusted to the amount of insurance that the premium paid would have purchased based on the insured's correct age. In many cases of misstatement of age, insureds understate their age to reduce the premiums.
The answer is both I and II. By understating their age, insureds could reduce life insurance premiums. The misstatement of age clause provides that if a misstatement of the insured's age is discovered after the policy is issued, the insurance company can adjust the face amount of the policy to an amount that the premium would have purchased had the insured's age been stated correctly.
Which of the following is a life insurance dividend option?
The answer is cash. Taking the dividend in the form of cash (the insurance company mails a check) is a dividend option. Cash surrender and extended term are nonforfeiture options. Joint income is a settlement option.
Which of the following is the definition of human life value in life insurance planning?
The answer is the present value of the family's share of the breadwinner's future earnings. A human life value is a present value amount and represents the family's share of the present value of a breadwinner's future earnings that would be lost due to death.
Which of the following factors should be considered when determining the most appropriate type of life insurance? The duration of the need The amount of disposable income available to the proposed policyowner The financial discipline of the proposed policyowner The risk tolerance level of the proposed policyowner
All of these factors should be considered in determining what type of life insurance is most appropriat
Which of the following items should be considered when reviewing an existing life insurance policy for possible replacement? The client's risk tolerance level The existing policy's relative value The companies' A.M. Best, Inc., and other ratings Any possible changes in the client's insurability
All of these must be considered when evaluating an existing life insurance policy for possible replacement.
Donald is married and has two small children. Both he and his spouse are employed outside the home. They spend both incomes, have a mortgaged home, keep credit cards with outstanding balances each month, have little savings, and care for aging parents. Based on Donald's current life risk exposures, which of the following can be addressed with life insurance? Death before debt repayment Death before accomplishing personal goals Death of an income earner Estate tax liability
In this situation, the risks Donald should address are paying off debt and replacing lost income. Given these facts, there is no current concern for estate taxes, and personal goals are not something that can be insured against.
Which of the following life insurance policy riders pays an additional death benefit if the insured dies accidentally?
The answer is accidental death benefit rider. The accidental death benefit rider pays an additional death benefit if the insured dies accidentally (e.g., in a plane crash).
All of the following are dividend options provided by a whole life insurance policy except
The answer is life income option. The life income option is a settlement option, not a dividend option
Universal life insurance gives policyowners the ability to adjust the premiums. the death benefit. the cash values. the policy expenses.
Universal life insurance policies allow policyowners to adjust the premiums, death benefit, and cash values. They do not allow policyowners to change the policy expenses.
When gathering client data to determine life insurance needs, which of the following are relevant?
A) All of these B) Risk tolerance C) Survivors' needs D) Client goals and objectives Explanation The answer is all of these. Each of the listed items is relevant when determining life insurance needs.
All of the following are true for dividends left to accumulate at interest except
The answer is they are taxable as earned. One of the benefits of life insurance cash values is that they grow on a tax-deferred basis, so the statement that they are taxable as earned is false.
Which of the following statements regarding variable annuity living benefit riders is CORRECT? A) The guaranteed minimum withdrawal benefit (GMWB) is the most popular rider currently with almost 70% of annuity buyers selecting it. B) The guaranteed minimum accumulation benefit (GMAB) guarantees that there will be a minimum account value at the end of a specified guaranteed date. C) None of the answers are correct. D) The guaranteed lifetime withdrawal benefit (GLWB) is the most popular rider currently with almost 70% of annuity buyers selecting it.
The guaranteed lifetime withdrawal benefit (GLWB) is the most popular rider currently with almost 70% of annuity buyers selecting it.
Which of the following factors should be considered when utilizing the financial needs analysis method in determining the required amount of life insurance? The family expenses that will remain after the wage earner dies The value of the wage earner's life The income that can be generated by the surviving spouse The number of dependents
The value of the life lost is not considered in the needs approach. Rather, the focus is on the financial needs and remaining resources of the surviving dependents.
The life insurance needs analysis method considers any recurring expenses and any unusual expenditures that may result from a person's death. Which of the following are variables that are considered when conducting this analysis? Final expenses Readjustment and dependency period funds Mortgage fund Education fund(s)
The answer is I, II, III, and IV. All of these are components used in the life insurance needs analysis method.
