# Life Insurance

## Life Tables

Question 1

AM92 or PFA tables, which one has higher values?

PFA tables have higher values.

Question 2

What is the select mortality table?

A select mortality table is a type of mortality table that displays statistics about the mortality rate for people who have recently purchased life insurance policies. Life insurance companies use these tables to determine the price of their products. The mortality of the recently joined policyholders is called select mortality, and we expect it to be better than that of longer duration policyholders, whose mortality we call ultimate mortality as they have just passed the certain medical exams required to obtain insurance.

Lives who are subject to select mortality are denoted by [x] + r , where x is the age at selection and r is the number of years since the policy inception. A select mortality table has select functions for r = 0,1,…,s-1, where s is the select period. The select period is the number of years since selection during which mortality rates are assumed to be dependent upon the duration since selection as well as on current age.

Question 3

What is the ultimate mortality table?

• Ultimate mortality is based on an assumption of mortality varying by age only.
• An ultimate mortality table lists the percentage of life insurance purchasers expected to still be alive at each given age.
• Typically, the data is based on policyholders from a particular insurance company or group of them, rather than the entire population.
• Ultimate mortality tables exclude data from recently underwritten policies because their owners were probably required to pass a medical exam.
• Insurance companies consult ultimate mortality tables to price their products and determine whether to offer coverage to an applicant.

Question 4

What are life tables and what are its uses?

A life table is a table which shows, for each age, what the probability that a person of that age will die before their next birthday is. Usually it represents the survivorship of people from a certain population.

Use of life table:

•  Life Table provides a measure of the rate of death occurring at specified ages over specified periods of time.
• Life table is used to project the future population on the basis of the present death rate.
• It helps in determining the average expectation of life based on age specific death rates.
• The method of constructing a life table can be followed to estimate the specific death rates, male and female death rates, etc.

Question 5

Explain Uniform Distribution of Death (UDD) and Central Force of Mortality  (CFM)

Uniform Distribution of death – It is based on the assumption that, for integer x and 0<=t<=1 the function, tpx*mu(x+t) is a constant.

Since this is the density(PDF)of the time to death from age x, for an individual aged exactly x, the probability of dying on one particular day over the next year is the same as that of dying on any other day over the next year.

Hence it is called the Uniform Distribution of Deaths(or UDD) assumption.

Constant Force of Mortality (CFM) – constant force of mortality method is based on the assumption of constant force of mortality, which means that for integer x and 0 ≤ t ≤ 1, the function µ(x+t) is a constant i.e. µ(x+t) = µ= constant.

## Assurance Products

Question 1

What are endowment plans?

Endowment plan is a type of life insurance plan, which is a combination of insurance and saving product which provides both maturity as well as death benefit.

A certain amount is kept for life cover – insurance, while the rest is invested by the life insurance company. In an endowment plan, if the life assured outlives the policy term, the insurance company offers him the maturity benefit. Moreover, Endowment Plans may offer bonuses periodically, which are paid either on maturity or to the nominee under death claim. On death of the policyholder, the death benefit is payable to the nominee.

Endowment plans are also commonly a part of traditional life insurance, even though there is an investment component, but the risk is lower than the other investment products and so are the returns.

It is best suitable for long-term saving plans for people with much lower risk appetite i.e. they prefer safer returns.

Question 2

What are whole life insurance plans?

A whole life insurance policy covers the life assured for the whole life, or in some cases, up to the age of 99 years i.e. the limiting age. The sum assured or the coverage is decided at the time of policy purchase and is paid to the nominee at the time of death claim of the life assured along with bonuses if any.

However, if the life assured outlives the age of 100 years, the insurance company pays the matured endowment coverage to the life insured.

The premiums are higher as compared to term plans. Whole life insurance plans also offer partial withdrawals after completion of premium payment term.Best known for: Life coverage for whole life.

Benefit of Whole Life Plan: Lifelong protection to the insured and an opportunity to leave behind a legacy for heirs.

Question 3

What is term life insurance?

