CHAPTER 17 APPLICATIONS IN RISK MANAGEMENT

LEARNING OBJECTIVES

After completing this chapter, you should be able to do the following:

  Identify the appropriate use of life settlements in risk management and insurance planning.

  Identify concepts and applications of life insurance within risk management and insurance planning.

  Apply the concept of additional insureds to the personal financial planning process.

  Evaluate how risk management planning concepts interrelate to other areas of personal financial planning.

Introduction

As we noted in Chapter 7, risk management is a large part of any personal financial planning engagement. There we discussed basic risk management concepts, the risk management process, and insurance fundamentals. In this chapter, we return to the ever-present topic of risk to explore it in greater detail. We will look at more advanced insurance concepts, broken down by insurance type, as well as taxation issues. Throughout the chapter, you’ll see how risk management touches on several other areas of personal financial planning as well.

Life Insurance Applications

Life insurance is fundamental to risk management and it touches on many other aspects of personal financial planning, so we will begin our discussion on risk there.

Although the idea of life insurance seems fairly simple, choosing a life insurance policy and company is actually quite difficult. The sheer number of different types of life insurance contracts makes the process of effective contract design extremely difficult. Key features of the contracts, as well as financial and health underwriting considerations, are unique to each insurance company. The personal financial planner is best advised to quantify the client’s unique needs and then select three to five insurance companies with which to model the contracts. The following sections cover the main considerations in selecting companies, policies, and policy terms, for either permanent (cash value) or term policies.

LIFE INSURANCE ILLUSTRATIONS

How do you know what a life insurance policy entails and how it will pay out? The life insurance policy illustration is the primary source of financial information regarding a proposed life insurance contract. This illustration isn’t simply some kind of drawing or graphic, as the name might imply. Instead it is a presentation including both text and graphics showing how a life insurance policy is projected to perform. Exhibit 17-1 shows what must be included in a life insurance illustration.

EXHIBIT 17-1	ITEMS THAT MUST BE INCLUDED IN A LIFE INSURANCE ILLUSTRATION

It is required that a copy of the preliminary illustration should be given to the client, as well as a final illustration matching the product that was sold, with all variables in place. If multiple insurance carriers are considered, the illustrations may serve as a basis for comparison.

How to Read an Illustration

Reading and comprehending a life insurance illustration is a difficult discipline to master. It is the experience of the authors that even agents and brokers who have been in practice for decades do not fully comprehend the illustrations they are presenting to consumers. Exhibit 17-2 shows our tips for the best way to read life insurance illustrations.

EXHIBIT 17-2	TIPS FOR READING LIFE INSURANCE ILLUSTRATIONS

Life Insurance Illustrations Model Regulation

The Life Insurance Illustrations Model Regulation defines and limits how an insurance company may illustrate life insurance policy values, features and benefits. Elements of the model regulation include the following:

•All illustrations must be certified annually by an actuary.

•Copies of the illustrations used with a proposed insured must be sent to the insurer along with the policy application.

•Copies of the illustrations used must be signed by both the applicant and by the agent or broker.

•In addition to the illustrations provided at the time of sale, the insured must be given an annual report on the insurance company.

•The policy cannot be represented as anything other than a life insurance policy.

•The model prohibits the use of the term “vanish” or “vanishing premium.” The correct phrase is “premium offset.”

The model regulation isn’t legally required or enforced by a regulatory body. Instead, it is overseen by the National Association of Insurance Commissioners (NAIC), a voluntary association of insurance administrators from each state. The NAIC has no legal authority over insurance regulation, but through it, state commissioners exchange information and ideas and coordinate regulatory activities in each of their separate jurisdictions.

The purpose of the NAIC is to oversee state accreditation programs, promote laws and regulation uniformity, protect the interest of policy owners while preserving state regulations, and transmit information to state regulators.

