🛡️ Life Insurance

1. Amira, 42, lost her job when her employer closed. Her group life coverage of $350,000, made up of $250,000 of basic coverage and $100,000 of optional coverage she paid for, ended with the plan, and no other group life contract replaces it. She applies on time for an individual contract and gives no evidence of insurability. What is the largest amount she may convert?

1. $100,000
2. $350,000
3. $250,000
4. $200,000

Section 6 of CLHIA Guideline G3 (pages 4 and 5) lets a plan member convert, without evidence of insurability, up to the least of the full amount of the terminated insurance ($350,000, basic and optional coverage together), the amount not replaced under any group life contract ($350,000), and $200,000 for all group life coverage on the member's life. The least of the three is $200,000. The $350,000 ignores the $200,000 cap, $250,000 converts the basic coverage alone and also ignores the cap, and $100,000 wrongly limits the conversion to the optional coverage she paid for.

2. A Group Policyholder ends its group life contract, which includes a life waiver of premium provision, and no replacing contract is issued. Owen, a plan member, was disabled under the contract's definition of disability when the contract ended, and his disability was reported to the insurer within 180 days of its start. What should happen to his group life insurance?

1. It continues as though the contract were still in full force and effect
2. It continues if the Group Policyholder agrees to pay his premiums until he recovers
3. It continues if Owen pays the full individual premium within 31 days of termination
4. It ends on the termination date, because the contract insuring him has ended

Section 7 of CLHIA Guideline G3 (pages 5 and 6) says the life insurance of a plan member who is disabled at termination should be continued “as though the contract or benefit provision were in full force and effect”, provided the disability is reported within 180 days of its start. Ending the coverage is the loss this rule prevents. Premiums are not paid by the Group Policyholder or by Owen, because a life waiver of premium provision means the insurer waives them during the disability (page 3).

3. Kofi's employer changed group insurers, and the new contract took effect 10 days after the old one ended. Kofi was off work with an illness on that date. The new insurer's plan says that employees must be actively at work to be insured. Under CLHIA Guideline G3, how should the new insurer treat Kofi?

1. He should be refused, and he may apply to convert his old coverage instead
2. He may be refused until he returns to work and completes a waiting period
3. He should not be found ineligible solely because he was not actively at work
4. He should be insured once he gives the new insurer evidence of insurability

The new contract took effect within 31 days of the end of the old one, so it is a Replacing Contract under section 4 of CLHIA Guideline G3 (page 3). Section 8 of CLHIA Guideline G3 (page 7) says that no plan member insured under the terminating contract should be ineligible under the replacing contract solely because he was not actively at work on its effective date. A waiting period, a refusal with conversion as the only remedy, and new evidence of insurability are not what the Guideline asks of the new insurer.

4. Fatima had $250,000 of group life insurance under her employer's terminating contract, including $50,000 of voluntary coverage. Her employer then moved to a new insurer, and Fatima is eligible for $300,000 in total under the replacing contract. Under CLHIA Guideline G3, how much insurance should she have under the replacing contract?

1. $50,000
2. $200,000
3. $300,000
4. $250,000

Section 8 of CLHIA Guideline G3 (page 7) sets the amount under the replacing contract at the lesser of the amount for which the plan member is eligible under that contract and the amount insured under the terminating contract, including voluntary coverages. The lesser of $300,000 and $250,000 is $250,000. The $300,000 is the eligible amount alone and ignores the lesser-of rule, $200,000 wrongly leaves out the $50,000 of voluntary coverage, and $50,000 is the voluntary coverage alone.

5. Rohan owned and was the life insured under a permanent life insurance policy last acquired by him in 1979, with Tanvi named as beneficiary. Rohan died in 2026. What is the income tax result at his death?

