California Life & Health Chapter 1 General Insurance........................................................................................ 3 Chapter 2 Life Basics................................................................................................. 19 Chapter 3 Types of Policies and Riders....................................................................... 36 Chapter 4 Life Policy Provisions and Options.............................................................. 52 Chapter 5 Annuities................................................................................................... 63 Chapter 6 Markets and Social Security. ....................................................................... 76 Chapter 7 Federal Tax Considerations........................................................................ 85 Chapter 8 Health Basics............................................................................................. 91 Chapter 9 Medical Expense Plans and Concepts........................................................ 100 Chapter 10 Disability Income................................................................................... 107 Chapter 11 Senior Needs......................................................................................... 115 Chapter 12 Individual Policy Provisions................................................................... 141 Chapter 13 Group Health Insurance......................................................................... 149 Chapter 14 Health Concepts and Tax Considerations................................................ 160 Chapter 15 California Ethics and Laws. ..................................................................... 168 Key Word Index....................................................................................................... 193 This edition is valid starting March 2023 www.adbanker.com 1-800-866-2468 Copyright 2023 © A.D. Banker & Company®, L.L.C. All rights reserved. No part of the material protected by this copyright notice may be reproduced in any form or by any means, electronic or mechanical, including photocopying, recording, or by any information storage and retrieval system, without permission from the copyright owner. Disclaimer: This course, seminar, or publication provides general information regarding the subject matter. It is sold with the understanding that the publisher is not engaged in rendering legal or accounting advice. If legal advice or other expert assistance is required, the services of a competent professional should be sought. The publisher hereby expressly excludes all warranties. To the extent allowed by law, I release A.D. Banker & Company, L.L.C. from any and all liability for my use of course materials and agree to indemnify and hold them harmless for all losses. I acknowledge that any liability of A.D. Banker & Company, L.L.C. not covered by the above release, is limited to the amount paid for this course. 2 A.D.Banker&Company® 1 General Insurance OVERVIEW This chapter is designed to acquaint the student with the fundamentals of the insurance industry as a whole as well as foundational concepts that constitute the basis of insurance regardless of their state licensing. Upon the completion of this chapter, you will be able to: 1. 2. 3. 4. 5. 6. 1.1 Recognize definitions of general insurance and insurance law terminology Identify basic insurance concepts and principles Identify the characteristics of insurers Recognize the role of insurance producers Recall the elements of legal contracts and interpretations affecting contracts Define insurable interest The World of Insurance One of the largest and most diverse sectors of the insurance industry consists of companies, agencies, producers, consumers, and organizations that provide information and support to the private firms and persons who buy and sell insurance. Private Firms and Persons Insurers (insurance companies or carriers) manufacture and sell insurance coverage by way of insurance policies or contracts. In California, any person capable of making a contract may be an insurer, subject to the restrictions imposed by the insurance code. In this case, a person is defined as any individual (natural person), association, organization, partnership, business trust, limited liability company, or corporation. Insurance Agencies are independent organizations that recruit, contract with, and support sales agents and producers. Insurance Agents or Producers are licensed individuals authorized, by and on behalf of an insurer, to transact insurance through an admitted insurance company. An Insured is the person or entity that buys insurance for protection from loss of life or disability. National Association of Insurance Commissioners (NAIC) The National Association of Insurance Commissioners (NAIC) consists of all state and territorial insurance commissioners or regulators. It provides resources, research, legislative and regulatory recommendations, and interpretations for state insurance regulators. It also promotes uniformity among states. Members may accept or reject recommendations. The NAIC has no legal authority to enact or enforce insurance laws. A.D.Banker&Company® 3 CHAPTER ONE Insurance Regulation at the State Level The insurance industry is regulated primarily at the state level. The legislative branch writes and passes state insurance laws, or statutes, to protect the insuring public. The judicial branch is responsible for interpreting and determining the constitutionality of the statutes. The role of a state's executive branch is to enforce the existing statutes that have been put in place. The Commissioner of Insurance supervises and regulates insurance affairs in California. The Commissioner has the power to issue rules and regulations to help enforce these statutes. Insurance Regulation at the Federal Level The McCarran-Ferguson Act of 1945 determined that the federal government cannot regulate insurance in areas over which states have the authority to do so. Congress created federal agencies to provide regulatory oversight impacting insurance practices. 