CFP - Risk Management and Insurance Planning (11% of the exam) - Section C.26

Insurance policy and company selection

Comparing policies on cost, provisions, riders and underwriting, reading an in-force illustration, judging insurer strength through rating agencies, and the role of state guaranty associations. Items ask which policy or carrier best fits stated client criteria.

Insurance company ratingsState guaranty associations

Practice question for this objective

Free sampleRisk Management and Insurance Planningmedium

Priya, aged 44, is choosing an insurer for a 500,000 dollar participating whole of life policy. Insurer A carries an A++ financial strength rating from a recognised rating agency and shows a modest projected cash value at age 65. Insurer B carries a B+ financial strength rating and its illustration projects a materially higher cash value at age 65. Priya asks her planner what the A++ rating actually tells her about Insurer A. Which response is accurate?

AThe rating summarises the insurer's historical investment performance, so the higher rating means Insurer A will credit at least the returns that Insurer B has projected in its illustration.
BThe rating is an opinion on the insurer's ability to meet its ongoing policy and contract obligations, and it says nothing about the investment return that will be credited to her policy. Correct
CThe rating is a solvency guarantee issued by the state insurance department, which undertakes to pay the full face amount of the policy if the insurer is unable to do so.
DThe rating grades the insurer's customer service standards and the average speed with which it settles claims, rather than the strength of the reserves standing behind the contract.

A financial strength rating is an opinion on an insurer's claims-paying ability, not a forecast of policy investment returns or a government guarantee. Rating agencies analyse reserves, capital adequacy, reinsurance, business mix and operating performance to form an opinion on whether the insurer can meet its contractual obligations as they fall due. That opinion is about solvency and claims-paying ability. The projected cash value in Insurer B's illustration is a non-guaranteed element driven by assumed crediting rates and expense charges, and a weaker insurer often illustrates aggressively. Comparing the rating against the projection therefore compares two unrelated things.

Why A is wrong: Tempting because ratings and crediting rates both reflect the general account, but rating agencies grade claims-paying ability, and no rating forecasts or guarantees a crediting rate on any policy.

Why B is correct: Financial strength ratings assess claims-paying ability and solvency, so a high rating speaks to whether the insurer can honour the contract, not to how the non-guaranteed elements of the illustration will perform.

Why C is wrong: Tempting because regulators do supervise solvency, but ratings come from independent private agencies, and no regulator guarantees a policy; post-insolvency cover comes from a guaranty association and is capped.

Why D is wrong: Tempting because the phrase claims-paying ability sounds like service quality, but the rating measures the financial capacity to pay claims, not administrative responsiveness or settlement times.

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Exam traps in Risk Management and Insurance Planning

Answers that look right on this material and are not. Each one is a distractor from a different question in the CFP bank for this domain.

Recommend Policy B, because its annual premium is 250 dollars lower and the premium is the amount Daniel actually pays out of pocket each year for the same face amount of cover.
Why it is wrong: Tempting because premium is the visible price, but premium alone ignores dividends, the cash value built up and the time value of money, all of which change which policy costs less over twenty years.
Present the guaranty association as the reason the weaker rating can be disregarded, since the association stands behind every licensed insurer in the state and removes the difference in financial strength between the quotes.
Why it is wrong: Tempting because guaranty association cover is genuine, but using it to neutralise a rating misstates its function, and most states expressly prohibit an insurer or producer from referring to it in a sales presentation.

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