Life Insurance Notes
Any event, whether past or future, which may damnify a person having an insurable interest, or create a liability against him/her, may be insured against. The more predictable a loss, the more insurable it becomes. Only pure risks are insurable. Speculative losses are uninsurable.
The law of large numbers, which states that the larger a group is, the more accurately losses reported will equal the underlying probability of loss, is the basis for statistical prediction of loss upon which rates for insurance are calculated.
Legal hazard is defined as a set of legal or regulatory conditions that affect an insurer’s ability to collect premiums commensurate with the level of risk incurred.
Pure risks involve the probability or possibility of loss with no chance for gain. Pure risks are generally insurable. Speculative risks involve uncertainty as to whether the final outcome will be gain or loss. Speculative risks are generally uninsurable.
The three recognized areas in which insurable interest exists are as follows: a policyowner insuring their own life, the life of a family member (relative or spouse), or the life of a business partner, key employee, or someone who has a financial obligation to the policyowner. A debtor does not have an insurable interest in the creditor.
The binding force in any contract is consideration. Consideration on the part of the insured is the payment of premiums and the health representations made in the application. Consideration on the part of the insurer is the promise to pay in the event of loss.
A conditional contract requires both the insurer and policyowner to meet certain conditions before the contract can be executed, unlike other types of policies which put the burden of condition on either the insurer or the policyowner.
An unintentional tort is the result of acting without proper care. This is generally referred to as negligence.
According to CIC 380, neglecting to communicate that which a party knows and ought to communicate is concealment.
An insurance contract is an aleatory contract in that it requires a relatively small amount of premium for a large risk.
A tort is a wrongful act or the violation of someone's rights that leads to legal liability.
To ensure legal purpose of a life insurance policy, it must have both insurable interest and consent.
A warranty is a statement considered to be guaranteed to be true and becomes part of the contract. Representations in insurance contracts qualify as implied warranties.
In a unilateral contract, only one of the parties to the contract is legally bound to do anything.
If a representation is false in a material point, the injured party is entitled to rescind the contract from the time the representation becomes false.
Once policy is issued, representations cannot be withdrawn.
According to CIC 443, every express warranty made at or before the execution of a policy must be contained in the policy itself, or in another instrument signed by the insured and referred to in the policy.
During the temporary term period, an insurance company is liable for the maximum amount guaranteed under the binding receipt or temporary insurance agreement.
The Human Life Value Approach to determining the value of an individual’s life requires the calculation of probable future earnings of the insured, which involves wages, expenses, inflation, amount of time until retirement, and the time value of money. Predicted needs of the family after the insured's death are used in the needs approach.
Part 2 - Medical Information of the application includes information on the prospective insured's medical background, present health, any medical visits in recent years, medical status of living relatives, and causes of death of deceased relatives.
The Medical Information Bureau (MIB) is a nonprofit trade organization which receives adverse medical information from insurance companies and maintains confidential medical impairment information on individuals.
The Federal Fair Credit Reporting Act regulates consumer reports, also known as consumer investigative reports, or credit reports.
Investigative consumer reports cannot be made unless the consumer is advised in writing about the report within 3 days of the date the report was requested.
Because the purchaser of a stranger-originated life insurance policy doesn’t know the insured, or have any interest in the insured’s longevity, STOLI policies violate the principle of insurable interest.
If an applicant for a life insurance policy is found to be a substandard risk, the insurance company is most likely to charge a higher premium.
If the premium not paid with the application, the agent must obtain the premium and a statement of continued good health at the time of policy delivery
Term life insurance types - Level (Premium and face amount i.e. death benefit reamins the same throughout the policy term), Decreasing Term (Premium same, death benefit reduces over time), Increasing Term (Premium same, death benefit increases over time). If the term is annual, it is the purest form of life insurance. The death benefit remains level (in that sense, it is a level term policy), and the policy may be guaranteed to renewable each year without proof of insurability, but the premium increases annually acoording to the attained age, as the probability of death increases.
A Return of Premium (ROP) life insrurance is an increasing term insurance policy that offers the pure protection of a term policy, but if the insured remains healthy and is still alive once the term limit expires, the insurance company guarantees a return of premium. However, since the amount returned equals the amount paid in, the returned premiums are not taxable.
Most term insurance policies are renewable, convertible or renewable and convertible (R&C).
The renewable provision allows the policyowner the right to renew the coverage at the expiration date without evidence of insurability. The premium for the new term policy will be based on the insured's current age. For example, a 10-year term policy that is renewable can be renewed at the end of the 10-year period for a subsequent 10-year period without evidence of insurability. However, the insured will have to pay the premium that is based on their attained age. If an individual purchases a 10-year term policy at age 35, they will pay a premium based on the age of 45 upon renewing the policy.