Which of the following are the primary factors that should be considered when deciding to keep or replace a policy? Lower cash value or dividends with a new policy New policy acquisition costs Length of time the insurer has been in business Agent service
The answer is I, II, and IV. The financial strength of the insurer, rather than the length of time the insurer has been in business, is the primary concern.
Antonio is looking for ways to reduce expenses in retirement. He has been paying premiums on a whole life policy. His health is not great, and his life expectancy will be shorter than a normal person his age. Which of the following strategies and reasons would be appropriate for Antonio?
Antonio could convert his policy to an extended term policy. According to the insurance company, his policy would last past a normal life expectancy, and the full death benefit would go to his heirs without additional out-of-pocket expenses, as long as he passes away within the extended term period. Because of his shortened life expectancy, taking a cash surrender would provide the least amount of money for his heirs. Utilizing an extended term policy would create the most resources for his heirs. The AD&D rider would do nothing to benefit Antonio.
Jalen purchased a term life insurance contract with a death benefit of $200,000 and a two-year suicide clause. He committed suicide less than six months after he purchased the policy. What is the required payment from the insurance company to the beneficiary?
The answer is the insurance company would return all premiums without interest to the beneficiary. The suicide clause stipulates that, if the insured commits suicide within a specified period (usually two years), the insurance company is only liable for a return of the insured's premium payments, not the policy's death benefit.
All of the following statements concerning the methods of providing life insurance protection are correct except
A) because death rates rise at an increasing rate as the insured ages, the net premium for term life insurance also rises at an increasing rate. B) term life insurance is a good choice for people who need permanent life insurance protection. C) term life insurance is a form of life insurance in which the death proceeds are payable if the insured dies during a specified period and nothing is paid if the insured survives to the end of that period. D) an insurance company can use two approaches to provide life insurance protection: term life insurance, which is temporary, or whole life insurance, which is permanent protection that builds up a cash reserve or savings component. Explanation The answer is term life insurance is a good choice for people who need permanent life insurance protection. Term life insurance may not be appropriate for meeting a permanent life insurance need because the protection expires at the end of the term.
Michelle purchased a $100,000 life insurance policy on her life. To date, she has paid $50,000 in total premiums and received $10,000 in dividends. The policy currently has a net cash value of $15,000 and is subject to a $30,000 outstanding loan. If Michelle decides to surrender the policy, she will realize a gain o
Explanation The answer is $5,000. Michelle's gain upon the surrender of the policy would be $5,000. She has a basis in the policy of $10,000, calculated as follows: total premiums paid ($50,000) minus outstanding loan ($30,000) minus dividends received ($10,000) equals $10,000. Dividends received represent a return of premiums and, therefore, reduce the policyowner's basis in the policy. Michelle has a gain upon surrender of $5,000, calculated as follows: net cash value ($15,000) minus basis in policy ($10,000) equals gain upon surrender ($5,000).
Jorge and Margarita would like to know how much life insurance they need to pay for college for their six-year-old daughter, Aida, when she is 18. Average college expenses today are $22,500 per year, and they believe these costs will increase by 5% per year. Jorge and Margarita believe they can get a 7% return on their savings. What amount should they allocate today to have enough to pay for all four years of Aida's college costs?
Explanation The answer is $67,777 (rounded). The following is a three-step calculation. The keystrokes for this problem are as follows: Step 1: 12, N; 5, I/YR; 22,500, +/-, PV; solve for FV = 40,406.7673 Step 2: set for BEG mode; 4, N; 1.07 ÷ 1.05 = 1.019 - 1 = 0.01905 × 100 = 1.9048, I/YR; 40,406.7673, +/-, PMT; 0, FV; solve for PV = 157,151.6738 Step 3: 12, N; 7, I/YR; 0, PMT; 157,151.6738, FV; solve for PV = 69,777.22 LO 3.4.1
Which of the following items are covered, but are subject to a specific dollar limit, under the personal property provision of a homeowners policy? Furs Jewelry Coin collections
The answer I, II, and III. All of these items have dollar limits under the standard homeowners policy. To increase this limit to an agreed-upon value, items need to be scheduled or endorsed.
ll of the following are true for dividends left to accumulate at interest except A) they may be allowed to accumulate on a tax-deferred basis until they exceed premiums paid. B) they can increase the death benefit. C) they can be used to purchase paid-up additional insurance. D) they are taxable as earned.
