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39 Cards in this Set
- Front
- Back
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Social Security
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• Social Security Act
– Originally passed in 1935—took effect in 1937 – Coverage extended over the years so that today nearly all private sector employees and self-employed persons are covered – Covers a wide assortment of social insurance and public assistance (welfare) programs • What we refer to as Social Security is more properly called Old Age Survivors and Disability Insurance (OASDI) |
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Types of Benefits
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• OASDI provides the following general categories
of benefits – Monthly retirement benefits for retired workers at least age 62 – Monthly benefits for spouses of retired workers – Monthly survivor benefits for spouse and certain other survivors of deceased workers – Monthly disability benefits for disabled workers and their dependents – A modest lump-sum death benefit payable at a worker’s death |
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Fully Insured
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• Worker paid social security taxes for at least 40
quarters of covered employment (max of four quarters can be earned in any one year) or has credit for at least one quarter for each year after reaching 21 years of age, with a minimum of 6 quarters • Eligible for full retirement and survivor benefits |
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Currently Insured
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• Worker has paid social security taxes during 6 of
the 13 quarters before death • Eligible for limited survivor (death) benefits only |
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Primary Insurance Amount (PIA)
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• PIA is the maximum monthly benefit available
• PIA for a worker is based on worker’s average indexed monthly earnings (AIME) and is updated and published annually in tables by the federal government • Most types of Social Security benefits are expressed as some percentage of the PIA as set for the year for the worker’s earnings level |
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Retirement Benefits pt. 1
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• Worker’s retirement benefit
– 100% of PIA if benefits taken at normal retirement age—65 to 67 depending upon year of birth – Benefits taken between age 62 (current earliest age at which retirement benefits can begin) and normal retirement age will be reduced (currently 80% of PIA) – Benefits increase if worker delays retirement until after normal retirement age |
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Retirement Benefits pt. 2
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• Spouse’s retirement benefits
– Worker’s spouse is also eligible for a retirement benefit based on the worker’s earnings • At age 65, this benefit is 50% of the PIA • Spouse can take a reduced benefit early as age 62 • Child’s benefit – A retired worker’s unmarried child is eligible for a benefit of up to 50% of the PIA if under age 18, if under age 19 and in high school, or at any age if disabled before age 22 |
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Survivor Benefits pt.1
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• Surviving spouse’s benefit
– Eligible for a benefit at any age if caring for an unmarried child under age 16 or a disabled child under age 22 • Benefit is 75% of the deceased worker’s PIA • This benefit terminates when the youngest child reaches age 16 |
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Survivor Benefits pt. 2
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• Surviving spouse’s benefit (continued)
– Surviving spouse will be eligible for a benefit again when spouse reaches age 60 • Spouse could delay receiving benefit until age 65 and receive higher benefit • This period, during which the surviving spouse receives no Social Security benefits, is sometimes referred to as the blackout period |
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Survivor Benefits pt. 3
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• Surviving child’s benefit
– Unmarried child of a deceased worker is eligible for benefit of 75% of the PIA if under age 18, under age 19 and in high school, or at any age if disabled before age 22 |
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Survivor Benefits pt. 4
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• Surviving parent’s benefit
– Dependent parent age 62 or over who received at least half of their support from the deceased worker is eligible for a benefit • Lump-sum death benefit – A lump-sum death benefit of 3 x the PIA, up to $255, is paid to the deceased worker’s spouse or a dependent child |
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Disability Benefits pt. 1
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• To qualify, a person must be fully insured
• Social Security defines total disability – The inability to engage in any substantial gainful activity because of physical or mental disability – The disability must be expected to last for at least 12 months – Result in blindness – End in death |
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Disability Benefits pt. 2
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• Once a person becomes disabled and is eligible
for benefits, there is a five month waiting period – Benefits begin on the first day of the sixth month – Benefits are not paid retroactively for the first five months – If disability recurs within five years of recovery, there is no new five month waiting period • No benefit paid for partial disability • Benefits are based on the PIA and stop at normal retirement age at which time Social Security retirement benefits begin |
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Maximum Family Benefit
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There is a maximum family benefit that a family
is eligible to receive – Can occur when several members of a worker’s family are entitled to receive benefits – A maximum family benefit is established for each level of average earnings and is updated annually |