Term insurance is the simplest form of life insurance plan which provides death risk cover for a specified period. In case the policyholder passes away during the policy period, the life insurance company pays the death benefit to the nominee. It is a pure risk cover plan that offers high coverage at low premiums.

There’s an option to add riders to widen up the coverage such as extra payout in case of accidental deaths, critical illness cover, etc.

The death benefit is payable as lump sum, monthly payouts, or a combination of both.

There’s no pay out if the life assured outlives the policy term. However, these days there are companies offering Term Plans with Return of Premiums (TROPS), where insurance companies payback all the paid premium amount in case the life assured outlives the term period. But, such plans are costlier than the vanilla term insurance plan.

Benefit of Term Plan: In case of an untimely death of the breadwinner, the family is supported with an enormous amount of money – sum assured, which helps them to replace the loss of the income caused due to the breadwinner’s death. Moreover, the money could be utilized to pay off loans, monthly household expenses, child’s education, child’s marriage, etc.

Question 4

What is the difference between assurance and insurance?

Insurance is a contract between a company (registered to sell insurance) and the person buying the policy (policyholder) which states that the company will compensate the policyholder in case of a specific loss in exchange for a premium.

Assurance is commonly used with insurance and is related to Life Insurance policies. Here, the policyholder is assured that he/she will receive the compensation upon the occurrence of a certain event, ie, in case of death, survival, surrender, etc.

Question 5

Write the notation for term assurance of 20 years for a 20 year old.

The notation for term assurance of 20 years for a 20-year old is : A_20:<20>

Question 6

What is the cheapest assurance product?

Term assurance is the cheapest assurance product. The most expensive is Endowment Assurance followed by Whole Life Assurance.

Question 7

Is the premium charged more in case of Endowment Assurance or Term assurance and why?

Premium charged in case of Endowment assurance will be more than the premium charged in case of Term Assurance because Endowment Assurance covers both death and maturity benefits, while term assurance covers only death benefits.

Question 8

Arrange in increasing order the price of premium of various life products- term assurance, pure endowment, endowment assurance and whole-life assurance.

• Term Assurance
• Pure Endowment
• Whole-Life Assurance
• Endowment Assurance

Question 9

Which product has more premium and why?

Endowment Assurance and Whole-Life have more premiums than other two types of assurance contracts because of the certainty of receiving claims in both of them unlike others. However, Endowment assurance has even more premiums than Whole-Life Assurance because it offers both death and survival benefits among which survival benefits are much more than death benefits, while Whole-Life Assurance offers just death benefits.

Question 10

What are the disadvantages of term life Insurance?

• No Return on Investment: Unlike other investment plans such as unit-linked, term insurance does not give you any return on investment during your lifetime. Perhaps, the only benefit you can expect is to provide your family financial protection after your life.
• Buying at a later stage: If you buy a term plan at a later stage of your life, you end up paying a high premium for a higher sum assured which is impossible for all people. Some may be in need to go for a high sum assured but unable to pay a higher premium. In such conditions, the individual is either forced to take up an extra burden to pay the premium higher than what he budgeted or compromise the sum assured.
• No financial assistance if you are alive: This is the major con of the term plan. You can never expect financial aid from your term plan if you are alive, especially when you want to withdraw a partial amount or any form of return that another type of insurance plan offers.
• No cash value: You can never expect any cash value from the term plan. The money you pay towards premium is paid, and you can never expect any cash value for it.

Question 11

What is the difference between annuity and assurance?

Question 12

Tell me the equation to calculate premium if n = 10 years, age = 30 years, expenses = 500, SA = 100000 and the annual premiums are paid in advance.

P*adue:30:<10> = 100000*A:30:<10> + 500*adue:30:<10>, assuming SA is paid at the end of the year of death and 30 is the ultimate age and not select age.

## Annuity Products

Question 1

What is annuity?

An annuity is a long-term investment agreement between an insurance company and an individual in which the individual makes payments in series or in a lump sum, in exchange for which he gets periodic disbursements or income, either immediately or in the future(deferred annuity). An annuity payment can be in any form: advance, arrear or continuous.