SETTLEMENTS

The cash values in a permanent life insurance contract can be used as a source of funds in the event an individual has a terminal illness or a need for long-term care services. However, in chronic situations, the cash value may not be sufficient to address the needs of the insured individual. A settlement is an advance of a portion of a life insurance contract’s death benefit. It is a means to provide greater financial resources than a policy’s cash surrender value without jeopardizing the death benefit. There are three basic ways in which a life insurance contract may be settled: an accelerated benefit rider, a life settlement, or a viatical settlement.

Accelerated Benefit Rider

An accelerated benefit rider pays a portion of a life insurance contract’s death benefit, prior to death, if the insured is medically certified as terminally ill. The IRC deems a person terminally ill if he or she is certified by a physician as having a condition reasonably expected to result in death within 24 months of the date of certification. A terminally ill individual may exclude from income amounts received from an accelerated benefit rider. If an insured is chronically ill (not terminally ill), the insured may qualify for a limited exclusion (a dollar limit per day) if payments are received for costs incurred for long-term care services. Accelerated benefit payments reduce the death benefit payable under the contract by the amount of the death benefit that was paid in advance of death.

TERMINALLY ILL AND CHRONICALLY ILL

Viatical Settlements

A viatical settlement is the sale of a terminally ill person’s life insurance contract to a third-party business. That business then owns the policy and receives the full death benefit when the insured dies. The proceeds from a viatical settlement are greater than the contract’s cash surrender value and less than the contract’s death benefit. The spread between the viatical settlement amount and the life insurance contract’s death benefit is the potential profit made by the viatical company.

Life Settlement

A life settlement is a transaction involving an insured who is not terminally or chronically ill and is generally over age 65. The insured no longer has a need for life insurance and has decided to surrender the life insurance contract. A life settlement, like a viatical settlement, will provide a value to the owner in excess of the life insurance contract’s cash surrender value. Since the settlement does not deal with a terminally ill person, the participants in a life settlement transaction are taxed as follows:

•Tax-free: basis (premium paid)

•Ordinary income: the difference between the basis and the policy’s cash surrender value

•Long-term capital gains: the difference between the higher of either the cash surrender value or the tax basis and the net settlement proceeds

MODIFIED ENDOWMENT CONTRACTS

As you know, life insurance policies have tax-favored status and, as a result, abuses can occur. In response to these abuses, the IRS issued new regulations and defined these abusive contracts as modified endowment contracts (MEC) and taxed the contracts as investments. In order to avoid MEC treatment, a life insurance policy must meet the seven-pay test. The seven-pay test measures the amount of premium paid into a life insurance contract. If too much premium is paid within the first seven years of the contract, or a later period in the event of a material change, then the life insurance policy fails the seven-pay test. Once a life insurance contract has been classified as a MEC, it will retain that status throughout the life of the contract.

There are two tests to determine whether too much premium has been paid into the life insurance contract: the cash value accumulation test, and the guideline premium or corridor test. If a life insurance contract issued after June 21, 1988 fails either of the tests, it is then deemed to be a modified endowment contract and will be taxed as a nonqualified annuity and not a life insurance contract. However, the death benefit for a MEC continues to be excludable from income.

The taxation of distributions under a MEC contract is similar to the taxation of a deferred annuity. In the case of a MEC, any loan against the contract is considered a distribution and is taxed as shown in exhibit 17-3.

EXHIBIT 17-3	TAXATION OF DISTRIBUTIONS UNDER A MEC

Material Change

A life insurance contract which initially passes the seven-pay test at issue can later become a MEC if there is a material change in the contract. A material change will cause an existing life insurance contract to be treated (for income tax purposes) as newly issued, and therefore subject to a new seven-pay test. What constitutes a material change is beyond the scope of this material. Common examples of material change are: change in death benefit, premium payments, or surrender of cash values.

TRANSFER FOR VALUE RULES, SECTION 101(A)(2)

The most important exception to the general rule that life insurance death proceeds are excluded from federal income tax is the transfer for value rule. This rule states that if a policy is transferred from one owner to another, for valuable consideration, the income tax exclusion for the death benefit is lost. Policy transfers not jeopardized by the transfer for value rule are the following:

•A transfer to the insured

•A transfer to a partner of the insured

•A transfer to a corporation in which the insured is a shareholder or an officer

Note that the gift of a life insurance contract to a family member creates a taxable gift but does not trigger a transfer for value. However, the sale of a life insurance contract to a family member (other than the insured) does not create a taxable gift but does cause a transfer for value.

