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19 Cards in this Set

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Meaning of premature death

Definition:


Death of a family head with outstanding unfilfilled financial obligation


e.g. dependents to support, children to educate, mortgage to pay off

Cost to premature death

1. Family's share of the deceased breadwinner's future earnings is lost




2. Additional expenses (funeral expenses, uninsured medical bills, estate settlement cost, tax)




3. Reduction in their standard of living due to insufficient income




4. Non-economic cost (e.g. intense grief, loss of parental role model, guidance for the children





Economic justification of life insurnace

- Justified if others are dependent on the earning capacity of the insured -> restore family share of the deceased breadwinner's earning


- Life insurance is valued policy, insured the uncertainty of the time of death

Approaches to estimate amount of life insurance to own

1. Human life value approach


2. Need approach


3. Capital retention approach



How is human life value calculated and its definition?

Definition:


- Present value of the deceased breadwinner's future earnings




How:


1. Estimate average annual earning


2. Deduct income tax, social security tax, life and health insurance premiums, cost of self maintenance


3. Determine number of years till retirement


4. Use discount rate to determine the PV

Advantages and limitations of human life value approach

Advantage:


- Crude measure of the economic worth of a person




Limitations:


1. Too many variables are assumed constant (e.g. earnings, expenses, no career promotion, inflation, changes in interest rates, other sources of income)




2. Interest rate chosen is very sensitive





What is need approach and how to estimate life insurance needed?

- amount of money of family needs are analyzed


- Total amount of life insurance and financial asset is subtracted


-> difference is the amount of new life insurance should be purchased

Advantages and limitations of needs approach

Advantages:


1. Reasonable accurate method


2. Consider other sources of income and financial assets




Limitations


1. Future projections require numerous and the of a computer


2. Dynamic programming models with changing assumptions are complex

What is capital retention approach and how does it estimate amount of life insurance needed?

Definition:


- Liquidation of the life insurance


- Preserves the capital needed to provide income to the family




How:


1. Prepare a personal balance sheet


2. Determine the amount of income-producing capital (subtracting the liabilities, cash needs, non-income-producing capital)


3. Determine the mount of additional capital needed (add other sources of income, e.g. social security survivor benefits)



Why many families are uninsured or seriously underinsured?

- Lack of awareness of the need of life insurance


- Premium as a cost to be saved


- Not justifiable premium


- Lack of understanding on the correct amount of the insurance


- Negligence of awareness on changes to needs



Term life insurance features

1. Temporary protection - 1, 5, 10, or 20 years




2. Renewable - without evidence of insurability




3. Convertible - exchanged for a cash-value policy without evidence of insurability




4. No cash value

Types of term insurnace

1. Yearly renewable - without evidence of insurability, increasing premium




2. 5, 10, 15, 20 or longer years term - level premium during the term period




3. Term to age 65




4. Decreasing term - declining face amount




5. reentry term - periodically demonstrate acceptable evidence of insurability




6. Return of premium term - return of premiums at the end of the term period


-> Protection is not free when time value of money is considered


-> Insurance is expensive -> underinsurance



Term insurance is appropriate when

1. Limited income


2. Temporary need (e.g. mortgage)


3. Guarantee future insurability

Limitation of term insurance

1. Premiums increase with age at an increasing rate and eventually reach prohibitive levels, not proper beyond age 65 or 70




2. Inappropriate for saving money for specific need as term do not accumulate cash values





Types of whole life insurance

1. Ordinary life insurance - protection to age 100 (pay face value at 100), overcharged early years, supplement inadequate premiums paid later years -> legal reserve




2. Limited payment life insurance - paid only for a certain period / single premium -> higher cash value




3. Endowment insurance - survive to the end of the endowment period -> pay face amount

Variation of whole life insurance

1. Variable life (Fixed premium with investment choice)




2. Universal life (Flexible premium with fixed income investment)




3. Variable Universal life (Flexible premium with investment choice)




4. Current assumption of whole life


- Cash values are based on the insurer's current mortality, investment, expense experience




5. Indeterminate premium whole life


- insurer adjust premium based on anticipated future experience

Advantages and limitations of ordinary life insurance

Advantages:


1. Lifetime protection


2. Save money (surrendering the policy / borrowing the cash value)




Limitations:


- Underinsured (because of higher premium due to savings element)

Advantages and limitations of Universal Life insurance

Advantages:


1. Flexibility - determinable amount and frequency of premium payments so long as minimum premium is met / sufficient cash value to cover the mortality cost and expenses



2. Death benefits can be increased (with evidence of insurability) or decreased



3. Policy owner can add or withdraw cash or borrow against the policy



Limitations:


1. Misleading rates of return because of gross rates advertised



2. Insurer can increase the current mortality charge, with hidden expenses



3. Policy owners do not have firm commitment to pay premiums -> may lead to lapse of policy due to non payment of premium

Features to evaluate life insurance

1. Amount of death benefit - Level, increasing or decreasing)


2. Cash value - None, guaranteed or depends on investment or excess interest


3. Premium - Increasing or level or flexible or based on insurer experience+guaranteed maximum premium


4. Policy loans allowed or not


5. Partial withdrawal of cash value allowed or not


6. Surrender charge exist or not