1. A disposition is deemed at death, and the gain is taxed to Tanvi as the beneficiary
2. No disposition is deemed, because the policy was last acquired before December 2, 1982
3. A disposition is deemed just before death, and the gain is taxed on Rohan's final return
4. Tanvi is taxed on the accumulating fund because the policy is no longer an exempt policy

Paragraph 148(2)(b) of the Income Tax Act deems a disposition immediately before death only for a policy (other than an annuity contract or an exempt policy) last acquired after December 1, 1982. Rohan's policy was last acquired in 1979, and paragraph (j) of the definition of “disposition” in subsection 148(9) also excludes a payment made on death under such a policy. With no deemed disposition there is no gain to tax to Tanvi, the gain on the final return describes the post-1982 rule for a non-exempt policy, and a beneficiary is not taxed on the accumulating fund.

6. Chidi, 45 and single, died in 2026 after contributing to the Canada Pension Plan for 20 years. He never received a retirement or disability pension, and no survivor's pension is payable because of his death. His estate qualifies for the CPP death benefit. What lump sum does the CPP pay to the estate?

1. $5,000
2. $2,500
3. $0
4. $7,500

Paragraph 44(1)(c) of the Canada Pension Plan pays a death benefit to the estate of a contributor with enough base contributions. Subsection 57(1.2) sets the lump sum at $5,000 when death occurs after December 31, 2024, no retirement or disability pension was received and no survivor's pension is payable; otherwise subsection 57(1) sets $2,500 for a death after December 31, 2018. The $2,500 is the basic amount that subsection 57(1.2) displaces in Chidi's case, $7,500 adds the two amounts together, and $0 ignores the estate's entitlement.

7. Marcus, 33, was the only spouse of Leila, who died in 2026. Marcus is not disabled and has no dependent children. Leila had made base contributions for the minimum qualifying period. What is Marcus's position regarding a CPP survivor's pension?

1. No, because a survivor under 35 must have dependent children or be disabled
2. No, because a survivor's pension is not payable to a survivor under age 65
3. Yes, because a survivor needs no minimum age or family condition after 2018
4. Yes, but its payment is deferred until Marcus reaches 45 years of age

Subparagraph 44(1)(d)(ii) of the Canada Pension Plan pays a survivor's pension, after 2018, to the survivor of a contributor who made base contributions for the minimum qualifying period, with no age or family condition. The requirement of age 35, dependent children or disability is in subparagraph 44(1)(d)(i), which applied before 2019. Age 45 only mattered to the former 1/120 monthly reduction in paragraph 58(1)(a) for months before January 2019, and nothing defers payment to that age. Age 65 changes the amount formula in section 58, not eligibility.

8. Owen holds a permanent life insurance policy with a cash surrender value of $48,000 and an adjusted cost basis (ACB) of $20,000. He has no policy loan. He takes a $15,000 policy loan from the insurer, and none of it is used to pay a premium. What is the income tax result?

1. The full $15,000 is included in his income as proceeds of a policy loan
2. $5,000 is included in his income, the difference between the loan and his ACB
3. No amount is included, because the loan is less than his adjusted cost basis
4. $28,000 is included in his income, the cash surrender value less his ACB

A policy loan made after March 31, 1978 is a disposition under subsection 148(9) of the Income Tax Act, with proceeds equal to the lesser of the loan and the cash surrender value less existing loans, here $15,000. Subsection 148(1) includes only the excess of the proceeds over the ACB, and $15,000 does not exceed $20,000, so nothing is included. Taxing the full loan, the reverse difference of $5,000 or the cash surrender value less the ACB each misapplies that formula.

9. Maple Ridge Logistics Ltd. pays the full premium for a group term life insurance policy that covers its employee Amira. What is the income tax result for Amira?

1. No amount is included, because her employer paid the premiums
2. The premiums paid are deducted from her employment income for the year
3. The cost is included in her income when a death benefit is paid
4. An amount prescribed for the year is included in her employment income

Subsection 6(4) of the Income Tax Act says that where an employee's life is insured under a group term life insurance policy, the prescribed amount for the year is included in the employee's income from employment. Employer payment of the premium is the reason a benefit arises, not a reason for exclusion. The inclusion is annual and does not wait for a death benefit, and the premiums are not a deduction for Amira.