SECTION 1035 EXCHANGES

The Internal Revenue Code provides for tax-free exchanges of life insurance and annuity contracts. The following exchanges are allowed:

•The exchange of a life insurance policy for another life insurance policy or for an annuity contract

•The exchange of an annuity contract for another annuity contract

In order to qualify for the exchange, the insured and owner on the life insurance contracts must be the same. If an annuity contract is exchanged, both contracts must also have the same owner and the same annuitant. The insurance company facilitating the exchange acts as the qualified intermediary.

IMPACT ON OTHER ASPECTS OF PERSONAL FINANCIAL PLANNING

Estate Planning

Life insurance is a popular estate planning tool; however, it may be overutilized. The correct application of entities and trusts, as well as the passage of time (five to seven years) will, in most instances, eliminate the need for life insurance to pay estate taxes. If life insurance is used as part of an estate planning strategy, it should be held in an irrevocable trust to prevent the inclusion of the death benefit in the taxable estate. If taxable gifts are utilized to fund the irrevocable trust, Crummy provisions should be considered.

Investment Planning

Individually owned life insurance is not an investment and should never be considered as such; however, the guaranteed values of a life insurance contract may be considered as cash or a cash alternative in investment planning. Also, life insurance policies may be held in a securitized pool owned by life and viatical settlement companies. An interest in one of these pools is considered an investment.

Retirement and Financial Independence Planning

One life insurance planning strategy used exclusively for retirement planning is pension maximization. It is used primarily in conjunction with a defined benefit pension plan. The strategy involves selecting a single life annuity for the plan participant rather than electing a dual or joint life with last survivor annuity which would cover both the plan participant and the plan participant’s spouse. The resulting increased income received as a result of electing a single life annuity is used to fund both the couple’s retirement income until the plan participant’s death, and the premium payment for the purchase of a life insurance contract on the plan participant.

When the plan participant dies first, the surviving spouse will use the life insurance proceeds to purchase a commercial single life annuity to fund the remainder of his or her retirement. At this point, the higher age of the surviving spouse will allow for greater annuity income than he or she would have received as the surviving spouse with a dual or joint life with last survivor annuity. If the plan participant outlives the spouse and there is no longer a need for insurance, the policy may be surrendered, reduced, paid-up, or continued in order to provide a greater estate for surviving heirs.

There are many important factors to consider before attempting this strategy, including the following:

•Health of both spouses

•Income tax implications

•Terms of the company’s pension and medical plan

The reason pension maximization works has to do with how the mortality tables function. Marital status or domestic partner status is an influential indicator of life expectancy. An individual who retires unmarried or without a domestic partner will generally have a shorter life span than someone who is involved in such a relationship. And individuals who are married or are in a domestic partnership will generally have longer individual life expectancies. As a result, the cost or reduction in lifetime income to provide for the surviving spouse or partner is significant. There are many benefits to pension maximization if the plan participant is in good health and is able to qualify for the purchase of a life insurance contract, including the following:

•Provides the highest income to the retiree

•Provides the highest income to the surviving spouse or domestic partner

•Potentially provides emergency funds not otherwise available

•Provides preretirement death benefit protection for the plan participant’s family

•Potentially provides an inheritance for heirs

EXAMPLE

Annuities

Annuities are discussed in detail in Chapter 9, but we mention them here to emphasize the point that an annuity is both an insurance contract and an investment, and as such it should be included in the asset allocation plan for the personal financial planning client. It has the potential to reduce portfolio risk and volatility. As a tool for financial independence, an annuity contract with a guaranteed minimum withdrawal benefit can provide guaranteed income with a potential for cash accumulation. Annuities also address longevity risk by providing a guaranteed income stream, regardless of economic environment.