The convertible provision provides the policyowner with the right to convert the policy to a permanent insurance policy without evidence of insurability. The premium will be based on the insured's attained age at the time of conversion.
An indeterminate premium term policy contains a provision that provides a current premium scale (nonguaranteed) and a maximum premium scale (guaranteed), beyond which premiums cannot be raised.
A decreasing term policy is usually convertible; however, it is usually not renewable since the death benefit is $0 at the end of the policy term.
Increasing term is often used by insurance companies to fund certain riders that provide a refund of premiums or a gradual increase in total coverage, such as the cost of living or return of premium riders.
Permanent life insurance is a general term used to refer to various forms of life insurance policies that build cash value and remain in effect for the entire life of the insured (or until age 100) as long as the premium is paid. The most common type of permanent insurance is whole life.
Whole life insurance provides lifetime protection, and includes a savings element (or cash value). Whole life policies endow at the insured's age 100, which means the cash value created by the accumulation of premium is scheduled to equal the face amount of the policy at age 100. The policy premium is calculated assuming that the policyowner will be paying the premium until that age. Premiums for whole life policies usually are higher than for term insurance.
Living benefits — the policyowner can borrow against the cash value while the policy is in effect, or can receive the cash value when the policy is surrendered. The cash value, also called nonforfeiture value, does not usually accumulate until the third policy year and it grows tax deferred.
The three basic forms of whole life insurance are straight whole life, limited-pay whole life and single premium whole life; however, other forms and combination plans may also be available.
Other types of whole life policies:
Interest Sensitive Whole Life or Current Assumption Life
Modified Premium Whole Life
Graded Premium Whole Life
Indeterminate Premium Whole Life
Interest-sensitive whole life, also referred to as current assumption life, is a whole life policy that provides a guaranteed death benefit to age 100. The insurer sets the initial premium based on current assumptions about risk, interest and expense. If the actual values change, the company will lower or raise the premium at designated intervals. In addition, interest-sensitive whole life policies credit the cash value with the current interest rate that is usually comparable to money market rates, and can be higher than the guaranteed levels. The policy also provides for a minimum guaranteed rate of interest.
Modified life is a type of whole life policy that charges a lower premium (similar to term rates) in the first few policy years, usually the first 3 to 5 years, and then a higher level premium for the remainder of the insured’s life. The higher subsequent premium is typically higher than a straight life premium would be for the same age and amount of coverage. These policies were developed to make the purchase of whole life insurance more attractive for individuals who, for example, are just starting out and have limited financial resources, but will be able to afford the higher premiums in the future as their income grows.
Graded-premium whole life is somewhat similar to modified life in that premiums start out relatively low and then level off at a point in the future. A graded premium whole life policy typically starts with a premium that is approximately 50% or lower than the premium of a straight life policy. The premium then gradually increases each year for a period of usually 5 or 10 years, and then remains level thereafter.
Indeterminate premium whole life policies have the premium rate that may vary from year to year. These policies specify two premium rates: a guaranteed level premium stated in the contract (maximum premium), and a nonguaranteed lower premium rate that the policyowner actually pays for a set period of time. After the initial period (usually 2-3 years), the insurer establishes a new rate which could be raised, kept the same or lowered, based on the company’s expected mortality, expense and investments. The premium, however, can never be higher than the guaranteed maximum.
Special Coverages:
Mortgage redemption
Family protection, Family Policy, Family Rider
Joint Life
Survivorship Life
Juvenile policy- Jumping Juvenile
Juvenile policy - Payor Rider
Return of Premium Rider
Indexed Whole Life
According to CIC 10234.93, the insurer must submit an updated list semiannually of all agents authorized to solicit long term care insurance.
With pure life annuity, income payments cease at the annuitant’s death and there is no refund or payments to survivors. This type of annuity is also referred to as Life Only or Straight Life.
A joint and survivor annuity will pay until the last annuitant has died; however, the surviving annuitant may receive reduced payments.
Group life insurance can be converted to an individual whole life policy, not a term life policy.
The Group life insurance cost of coverage is based on teh average age of the group and the ratio of men to women.
To be considered currently (or partially) insured under Social Security, an individual must have earned 6 credits during the last 13-quarter period.
When the owner withdraws cash value from a universal life policy (partial surrender), both the cash value and the death benefit are reduced by the surrender.
When accerlerated benefits are paid under a life insruance policy to a terminally ill insured, the benefits are received tax free. When accelerated benefits are paid to a chronically ill insured (e.g. someone who has cancer, Alzheimer’s disease or other severe illness), these benefits are tax free upto a certian limit. Any amount received in excess of this dollar limit must be included in the insured’s gross income.