1.2 Types of Insurers (Insurance Companies/Carriers) Stock Insurance Company A stock company is owned by stockholders or shareholders. Directors and officers are elected by stockholders and carry out the company’s mission. Stockholders may receive taxable corporate dividends as a divisible surplus based on the company’s profit when and if declared by the directors. Traditionally, stock insurers issue nonparticipating policies. Mutual Insurance Company A mutual company is owned by policyholders (who may be referred to as members). A board of trustees or directors is elected by policyholders to manage the company. Members may receive nontaxable dividends as a return of any divisible surplus when and if declared by the board of directors/trustees. Traditionally, mutual insurers issue participating policies. Most mutual companies are nonassessable, meaning they cannot charge members a pro rata share of loss and expense at the end of the policy period. Demutualization is the process where a domestic incorporated mutual life insurer, or life and disability insurer, issuing nonassessable policies on a reserve basis may be converted into an incorporated stock insurer. Fraternal Benefit Societies Fraternal societies are primarily social organizations that engage in charitable and benevolent activities that provide insurance (primarily life insurance) to their members. They are usually organized on a nonprofit basis. Membership is typically drawn from members of a given religious denomination or lodge, order, or society. 1.3 Fundamentals of Insurers Reinsurance Companies Reinsurance is a device used by insurers to transfer or share in a risk with a third party. Reinsurance takes place to limit the loss an insurer will face if a very large claim becomes payable. At least two insurers are involved: the primary insurer originating the application (ceding company), and the reinsurance insurer who shares in the risk (the third party). 4 A.D.Banker&Company® GENERAL INSURANCE Reinsurance is what makes insurance affordable. No single insurance company is exposed to 100% of the losses it insures. When claims are paid by the insurer to the policyowner, the funds may come from both the insurer and its reinsurer, but the policyowner will not know how much came from each. Types of reinsurance include: 1.4 Treaty Agreements – Reinsurance agreement that covers all risks contained in the subject lines of the business automatically. Facultative Agreements – Reinsurance agreement that allows ceding and reinsurance companies the opportunity to negotiate coverage for individual risks. Insurer Domicile and Admittance Domicile refers to the jurisdiction (state or country) where an insurer is formed or incorporated. Domestic Insurer Foreign Insurer Alien Insurer An insurer organized under the laws of California, whether or not it is admitted to do business in this state. An insurer not organized under the laws of California, but in one of the other states or jurisdictions within the United States, whether or not it is admitted to do business in the state or jurisdiction. An insurer organized under the laws of any jurisdiction outside of the United States, whether or not it is admitted to do business in this state. Admitted (Authorized) Insurer An admitted insurance company—whether domestic, foreign, or alien—is authorized to transact insurance in California by the California Department of Insurance (CDI). An admitted or authorized insurer must have a certificate of authority granted from the California Department of Insurance. Nonadmitted (Unauthorized) Insurer A nonadmitted insurance company is not authorized to transact insurance in California, whether by failing to comply or inability to comply with requirements, such as failing to apply for a certificate of authority. Surplus Line Insurance Surplus Line coverage includes those types of insurance that cannot be obtained from admitted insurers, usually because the risk is too great, or too difficult to underwrite. The insurance may not be placed with a nonadmitted insurer solely to receive financial advantages that would not be available by placing the business with an admitted carrier. 1.5 Insurer Management, Marketing and Distribution Management and Operating Divisions Insurers are composed of key departments: Actuarial – Gathers and interprets statistical information to aid in rate-making/setting Underwriting – Responsible for risk selection Marketing/Sales – Responsible for advertising and selling insurance policies Claims – Provides service to the policyholder in the event of a loss A.D.Banker&Company® 5 CHAPTER ONE Marketing and Distribution Models Independent Agency An Independent Agent is a person who enters into an agency agreement with more than one insurer. The independent agent has ownership of the business written, pays the cost of office space, clerical support, marketing, and the collection of renewal information. Exclusive Agency An exclusive or Captive Agent is a person under agreement to represent a single insurer, or a group of insurers, having common ownership. The insurer retains the rights to the business written by the agent. If the agent leaves the insurer, the book of business is kept by the insurer. The insurer normally provides services to its exclusive agents, such as providing office space and clerical support, preparing contracts, and mailing renewals. Brokerage A Broker is a person acting as an intermediary between an insurer and a purchaser on the purchaser's behalf to help the client obtain the best price, terms, and conditions on insurance coverage other than life, disability, and health insurance. Brokers may be independent or transact on behalf of a broker organization. A broker must have a written agreement with an insured if they receive directly from that insured any compensation, commission, or fees for services. This agreement is called a Brokers Service Contract. The contract must state the services to be provided and the charge for each. Only brokers may charge fees, not agents. Direct Response A marketing system that does not use an agent. Policies are usually marketed directly from the insurer's home office. The insurer offers its contracts to the public through direct mail campaigns and newspaper, radio, television, magazine, and internet advertising. Online Direct Sales As consumers have grown increasingly interested in purchasing products online, insurance has adapted to allow for online sales, where consumers can purchase policies directly without needing an intermediary. Aggregators collect price information to allow consumers the ability to compare costs between companies, which is particularly useful for auto insurance and Term Life insurance, as those are the most standardized. 