Medical Insurance

Life insurance may be more fundamental to risk management, but most people are a bit more familiar with medical insurance. Because of the Affordable Care Act (ACA), everyone must now have it, and each visit to the doctor or pharmacy equals another interaction with one’s medical insurance.

We discussed medical insurance options in Chapter 8. Here we cover taxation issues and discuss the implications of the ACA in greater detail.

TAXATION AND INCOME TAX PLANNING

Individual Plans

When a taxpayer chooses to itemize deductions as opposed to claiming the standard deduction on Form 1040, Schedule A, they may be able to deduct expenses for medical and dental care for themselves, their spouse, and their dependents. Deductions are allowed when total medical expenses exceed 10 percent of adjusted gross income (AGI). It should be noted that itemized deductions are also subject to limitations, which are based on the taxpayer’s income.

As shown in exhibit 17-4, medical expenses cover a wide variety of services, in addition to traditional medical and dental insurance premiums.

EXHIBIT 17-4	DEDUCTIBLE MEDICAL EXPENSES

Self-Employed Health Insurance Deduction

A self-employed taxpayer who reported a net profit for the year (Schedules C, C-EZ, or F), is eligible for the self-employed health insurance deduction. The deduction is an adjustment to income, rather than an itemized deduction, for premiums paid on a health insurance policy (including Medicare) for themselves, their spouse, and dependents. In addition, if the taxpayer does not claim the full amount of the premiums paid, the balance may be added to other medical expenses as an itemized deduction on Form 1040, Schedule A.

For partners and more-than-2 percent shareholders in an S corporation, the health insurance policy may be either in the name of the business or in the name of the partner or shareholder. The premiums may be paid by the business or by the partner or shareholder.

If the health insurance policy is in the name of the partner, and the partner pays the premium, then the partnership may reimburse the partner and report the premium amount on Schedule K-1 as guaranteed payment to be included in gross income.

If the health insurance policy is in the name of a more-than-2 percent shareholder of an S corporation, and the shareholder pays the premium, then the S corporation may reimburse the shareholder and report the premium amounts on Form W-2 as wages to be included in gross income.

Group Plans

Premiums for employer-provided accident or health insurance plans are a deductible business expense for the employer and the premium payments are not considered wages to the employee. They are not subject to Social Security, Medicare, unemployment tax, or federal income tax withholding. However, the cost of health insurance premiums must be included in the wages of a more-than-2 percent owner of an S corporation, as stated previously.

The result of this structure is both a tax-deductible premium payment by the employer and potential tax-free benefits for the employee. This type of arrangement is fairly unique and has been around since the 1940s.

AFFORDABLE CARE ACT

We briefly mentioned the ACA in Chapter 8. Because it is the most significant healthcare legislation in years and has such a major impact on medical insurance, we need to discuss it in greater detail.

The ACA requires U.S. citizens and legal residents to have a health insurance contract. It mandates that all qualified health benefits plans include an essential health benefits package. Exhibit 17-5 shows the set of 10 categories of health care services that health plans must cover in order to meet this requirement.

EXHIBIT 17-5	10 CATEGORIES OF ESSENTIAL HEALTH BENEFITS UNDER ACA

HEALTHCARE MARKETPLACE—INDIVIDUAL AND SMALL EMPLOYER

The ACA created state-based health benefit exchanges and Small Business Health Options Program (SHOP) exchanges to be administered by a governmental agency or nonprofit organization. Individuals and small businesses can purchase qualified health insurance on these exchanges. The act allows states to form regional exchanges or allow more than one exchange to operate in a state, as long as each exchange serves a distinct geographic area. The act penalizes employers when an employee receives tax credits for health insurance because the employee purchased the insurance through an exchange instead of having it offered by their employer. There are limited exceptions for small employers.

PREMIUM TAX CREDITS

The ACA provides for refundable and advanceable premium tax credits to eligible individuals and families with incomes between 100 percent and 400 percent of the federal poverty level (FPL) if they purchase insurance through the exchanges. Provisions related to these credits are fluid and subject to change.

