25 Life Insurance

7/28/2019 25 Life Insurance

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Life Insurance


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Insurance is an important component of both

financial and estate planning. Care must be taken to

ensure that insurance products achieve the protectiondesired, and that they will be available when needed.

For this reason, resources should always be consulted

when making insurance decisions.

See www.insure.com to get

online ratings from

Standard & Poor's as well

as comprehensive reports

on individual insurers (even

online premium quotes).


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Life insurance is used to provide a deathbenefit: a stipulated sum (the face amount ofthe policy) is paid to a beneficiary upon the

demise of the policyholder (who has paid the

premiums).

Remember: a beneficiary who receives life

insurance payments due to the death of the

insured pays no income tax on the amountreceived.


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Because policies are taken out without the

insurance company knowing when payment

of the policy will be required, companies mayissue:

participating policies, in which the company

shares the costs of coverage with policyholders;if premiums exceed costs, a policy dividend isissued

nonparticipating policies, in which the companydoes not share profit (or loss) with the

policyholders; the premiums for thesecompanies tend to be lower


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There are 2 types of insurance companies:

stock companies are owned by the company

stockholders and usually sell nonparticipating

policies (example: MetLife Insurance Co.)

mutual companies are run by the company

policyholders and usually sell only participating

policies (example: Massachusetts Mutual Life

Insurance Co.)


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Life insurance policies account for about 25% (by

premiums paid) of the insurance sold in the US, nearly

$165 million in 2006; by comparison, annuitiesaccounted for 50% of insurance premiums, or about

$310 million.

Type of Insurance Net Premiums Written Percent of Total

Ordinary Life (individual) $129,241,600 20.9%

Group Life $35,255,000 5.7%

Annuities (individual) $193,432,600 31.2%

Annuities (group) $117,152,700 18.9%

Accident and health (individual) $57,169,300 9.2%

Accident and health (group) $84,235,700 13.6%

Other Types $3,226,000 0.5%

Total $619,712,900 100.0%


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There are 2 types of life insurance sold: term

and permanent. Term policies provide coverage for a period of

years, typically 1 or 5 (but this is changing)

policies provide insurance only

premium costs increase with age

coverage is not offered after age 65 to 70

Life insurance is typically used to secure

business loans, for partnership buy-sell

agreements, and as security for families.


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There are 2 types of term policies:

Yearly renewable term has premiums that areinitially low; however, the premiums increasesubstantially as the insured gets older. Thesepolicies have diminished in popularity due to theintroduction of level premium term life insurance.

Level premium term has premiums which remainunchanged over a specified period of time.Coverage is purchased for a period of 5, 10, 15, 20,

25, or even 30 years. After the initial level periodexpires, the annual premium will increase for thenext level (but there is usually a guaranteedmaximum increase).


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Yearly renewable term insurance premiums

increase rapidly with age, whereas level terminsurance premiums only change over a period of

years (e.g., every 10 or 20 years). Over the 20 years,

level term premium costs are about one third those

of yearly renewable term.


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The newest product in term life insurance is called

the return of premium (ROP) policy.

A level term policy is purchased, usually for 20 or 30

years, and if the policyholder makes it through the 2

or 3 decades, the insurer pays back the premium

payments (tax free). So the premium cost is zero.

However, the premiums are 30% to 40% higher than

with regular level term policies (the 30 year policies

have the least increase in cost).

And the insured has to stay the course for the time

period involved.


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Permanentinsurancepolicies provide coverage for

a persons whole life, hence also the name whole

life; policies provide both insurance coverage and

investment return.

The policy premium does not change substantially

over time, even though payments can be made formany decades.

Also, the policy accumulates cash value that can be

borrowed (usually at a set interest rate). So at thedeath of the insured, both the policy face amount and

the cash value are paid to the beneficiary.


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There are 3 types of whole life coverage:

ordinary lifepremium payments continue for thepolicyholders whole life; there is usually a modestguaranteed investment return for the cash value

limited payment lifepremium payments continueto a certain age or for a stated number of years;premiums are higher but cash value accumulatesfaster because of the reduced years

variable lifeoffers a minimum death benefit,fixed premiums, and investments in stocks, bonds,mutual funds, or money market funds; the value ofthe policy at death is primarily based on the returnon the investments


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Universal life insurance provides flexible insurance

coverage and investment return, and both can be

changed over time as the policyholder wishes.