1.6 Duties and Responsibilities Law of Agency The Law of Agency defines the relationship between an insurance company, known as the principal, and a producer operating as its agent. The agent represents the principal, is appointed to transact insurance business on the principal's behalf, and binds the words of the principal. Insurer as Principal The insurer is the source of the authority in which the agent must abide, as stipulated in the agency contract. This means that the insurer is responsible for the agent’s acts, as long as they remain in the bounds of the contract. When the agent exceeds this authority, the agent may become personally liable for their actions or inadvertently obligate the insurer to provide coverage or performance it did not intend to offer, as a consequence of apparent authority. 6 A.D.Banker&Company® GENERAL INSURANCE Insurance Agent An Insurance Agent is a person who transacts insurance—other than life, disability, or health insurance—on behalf of an admitted insurance company. A Life Agent is authorized to transact life insurance and disability and health insurance. Agent’s Responsibilities to the Insurer The agent is responsible for presenting, modifying, affecting, or terminating the business contracts of the insurer. After submitting an application, the agent should report any material facts that may affect the underwriting of a policy to the insurer. An agent is not required to emphasize profitable policies. Fiduciary Duty A Fiduciary is any person who handles insurer funds in a trust capacity. If fiduciary funds are received by an insurance agent, broker, solicitor, life and/or accident and health agent, analyst, or surplus lines broker, they must: Keep accurate records as a public trust Not commingle premiums collected with their own funds Remit premiums (less commissions) to the insurer or return premiums to the person Maintain the fiduciary funds received by them in an appropriately licensed trust account at a bank of depository in any state of the United States A person can commingle the additional funds deemed prudent for the purpose of advancing premiums, establishing reserves for the payment of return commissions, or other contingencies with fiduciary funds. If there is a written agreement between the insurer and agent, these funds may be maintained in U.S. government bonds, treasury certificates, or certificates of deposit. In the case of any alternative method of maintaining fiduciary funds under a written agreement, such maintenance and retention of any earnings on those funds. Any agent, broker, solicitor, surplus lines broker, or bail agent who diverts or appropriates premiums or return of premiums for their own use is guilty of theft and will be punished under the law. Premium Offsets If an insured is due a refund of premiums, the refund amount may be offset by any amounts owed to the insurer, such as unpaid premiums. Any insurer may pay return premiums to the producer or broker for that purpose. Agent's Authority Authority indicates the capacity in which an agent legally represents an insurer, and may be express, implied, or apparent. All three are equally binding. Express Authority is written into the producer’s agency contract. It details specific activity regarding the producer’s ability to transact business on behalf of the principal. An example would be the producer’s authority to solicit, negotiate, and sell insurance contracts on behalf of the principal. The agent may also have the express authority to bind coverage. Implied Authority is not specifically stated in the contract, but it is necessary, reasonable, and usual for the producer to perform stated duties. Since not all duties can be spelled out in the contract, incidental duties are assumed by the agent as appropriate to carry out the express authority granted by the principal. An example would be the use of the company logo on business cards or letterhead, implying the agent has authority to represent the principal when finding new clients in the process of soliciting and selling insurance. This also includes accepting applications and collecting premiums. A.D.Banker&Company® 7 CHAPTER ONE Apparent Authority is created when the producer exceeds the authority expressed in the agency contract. It is authority the public (or a third-party) is falsely led to believe the agent has and the principal does nothing to counter the public impression that such authority exists. An example would be the producer’s acceptance of premiums on a lapsed policy. Responsibilities to the Applicant/Insured At the time of the application, the agent has the responsibility to obtain information that may affect underwriting and insurability, as well as the suitability of coverage for an insured. This includes information about an applicant’s risk profile, as well as in-depth knowledge of policy coverages, provisions, and limits. The purpose, duties, and authority of a producer or agency include: Completing the application and submitting to the insurer for further underwriting Delivering the policy once the insurer has accepted the application Gathering information and updating the policy at renewal Types of Licensees Producer A Producer is an agent, broker, or solicitor who submits insurance applications to the insurer. Life and Accident and Health/Sickness Licensee A Life and Accident and Health or Sickness Licensee is authorized to act as a life, accident, and health or sickness agent to transact the following