INDIVIDUAL SHARED RESPONSIBILITY PROVISION

U.S. citizens and legal residents who do not have qualifying health insurance coverage are required to pay a tax penalty. Those without coverage pay a tax penalty of the greater of $695 per year, up to a maximum of three times that amount ($2,085) per family or 2.5 percent of household income. Beginning in 2016, the penalty will be increased annually by a cost-of-living adjustment. Limited exemptions will be granted for financial hardship, religious objections, American Indians, undocumented immigrants, and incarcerated individuals.

EMPLOYER SHARED RESPONSIBILITY PROVISION

Employers with 50 or more full-time employees who do not offer health insurance coverage and have at least one full-time employee who receives a premium tax credit are assessed a fee of $2,000 per full-time employee, excluding the first 30 employees from the assessment.

Employers with 50 or more full-time employees who offer coverage but have at least one full-time employee receiving a premium tax credit will be assessed the lesser of $3,000 for each employee receiving a premium credit, or $2,000 for each full-time employee, excluding the first 30 employees from the assessment.

Disability Insurance

When we discussed disability insurance in chapter 9, we didn’t get into taxation issues. Those issues aren’t complex, but they are important.

Benefits (income) received from disability income insurance may or may not be taxable. The taxability of disability income insurance benefits depends on what type of benefits are received, whether the premiums for the disability income insurance contract were paid with pretax or after-tax dollars, and who paid the premiums.

The premiums for an individual disability income insurance contract are paid with after-tax dollars and, as a result, the benefits are received income-tax free.

The taxability of benefits received under an employer-sponsored group disability insurance policy depends on who paid the premium. If an employee paid the premium with after-tax income, then the benefits are received income-tax free. If the employer paid the premium and does not include the cost of coverage in the employee’s gross income, then the disability benefits received are taxable. If the employer pays part of the insurance premium and the employee pays the balance, then the employer’s portion of the disability benefits are taxable.

Disability policies purchased through an association plan are called group policies because members of the association are offered special terms, conditions, and rates based on the characteristics of that group. Association policies function much like individual policies and, as a result, have similar tax consequences.

Long-term Care Insurance

Long-term care (LTC) insurance has additional tax issues we need to explore, and we will also look at the idea of self-insurance and the integration of long-term care insurance with overall personal financial planning.

TAXATION AND INCOME TAX PLANNING

Benefits

Benefits paid on a LTC policy are not taxable income as long as benefit payments above $340 per day (2016) do not exceed the actual cost of care.

Sole Proprietor

A sole proprietor is able to deduct the entire premium paid for LTC provided to employees. For personal coverage, the sole proprietor can deduct 100 percent of the eligible long-term care premium. (See Chapter 9.) There is no 10 percent of AGI threshold requirement.

Partnership

LTC premiums paid on behalf of partners may be deducted as guaranteed payments under Section 707(c). Although partners include the full amount of the LTC premiums in their gross income, they are able to deduct a portion of the premiums paid. The same rules that limit the deduction for a sole proprietor also apply to the premiums that a partner can deduct.

S Corporation

A more-than-2 percent owner of an S Corporation is treated like a partner in a partnership. The S corporation deducts the LTC premium it pays in consideration for services rendered by the insured shareholder, and the shareholder includes the full premium in the shareholder’s gross income. As with sole proprietors and partners, a more-than-2 percent shareholder in an S corporation can only deduct a limited portion of the LTC premium.

C Corporation

Employer-provided long-term care insurance qualifies as an accident and health plan under Sections 105 and 106.

Premiums paid by the employer to provide qualified long-term care coverage for employees are deductible as an ordinary and necessary business expense. However, an employer cannot provide long-term care coverage as part of a cafeteria plan (Section 125).

An employee does not include in gross income the cost of any employer-provided qualified long-term care insurance. However, if an employer provides qualified long-term care insurance through a flexible spending arrangement (FSA), the employee must include the cost of the coverage in gross income. The employee’s medical expense deduction is then limited to the lesser of actual premiums paid or the eligible long-term care premium, as well as the 10 percent of AGI threshold.