10. Under CLHIA Guideline G3, within how many days after the termination of a plan member's group life coverage must the application for the individual contract be made under the conversion privilege?

1. 14 days
2. 30 days
3. 180 days
4. 31 days

Section 6 of CLHIA Guideline G3 (page 5) requires the application for the individual contract to be made within 31 days after the date the plan member's life coverage terminates under the group contract. The 14-day period is the one for a recurrence of a short-term disability, and the 180-day period applies to reporting a disability or to a recurrence of a long-term disability (pages 5 and 6). A 30-day period is not set by the Guideline.

11. A policyholder makes a partial surrender of a life insurance policy issued after 2016. Under subsection 148(4) of the Income Tax Act, how is the adjusted cost basis (ACB) of the part surrendered determined?

1. The whole ACB, deducted in full against the proceeds of the partial surrender
2. The ACB times the proceeds, divided by the cash surrender value plus policy loans
3. The ACB times the proportion of the face amount that is surrendered
4. The ACB times the proceeds, divided by the cash surrender value less policy loans

Subsection 148(4) of the Income Tax Act prorates the ACB: it is A × B / C, where A is the ACB of the interest, B is the proceeds of the disposition, and, for a policy issued after 2016, C is the cash surrender value immediately before the disposition less the amounts payable on policy loans. Deducting the whole ACB ignores the proration, adding the loans to the cash surrender value reverses the adjustment, and the face amount is not used in the formula.

12. A taxpayer holds an interest in a life insurance policy last acquired after 1989 that is not an exempt policy. Under subsection 12.2(1) of the Income Tax Act, what amount is included in income on each anniversary day of the policy?

1. The excess of the cash surrender value over the premiums paid in the year
2. The excess of the death benefit over the adjusted cost basis of the policy
3. The excess of the accumulating fund over the adjusted cost basis
4. The increase in the cash surrender value since the previous anniversary day

Subsection 12.2(1) of the Income Tax Act includes in income, on each anniversary day, the amount by which the accumulating fund, determined in the prescribed manner, exceeds the adjusted cost basis of the interest in the policy. The death benefit, the cash surrender value and the year's premiums are not the measures the subsection uses, and the inclusion is not based on the change since the previous anniversary day.

13. A contributor to the Canada Pension Plan dies. Which test in subsection 44(3) of the Canada Pension Plan shows that the contributor made base contributions for the minimum qualifying period needed for the death benefit?

1. Base contributions in at least two years of the contributory period
2. Base contributions in at least four of the last six calendar years
3. Base contributions in at least ten years of the contributory period
4. Base contributions in at least 25 calendar years, three of them in the last six

Subsection 44(3) of the Canada Pension Plan treats the minimum qualifying period for the death benefit as met by base contributions in at least one third of the years of the contributory period, but never fewer than three years, or in at least ten years. Two years falls below the three-year floor. The tests of four of the last six years and of 25 years with three in the last six come from subsection 44(2) and apply to the disability pension.

14. Under CLHIA Guideline G3, which person is a Plan Member?

1. The Group Policyholder that signs the group contract with the insurer
2. A spouse or child who is insured through the coverage of the employee
3. The employee, union member or association member insured under the plan
4. The advisor who arranged the group contract for the Group Policyholder

Section 4 of CLHIA Guideline G3 (page 3) defines a Plan Member as the primary person insured under the Group Insurance plan, such as the employee, union member or association member. A person insured through the primary person is expressly excluded, so a spouse or child is not a Plan Member. The Group Policyholder is the legal entity that enters into the contract with the insurer, and an advisor is not insured by the plan.

15. Under section 306 of the Income Tax Regulations, which condition must be met on a policy anniversary for a life insurance policy to be an exempt policy?

1. Its adjusted cost basis must not be less than its cash surrender value
2. Its cash surrender value must not exceed the premiums paid on it to date
3. Its accumulating fund must not exceed that of its exemption test policies
4. It must have been last acquired before December 2, 1982 by its owner

Paragraph 306(1)(a) of the Income Tax Regulations requires that, on a policy anniversary, the policy's accumulating fund, determined without regard to any policy loan, not exceed the total of the accumulating funds of the exemption test policies. The test does not compare the cash surrender value with premiums or with the adjusted cost basis. The December 1, 1982 cut-off belongs to the deemed-disposition rule in paragraph 148(2)(b) of the Income Tax Act, not to the conditions of exempt status.