types: Life Agent A Life Agent is authorized to transact insurance on human lives including benefits of endowments and annuities, and may include benefits in the event of death or dismemberment by accident and benefits for disability income. Accident and Health or Sickness Agent An Accident and Health or Sickness Agent is authorized to transact coverage for sickness, bodily injury, accidental death, benefits for disability income. Insurance Broker An Insurance Broker is a person who, for compensation and on behalf of another person, transacts insurance (other than life, disability, or health insurance) with, but not on behalf of, an insurance company. A broker must have a written agreement with an insured to receive any compensation or fees, for services directly from the insured. This agreement is called a Brokers Service Contract. The contract must state the services to be provided and the charge for each, and must be agreed upon in advance of the contract. It must also include if the broker will receive commission from the insurance company. A licensed broker-agent is considered to be an agent representing an insurer when a notice of appointment for that licensee has been filed with the Commissioner. There is no such license as a life broker or health broker. 8 A.D.Banker&Company® GENERAL INSURANCE Insurance Solicitor An Insurance Solicitor is a natural person licensed to transact insurance who is employed by a property and casualty agent or broker to assist in transacting lines of insurance other than life insurance, disability, or health. There is no such license as a life solicitor or health solicitor. The solicitor license must be for the same line or lines of insurance held by the agent or broker who employs them, and a solicitor may be employed by only one agent or broker at any one time. Surplus Line Broker A person licensed to write insurance coverage with nonadmitted insurers when such coverage cannot be placed with an admitted insurer. Transacting Insurance As applied to insurance, transacting includes any of the following: Solicitation of insurance Negotiations preliminary to the execution of an insurance contract Execution of a contract of insurance Transaction of matters subsequent to the execution of the contract (collecting premium, settling claims) No one may transact insurance in California without a license. Willfully transacting insurance business in California without a license is committing a misdemeanor subject to a penalty of imprisonment for up to 1 year, a fine of up to $50,000 or both. 1.7 Privacy Protection and Federal Regulations Insurance Information and Privacy Protection Act The Insurance Information and Privacy Protection Act establishes standards for the collection, use, preservation, and disclosure of information gathered during insurance transactions, providing a balance between the industry’s need for information and fairness to the public in its information practices. The primary objectives of the law include: Minimizing intrusiveness Allowing customers to ascertain what information is being or has been collected about them Limiting the disclosure of information collected Enabling applicants and policyholders to obtain the reasons for any adverse underwriting decisions Providing a notice of information practices to all applicants or policyholders prior to or at the time of policy delivery, when the collection of personal information is taken from a source other than the applicant, and not later than at the policy renewal date or the date on which policy renewal is confirmed, or in the case of policy reinstatement or change in insurance benefits Notice is not required when personal information is only collected from the policyholder or public records, or when a prior notice meeting the disclosure requirements was provided to the customer within the previous 24 months. A.D.Banker&Company® 9 CHAPTER ONE All notices required to be provided to persons under the Insurance Information and Privacy Protection Act must be in writing and contain the following information: A statement that information may be collected from persons other than the insured A list of the types of information that may be collected, and the investigative or other methods used to obtain information The types of permissible disclosures A description of the insured’s rights and how the rights may be exercised A statement that the information obtained may be retained by the insurer and disclosed to other persons as permitted by law Penalties Anyone who knowingly obtains information about an individual from an insurance company, agent or insurance-support organization under false pretenses, or who is found to be in possession of such information without legitimate purpose commits a misdemeanor and is subject to a fine of up to $10,000, confinement for not more than 1 year in county jail, or both. California Financial Information Privacy Act The California Financial Information Privacy Act (sometimes known as “Cal-GLBA”), adds to the consumer safeguards provided by federal law. California’s modifications of GLBA provide that: Consumers have the final say in the sharing of their information Financial profiling of consumers is greatly restricted Penalties for identity theft perpetrators are doubled The Opt-Out Provisions of GLBA were changed to an Opt-In standard concerning information sharing with unrelated third parties An Opt-Out standard was created for information sharing within a family of companies (affiliates and controlled subsidiaries) Allowable Information Sharing Under Cal-GLBA, consumers must be advised that a financial institution has authority to share their personal financial information in the following ways or reasons: 10 Sharing customer data between affiliates in single line of business under the same regulators Transactional (“necessary to effect, administer or enforce a transaction requested or authorized by the consumer” and “with the consent of or at the direction of the consumer”) Operational (security reasons, customer disputes or inquiries) Identity theft (“to protect against or prevent actual or potential