Amounts received under a qualified long-term care insurance contract are treated as reimbursements for expenses incurred for medical care. As a result, if an employer pays the premium for an employee’s qualified long-term care coverage, the employee is not taxed on the LTC benefits paid under the insurance.

Long-term care insurance premiums paid by a C corporation on behalf of any shareholder are treated as nondeductible dividends, unless the corporation can establish that it is providing coverage to the insured in his or her capacity as an employee. If the corporation provides qualified long-term care insurance only to shareholder-employees, the corporation must demonstrate that there is a reasonable basis (segregation by class of employee), other than their status as shareholders, to segregate the insured shareholder from non-shareholder employees.

Health Savings Account (HSA)

Medical expenses for long-term care services, as well as premium payments for a qualified long-term care insurance contract, are considered qualified medical expenses. As a result, funds in a health savings account (HSA) may be used to pay these types of expenses.

RETAINING THE RISK—THE SELF-INSURANCE OPTION

Without LTC insurance, there are a variety of ways an individual may pay for a long-term care stay in a nursing home: their own financial resources (self-insure); Medicare (100 days or less); and Medicaid (if they are of little or no financial means). Most individuals who enter a nursing home begin by paying for their care out-of-pocket (self-insure). Over time, as they consume their financial resources, they may become eligible for Medicaid. Medigap policies do not cover long-term care, vision or dental care, hearing aids, eyeglasses, or private-duty nursing.

INTEGRATION AND APPLICATION OF LONG-TERM CARE INSURANCE WITH PERSONAL FINANCIAL PLANNING

For clients between the ages of approximately 45–55, the personal financial planner may want to consider a qualified long-term care insurance contract as an alternative to a disability insurance contract. Disability insurance insures against a loss of income; LTC insures against the risk of not being able to perform the activities of daily living. It is possible to be disabled as a result of injury or illness and continue to earn income, and therefore not be eligible to receive disability benefits. However, older insureds may receive benefits from a LTC policy because the disability has limited the activities of daily living and thus the policy will pay a claim, even if the insured is continuing to earn income.

An objection, voiced by many individuals, regarding the purchase of a LTC policy is that they can give all of their assets to their children before entering into a long-term care facility, and “let the government pay for me.” As a personal financial planner, you will hear this often. However, you can skillfully explain why this is not necessarily what they want to do.

First, the objection is self-serving; their children’s taxes will be providing the benefits. Second, the Deficit Reduction Act of 2005 prohibits individuals from obtaining Medicaid coverage if they give money or assets away within five years of incurring nursing home expenses—even if the transfer was not in contemplation of entering a nursing home.

Additionally, individuals are ineligible for Medicaid if they have more than $500,000 in home equity. States are allowed to raise this amount to $750,000. Further, Medicaid recipients who have annuities must name the state as a remainder beneficiary to cover expenses. Another provision lifts a moratorium on the number of states that can choose to offer long-term care partnership programs. Such programs allow people who buy LTC insurance and who later need nursing home care under Medicaid to protect their assets up to the amount of their LTC policies.

Property and Casualty Insurance

Finally we come to property and casualty insurance. The issues we didn’t cover in our Chapter 9 discussion of this type of insurance include additional insured endorsements, taxation, and the unique property and casualty needs of business owners.

ADDITIONAL INSURED ENDORSEMENT

During a PFP engagement, recommendations are not only made as to the type and amount of property and casualty insurance, but also as to who the named insureds should be on the insurance contracts. Often, the member of a real estate LLC is another LLC, typically a family limited partnership or some other entity for management and control. These entities themselves may be held in an irrevocable trust, and so on. As a result, it is critical for the personal financial planner to determine who should be insured and who or what should be named as an additional insured.

An additional insured is a person or organization not automatically included as an insured under an insurance contract. The reason an additional insured is added to a policy is to protect the additional insured because of a close relationship with the insured. An LLC managing closely held real estate or an irrevocable trust holding the LLC interest are two examples of additional insureds.