16. Leila died in 2026. She was still legally married to Karim but had been separated from him for three years and had lived with Daniel in a conjugal relationship for the last two years. Under the Canada Pension Plan, who is Leila's survivor?

1. Karim, because he was still her legal spouse at the time of her death
2. Daniel, because he was her common-law partner at the time of her death
3. Karim and Daniel together, who would share one survivor's pension equally
4. Neither, because a survivor must be a dependent child of the contributor

Section 42 of the Canada Pension Plan defines the survivor of a deceased contributor as the person who was the contributor's common-law partner at the time of death and, only if there is no such person, the person who was married to the contributor at that time. Daniel was Leila's common-law partner, so he takes priority over Karim, and the pension is not shared. A survivor is a partner of the contributor, not a child.

17. Under CLHIA Guideline G3, which of the following is NOT part of the group life conversion privilege outside Quebec?

1. A right to convert without providing evidence of insurability
2. An application made within 31 days after the coverage terminates
3. A requirement that every insurer offer conversion to whole life insurance
4. An offer of term insurance, renewable yearly or to age 65, as a minimum

Section 6 of CLHIA Guideline G3 (pages 4 and 5) provides for conversion without evidence of insurability, an application within 31 days of termination, and, as a minimum, an offer of term insurance for a renewable one-year period or up to age 65. The insurer may also offer other policies it chooses to make available, but the Guideline does not require an offer of whole life insurance.

18. Under subsection 148(9) of the Income Tax Act, which of the following is NOT a disposition of an interest in a life insurance policy?

1. A surrender of the interest in the policy to the insurer for its cash value
2. A policy loan made by the insurer to the policyholder after March 31, 1978
3. An assignment of the interest to secure a loan other than a policy loan
4. The dissolution of the interest in the policy on the maturity of the policy

The definition of “disposition” in subsection 148(9) of the Income Tax Act includes a surrender, a policy loan made after March 31, 1978, and the dissolution of the interest on maturity. It expressly excludes an assignment of an interest in the policy for the purpose of securing a debt or a loan other than a policy loan, which is the collateral assignment to a lender. The assignment therefore creates no income inclusion by itself.

19. Under section 5 of CLHIA Guideline G3, which of the following should the certificate or plan description delivered to each plan member contain? 1. The name of the insurer and identification of the contract 2. The circumstances in which the insurance terminates 3. The insurer's profit on the group contract 4. The time limit within which a claim must be made 5. The plan member's personal medical history

1. 1, 3 and 4
2. 1, 2 and 4
3. 2, 3 and 5
4. 1, 2, 3 and 5

Section 5 of CLHIA Guideline G3 (pages 3 and 4) lists, among the contents of the certificate or plan description, the name of the insurer and identification of the contract, the circumstances in which the insurance terminates, and the time limit within which a claim must be made. The insurer's profit on the contract and the member's personal medical history are not items on that list, so every option that includes 3 or 5 is wrong.

20. A contributor who made base contributions for the minimum qualifying period dies. Under subsection 44(1) of the Canada Pension Plan, which of the following benefits can become payable because of the death? 1. A death benefit to the estate 2. A survivor's pension to the survivor 3. An orphan's benefit for each orphan 4. A disability pension to the contributor 5. A retirement pension to the contributor

1. 1 and 2
2. 2, 3 and 4
3. 1, 2 and 3
4. 1, 4 and 5

Paragraphs 44(1)(c), (d) and (f) of the Canada Pension Plan provide a death benefit to the estate, a survivor's pension to the survivor, and an orphan's benefit to each orphan of a deceased contributor with enough base contributions. The disability pension is paid to a disabled living contributor under 65 (paragraph (b)), and the retirement pension to a contributor who has reached 60 (paragraph (a)), so neither is triggered by the death.

