Life insurance and annuities

Chapter 12

Two kinds of protection

• Mortality

• Longevity (life annuities)

• Combination

Simplest life policy

• For one period

• Premium = PV of expected claim + expenses

• Premiums increase with age– mortality– adverse selection

Level premium concept

• Two periods

• Probabilities 0.01 and 0.02

• Ignore expenses

• Expected claims = 10,000 and 20,000

• Interest rate = 10%

• Premiums = 9090.91 and 18181.82

Level premium concept

• Premium 1 $13,397.13• First year mortality charge $9,047.41• Balance invested $4,349.72• Amount at the end of year 1 $4,784.69• Premium 2 $13,397.13• Second year mortality charge $18,181.82• Amount at risk at the end of year 1 $995,215.31• Premium for this amount $9,047.41

Term Policies

• 1 year, 5 year, 10 year . . .

• Renewable term

• Convertible term

Cash value policies

• Cash value and reserve

• Types of policies– Single premium whole life– Straight whole life– Limited pay whole life– Endowment– Universal– Variable

Participating policies

• Policy holders’ dividends

• Dividends as policy refunds

Classification

• Ordinary life

• Group life

• Credit life

• Industrial life

Annuities

• Pure life annuities

• Fixed and variable annuities– Self directed annuities– Equity indexed annuities

Taxation

• Life insurance is a tax favored instrument– Death benefits not taxable– Investment income not taxable unless with

drawn

• Return of capital not taxed