fraud”) With law enforcement in the course of an investigation and subject to orders of the court Relating to a business merger, sale, or transfer To comply with federal, state, or local laws and judicial processes The investigation of elder financial abuse cases (known or suspected) Permissible “outsourcing functions” with certain vendors (mail house or data processing) To identify or locate missing and abducted children, parents delinquent in child support payments, organ and bone marrow donors, pension fund beneficiaries, and missing heirs To comply with provisions of the USA PATRIOT Act A.D.Banker&Company® GENERAL INSURANCE Violent Crime Control and Law Enforcement Act of 1994 (18 USC 1033, 1034) – Prohibited Persons The Department must enforce certain sections (§ 1033 and § 1034) of the Violent Crime Control and Law Enforcement Act that relate to crimes by, or that effect, those who write insurance or reinsurance when those activities affect interstate commerce. Any such person is prohibited from knowingly, and with intent to deceive, making any false material statement or report in connection with any financial reports or documents filed with an insurance regulator or its examiner for the purposes of influencing the actions of the regulatory agency or examiner □ This includes any willful and material overvaluation of land, property, or securities □ Violations will be punished by a fine established under law, imprisonment up to 10 years, or both; however, if such illegal conduct jeopardized the safety and soundness of an insurer and contributed to the insurer's financial failure, the violator may be imprisoned up to 15 years Any such person—including anyone acting as that person's officer, director, agent, or employee—is prohibited from willfully embezzling, abstracting, stealing, or misappropriating money, funds, premiums, credits, or other property of a party engaged in the insurance business □ This includes any person involved in a transaction relating to the insurance business □ Violations will be punished by a find established under law, imprisonment up to 10 years, or both; however, if such illegal conduct jeopardized the safety and soundness of an insurer and contributed to the insurer's financial failure, the violated may be imprisoned up to 15 years. Exception: If the amount of illegally obtained funds is no more than $5,000, the term of imprisonment can be no more than 1 year. Any such person is prohibited from using threats, force, any threatening letter or communication, or corruptly influencing, obstructing, or impeding insurance law with respect to any proceeding that is pending before a regulatory body or official; violations will be punished by a fine established under law, imprisonment up to 10 years, or both Any person who willfully writes insurance or reinsurance, and whose activities affect interstate commerce, after having been convicted of a felony involving dishonesty, breach of trust, or of any violation of the Violent Crime Control and Law Enforcement Act, will be punished by a fine as provided under law, or imprisoned up the 5 years, or both; this also applies to any person who willfully permits another's participating in filing false reports or statements In addition to the penalties noted, the U.S. attorney general may file a civil action against any person who violates § 1033. If that person is found guilty, the person will be subject to a civil penalty up to $50,000 for each violation—or the amount the person received or offered for violating the law, whichever is greater. In addition, other criminal, civil, or administrative penalties may also be imposed. A.D.Banker&Company® 11 CHAPTER ONE In California, the Insurance Commissioner has sole authority to review applications for waivers and either grants or denies requests from prohibited persons who wish to be licensed in any capacity in the insurance industry. In considering whether to grant or deny the waiver, the Commissioner may consider the following items: The nature and severity of the crime The length of time since the conviction The injury/loss caused by the prohibited person and whether the conviction was related to insurance Whether the prohibited person was pardoned The nature and strength of character reference letters The person’s business and personal record before and after the conviction Whether the conviction was received in a foreign country Prohibited persons include the following people representing an insurance agency or insurance company while engaging in or transacting the business of insurance and whose activities affect interstate commerce: Executive officers, directors, or employees of an insurance agency or an insurance company An agent, solicitor, broker, consultant, third-party administrator, managing general agent or subcontractor Insurance institutions are required to make a diligent attempt to identify such persons in advance of employment. It is a criminal offense for any person to willfully employ or willfully permit such prohibited persons to participate in the business of insurance without the required written consent, punishable by a fine of up to $50,000, incarceration in federal prison for up to 10 years, or both. 1.8 Risk Management Risk Risk is the uncertainty concerning a loss. The two types of risk are: Speculative Risk – A possibility of loss, no loss, or gain. Pure Risk – A possibility of loss or no loss. There is no possibility for gain. Pure risks are insurable, but speculative risks are not. Loss Reduction, decrease, or disappearance of value. The basis of a claim under the terms of an insurance policy. Hazard A hazard is something that increases the risk or severity of a loss. Types of hazards include the following: 12 A.D.Banker&Company® GENERAL INSURANCE Physical Hazard Moral Hazard A physical condition that increases the probability of loss. Example: Pre-existing health conditions increase the probability of a future loss. A disposition to be dishonest which increases the chance of a loss. The character and reputation of the insured may increase the chance of a loss. Example: Giving false