The answer is they are taxable as earned. One of the benefits of life insurance cash values is that they grow on a tax-deferred basis, so the statement that they are taxable as earned is false
Which of the following correctly identifies the primary purpose of a buy-sell agreement funded with life insurance?
The answer is to allow the business to purchase a deceased owner's share of the business from the estate. The primary purpose of a buy-sell agreement funded with life insurance is to provide the cash required by the agreement to allow the surviving partner(s) to buy the deceased partner's share from his heirs or estate in the event he dies before retiring.
Assume Greg dies of a heart attack, and Jackie receives the $50,000 death benefit provided by his group life insurance policy and $150,000 from his individually owned universal life insurance policy as lump-sum payments. What amount must Jackie include in her gross income
The answer is $0. When Greg dies, Jackie receives a $50,000 death benefit under his 20-year level term policy and a $150,000 death benefit (two times his salary of $75,000) under his group life policy. Because she receives the benefits in one lump sum, they are not included in her gross income.
Geraldo purchased a participating whole life insurance policy 15 years ago and now wishes to receive the policy's cash surrender value (CSV). He gives you the following information to assess the potential taxation of the surrender: CSV: $80,000 Dividends received: $12,500 Premiums paid: $60,000 What is the amount of cash value that is taxable to Geraldo and what is the character of this income?
Geraldo paid $60,000 in premiums. However, life insurance dividends are considered a return of premium, so his adjusted basis in the contract is $47,500. The current cash surrender value is $80,000. $80,000 - $47,500 = $32,500; therefore, his gain in the contract is $32,500. However, due to IRS rules, that amount will be taxed as ordinary income, not capital gain. $7,500 of his premiums paid are attributable to the cost of insurance. LO 3.2.5
Rosaline was the beneficiary of her father's variable life insurance policy. The policy had a face amount of $500,000, and Rosaline's father had a basis in the policy of $300,000. During her life, Rosaline's father had invested the cash value in subaccounts containing blue-chip stocks, which achieved significant capital appreciation during most of the years the policy was in effect. When her father died, Rosaline received the $500,000 death benefit in a lump sum. How much of the $500,000 death benefit must Rosaline include in her gross income?
The answer is $0. Lump-sum death benefits received from a life insurance policy as a result of the insured's death are generally excludable from gross income.
Carolyn was the beneficiary of her spouse's life insurance policy with a face amount of $1,000,000. She elected the single life annuity settlement option. The settlement option will pay her $4,500 per month, and her life expectancy is 30 years. How much of each monthly payment is taxable?
The answer is $1,722 (rounded). The total amount Carolyn will receive from the settlement option is $1,620,000 ($4,500 × 360). Her tax basis is $1,000,000, so her exclusion ratio is 0.6173 ($1,000,000 ÷ $1,620,000). Therefore, $2,777.85 of each payment is excluded from gross income ($4,500 × 0.6173), and the remainder ($1,722.15) is taxable. In addition, the taxable income may be subject to the 3.8% Medicare contribution tax.
In the event of his death, Jim wants to provide funding for his daughter Lauren, 4, to attend four years of college, starting at age 18. The current annual cost of tuition is $25,000. Assume inflation of 6.5% and after-tax earnings of 6%. If Jim wants to have enough life insurance to assure adequate funds for Lauren when she begins college (should he die today), approximately how much insurance should he purchase for this need alone? (Round your answer to the nearest dollar.)