Question 2

Explain the different types of annuity.

• An annuity under which payments are made for the whole of life, with level payments or with increasing/decreasing payments, is called a whole life level annuity or, more commonly, an immediate annuity.
• An annuity under which level payments or increasing/decreasing payments are made only during a limited term, is called a temporary annuity.
• An annuity under which the beginning of a series of payments is deferred for a given term, is called a deferred annuity.
• An annuity which pays out for a certain number of years before paying out to a beneficiary or estate once the annuitant dies, is called a guaranteed annuity.

Question 3

Explain what is meant by the duration of an annuity.

The period during which an annuitant (the person who owns the annuity) begins to receive payments is known as the annuity period. Payments may be made monthly, quarterly, or annually, and this often occurs in retirement.

Question 4

What is deferred annuity and who gets the major benefit from it, insurance company or policy holder?

Where the first payment is made during the first time period, this is an immediate annuity. Where no payments are made during the first time period, this is a deferred annuity.

A deferred annuity makes sense for people nearing retirement or for younger investors who have maxed out their retirement plans but still want to put money into tax-deferred retirement income. Typically, annuity buyers are in their 60s. They’ve accumulated a significant amount of retirement savings and can roll that money over into an annuity without suffering a financial penalty. A deferred annuity allows you to continue working while money accumulates in the annuity, providing a guaranteed lifetime income stream when you finally retire. At the same time, a deferred annuity limits your ability to repurpose your retirement savings — and can be difficult to reverse if you change your mind. You will have to wait for your annuity income with a deferred annuity. If you want or need the income from your annuity within a year, you may want to consider an immediate annuity instead.

Question 5

Explain annuity, with relation to pension

## Bonus

Question 1

What does the bonus represent?

An enhancement to the life insurance policy’s accrued value is known as a bonus. When the insurance reaches maturity or the policyholder passes away suddenly, the insurer pays out this sum to the policyholder. The bonus represents the amount of surpluses determined under the With-Profits fund of the company which is allocated to ‘With-Profits’ policies, as well as under the without-profits fund of the company which is incorporated within the company structure itself, and does not need to be mentioned separately.

Question 2

What are the types of Bonuses?

The type of bonus may be simple reversionary, interim or terminal.

Question 3

How is a simple reversionary bonus declared?

The reversionary bonuses are declared as a percentage of the basic sum assured. For products where basic sum assured is increased by a certain percentage after a specified period, the reversionary bonuses are declared as a percentage of the effective sum assured (i.e. increased sum assured). The reversionary bonuses are declared on an annual basis for each policy year during the term of the product, provided the policy is in-force as on the date of bonus declaration (i.e. all due premiums have been paid). Reversionary bonuses once declared and allocated are guaranteed. The future bonuses are, however, not guaranteed and will depend on future experience. If a policy is paid-up (in other words if you stop paying premiums), then the annual bonuses added to date remain credited to that policy, but the policy will receive no further bonuses.

Question 4

How is the interim bonus declared?

Interim bonuses are declared every year as a percentage of the basic sum assured or increased sum assured added to policies, before the declaration of the next reversionary bonus to provide for sudden death of policyholder.

Question 5

How is terminal bonus declared?

Terminal Bonus is paid once, i.e. at the time of maturity of the policy. It is a sort of loyalty bonus given to a policyholder for maintaining the policy till maturity. Its value is not guaranteed and will be disclosed only at the time of policy maturity.

## Reserves

Question 1

Under which scenario, retrospective and prospective reserves are equal?

If:

1. The retrospective and prospective reserves are calculated on the same basis, and
2. This basis is the same as the basis used to calculate the premiums used in the reserve calculation,

Then the retrospective reserve will be equal to the prospective reserve.

Question 2

Difference between Prospective and Retrospective Reserves?

Prospective reserve is the difference between the Expected present value of the future outgo and the Expected present value of the future Income.

The retrospective reserve for a life insurance contract that is in force is defined to be, for a given basis: The accumulated value allowing for interest and survivorship of the premiums received to date less the accumulated value allowing for interest and survivorship of the benefits and expenses paid to date.