Life insurance proceeds paid to a named beneficiary are generally free of federal income taxation 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 insured's death.
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 insurance are not tax deductible. Therefore, when a business pays the premiums for any of the following arrangements, the premiums are not deductible:
Key-employee (key-person) insurance;
Stock redemption or entity purchase agreement; and
Split-dollar insurance.
Policy loans are not taxable to a business. Unlike an individual taxpayer, a corporation may deduct interest on a life insurance policy loan for loans up to $50,000.
In accordance with Section 1035 of the Internal Revenue Code, certain exchanges of life insurance policies and annuities may occur as nontaxable exchanges. When a policyowner exchanges a cash value life insurance policy for another cash value life insurance policy, or a cash value life policy for an annuity, or an annuity for an annuity, the policies or annuities must be on the same life. There will be no income tax on these transactions.
The following are allowable exchanges:
A life insurance policy for another life insurance policy, an endowment contract, or an annuity contract;
An endowment contract for another endowment contract or an annuity contract; or
An annuity contract for another annuity contract.
Note that a policyowner may not exchange funds from an annuity into a cash value life policy. Nor would term life be used in a 1035 Exchange since it has no cash value. The key is that the exchange may not be from a less tax-advantaged contract to a more tax-advantaged contract. "Same to same" is acceptable.
When money is withdrawn from the annuity during the accumulation phase, the amounts are taxed on a Last In, First Out basis (LIFO). Therefore, all withdrawals will be taxable until the owner's cost basis is reached. After all of the interest is received and taxed, the principal will be received with no additional tax consequences.
When an annuity is used to fund a traditional IRA, distributions are fully taxable if contributions were made with pretax dollars. If there are no distributions at the required age, or if the distributions are not large enough, the penalty is 25% of the shortfall from the required annual amount.
If the annuity contract holder dies before the annuitization date, the interest accumulated in the annuity becomes taxable. If the beneficiary of the annuity is a spouse, however, the tax can continue to be deferred.
Any unpaid annuity benefits following the death of an annuitant are paid to the beneficiary and are taxable.
Corporate-owned annuities have different tax implications than individual annuities:
Growth in the annuity is not tax deferred; and
Interest income is taxed annually unless the corporation owns a group annuity for its employees, and each employee receives a certificate of participation.
FIFO method applies to Life insurance only. The policyowner will receive their investment in the contract first before receiving any gains in the policy (or being taxed on those gains). Annuities follow a LIFO (last in, first out) format.
A split-dollar plan is an arrangement where the employer and employee agree to purchase and fund life insurance on an employee. In the most common form, the employer pays the part of the premiums that equals the annual increase in the cash value of the policy, while the employee pays the balance. Should the employee die, the employer recovers the total of its payments from the policy proceeds, with the balance being paid to the employee’s beneficiary.
Generally speaking, an endowment policy is an investment instrument. Endowment life insurance policies promise to pay the face amount if the insured survives until the end of a specified period (e.g., 20 years; 30 years; or until the insured's age 65), and if the insured dies within the same specified period. Endowments require premiums far in excess of the amount required to fund the death benefit.
Following the elimination of many traditional tax shelters by the Tax Reform Act of 1984, single premium life insurance remained as one of the few financial products offering significant tax advantages. Consequently, many of these types of policies were purchased solely for the purpose of setting aside large sums of money for the tax-deferred growth as well as tax-free cash flow available via policy loans and partial surrenders.
To curtail this activity, and to determine if an insurance policy is overfunded, the Internal Revenue Service (IRS) established what is known as the 7-pay Test. Any 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 paid during the first 7 years of the policy exceed the total amount of net level premiums that would be required to pay the policy up using guaranteed mortality costs and interest.
Once a policy fails the 7-pay test and becomes a MEC, it remains a MEC.
A MEC is an overfunded life insurance policy = failed the 7-pay test. Once a MEC, always a MEC!
As defined by Section 7702A of the IRS Code, a Modified Endowment Contract is a contract that meets the requirements of a life insurance contract, but fails to meet the 7-pay test, or that is received in exchange for a MEC.
The following are taxation rules that apply to MEC's cash value:
Tax-deferred accumulations;
Any distributions are taxable, including withdrawals and policy loans;
Distributions are taxed on LIFO basis (Last In, First Out) — known as "interest-first" rule; and
Distributions before age 59 ½ are subject to a 10% penalty.
The Explanation of Medical Benefits, or the Medicare Summary notice, is a monthly statement that lists the insured's health insurance claims information, specific services covered, and the amount approved for each service.