21. Anjali owns a permanent life insurance policy with a cash surrender value of $60,000 and an adjusted cost basis (ACB) of $22,000. She has no policy loan. She takes a $35,000 policy loan from the insurer, and $5,000 of it is applied immediately to pay a premium under the policy, as the policy allows. What amount is included in her income because of the loan?

1. $8,000
2. $13,000
3. $30,000
4. $38,000

Under subsection 148(9) of the Income Tax Act, the proceeds of a policy loan are the lesser of the loan less the part applied to a premium ($35,000 − $5,000 = $30,000) and the cash surrender value less existing loans ($60,000), so $30,000. Subsection 148(1) includes proceeds less ACB: $30,000 − $22,000 = $8,000. The $13,000 forgets the premium part, $30,000 forgets the ACB, and $38,000 is the cash surrender value less the ACB, as on a full surrender.

22. Mei, a licensed life insurance advisor, is meeting a new client, Zainab, for the first time. Zainab asks how much life insurance she should buy. What should Mei do first in the needs analysis process?

1. Recommend a term policy with a face amount set at a multiple of Zainab's annual salary
2. Obtain quotations from several insurers and compare the premiums for a standard policy
3. Have Zainab complete an application form so that underwriting can start this week
4. Gather facts on Zainab's family, income, debts, assets, existing coverage and goals

A needs analysis begins with fact finding: the advisor must know the family situation, income, debts, assets, existing coverage and goals before any amount can be calculated. A salary multiple is a rule of thumb that skips the analysis, quotations and an application are steps that come after the need has been measured, and none of them tells Zainab how much coverage her family actually needs.

23. Amira, 40, has a spouse and two children. If she died, her family would need $240,000 to repay the mortgage, $25,000 for final expenses, $60,000 for the children's education and $30,000 for an emergency fund. She has $150,000 of group life insurance, a $100,000 individual policy and $20,000 in savings that her family could use. Using the capital needs approach, what is her insurance shortfall?

1. $35,000
2. $105,000
3. $85,000
4. $235,000

Total needs are $240,000 + $25,000 + $60,000 + $30,000 = $355,000. Existing resources are $150,000 + $100,000 + $20,000 = $270,000, so the shortfall is $355,000 - $270,000 = $85,000. $105,000 ignores the savings, $235,000 ignores the group insurance, and $35,000 subtracts the final expenses instead of adding them.

24. Priya dies owning non-registered shares that have increased in value since she bought them. Under her will, the shares pass to her adult daughter. How does the Income Tax Act treat the shares on Priya's death?

1. Tax is deferred until the daughter sells them, and the daughter then reports the entire gain since Priya bought them
2. Priya is deemed to have sold them at fair market value just before she died, and the gain is taxed on her final return
3. The daughter is taxed on the fair market value of the shares as ordinary income in the year she receives them
4. No tax applies, because property passing to a child under a will is exempt from the deemed disposition rules

Under paragraph 70(5)(a) of the Income Tax Act, a taxpayer who dies is deemed to have disposed of each capital property immediately before death at fair market value, so the gain is reported on the final return. Under paragraph 70(5)(b) the daughter acquires the shares at a cost equal to that value, so the gain is not carried over to her and she does not report the value of the shares as income when she inherits them. The tax-deferred transfer in subsection 70(6) is limited to a spouse, a common-law partner or a qualifying spouse trust, not a child.

25. In life insurance needs analysis, what does the human capital approach measure?

1. The immediate cash needed at death for debts, final expenses and taxes, less existing resources
2. The present value of the future net earnings that the family would lose if the client died early
3. The total market value of the client's real estate, investments and business interests today
4. The income the client's investments must provide to support the family in retirement

The human capital approach values the client as an earner: it is the present value of future net earnings, after tax and the client's own consumption, that the family would lose if the client died. The lump-sum liquidity calculation describes the capital needs approach, a retirement income projection is a different planning exercise, and the market value of the client's property is a net worth statement rather than a measure of lost earning power.

