Today’s Lecture - #14Life Insurance

How Life Insurance Works

Traditional Types of Life Insurance

How Life Insurance Works

Establishing a pool of funds

Calculating the probability of death

Mortality Table - Appendix F

Gender as a classification factor

Level premium plans

Mortality Table - ExampleBased on the Commissioners 1980 Standard Ordinary Mortality Table, how much longer is the life expectancy at birth of a female compared to a male?

A) 0 years

B) 2.89 years

C) 4.18 years

D) 5.00 years

E) None of the above

Life Insurance vs. Annuities

Life insurance pays when you die

Annuities make periodic payments as long as you live

Current problem area:

Reverse mortgages - pays an elderly homeowner periodic payments while they live, with the home serving as collateral

Potentially a good concept, but many abuses

Life Insurance Contracts

Traditional

Term Life

Whole Life

Endowment Life

Newer Types

Universal

Current Assumption Whole Life

Variable Life

Variable Universal Life

Term Life

Temporary Protection

Renewability

Convertibility

Death Benefit Pattern

Premium Pattern

Term Life Policies

Yearly Renewable Term

5 Year Level Term

Decreasing Term

Reentry Term

Front-end-loaded term

Term Life - ExampleWhich form of term life insurance for the same amount of coverage would tend to be the most expensive in the first year?

A) Yearly renewable term

B) 5 Year Level Term

C) Decreasing Term

D) Reentry Term

E) Cannot tell based on the information given

Whole Life Insurance“Permanent” Protection

(as long as premiums are paid when due)

Straight Life (a.k.a. Ordinary Life)

Limited-Payment Life

20 payment whole life

Life paid up at 65

Single-Premium Life

Tax advantaged investment

Whole Life Insurance - Example

Which form of whole life insurance for the same amount of coverage would tend to be the least expensive in the first year for a 30 year old?

A) Ordinary life

B) Whole life paid up at 90

C) Whole life paid up at 65

D) 20 payment whole life

E) Cannot tell based on the information given

Tax Treatment of Life Insurance

Investment Earnings

Investment income on a life insurance policy is not taxed when it is earned

Death Benefits

Are not subject to income tax

May be included in owner’s estate for estate tax purposes

Tax Treatment of Life InsuranceSurrender Values

If you cancel a policy, the difference between what you receive and what you paid for the policy, in total, is subject to income taxation at that time

ExamplePay $1,000 per year for 20 yearsReceive $5,000 in dividendsSurrender the policy for $25,000Taxable income

$25,000 - [(20x$1000) - $5000] = $10,000

Tax Treatment - ExampleA 30 year old purchases a $100,000 whole life policy for an annual premium of $2,000. The dividends total $5,000. After 10 years the policyholder dies and the insurer pays $100,000. How much of the policy proceeds are taxable income?A) 0B) $15,000C) $80,000D) $85,000E) None of the above

Endowment Life Insurance

Pays if the insured dies during the specified period

Also pays if the insured survives until the end of the period

Possible use

College accumulation fund

Insurance Policy - ExampleWhich of the following policies generates a cash value that would provide funds if the policy were surrendered prior to the death of the policyholder?

I Yearly renewable termII Variable lifeIII Straight lifeIV Endowment

A) II and III B) III and IV

C) II and IV D) II, III and IV

E) I, II, III and IV