Question 3

What are the different types of reserves?

The different types of reserves are: Prospective reserves and Retrospective reserves.

Question 4

How does a company distribute the surplus in a with-profits policy?

The surplus is distributed to the policyholders by way of bonus declaration at the end of each financial year. The policy gets a share of the surplus emerging from the With Profits business in the form of regular reversionary or terminal bonuses.

Question 5

Why is transfer of reserves a negative item in cash flow?

This is money that is currently ‘in the bank’ for a policy that is in force at this point. When we reach the end of the year, we need to account for the fact that the company is required to hold reserves for each policy that is then in force. The increase in reserve between the start and the end of the year represents additional money that the company will have to set aside (i.e. transfer) from other income, i.e. it will be a deduction from the profit earned during the year.

Question 6

What is the need to create reserves?

A reserve represents the amount of money that an insurer sets aside in respect of a policy that is currently in force, in order to meet future payments on that policy. It is important in real life, because an insurer that holds insufficient reserves will ultimately run out of money before all of its policyholders have made their claims, meaning that the company becomes insolvent and policyholders lose money, which can potentially be very large amounts.

Question 7

Explain DSAR.

The death strain at risk (DSAR) for the current policy year is the amount of extra money that the company would need to pay if the policyholder died during that policy year. It is sometimes called the sum at risk.

Question 8

Gross premium reserves are calculated on a prospective basis. They are the present value of future benefits and expenses less the present value of future gross premiums.

## Profit Testing

Question 1

What is Profit Testing?

This is the process of projecting the income and outgo emerging from a policy, and discounting the results. The results can then be used for various different purposes, such as setting the premium for a life policy that will give us our required level of profitability. We can set the premiums for a product to give a desired level of profitability by projecting cash flows under a certain set of assumptions, deciding on a risk discount rate and profit criterion, and then varying the premium amount until the profit criterion is satisfied.

Question 2

What are the different Decrements?

The different decrements are:

• Healthy
• Sickness
• Critical Illness
• Withdrawal
• Retirement
• Death

Question 3

Difference between Surrender and Lapse.

• Lapse refers to the termination of policies without payout to policyholders, while surrender usually indicates that a surrender value is paid out to the policyholder.
• A life insurance lapse occurs when you stop paying your policy’s premium and the contractual grace period has expired, while surrender refers to the amount that the policyholder will get from the life insurance company if he decides to exit the policy before maturity.

Question 4

What are dependent probabilities and independent probabilities?

The dependent probability is the probability that a life aged x in a particular state will be removed from that state within a year by the decrement alpha, in the presence of all other decrements in the population.

The independent probability xqa is the probability that a life aged x in a particular state will be removed from that state within a year by the decrement alpha, where alpha is the only decrement acting on the population.

Question 5

What is mortality profit? State its formula.

That part of the profit earned during the year due to difference in expected and actual mortality is referred to as mortality profit.

The mortality profit is defined as: Mortality profit = Expected Death Strain – Actual Death Strain. The EDS is the amount the company expects to pay out, in addition to the year-end reserve for a policy. The ADS is the amount it actually pays out, in addition to the year-end reserve. If it actually pays out less than it expected to pay, there will be a profit. If the actual strain is greater than the expected strain, there will be a loss.

## ULIP

Question 1

A unit-linked plan is a comprehensive combination of insurance and investment. The premium paid towards ULIP is partly used as a risk cover (insurance) and is partly invested in funds. One can invest in different funds offered by the insurance company depending on his risk appetite. The insurance company then invests the accumulated amount in the capital market i.e. in bonds, equities, debts, market funds, or a hybrid fund.

Best known for: Long-term investment option with much more flexibility to invest.

Benefit of ULIP: Invest money as per your risk appetite. You have the option to invest either in equity, debt or in hybrid funds through the life insurance company with complete transparency.

Question 2

What are the differences between conventional and ULIP products?