The investment return is usually greater than with

ordinary and limited payment life policies; the

policyholder may make tax-free withdrawals (up tothe amount contributed) or the annual return can be

used to pay for coverage, making it self-funding; there

is a maintenance fee, but annual statements are

provided to explain costs.

This is the preferred type of whole life policy

because of its flexibility.


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Comparison of premium costs for a $500,000

life insurance policy (nonsmoker):

20 year term policy 20 year cash value-30-year-old male $600 is zero; total cost is

-30-year-old female $400 $12,000/$8,000

20 year ROP term policy 20 year ROP is

-30 year-old-male $800 $16,000/$11,000; total-30-year-old female $550 cost is zero

Whole life policy 20 year cash value-30-year-old male $1,600 is about $25,000; total

-30-year-old female $1,300 cost is $7,000/$5,500 Universal life policy 20 year cash value

-30-year-old male $2,400 is about $40,000; total-30-year-old female $2,000 cost is $8,000/$6,000


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Life insurance coverage may vary from individual to

individual, but the usual progression is: begin with term

add universal life (can be used to pay for college

expenses)

the coverage amount should be sufficient to allow

the family to adapt after death (typically 5 to 7

years equivalent of income)

To obtain a comparison of premium costs for

different types of insurance, go online to

www.accuquote.com


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Life insurance coverage can be supplemented

by the use ofriders: guaranteed insurabilityguarantees periodic

increases in coverage

accidental deathpays double or triple the face

amount (double indemnity)

disabilitypays premiums of a disabled

policyholder


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There are several payment options; it is left to

the policyholder to decide which one to use: lump sumthe total value of the policy is paid to

the beneficiary

fixed periodpayments are made over a set

period of years fixed incomepayments are made in equal

installments

interest incomeonly interest is paid to a

(usually) minor beneficiary until a certain age life income (annuity)payments are made for the

life of the policyholder


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Life insurance can be converted into an annuity.

An annuity pays a certain amount each month to the

policyholder (annuitant) until the policyholder

dies; thus it provides a life benefit.

For example, a policyholder may purchase a singlepremium immediate annuity (payments begin

immediately) or single premium deferred annuity

(payments begin in years) for the cash value of the

policy.


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Annuities can provide payments for the

policyholders life(straight life annuity) or for a

minimum number of years(life with period

certain); in the latter case, if the policyholder dies

before the minimum period, the beneficiary receives

the annuity proceeds for the remainder of the period.Joint and survivor annuities pay benefits for the

life of the policyholder and spouse.

Only part of the annuity proceeds are taxable(because after tax dollars were used to pay for the

insurance premiums).


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Annuities can also be used strictly as retirement funds

[403(b) plans]. These annuities are plans into which

income is paid (usually with matching funds from the

employer), invested, and allowed to grow on a tax-

deferred basis. Withdrawal without penalty may

begin after 59 years and before 70 years.

Fixed annuities pay a fixed interest rate, usually with

a guaranteed minimum return.

Variable annuities allow the investor to select theinvestment fund and thereby determine the return.

The designated beneficiary receives the fund at the

death of the policyholder.

A i E l


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Annuity Example

A 65-year-old woman who is retiring decides to convert her life

insurance into an annuity.

The cash value of her life insurance policy is $165,000 and is

used to buy a Single Premium Immediate Annuity offering a

lifetime income and an installment refund.

The monthly income, for as long as she lives, is $1,524 (equaling

$18,293 yearly). Approximately 79% of this income will be

received tax-free for approximately 9 years (after which 100%

of the income will be taxable).

The installment refund guarantees that if she dies prior to

receiving the full $165,000 she paid as the premium, the annuity

will continue the payments to the beneficiary until this full

amount has been received.


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Richard, Mr. Iduvudu, the insurance man,

is here to determine your life expectancy.

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25 Life Insurance