The answer is $107,568. The solution to this requires using the three-step process used in education funding. Step 1: 14, N; 6.5 I/YR; 25,000, +/-, PV, and solve for FV = 60,371.85 Step 2: Set for BEG mode; 4, N; 1.06 / 1.065 = .9953 - 1 = -.004695 × 100 = -0.4695, I/YR; 0, FV (to clear it out), 60,371.85, +/-, PMT, and solve for PV = 243,201.44 Step 3: 14, N; 6, I/YR; 243,201.44, FV, 0, PMT (to clear it out), and solve for PV = 107,568
Which of the following statements match the appropriate use of a settlement option to meet the client's objective? Ralph's estate attorney has talked with him about the possibility of disclaiming assets. He has no need of funds and is waiting to get clarity from the attorney. He picks interest only. Mary's resources are quite meager, and she is concerned about her income lasting her entire life. She has no heirs to be concerned about. She is concerned about creditors possibly trying to get settlements from these funds. She chooses installments for a fixed period. Mario is the beneficiary of a substantial policy. He is a very conservative investor. He would like to receive some income for his life, but he would also like it to continue to support his disabled duaghter. He is uninsurable and has not been able to purchase coverage to provide for her lifetime. He is concerned that someone may take the resources from her after his death. He chooses a life income option of joint and survivor income with his daughter. Doreen is married and her husband is not in great health, so his life expectancy is less than 10 years. She does not wish to manage money and would like to just receive a check. S
The answer is I and III. II is incorrect because Mary would be better off with a straight life option. She has no heirs to be concerned about, and this would provide both the highest payout and some protection from creditors. They could attach the income stream but not the lump sum. IV is inappropriate for Doreen because the best option would be a life income option to annuitize the death benefit using life with period certain or refund certain, depending on the quote received from the company. That would provide her with the highest payout while still protecting her husband for the next 10 years.
Which of the following statements regarding the accelerated death benefit rider is CORRECT? A source of funds for a terminally ill individual is to access a percentage of the death benefit of an existing policy. The advance received is taxable income. The main advantage of the accelerated death benefit rider is that terminally ill insureds may obtain advances of death benefits and use them for a variety of personal needs.
The answer is I and III. The advance is received income tax-free. Note, too, that the receipt of the advance reduces the face amount of the insured's life insurance policy, which may pose a problem to surviving dependents.
Which of the following statements regarding fixed annuities is CORRECT? The funds are held in the insurance company's general account, and the insurance company bears all of the investment risk. The funds are held in subaccounts, and the owner of the fixed annuity bears all of the investment risk. The fixed annuity is designed for a conservative investor who is more concerned with safety of principal than keeping up with inflation.
The answer is I and III. The fixed annuity pays a specified (or fixed) interest rate over a given period and provides more security of principal than a variable annuity, but it does not offer the potential for growth. The funds are held in the insurance company's general account, and the insurance company bears all of the investment risk.
Charles was the beneficiary of his mother's life insurance policy. The face amount of the policy was $500,000, and there was an outstanding policy loan of $25,000 when Charles's mother died earlier this year. The settlement option for the policy was interest only, payable annually. This year, Charles receives his first payment of $14,250 from the insurance company. Which of the following statements regarding this arrangement is CORRECT? The death benefit payable under the policy was $475,000. The payment of $14,250 consists partly of interest and partly of principal. Charles must include $475,000 in this year's gross income. Charles must include $14,250 in this year's gross income
The answer is I and IV. The outstanding policy loan of $25,000 reduces the death benefit payable under the policy to $475,000. Because the settlement option was interest only, the entire payment of $14,250 consists of interest, and the $475,000 principal amount remains on deposit with the insurance company. The principal amount of a life insurance death benefit is income tax free. Charles must include $14,250 in this year's gross income because the payment consists entirely of interest. In addition, the $14,250 of taxable income may be subject to the 3.8% Medicare contribution tax.
Which of the following questions regarding policy replacements is CORRECT? Replacing a cash value policy with another cash value policy usually is not advantageous. The new policy will have the same contestable and suicide clause periods as the existing policy.
The answer is I only. Statement II is incorrect. The new policy will have to pass through a contestable period and a suicide clause period, through which the existing policy already may have passed.
Which of the following statements regarding policy illustrations is CORRECT? Footnotes should be evaluated as an integral part of the illustration. The guaranteed columns present a worst-case scenario because they assume the highest mortality and expense charges along with the highest interest rate.
The answer is I only. The guaranteed columns present a worst-case scenario because they assume the highest mortality and expense charges along with the lowest, not highest, interest rate.
Dan owns a life insurance policy on his own life. The beneficiary is his daughter, Rose. Dan unexpectedly dies, and Rose receives the death benefit in a lump-sum payment. Which of the following statements regarding the tax treatment of the death benefit is CORRECT? The life insurance death benefit will be included in Dan's gross estate for estate tax purposes. The life insurance death benefit will be included in Rose's gross income
The answer is I only. The life insurance death benefit will be included in Dan's gross estate because he had incidents of ownership in the policy. Generally, payments are excluded from the beneficiary's gross income.