information on an application or filing a false claim. Morale Hazard Indifference to loss, or the failure to take proper care. Morale hazard and moral hazard are very similar, but can usually be distinguished by contrasting the tendency to take an action resulting in loss (moral hazard) with the tendency to fail to take an action that would have prevented a loss. Failing to take precautions regarding one’s own health and safety is generally considered to be a morale, not moral, hazard. Example: Smoking or failure to wear seat belts. Peril A peril is the cause of a loss that a policy insures against. Examples of perils include fire, wind, sickness, disability, or death. Loss Exposure Loss exposure is the condition of being at risk for a loss as a result of a peril. To an insurance company, each insured person represents the risk of loss and the value of each potential claim is a known loss exposure. A loss exposure is also used as a measurement of rating units to determine the premium base of a risk. Adverse Selection Adverse selection is the principle that those more likely to experience a possible loss tend to seek insurance to a greater extent. For example, persons with known health conditions are more likely to apply for life or health insurance. Managing Risk Managing risk is analyzing exposures that create risk and designing programs to minimize the possibility of a loss. Risk management techniques include: S Sharing Sharing occurs when the insured assumes a portion of the financial aspect of a loss. Deductibles, copayments, and coinsurance are examples of sharing. Risk sharing also occurs when individuals with similar loss exposures pool their risks and agree to privately each other for their losses. T Transfer Transfer involves shifting the financial aspect of the risk of loss to another party, as with an insurance policy, which makes the insurer responsible for paying covered losses. Transfer is the technique used when purchasing an insurance policy. A Avoidance Avoidance means having absolutely no exposure to a risk of loss and is a practical impossibility in most cases. It is the least effective means of managing risk. R Reduction Reduction involves mitigating the risks we cannot completely avoid. Diet and exercise may help reduce the risk of disease, and building with fire-resistive materials may reduce damage in the event of a fire. Retention Retention is being "self-insured." A person who fails to purchase insurance for a known loss exposure retains 100% of the financial aspect of a loss. Retention may be appropriate when the risk of loss is definite and measurable and within the financial ability of the individual or entity to cover. R A.D.Banker&Company® 13 CHAPTER ONE Elements of Ideally Insurable Risks To be ideally insurable, a risk must satisfy all of the following requirements: Large number of homogeneous units or groups with the same perils The chance of loss must be calculable. A statistical expectation of loss is used by insurers to calculate premiums. The loss must be measurable (definite and verifiable in terms of amount, cause, place and time) The premiums must be affordable From the perspective of the insured, the loss must be accidental in nature Catastrophic perils are excluded; examples include war, nuclear hazard and illegal operations Law of Large Numbers The combining of a large number of homogeneous (like) units helps an insurer to predict a possible loss by relying upon statistical probability. Individual losses are too difficult to predict based on the role of chance. When aggregated, these losses follow more predictable patterns, assisting in the effective calculation of premium rates to compensate for losses. 1.9 Insurance Concepts Insurance Insurance is a contract permitting one party to indemnify another against loss, damage, or liability arising from a contingent event. Indemnify means to make one whole or restore a person to the same financial condition as before the loss. Insurance is a social device for spreading risk. There is an exchange of a small certain expense (premium) for a large uncertain loss (possible claim). Insurance transfers the risk and protects against uncertainty. Insurance Policy The policy is the written instrument (document) setting forth a contract of insurance. Principle of Indemnity To indemnify means to restore a person, in whole or in part, to the same physical or financial condition which existed prior to a loss, but without profit or gain. In life and health insurance, it may not be possible to truly indemnify a person for all losses. Instead, indemnity takes the form of cash (a death or disability income benefit) or payments to physicians or hospitals for care and services provided to an insured who is injured or ill. Underwriting The process of selecting, classifying, and rating a risk for the purpose of issuing insurance coverage. The purpose of underwriting is to protect the insurance company against adverse selection. Insurability The ability of an applicant to meet an insurer’s underwriting requirements. 14 A.D.Banker&Company® GENERAL INSURANCE Insurable Events Any contingent or unknown event that results in loss or damage to a person having an insurable interest, or that creates a liability against them. Insurable Interest The policyowner must have a potential for financial hardship in the event of a loss. Insurable interest must exist between the policyowner and the insured or the contract is void. In property and casualty insurance, insurable interest must exist when the insurance takes effect, and when the loss occurs, but need not exist in the meantime; an interest in the life or health of a person insured must exist when the insurance takes effect, but need not exist thereafter. Coverage is determined based on the possibility of an economic or financial loss due to an accident, sickness, or death of the insured. A mere contingent or expectant interest not founded on an actual right to the item in question, nor upon any valid contract for it, is not insurable. For example, failing to receive an expected inheritance is not an insurable loss. 1.10 Contracts Contract Law Contract Law pertains to the formation and enforcement of contracts. Tort Law pertains to injuries suffered by one party as a result of another party’s actions or negligence in the absence of a contract. A tort is a civil wrong other than a crime or a breach of contract. Liability insurance is concerned with torts. An individual committing a tort is referred to as a “tortfeasor.” Elements of a Legal Contract An insurance policy is a legal contract between two parties. A valid contract requires four elements and the absence of any of these elements may prevent a contract from being formed or enforceable. 