Life insurance (individual and group)

Term, whole, universal, variable and indexed universal life; policy provisions, riders, dividends and nonforfeiture options; modified endowment contracts; taxation of death benefits, cash value, loans and surrenders; transfer-for-value; and group term coverage above USD 50,000.

Internal Revenue Code Section 101Internal Revenue Code Section 7702Internal Revenue Code Section 79

Practice question for this objective

Free sampleRisk Management and Insurance Planninghard

A planner completes a needs analysis on Rosa, aged 44, married with two children. The capital requirements she has agreed are: final expenses and estate settlement costs of 27,000 dollars, mortgage repayment of 312,000 dollars, an education fund of 180,000 dollars, and an income replacement fund with a present value of 1,236,000 dollars. The resources available at her death are: group life cover through her employer of 250,000 dollars, an individual policy of 200,000 dollars, liquid savings and investments of 138,000 dollars that the family would use for this purpose, and Social Security survivor benefits with a present value of 260,000 dollars. All figures are stated in present value terms at the date of death, and no other assets or liabilities are relevant. What additional life cover does the needs analysis indicate?

A1,755,000 dollars of additional cover
B907,000 dollars of additional cover Correct
C1,305,000 dollars of additional cover
D1,167,000 dollars of additional cover

The needs approach subtracts every resource available at death, including savings and Social Security survivor benefits, from the total capital requirement. A needs analysis produces a gap, not a gross requirement. Total the capital needs first: 27,000 plus 312,000 plus 180,000 plus 1,236,000 equals 1,755,000 dollars. Then total the resources the survivors can apply to those needs: 250,000 of group life plus 200,000 of individual life plus 138,000 of liquid savings plus 260,000 of Social Security survivor benefits equals 848,000 dollars. The additional cover indicated is 1,755,000 less 848,000, which is 907,000 dollars. Stopping at the gross requirement gives 1,755,000 dollars; netting only the two policies gives 1,755,000 less 450,000, or 1,305,000 dollars; and netting the policies and savings but not the survivor benefits gives 1,755,000 less 588,000, or 1,167,000 dollars. Two practical cautions sit behind the arithmetic: group cover normally ends when the employment ends, and the survivor benefit stops during the years when no child under 16 is in the surviving spouse's care, so a planner would test how durable each resource is before treating it as a full offset.

Why A is wrong: This is the gross capital requirement with no resources netted off, so it would have Rosa buy cover for money the family already has. The needs approach is a two sided calculation: total need less total resources.

Why B is correct: This nets the full 848,000 dollars of resources, being 250,000 of group cover, 200,000 of individual cover, 138,000 of savings and 260,000 of Social Security survivor benefits, against the 1,755,000 dollar requirement.

Why C is wrong: This nets off the 450,000 dollars of existing life cover but ignores the savings and the Social Security survivor benefits. Any resource the survivors can apply to the identified needs belongs on the resources side, whether or not it is an insurance policy.

Why D is wrong: This counts the two policies and the savings but omits the present value of the Social Security survivor benefits. Those benefits are a funded, quantified stream payable to the surviving children and caregiver, so leaving them out overstates the gap by 260,000 dollars.

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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.

No taxable income arises, because the loan advances were received tax free and the discharge of the loan on lapse is simply treated as a repayment of borrowing.
Why it is wrong: This is Rowan's own reasoning and it is the most common misunderstanding of policy loans. A loan is tax free only while the contract stays in force; termination settles the loan out of the cash value and that settlement is an amount received under the contract.
9,600 dollars, being 24,000 dollars of replacement cost less 14,400 dollars of accrued depreciation, with the deductible left out of the calculation.
Why it is wrong: Tempting because 9,600 dollars is the correct actual cash value, but the deductible is subtracted from the amount otherwise payable, so this overstates the insurer's payment by 1,000 dollars.

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