Additional insured status is commonly used in conjunction with an indemnity agreement between the named insured (the indemnitor) and the party requesting additional insured status (the indemnitee). Having the rights of an insured under its indemnitor’s commercial general liability (CGL) policy is viewed by most indemnitees as a way of backing up the promise of indemnification. If the indemnity agreement proves unenforceable for some reason, the indemnitee may still be able to obtain coverage for its liability by making a claim directly as an additional insured under the indemnitor’s CGL policy.

TAXATION AND INCOME TAX PLANNING

A deduction may be taken for a casualty loss only to the extent that the loss is not covered by insurance. The deduction for a casualty loss to personal property is limited: A deduction may only be taken if the amount of the loss exceeds 10 percent of adjusted gross income for the tax year. Additionally, $100 must be subtracted from each casualty loss event suffered during the year. This reduction applies to each event and it does not matter how many pieces of property are involved in an event.

An insurance payment in excess of the adjusted basis of damaged or destroyed property will result in a taxable gain. If a primary residence is destroyed and the insurance proceeds result in a gain, the gain may be treated as a sale of the residence subject to Section 121 rules. If the home was not used or owned for two of the last five years, a reduced maximum gain exclusion will apply. A gain does not have to be recognized on destroyed or damaged business property if the property is replaced within two years of the end of the tax year in which the gain is realized.

BUSINESS OWNERS INSURANCE

Through interacting with employees and customers and in providing or creating products and services, the owner of a business encounters many risks. In order to address these business-related risks, a variety of insurance products and policies were created, including the business owner’s policy, the commercial general liability policy, and workers’ compensation.

Business Owner’s Policy (BOP)

The business owner’s policy (BOP) is designed for small-to-medium-size businesses and combines real property, contents, and liability protection into a single insurance contract. A BOP provides insurance coverage for claims resulting from losses such as fire, theft, claims involving bodily injury, property damage, and personal and advertising injury that could arise from the operations of the business. A business is able to customize a BOP by adding optional coverages like data breach. Professional liability is specifically excluded from a BOP.

Commercial General Liability Policy

A commercial general liability (CGL) policy provides protection against liability claims for bodily injury and property damage arising on and off the premises, operations, products, and completed operations; as well as advertising and personal injury liability. The CGL works very much like a personal umbrella policy for the business.

Workers’ Compensation

Workers’ compensation insurance is mandatory and is carried by most businesses. Each state has its own workers’ compensation laws, which address claims from employees who are injured on the job. These laws are strict liability, which means fault and negligence by the employer are not considered in order to collect benefits.

When an employee is injured as a result of employment, the employer has a responsibility to provide compensation for medical care, lost wages, and rehabilitation expenses. Compensation to a worker injured on the job is determined and administered under each individual state’s workers’ compensation laws. Workers’ compensation benefits are received income-tax free.

BENEFITS UNDER WORKERS’ COMPENSATION INSURANCE

Chapter Review

Personal financial planning is the management of economic risk. Insurance products were created to transfer economic risk to an insurance company in exchange for consideration. The personal financial planner is required to be familiar with and understand many forms of insurance, including: life, disability, long-term care, health, and property and casualty. Beyond the traditional uses of insurance, there are advanced applications such as life settlements, naming of additional insureds and business overhead protection. The personal financial planner should have a facility with these concepts and recognize when they should be applied in a personal financial planning engagement.

CASE STUDY REVISITED

The Welk sisters have an issue that is best addressed by the multidisciplinary approach provided in integrated personal financial planning.

1. The insurance policy premium payments are substantive. A decision should be made as to whether or not there is a continuing need for life insurance.

2. If there is a need, an analysis should be performed utilizing current policy illustrations and a determination made as to the appropriateness of the current policy design.

3. The current withdrawal rate is unsustainable and will only be aggravated by the passage of time. A spending plan should be accomplished for each family line, and a reduced and mutually agreed upon withdrawal plan should be established.

4. An assessment of the current investment portfolio should be performed to determine whether the returns are in alignment with the clients’ risk tolerance.

ASSIGNMENT MATERIAL

REVIEW QUESTIONS

1. Which of the following resources may be used to pay for a long-term care stay in a nursing home that exceeds 100 days?