1. Competent Parties Parties to a contract must have the legal capacity to enter into a contract. Parties are assumed to be competent unless they are any of the following: Minors – For purposes of insurance, a minor is a person under age 16. Mentally incompetent Under the influence of drugs or alcohol 2. Legal Purpose Insurance may not be issued for an illegal activity or an act contrary to public policy. Every insured must have an insurable interest. 3. Agreement (Offer and Acceptance) A person makes the offer by submitting an application for insurance. Acceptance takes the form of the issued policy or binder, which is the insurer’s promise to pay. 4. Consideration Consideration is the exchange of value between the parties that makes a contract binding. The insured’s consideration is the payment of the first premium, plus an agreement to abide by the conditions of the contract. The insurer’s promise to indemnify in the event of a loss is its consideration. A.D.Banker&Company® 15 CHAPTER ONE All insurance contracts must include these 6 requirements or specifications: 1. 2. 3. 4. 5. 6. The parties between whom the contract is made The property or life insured The interest of the insured in the property insured, if they are not the absolute owner The risks insured against The period during which the insurance is to continue A statement of the premium, or a statement of the basis and rates upon which the final premium is to be determined and paid Each party to an insurance contract must communicate in good faith with the other and disclose all facts which they have knowledge and which are material to the risk or contract. The following information does not need to be communicated in an insurance contract: Information already known by both parties Information that should be known by both parties Information for which a party waives communication Information that is not material to a risk The financial rating of an insurance company Neither party to a contract of insurance is bound to communicate, even upon inquiry, information of their own judgment upon the matters in question Characteristics of Insurance Contracts Contract of Adhesion One party writes the contract, without input from the other party. One party (insurer) prepares the contract and presents it to the other party (applicant) on a “take-it-or-leave-it” basis without negotiation. Any doubt or ambiguity found in the document is construed in favor of the party that did not write it (insured). Aleatory Contract The exchange of value is unequal. Insured’s premium payment is less than the potential benefit to be received in the event of a loss. The insurer’s payment in the event of a loss may be much greater, or much less (for example, $0 in the event a loss doesn’t occur), than the insured’s premium payment. Indemnity Contract An agreement to pay on behalf of another party under specified circumstances, such as when a loss occurs. Under the principle of indemnity, insurance will only restore the insured to the same financial condition that existed before the loss. The insured cannot profit from the loss. Personal Contract A "personal contract" follows the person who owns the contract, and may not be assigned to another owner without prior approval of the insurance company. Most insurance contracts are "personal." Life insurance is not a personal contract. Once issued, ownership of a life policy may be transferred or assigned to another person without insurable interest simply by giving advance notice to the insurance company. Unilateral Contract Only one party is legally bound to the contractual obligations after the premium is paid to the insurer. Only the insurer makes a promise of future performance, and only the insurer can be charged with breach of contract. Both parties must perform certain duties and follow rules of conduct to make the Conditional Contract contract enforceable. The insurer must pay claims if the insured has complied with all the policy’s terms and conditions. Utmost Good Faith 16 Both parties bargain in good faith in forming the contract. Applicants are required to make a full, fair, and honest disclosure. A.D.Banker&Company® GENERAL INSURANCE Contract Terminology Warranties A warranty is either express or implied. An express warranty is a statement stipulated in the policy relating to the insured risk that is considered fact. Every express warranty made at or before the execution of a policy must be contained in the policy itself and signed by the insured. A warranty may relate to the past, present, or future. A statement in a policy showing an intent to do something which materially affects a risk is a warranty or promise made by the insured in the contract, such as “the insured will maintain an anti-theft device.” Failure to comply with a warranty breaches the contract. A violation of a material warranty allows the other party to rescind the contract. Representations An oral or written statement made at the time of application or before issuance of the policy that is believed to be true to the best of the applicant's knowledge and belief. It may be accepted as true, but it is not guaranteed to be true. A representation may be altered or withdrawn before the insurance is in effect, but not afterwards. A representation cannot qualify an express provision in a contract of insurance, but it may qualify an implied warranty. Misrepresentations A false representation contained in the application. A representation is false when the facts