Which of the following are risk exposures that may indicate a need for life insurance on a primary income earner? Final expenses Debts and mortgages Education expense Support of elderly parents
The answer is I, II, III, and IV. All of these are risk exposures. Other risk exposures include dependents' need for income and the funding of family goals.
When evaluating life insurance needs, which of the following factors should be considered by a married person with children? The length of time until Social Security or other benefits will be available to the surviving spouse The duration of financial support for the surviving spouse Whether the surviving spouse and children have the financial resources needed to avoid financial hardship Whether adequate financial resources are available to the children to pay for higher education costs
The answer is I, II, III, and IV. All of these factors should be considered. Another factor is whether the surviving spouse will be self-supporting at a level that will allow for a satisfactory standard of living.
Which of the following statements regarding different types of annuities is CORRECT? The owner of a variable annuity contract directs the investment of the contract's cash value among subaccounts and bears the investment risk. The variable annuity prospectus contains all of the variable annuity's investment choices as well as the fees, expenses, investment objectives, investment strategies, risks, performance, and pricing for each investment choice. A bonus annuity may offer a bonus in the form of a credit that may be added to the initial premium (investment). An equity-indexed annuity (EIA) is a specialized type of annuity whereby the insurance company credits the contract owner with a return that is based on changes in an equity index, such as the Standard & Poor's 500 Index.
The answer is I, II, III, and IV. In a variable annuity, the owner of the contract directs the investment of the contract's cash value among subaccounts and bears the investment risk. Any financial planner who solicits or presents a variable annuity to a client should read and understand the variable annuity prospectus. The prospectus contains, but is not limited to, all of the variable annuity's investment choices as well as the fees, expenses, investment objectives, investment strategies, risks, performance, and pricing for each investment choice. Any type of annuity that offers a credit based on a percentage of the premium paid is considered a bonus annuity. EIAs combine the features of traditional insurance products (e.g., guaranteed minimum return) with those of a security (e.g., returns linked to equity markets).
Whole life insurance nonforfeiture options allow a policyowner to surrender a whole life insurance policy and receive the net cash value (cash value less any applicable surrender charges and/or outstanding policy loans). stop paying premiums on a whole life insurance policy and exchange the net cash value for a reduced paid-up single-premium permanent life insurance policy. stop paying premiums on a whole life insurance policy and use the net cash value as a single premium to purchase a paid-up term life insurance policy with a face amount equal to the face amount of the original policy for a specified period.
The answer is I, II, and III. There are three common nonforfeiture options available when surrendering or discontinuing premium payments on a whole life insurance policy. Under the cash surrender value option, a policyowner can surrender the policy and receive the net cash value. By electing the reduced paid-up insurance option, a policyowner leaves the net cash value of the original life insurance policy with the company and receives a smaller amount of fully paid-up insurance of the same type. If the policyowner chooses the extended term insurance option, the net cash value is used as a net single premium to purchase a paid-up term insurance policy.
Which of the following statements regarding various types of life insurance is true? Whole life is always more expensive than term, cash value can be used as a savings plan and accessed for emergencies, and there is low risk and low return on investments. Universal life has flexible premium payments, an adjustable death benefit, and an unbundled structure. It also provides access to cash values for emergencies; if inadequate deposits are made, the client will need to either increase premiums or allow the policy to lapse. Variable life has a guaranteed premium, guaranteed death benefit, and guaranteed cash value. The owner can choose from a number of investment options. High policy expenses may reduce the returns. Term insurance does not provide cash accumulation; it provides more coverage per premium dollar than any other form of coverage. It may be too expensive for clients to retain after retirement.
The answer is I, II, and IV. The statements regarding whole life and universal life and term insurance are true. The incorrect statement is related to variable life. Variable life does have a guaranteed premium and death benefit, but it doesn't have guaranteed cash values.