1. Pay-Out Maturity

You get the sum assured only at the time of maturity if you opt for a conventional insurance cover. In case of ULIPs, you can redeem your units at the current unit value prices. Some plans also offer additional units to the policyholder from time to time. This can be on an annual basis or at the time of maturity.

1. Transparency

It is always important to know how your investments are faring at any point in time. However, conventional insurance plans do not offer you this facility. The premium you pay is invested in a common fund and there is no way to track your individual portfolio.

Unlike conventional insurance plans, ULIPs allow you to monitor your portfolio always. You can find out the value of the units you hold at any point in time. You are also informed about the exact percentage of the premium that is invested in different avenues.

1. Partial Withdrawal

Partial withdrawal is a facility where you can withdraw a small portion of your fund before the maturity period. This can be quite useful if you require money in case of an emergency. ULIPs offer you the partial withdrawal option provided that you maintain the minimum fund value. In contrast, conventional insurance plans do not have a partial withdrawal facility.

1. Switching Options

One of the best features of ULIPs is that you have the freedom to switch your investments between different funds. This is an advantage because, as an investor, you have the freedom to switch between different investment options based on market fluctuations. As a result, you can balance your equity-debt portfolio to maximize your returns. The conventional options don’t provide you that freedom. All the investment decisions are taken by the insurer.

Question 3

What are the cash flows of ULIP?

These cash flows arise from the following sources:

1. Premium less cost of allocation, i.e. the difference between the premium paid by the policyholder and the amount invested in the unit fund on the policyholder’s behalf.
2. Expenses incurred by the life office.
3. Interest earned/charged on the non-unit fund.
4. Management charges taken from the unit fund.
5. Extra death or maturity costs (if the benefit payable on death or maturity is greater than the value of the units held at the time of death or maturity).
6. Reserves profit on surrender (if the benefit payable on surrender is lesser than the value of the units held at the time of surrender).

Question 4

Explain ULIP along with concepts of unit fund and non-unit fund.

The most important thing to bear in mind with unit-linked contracts is that we have two worlds to keep track of: the unit world, and a cash (or non-unit) world. The policyholder pays premiums to acquire units, and the eventual benefit is normally denominated in these units, so we will need to keep track of the number of units bought by a policyholder, how they are growing, and what charges we are deducting from them. However, the policyholder pays the life insurance company in real money. So we need to keep track of the cash not used to buy units, because that cash is a source of profit to the life insurance company. Conversely,if the policyholder dies there might be a cash denominated sum insured, and so we need to keep track of the cash outgo on claims. Another very significant cash outgo to consider is the company’s expenses. These include expenses incurred in underwriting and maintaining the policy, as well as commission payments to whoever sold it.

Unit benefits are payable on surrender, death claim or maturity. Non-unit benefits include, for instance, any sum insured payable on death in excess of the value of the units, or any guaranteed maturity value in excess of the value of the units

Unit Fund charges comprise:

•  a fund management charge, for instance 0.5% pa of the unit fund in respect of fund management expenses,
•  a policy fee (paid by cancellation of units) to cover other administration expenses, and
• a charge to cover the cost of providing any additional non-unit benefits, e.g. for any extra money paid out (over and above the unit fund value) when there is a guaranteed minimum death benefit.

There are a number of important things to highlight:

• The unit fund is worth only the bid value of the allocated premium; the rest of the premium goes to the non-unit fund.
• The unit fund charges are made in order to cover the expenses of fund management. However, charges and expenses are different cash flows (charges are part of the company’s income while the expenses are part of its outgo) and are unlikely to be of the same amount.
• The profit or loss to the life company in each year is calculated as the difference between income (charges, unallocated premium, bid/offer spread) and outgo (expenses, non-unit benefits).
• The unit fund is what the policyholder sees for instance, unit growth and all charges are communicated to the policyholder. The non-unit fund is what goes on within the company, and the policyholder does not see anything at this level.

The non-unit fund represents the accumulation of all cash flows paid in that are not used to buy units,less all cash flows paid out that have not arisen from the cancellation of units. As such, it represents the accumulation of the company’s profits from the policy at any time.