26. Owen, 38, supports his family. If he died, they would need $40,000 a year, of which $10,000 would be provided by other income that continues. The death benefit would be invested to earn 5% before tax, and the investment income would be taxed at 40%. Using the capitalization of income method on the after-tax return, what capital must the death benefit provide?

1. $600,000
2. $800,000
3. $1,333,333
4. $1,000,000

The after-tax return is 5% x (1 - 40%) = 3%. The annual shortfall is $40,000 - $10,000 = $30,000, so the capital required is $30,000 / 0.03 = $1,000,000. $600,000 uses the 5% pre-tax return, $800,000 uses both the pre-tax return and the full $40,000, and $1,333,333 ignores the other income.

27. Kofi dies owning non-registered shares with a large unrealized gain. His will leaves them to his spouse, Hana, who is resident in Canada, and the shares vest indefeasibly in her within 36 months of his death. What is the tax result on Kofi's final return?

1. Kofi is deemed to sell the shares at fair market value, but Hana receives a credit for the tax
2. The gain is reported on Hana's return for the year the estate transfers the shares to her
3. The gain is taxed on Kofi's final return, and Hana then receives the shares free of tax
4. Kofi is deemed to dispose of the shares at adjusted cost base, so no gain arises now

Under paragraphs 70(6)(c) and (d) of the Income Tax Act, paragraphs 70(5)(a) and (b) do not apply to a transfer to a resident spouse, so Kofi is deemed to receive proceeds equal to the adjusted cost base and no gain arises. Hana acquires the shares at that same cost, so the tax is deferred until she sells them or dies, not eliminated. The other results describe a deemed sale at fair market value or a gain reported by the spouse, neither of which the subsection provides.

28. Under paragraph 38(a) of the Income Tax Act, what portion of a capital gain is a taxable capital gain, assuming no special exemption applies?

1. One-quarter of the capital gain
2. One-third of the capital gain
3. Two-thirds of the capital gain
4. One-half of the capital gain

Paragraph 38(a) of the Income Tax Act states that a taxpayer's taxable capital gain is 1/2 of the capital gain for the year from the disposition of the property. One-quarter and one-third have no basis in section 38, and two-thirds is a rate that is not found in the text in force; an advisor must read the inclusion rate from section 38 rather than assume it.

29. Kofi dies owning non-registered shares with an adjusted cost base of $80,000 and a fair market value of $200,000 at death. The shares pass to his adult daughter, and his marginal tax rate on the final return is 40%. What is the income tax on the deemed disposition of the shares?

1. $80,000
2. $32,000
3. $48,000
4. $24,000

Under paragraph 70(5)(a) of the Income Tax Act the shares are deemed disposed of at fair market value, so the capital gain is $200,000 - $80,000 = $120,000. Under paragraph 38(a) of the Income Tax Act the taxable capital gain is one-half, or $60,000, and tax at 40% is $24,000. $32,000 applies a two-thirds inclusion that is not in section 38, $48,000 taxes the whole gain, and $80,000 taxes the full fair market value at 40%, with no deduction of the cost and no inclusion rate.

30. Maple Ridge Logistics Ltd. depends on its top salesperson, Anjali, for most of its new contracts. The company wants insurance to offset the profit it would lose and the cost of finding a replacement if she died. Who should own the policy on Anjali's life, and who should be its beneficiary?

1. Anjali, as owner, naming the company's shareholders as beneficiaries of the proceeds
2. Anjali's spouse, as owner and beneficiary, who would lend the proceeds to the company
3. The company, as both owner and beneficiary, since the loss to be offset is its own
4. The company's lender, as owner and beneficiary, so that company loans are repaid first

Key person insurance protects the business against the financial loss caused by the death of an important employee, so the company is the owner, pays the premiums and receives the proceeds. Naming the spouse or the shareholders as beneficiary sends the money away from the company that suffers the loss, and a lender as owner and beneficiary would use the proceeds for its own benefit rather than to replace profit and recruit a successor.

31. Owen's employer promotes him, and his salary rises substantially. He has not changed his life insurance since before the promotion. How does the promotion affect his insurance needs?