Which of the following statements regarding various types of life insurance is true? Whole life is always more expensive than term, cash value can be used as a savings plan and accessed for emergencies, and there is low risk and low return on investments. Universal life has flexible premium payments, an adjustable death benefit, and an unbundled structure. It also provides access to cash values for emergencies; if inadequate deposits are made, the client will need to either increase premiums or allow the policy to lapse. Variable life has a guaranteed premium, guaranteed death benefit, and guaranteed cash value. The owner can choose from a number of investment options. High policy expenses may reduce the returns. Term insurance does not provide cash accumulation; it provides more coverage per premium dollar than any other form of coverage. It may be too expensive for clients to retain after retirement..
The answer is I, II, and IV. The statements regarding whole life and universal life and term insurance are true. The incorrect statement is related to variable life. Variable life does have a guaranteed premium and death benefit, but it doesn't have guaranteed cash values.
Policies that pay dividends are said to be participating policies. Which of the following policies pay dividends?
The answer is whole life policies. Only participating whole life policies pay dividends that are essentially a return of premium when a mutual life insurance company has better-than-expected operating results. While universal life policies pay interest, neither universal nor term life policies pay dividends.
Whole life policy illustrations exhibit all of the following exceptWhich one of the following factors is the only true statement about policy replacement? The new policy's contestable clause will be waived. The new policy will likely have higher initial costs.
The answer is II only. The majority of a life insurance policy's costs are included in the early years of the policy. As policies age, the expenses decrease. A new policy will have a new contestable clause, initial expenses, and the potential for a substandard rating, as it will be underwritten at the insured's current age and health. And, if the new policy has surrender charges, those will apply even if the policy being replaced has no surrender charge remaining.
Reginald is the beneficiary of his father's life insurance policy. The face amount of the policy is $250,000, and Reginald selects the single life annuity settlement option. His life expectancy is 20 years. Assuming Reginald lives for only 12 years after payments begin, which of the following statements regarding payments to him under this settlement option is CORRECT? Payments will continue to Reginald's designee for an additional eight years. A portion of each payment Reginald receives is includible in his gross income. Any unrecovered tax basis in the settlement option that remained at Reginald's death is deductible on his final income tax return.
The answer is II only. Under the single life annuity settlement option, the annuity payments stop when the beneficiary dies. Each payment includes a taxable interest component and a nontaxable principal component. A beneficiary of an annuity from a life insurance settlement option who dies before his life expectancy cannot deduct any unrecovered basis.
Claire, 49, owns a life insurance policy. Her basis in the policy is $50,000, and the cash value is $75,000. The policy is not a modified endowment contract. Claire is dissatisfied with the policy and is interested in surrendering it or exchanging it for another financial product, but she does not want to incur an income tax liability. Which of the following transactions would allow Claire to accomplish her goal? Surrender the policy for $75,000 in cash and purchase another policy Exchange the policy for another life insurance policy Exchange the policy for a variable annuity Exchange the policy for a qualified long-term care insurance policy
The answer is II, III, and IV. Statements II, III, and IV describe transactions that can be accomplished under Section 1035 of the Internal Revenue Code without recognizing any gain or loss. Statement I (surrendering the policy for cash and purchasing another policy) would result in taxable income of $25,000.
Which of the following definitions describes an accelerated death benefit rider found in insurance policies?
The answer is a benefit rider that pays a portion of the death benefit to an individual deemed terminally ill, usually with a life expectancy of 24 month or less. If the accelerated death benefit rider is included in an existing policy, it serves as a source of funds for either a terminally or chronically ill insured. This rider typically provides that, if an individual is terminally ill, usually with a life expectancy of 24 months or less, the insurance company will pay out a portion of the death benefit. The most common amount paid is 50% of the face amount. The other 50% is paid out as an income tax-free death benefit to the insured's named beneficiary.
A life insurance contract with low fixed premiums during the first three to five years and higher fixed premiums for the remainder of the policy period is called
The answer is a modified premium whole life policy. Modified premium whole life policies are designed for individuals, such as young professionals, who want permanent life insurance but are not yet able to afford the higher premiums of traditional whole life insurance. The increase to an ultimately higher premium should match an anticipated increase in the policyowner's income.
Which of the following life insurance riders allows for additional term life coverage on a cash value policy for the named insured?