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Social Security Taxes pt. 1
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• Social Security is a pay-as-you-go program
– Social Security taxes collected from workers are not set aside in an account for each worker but are used to pay benefits to current beneficiaries of the program • OASDI funded by a payroll tax called the FICA tax – Split equally between employers and employees • Employee’s contribution withheld from pay • Employer contributes same amount as employee contributes • Self-employed persons must contribute both employer’s and employee’s shares |
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Social Security Taxes pt. 2
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• No Social Security tax on investment income,
e.g., interest or dividends, or any kind of income other than earnings from employment or selfemployment • The rate of tax is a flat amount set by Congress and adjusted upward from time to time |
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Individual Life Insurance pt.1
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• Life insurance policies have traditionally been
given favorable tax treatment • Two major tax advantages – Annual earnings on the cash values generally accumulate on a tax free basis until they are distributed – Proceeds payable at the insured’s death are generally income tax free to the beneficiary • To deter abuse of these tax advantages, Congress created a definition of life insurance that all life insurance policies must meet |
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Individual Life Insurance pt. 2
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• To qualify for these tax advantages, a policy
must meet one of the two following tests – Cash value accumulation test—the cash surrender value of the policy may never exceed the net single premium that would be required to fund future benefits – Guideline premium and corridor test |
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Individual Life Insurance pt. 3
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– Guideline premium and corridor test (continued)
• The corridor test relates to the amount of pure insurance—the relationship between the cash value and the death benefit at any point in time—in the contract – The cash value of a life insurance policy must not account for more than a certain percentage of the total death benefit |
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Individual Life Insurance pt. 4
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Guideline premium and corridor test (continued)
• The guideline premium test is met if the total premiums paid do not exceed the greater of – The guideline single premium • The guideline single premium is the total premium payable at one time to fund the future benefits of the contract – The total of the guideline level premiums • The guideline level premium is the level annual amount payable over a period extending to at least the insured’s 95th birthday to fund the future benefits of the contract |
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Individual Life Insurance pt. 5
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• If the contract fails to meet either of these tests,
serious tax consequences will result – The inside buildup of earnings in the policy may be taxable each year as income to the policyowner • To the extent these earnings, added to dividends received and the pure cost of insurance, exceed premiums paid – Only the pure insurance part of the death benefit proceeds—death benefit less the cash value—will be received income tax free by the beneficiary |
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Modified Endowment Contract pt. 1
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• Tax consequences of a policy becoming a
modified endowment contract (MEC) are serious, although not as serious as those for a policy failing to meet the definition of life insurance |
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Modified Endowment Contract pt. 2
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• Penalties assessed against MECs primarily
affect money taken out of the policy – Money distributed from a MEC is considered to come first from earnings—excess of cash value over cost basis—and is taxed as ordinary income – If policyowner younger than age 59½ and is not disabled, these taxable distributions are considered to be premature and subject to a 10% penalty tax in addition to the regular income tax |
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Premiums
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• As a general rule, life insurance or annuity
premiums paid by individuals are not deductible for federal income tax purposes, regardless of the type of policy owned • Exceptions to this general rule include individual retirement accounts/annuities (IRAs) – Under certain circumstances, contributions to an IRA may be deducted from an individual’s adjusted gross income up to an annual limit, or twice the annual limit if the individual also is contributing to a spousal IRA |
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Policy Proceeds pt. 1
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• If the beneficiary of a life insurance policy
receives the death proceeds in a lump sum, the entire amount of the payment is generally received income tax free – It makes no difference whether the death benefit is the face amount alone or whether it includes additional benefits such as double indemnity for accidental death |
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Policy Proceeds pt. 2
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If death benefit is paid out in ways other than a
lump sum, regardless of which other option is chosen, only a portion of each individual payment is taxable to the beneficiary as income – The portion of each payment that is principal— derived from the lump—sum death benefit-is received income tax free – The portion of each payment that is not considered part of the principal (i.e. interest earned off of the proceeds left with the company) is the only part of this income element that is subject to income tax |
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Accelerated Benefits
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• Accelerated benefits are received income tax