Question 5

1. Long term investment: ULIPs are an excellent choice for people looking to invest for the long term. This is because short-term market volatility produces lesser returns, but long-term market investments produce very attractive returns.
2. Tax free returns: ULIPs provide tax-free and tax-advantaged returns. Additionally, the death benefits received from ULIPs are tax-free.
3. Flexibility: ULIPs give investors the ability to switch between investment funds as their goals and needs change. Policyholders can profit from the fluctuation in stock values by switching between equity, debt, and cash.

1. Expensive and Complex: Because ULIPs mix insurance and investing, the premiums  charged for life insurance end up being much higher than term insurance.
2. Higher Beginning costs: ULIPs are more expensive in the first few years due to charges levied on the investor that goes toward policy charges
3. Market Fluctuations: In the early years, investors can expect lesser profits due to market changes. So, if you’re wanting to invest for the short term, ULIPs aren’t the best option.

Question 6

What are the benefits of ULIPs over mutual funds?

Question 7

Explain the concept of unit fund and non-unit fund?

The unit fund is the amount held in units on behalf of the policyholder at any time.

The amount of money in the non-unit fund is the net result of the life offices (non-unit) cashflows.

These cashflows arise from the following sources:

1. Premium less cost of allocation, i.e. the difference between the premium paid by the policyholder and the amount invested in the unit fund on the policyholder’s behalf.
2. Expenses incurred by the life office.
3. Interest earned/charged on the non-unit fund.
4. Management charges taken from the unit fund.
5. Extra death or maturity costs (if the benefit payable on death or maturity is greater than the value of the units held at the time of death or maturity).
6. Reserves profit on surrender (if the benefit payable on surrender is lesser than the value of the units held at the time of surrender).

Question 8

There are usually two prices of each unit at the same time, the bid price (which is the cash-in value of each unit) and the offer price (which is the price that has to be paid to purchase a unit in the fund). The difference between the two (with the offer price being greater than the bid price) is called the bid-offer spread, and this difference is money that the insurance company makes from each unit purchased and which helps cover its costs and enables it to make profits.

Question 9

What are the Guaranteed benefits offered in Unit Linked policies?

• On death during the policy term, the higher of a fixed sum assured or the value of units might be paid. This ensures that a significant benefit is paid out should the policyholder die early in the term.
• On survival to the maturity date of the policy, a minimum guaranteed sum assured,or a minimum average unit growth rate, may be applied. In either case, the maturity benefit is the higher of the guaranteed amounts (of sum assured or unit fund) and the actual unit fund value at the maturity date. This guarantee is to ensure that the policyholder avoids any difficulties arising from a particularly poor investment performance.
• Death benefit guarantees are generally more common than maturity guarantees. In fact, policies with investment guarantees have proved very costly in the UK in the past.

Question 10

How are ULIPs different from conventional products?

## Other Types

Question 1

Elaborate on Money Back Life Insurance Policy.

Money back plan is a unique type of life insurance policy, wherein a percentage of the sum assured is paid back to the insured on periodic intervals as survival benefit.

Money back plans are also eligible to receive the bonuses declared by the company from time to time. This way, policyholders can meet short-term financial goals.

Best known for: Short-term investment product to meet short-term financial goals.

Benefit of Money Back Plan: Short-term financial planning and an opportunity to earn returns on maturity.

Question 2

What are child plans?

Child plans help to build a corpus for a child’s future growth. They help to build funds for the child’s education and marriage. Most of the child plans provide annual installments or one time payout after the age of 18 years.

In case of an unfortunate event like if the insured parent passes away during the policy term – immediate payment is payable by the insurance company. Some child plans waive off the future premiums on death of the life insured and the policy continues till maturity.Best known for: Building funds for your child’s future.

Benefit of Child Plan: Helps in fulfilling your child’s dream.

Question 3

What are Participating Life Insurance Policies?

A participating policy enables you, as a policyholder, to share the profits of the insurance company. These profits are shared in the form of bonuses or dividends. It is also known as a with-profit policy.

Question 4

What is DI and TPD?