The answer is a term rider. The term rider allows for additional term coverage on the named insured on a cash value policy. A spouse or children's rider allows for additional term life coverage on a person other than the named insured. A guaranteed insurability rider allows the named insured to purchase additional cash value coverage at specific times.
Which of the following statements concerning federal income tax and annuities is CORRECT? The premium invested in the annuity accumulates on a tax-deferred basis. Generally, amounts received as withdrawals during an annuity's accumulation period are taxable, to the extent the withdrawal represents gains earned by the contract.
The answer is both I and II. When contributions are left to accumulate, the earnings credited to the contract are not taxable until withdrawn by the annuitant.
Norberto and Maria are considering purchasing an annuity to provide additional retirement income, but they are concerned about needing to withdraw funds from the annuity before they retire. Which of the followings statements regarding withdrawals from their annuity is CORRECT? Withdrawals will consist of taxable earnings until all the earnings have been withdrawn (LIFO rule). Withdrawals may be subject to a 10% penalty tax if taken before age 59½.
The answer is both I and II. Withdrawals will consist of taxable earnings until all the earnings have been withdrawn (LIFO rule), and withdrawals may be subject to a 10% penalty tax if taken before age 59½.
A client just purchased a house and took out a $300,000 mortgage with a repayment term of 15 years. She wants to purchase a life insurance policy that will provide a death benefit equal to the unpaid mortgage balance if she dies with a mortgage. She wants a level premium and does not feel she will need life insurance once the mortgage is paid off. Which of the following life insurance policies best meets the client's needs?
The answer is decreasing term life insurance. A decreasing term life insurance policy is the best choice for this client because it provides a level premium and a death benefit that decreases over time. Historically, this type of policy has been used as mortgage protection insurance because the decrease in death benefit approximates the declining principal as mortgage payments are made by the homeowner. Level term life insurance provides fixed premiums, but the face amount remains constant. Decreasing whole life insurance is not a type of policy. Whole life insurance is not appropriate because, although the premiums are fixed, the face amount remains constant, and the policy provides a cash value.
Which of the following term life insurance policies is designed to protect the insured's mortgage?
The answer is decreasing term life insurance. Decreasing term life insurance features a level premium with a decreasing death benefit. This type of policy has been historically used as mortgage protection insurance because the decrease in policy death benefit roughly approximates the declining principal balance as mortgage payments are made by the homeowner.
Which of the following insurance policy riders prevents the policy from lapsing as a result of nonpayment of premiums during the insured's disability?
The answer is disability waiver of premium. In most cases, the disability waiver of premium rider requires total disability (as defined in the policy) before the rider is triggered. The guaranteed insurability rider allows the insured to purchase additional insurance, regardless of insurability, at specified intervals up to a specified maximum age.
Under which life insurance settlement option are proceeds paid to the beneficiary at a set dollar amount per month until all principal and interest are exhausted?
The answer is fixed amount. Under the fixed-amount option, a fixed amount is paid until both the principal and interest are exhausted. The amount paid remains unchanged, but the period in which the payments are made depends on how much is to be paid each period.
In calculating life insurance needs, which of the following can be defined as the present value of the family's share of the decedent breadwinner's future earnings?
The answer is human life value. Human life value is the family's share of the earnings of the breadwinner. The projected value of the decedent breadwinner's future earnings is discounted to its present value to determine the human life value.
Azumi purchased an annuity for $26,000 in the current year. Under the contract, Azumi will receive $300 each month for the rest of her life starting next month. According to actuarial estimates, Azumi will live long enough to collect 100 payments, and she will receive a 3% return on her original investment. Which of the following statements regarding the taxation of Azumi's annuity income is CORRECT?
The answer is if Azumi collects more than 100 payment, all amounts received after the 100th payment must be fully included in her gross income. Payments beyond projected life expectancy are fully taxable unless the annuity payments began on or before December 31, 1986. If the annuitant dies before life expectancy and has not completely recovered her basis, the unrecovered basis is deductible on the annuitant's final income tax return as a miscellaneous itemized deduction not subject to the 2% of adjusted gross income floor. For contracts where annuity payments began after December 31, 1986, the exclusion ratio is only used to the extent of recovering the basis; therefore, the taxpayer will not use the exclusion ratio for payments made after life expectancy and will be taxed on the entire amount.