A. Medicaid.

B. Medicare.

C. Medicare supplement insurance.

D. Medigap insurance.

2. Paul Baker is a more-than-2 percent shareholder of Gemstone Brokers, Inc., an S Corporation. The corporation pays the premium for Paul Baker’s personally owned disability income insurance contract. Which of the following is/are true?

I. Gemstone Brokers, Inc. can deduct the premium.

II. Benefits provided to Paul Baker under the disability income insurance contract will be income-tax free.

A. I.

B. II.

C. Both I and II.

D. Neither I nor II.

3. Who of the following is eligible to establish a health savings account?

A. An individual participating in a high-deductible health plan.

B. An individual eligible for Medicare.

C. An individual claimed as a dependent.

D. An individual participating in an employer-sponsored group health insurance plan.

4. Which of the following is not an essential health benefit under the Affordable Care Act (ACA)?

A. Ambulatory patient services.

B. Laboratory services.

C. Maternity and newborn care.

D. Vision care.

5. Under the employer shared responsibility provision of the ACA, which of the following is correct?

A. Employers with 50 or more full-time employees who offer health insurance coverage, and have at least one full-time employee who receives a premium tax credit, are assessed a fee of $2,000 per full-time employee, excluding the first 30 employees from the assessment.

B. Employers with 50 or more full-time employees who do not offer health insurance coverage, and have at least one full-time employee who receives a premium tax credit, are assessed a fee of $2,000 per full-time employee, excluding the first 30 employees from the assessment.

C. Employers with 50 or more full-time employees who offer coverage but have at least one full-time employee receiving a premium tax credit will be assessed the greater of $3,000 for each employee receiving a premium credit or $2,000 for each full-time employee, excluding the first 30 employees from the assessment.

D. Employers with 50 or more full-time employees who offer coverage but have at least one full-time employee receiving a premium tax credit will be assessed the lesser of $3,000 for each employee receiving a premium credit or $2,000 for each full-time employee, excluding the first 50 employees from the assessment.

6. Susan Jones, owner of HyperTech, LLC decided that her storefront windows need to be washed in order to attract more foot traffic. The business sells iDevices, which are visible from the windows on the street. While Chris, an employee, was on a ladder cleaning the windows, he dropped a bucket on a customer as she was entering the store. HyperTech, LLC should be protected from liability, property damage, or medical payments by which of the following policies?

A. Business owner’s policy.

B. Commercial umbrella.

C. E&O liability.

D. Workers’ compensation.

7. An insurance payment in excess of the adjusted basis of destroyed property will result in a _____.

A. Current gain.

B. Gain.

C. Tax free gain.

D. Taxable gain.

8. Workers’ compensation is an example of which of the following types of liability?

A. Absolute liability.

B. Joint liability.

C. Strict liability.

D. Vicarious liability.

9. A few years ago, Mr. Steed purchased a deferred annuity for $150,000. It is currently worth $200,000. He has decided to retire and begin periodic payments. His life expectancy is 16 years. If his periodic payments are $1,500 per month, how much of the monthly payment is income taxable?

A. $658.75.

B. $718.75.

C. $781.75.

D. $881.75.

10. What is the function of the National Association of Insurance Commissioners?

I. Enact legislation for regulation of the insurance industry.

II. Oversee state accreditation programs.

III. Promote law and regulatory uniformity.

IV. Protect the interests of policy owners while preserving state regulations.

A. I.

B. I, II, III, IV.

C. II, III, IV.

D. I, II, IV.

INTERNET RESEARCH ASSIGNMENTS

1. What online resources are available to consumers regarding health savings accounts?

2. What long-term care information is available from U.S. Department of Health and Human Services? List three resources you found to be of benefit.

3. Download HealthView Services’ 2015 Retirement Health Care Costs Data Report. What are the effects of health status and longevity on retirement and financial independence?

4. Visit the National Association of Insurance Commissioners website and download the Life Insurance Illustrations Model Regulation. What is the purpose of the model regulation?