free as long as they are qualified – Qualified means the insured has been certified by a physician as having an illness or physical condition that can reasonably be expected to result in death 24 months or less after the date of the certification • Other stipulations may be applied, but the end result is that those who require access to these benefits may receive the money without having to pay income taxes on it |
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Dividends and Surrender Values pt. 1
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• Dividends paid to participating policyowners are
generally not taxable as income – Considered a return of premium • Any interest earned on dividends is taxable – Accumulation at interest dividend option would incur income tax liability for the interest earned on the accumulated dividends • Any dividend of a MEC that the insurer keeps to pay principal or interest on a policy loan is, just like the loan itself, considered to be money taken from the policy and is taxable |
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Dividends and Surrender Values pt. 2
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• When proceeds are received from a surrendered
or matured life insurance policy, the part of the proceeds, if any, that exceeds the cost of the policy is generally subject to ordinary federal income tax in the year received – Cost is equal to the total premiums paid (not including costs for qualified additional benefits) less the sum of any amounts previously received under the contract that were not includable in gross income |
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Annuity Payments pt. 1
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• Income payments made from an annuity are
considered partly a return of capital, referred to as cost basis, and partly a return of earnings – The cost basis part is derived from the premium paid into the annuity—taxes already paid on those monies—and is not taxable – The earnings part is derived from the earnings of the annuity (i.e. interest earned on the premiums paid) and is taxable |
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Annuity Payments pt. 2
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Once it has been determined that the
capital/cost basis has been fully recovered, however, all of the annuity payment now becomes taxable |
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Cash Value Accumulation
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• One of the most significant advantages of life
insurance products is their ability to accumulate cash on a tax-deferred basis – Only part taxable is that which is considered in excess of cost basis – Cash values not taxed unless and until withdrawn |
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Group Life Insurance pt. 1
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• Proceeds from a group life policy are not subject
to federal income tax when received by the beneficiary as a lump-sum payment • Deductibility of premiums paid for group life insurance policies – Applies regardless of how premiums are paid, contributory or noncontributory |
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Group Life Insurance pt. 2
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Deductibility of premiums paid (continued)
– Employee • Not deductible to the employee • Not considered income to the employee; unless – Coverage for employee exceeds $50,000 – Then cost of coverage in excess of $50,000 taxed to employee – Sponsor/employer • Are deductible to the employer as a business expense |
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Federal Estate Tax
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• Federal estate taxes are imposed on estates
that exceed certain amounts • Life insurance proceeds are includable in a deceased insured’s gross estate if: – The proceeds are payable to the estate, either directly or indirectly – The deceased possessed any incidents of ownership in the policy at death, such as the rights to change the beneficiary, to assign the policy, or to borrow against the policy – The policy was assigned by the insured, other than for full and adequate consideration, within three years of death |
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Section 1035 (Policy Exchanges) pt. 1
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• Insurance, endowment, and annuity policies are
considered property so that gain or loss on an exchange of such policies ordinarily would be recognized for tax purposes • Under Section 1035 of the Internal Revenue Code, no gain or loss is recognized on the exchange of the following – A life insurance contract for another life insurance contract – A life insurance contract for an annuity contract or an endowment contract |
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Section 1035 (Policy Exchanges) pt. 2
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• No gain or loss (continued)
– An annuity contract for another annuity contract – Also allowable are • An endowment contract for another endowment contract – Provided the endowment contract that is received provides for regular payments beginning at a date not later than the date payments would have begun under the contract exchanged • An endowment contract for an annuity contract • Any exchanges not falling within the above categories are taxable exchanges – An annuity contract to a life insurance contract is not allowable under Section 1035 |
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Business Insurance pt. 1
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• Premiums paid by companies for life insurance
policies used for business purposes are generally not deductible as business expenses – With the exception of group insurance • Proceeds from life policies purchased for business purposes are received by the company income tax free – If the business is subject to the alternative minimum tax (AMT), however, that tax may apply to the death proceeds |
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Business Insurance pt. 2
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• Policy proceeds usually not includable in the
estate of an individual insured by a business unless the individual possessed some incident of ownership in the policy |