A formulary is a list of prescription drugs covered under a prescription drug plan. Tiers refer to drugs on a formulary which are separated by cost.
Before issuing a replacement policy, the insurer must furnish the applicant with a notice regarding replacement, which must be signed by both the applicant and the agent.
To receive Medicare prescription drug benefits, beneficiaries must sign up with a plan offering this coverage in their area and must be enrolled in Medicare Part A or in Parts A and B.
Medicare Part B covers dental expense resulting from an accident only.
Per the Centers for Medicare & Medicaid Services (CMS) guidelines, agents must keep SOA forms on file for at least 10 years, even if the appointment didn't end in a sale.
Once a person becomes eligible for Medicare supplement plans, and during the open enrollment period, coverage must be offered on a guaranteed issue basis.
Skilled nursing care, intermediate nursing care, custodial care, home health care, home care and community based care are considered standard levels of care.
The benefit amount payable under most LTC policies is usually a specific amount per day, and some policies pay actual charge incurred per day. Most LTC policies are also guaranteed renewable; however, insurers do have the right to increase the premium.
Hospice provides short-term, continuous care in a home-like setting to terminally-ill people with life expectancies of 6 months or less.
Living benefit riders allow part of the policy’s death benefit to fund long-term care or nursing home care.
Personal Care includes hands-on services to assist an individual with activities of daily living, and can be provided by a skilled or unskilled person.
Medicare will not cover long-term care or nursing home care unless it is part of the treatment for a covered illness or injury.
Insurers who meet the state’s financial requirements and hold a Certificate of Authority to trnasact business in the state are considered authorized or admitted.
The Fraud Division within the Department of Insurance enforces fraud reporting provisions.
The Arson Information Reporting System helps prevent auto insurance related fraud.
The Insurance Claims Analysis Bureau collects data to help prevent claims faraud.
The Medical Informatin Bureau is a membership corporation owned by member insurance companies that share adverse medical information on insureds.
According to the Code, an “insurance agent” may transact all lines of insurance other than life, diability or health.
An insurance broker is a person that, for compensation and on behalf of another person, transacts insurance other than life insurance with an insurer, but not on behhalf of or as a representative of that insurer.
The Commissioner servers 4 year terms, limited to not more than two.
Temporary Insuring Agreement protects the applicant by giving him/her immedite coverage, and protects the insurer by giving tim for the underwiting process.
In the needs approach method, need is determined by the predicted needs of the family after the premature death of the insured, which must be assumed will happen immediately. The policy allows for benefits to be collected upon the insured’s death.
An agnet should not use white-out, erase or obliterate any answers given to a question on an application. It could prevent an insurer from contesting the application, should it be necessary.
Universal Life policies allow for policyholders to withdraw a limited portion of the policy’s cash value. Each withdrawal, however, is usually charged, and the amount and frequency of withdrawals are usually limited.
As well as being a flexible premium policy, universal life is also an interest-sensitive policy. The insurer credits the cash value in the policy with a current (nonguaranteed) interest rate and backs the cash value with a contract (lower guaranteed) rate of interest.
When the medical caregiver provides services to only member or subscribers of a health organization, and contractually is not allowed to treat other patients, it is referred to as closed panel.
First dollar coverage is provided with no deductible. The insurer pays the full amount of the loss, up to the policy limit.
Creditable coverage gives a person rights when he or she applies for new coverage.
Adult day care is designed for those who require assistance with various ADLs on a daily basis,but not around the clock. Custodial care is usually the only service provided by adult day care facilities.
A long-term care policy may provide coverage for home health care, adult day care, hospice care or respite care. Acute care is not covered under a long-term care policy.
Apparent authority (also known as perceived authority) is the appeareance, or the assumption of authority based on the actions, words, or deeds of the principal or because of circumstances the pricipal created.
When a licensee has an in force license, but is not appointed by an insurer as their agent, the license is inactive.
Agents act in a fudiciary capacity. If la licensee uses customers’ funds for his or her personal needs, the law sees such an act as a theft (not fraud).
Insurers are prohibited from advertising or circulating any materials that are unture, deceptive, or misleading. That practice is considered false advertising.
An agent’s authority to transact business is effective as of the date the notice of appointment is signed.
As per SB 1242, brokers and agents are required to cooperate with law enforcement conducting a criminal investigation.
Fraud committed against the insurer (i.e. by insurance consumers) is the focus of Fraud division. Fraud committed by agents or brokers is the responsibility of Investigative division.
An agent or broker will report suspected insurance fraud via Consumer reporting portal.
An agent or broker must report suspected insruance fraud to the CDI Fraud Division within 60 days.