Nancy and Joe are married and in need of permanent life insurance. They anticipate their incomes substantially increasing in the next three to eight years, but right now, they are on a tight budget. Which of the following is the best form of permanent life insurance for the couple?
The answer is modified premium whole life. With a modified premium whole life insurance policy, premiums are lower for the initial three to five years after issue and then increase once thereafter. As such, modified whole life is simply an ordinary life policy with a unique premium payment structure that accommodates a policyowner who expects to experience an increasing salary in the near future.
Which of the following dividend options allows for acquiring additional insurance with no underwriting?
The answer is paid-up additions. With the paid-up additions dividend option, a small amount of permanent insurance with a cash value equal to the dividend is purchased with no underwriting required. The paid-up additions and one-year term dividend options both allow the policyowner to acquire more death benefit at no additional cost, other than using the dividend instead of taking it as cash.
Esmeralda purchased an indefinite duration life insurance policy that has a guaranteed cash value and pays annual dividends. Which of the following types of life insurance did Esmeralda purchase?
The answer is participating whole life. Dividends are essentially a return of premium when actual policy expenses are less than anticipated. Generally, mutual life insurance companies offer participating policies that pay dividends. Participating whole life policies are an example of this type of policy. Universal life policies pay interest, but not dividends. Term life has no cash value, and therefore, does not pay dividends. Endowment policies are not participating, and therefore, do not pay dividends.
Which of the following life insurance policies is typically used to pay any federal estate tax obligation?
The answer is second-to-die life. Second-to-die life insurance is typically used to pay any federal estate tax obligation. First-to-die life is typically used to arrange buy-sell or business continuation agreements.
Dawn, 55, recently received a lump sum settlement of $100,000 from a civil suit she filed against a drunk driver. She wants to invest the $100,000 in an annuity that will begin making monthly payments to her when she retires at age 65. She does not expect to make any additional premium payments to the annuity. Dawn has a high risk tolerance and wants to be able to invest her premium in subaccounts of her own choosing. She is not interested in receiving a guaranteed minimum return on her investment. Which of the following annuities best meets Dawn's needs?
The answer is single premium deferred variable annuity. Because Dawn expects to make only one premium payment and wants income payments to begin in the future, a single premium deferred annuity best meets her needs. She needs a variable annuity because neither a fixed annuity nor an equity-indexed annuity will allow her to invest in subaccounts. LO 3.6.1
Which of the following statements regarding participating and nonparticipating life insurance is CORRECT? A) Mutual companies are owned by their stockholders and usually offer nonparticipating policies. B) Nonparticipating life insurance is a policy in which dividends are paid only on the excess of premium. C) Stock companies are owned by the stockholders and usually offer nonparticipating policies. D) Participating life insurance is a policy in which no annual dividends are paid to the policyowners.
The answer is stock companies are owned by the stockholders and usually offer nonparticipating policies. Dividends are not paid on nonparticipating life insurance policies. Mutual companies are owned by their policyholders and may offer participating policies.
Which of the following is an appropriate economic assumption that should be considered when evaluating a client's life insurance needs?
The answer is the inflation rate. Inflation is a broad economic assumption that needs to be considered when evaluating a client's life insurance needs.
The human life value method used to calculate life insurance needs
The answer is uses an individual's income-earning ability as the basis for determining the amount of necessary life insurance. The human life value method projects the income a person will earn during her employment career and then uses a discount rate to determine the present value of those future earnings.
Jeff owns a life insurance policy on his own life. The policy is not a modified endowment contract (MEC). His basis in the policy is $10,000. This year, he pays premiums of $1,000 on the policy, receives dividends of $300 in cash, and takes a withdrawal of $5,000. In addition, the cash value of the policy increases by $2,000. Which of the following statements regarding the income tax consequences of this policy is CORRECT? The premiums of $1,000 are tax deductible. The $2,000 increase in cash value is excluded from gross income. The dividends of $300 are included in gross income. The withdrawal of $5,000 is included in gross income.
The increase in cash value of a life insurance policy is not taxable to the owner of the policy as long as it remains in the policy. Premiums on individual life insurance policies are not tax deductible. Dividends are generally considered to be a return of premium and are not taxable. Withdrawals from non-MEC contracts are not taxable unless they exceed the owner's basis.