1. His needs fall, because a higher salary lets the family pay more of its own expenses
2. His needs rise, because there is more income to replace and the shortfall widens
3. His needs are unchanged, because they depend on his age and health, not his income
4. His needs are unchanged, because a needs analysis counts debts but not lost income

A higher income means a larger earning stream to replace, so the human capital and the capital needed to produce family income both increase, and the shortfall against unchanged coverage widens. His age and health affect the premium, not the amount of need. A needs analysis also counts income replacement, final expenses and education, not debts alone, and a higher salary does not help the family once the salary stops at death.

32. Lucas dies. His estate transfers shares (adjusted cost base $50,000, fair market value $250,000) to his spouse and a cottage (adjusted cost base $150,000, fair market value $450,000) to his adult son. Assume the spouse is resident in Canada, the conditions of subsection 70(6) of the Income Tax Act are met for the shares and no principal residence exemption is claimed for the cottage. What taxable capital gain is reported on Lucas's final return?

1. $100,000
2. $150,000
3. $250,000
4. $300,000

Under subsection 70(6) of the Income Tax Act the shares roll over to the spouse at their adjusted cost base, so they produce no gain. Under paragraph 70(5)(a) the cottage is deemed disposed of at fair market value: $450,000 - $150,000 = $300,000 gain, and under paragraph 38(a) one-half is taxable, or $150,000. $100,000 is the taxable gain on the shares, which are the rolled-over asset, $250,000 taxes both assets as if there were no rollover, and $300,000 forgets to apply the one-half inclusion.

33. Which description best defines the capital needs approach to calculating the amount of life insurance?

1. A comparison of the premium for each available policy with the client's after-tax income in every future year
2. A projection of the client's net earnings from today until the planned retirement date, discounted to present value
3. A ranking of the risks the client faces by how often each one is likely to occur and how large each loss would be
4. A total of the immediate cash needs at death and the capital that produces family income, less existing resources

The capital needs approach adds the lump sums required at death (debts, final expenses, taxes and funds such as education) to the capital that will produce an income for the family, then subtracts existing assets and insurance. The present value of lost earnings is the human capital approach, comparing premiums with income concerns affordability, and ranking risks by frequency and severity belongs to risk assessment rather than to measuring the amount of insurance.

34. Two equal shareholders of Harbourview Dental Corp., Imani and Lucas, want to fund a buy-sell agreement so that the survivor can buy the deceased's shares. They choose a cross-purchase arrangement. How would the life insurance be structured?

1. The corporation owns a policy on the life of each shareholder and receives the proceeds at death
2. Each shareholder owns, and is the named beneficiary of, a policy on the life of the other shareholder
3. Each shareholder owns a policy on his or her own life and names the other shareholder as beneficiary
4. Each shareholder's spouse owns a policy on the shareholder's life and is the beneficiary of the proceeds

In a cross-purchase agreement each shareholder buys, owns and is the beneficiary of a policy on the life of the other, so the survivor receives the proceeds and uses them to buy the deceased's shares from the estate. A policy owned by the corporation, which receives the proceeds and redeems the shares, is a share redemption arrangement. A policy that each shareholder owns on his or her own life is controlled by the shareholder whose shares are to be bought, not by the buyer, and a policy owned by a spouse pays the spouse rather than the buyer, so neither is the cross-purchase structure.

35. Priya, 45, expects to earn $48,000 a year, after tax and her own personal consumption, at the end of each year for 15 years until retirement. Using the human capital approach with a 5% discount rate, what is the present value of the net earnings her family would lose, rounded to the nearest dollar?

1. $498,224
2. $523,135
3. $720,000
4. $960,000

The present value of an annuity paid at the end of each year is $48,000 x [1 - 1.05^-15] / 0.05 = $48,000 x 10.37966 = $498,224. $523,135 treats the payments as made at the beginning of each year, $720,000 is $48,000 x 15 with no discounting, and $960,000 treats the income as a perpetuity ($48,000 / 0.05).