fail to correspond with its assertions or stipulations. Once a policy is issued, and until a policy becomes incontestable, a material misrepresentation in the application may result in denial of a claim and/or rescission of the contract by the insurer. A misrepresentation usually does not void coverage or the policy. Materiality A statement is material if it would change the insurer’s decision to issue a policy for the same premium. Materiality is not determined by the event, but rather by the facts that a party failed to communicate or miscommunicated. Materiality is judged by the importance or relevance to the contract and the influence of the facts on the party to whom the communication is owed. The materiality of concealment is the rule used to determine the importance of a misrepresentation. The right to information of material facts may be waived by the terms of insurance or by neglecting to make inquiries into material facts when they are distinctly implied by other communicated facts. Material Misrepresentation If material to the issuance of coverage, meaning the insurer would not have issued coverage had the misrepresentation not been made, coverage does not apply. Violation by either party of the material provision of a policy entitles the other party to void the policy (rescission). Concealment Concealment is the withholding of material fact pertinent to the issuance of insurance. A material concealment, whether intentional or unintentional, may result in the rescission of the contract. A.D.Banker&Company® 17 CHAPTER ONE Rescission Rescission is the termination of a contract from the beginning as if it had never existed. An insurer is entitled by law to rescind a policy in the case of: Material concealment, whether intentional or unintentional An intentional and fraudulent omission of matters proving the falsity of a warranty Material misrepresentation Violation of a warranty 1.11 Insurer Underwriting Underwriting The selection of risk is the primary function of the underwriter. The underwriter must protect the insurer against adverse selection by selecting risks that fall into the normal range of expected losses. Balancing adverse risks with preferred risks creates a Profitable Distribution of Exposures. When evaluating a risk, an underwriter examines: The nature of the risk What hazards are present What outside factors might affect the risk What past losses have occurred Limits are placed on both preselection and post-selection activities to prevent discrimination and to ensure fair treatment of insurance applicants and policyholders. Required disclosures, information practices, privacy requirements, unfair trade practices and other prohibitions are outlined in state law to protect insurance applicants. 18 A.D.Banker&Company® 2 Life Basics OVERVIEW The purpose of this chapter is to outline the process of completing the application, underwriting, and delivering the life insurance policy. This chapter will acquaint the student with personal uses of life insurance and methods of determining the appropriate amount of life insurance to purchase. It will also provide an overview of the classes of life insurance policies that exist and the concept of thirdparty ownership. Upon the completion of this chapter, you will be able to: 1. 2. 3. 4. 5. 6. 2.1 Distinguish between a policyowner and an insured Identify the receipts used when collecting premium Recognize the primary information sources for underwriting Differentiate between standard, preferred, and substandard risks Identify the personal uses of life insurance Compare the methods of determining the amount of life insurance needed Definitions Applicant A person applying to be insured under an insurance contract. The applicant, owner, and insured may be the same or up to three different persons. Application A written formal request by an applicant to an insurer requesting the insurer issue a policy based upon information contained in the application. It is the primary source of information used for underwriting purposes. Beneficiary One or more “parties” named in the policy to receive the policy’s benefits if the insured dies while the contract is in force. The beneficiary cannot be the insured, but can be the owner/applicant. Insured The individual whose life is covered under the policy. The insured’s death results in the payment of the policy proceeds. Insurable Interest The relationship that must exist between the applicant and insured, at the time of application and policy issuance, in order for the contract to be valid. An individual has an insurable interest in their own self. Insurable interest also exists if a financial or economic loss by the owner results in the event that the insured dies. Examples of insurable interest include a policy taken out on a family member, business partner, or debtor of the policyowner. Policyowner The individual who has ownership rights in a policy. The policyowner and insured are usually the same, but not necessarily. Third-Party Ownership A policy owned by a person other than the insured. A.D.Banker&Company® 19 CHAPTER TWO Issue (Original) Age Insured’s age on the policy issue date. Attained Age Insured’s age at any point in time typically used at renewal or conversion. Effective Date The date when insurance coverage begins. Expiration Date The date when insurance coverage ends. 2.2 Producer Responsibilities Producers are the initial point of contact for most insurance transactions. Transacting insurance can involve any of four different phases in the sale of products: solicitation, negotiation, execution of a contract, and handling matters subsequent to a contract. Solicitation Soliciting insurance can be done through traditional forms such as advertising in local print media, on radio or television, or through direct mail. Seeking opportunities to conduct sales appointments with potential clients is also considered solicitation. Many producers also obtain referrals from new and existing clients, who lend credibility to the producer and their products and services. Contacting these referrals is solicitation and is also protected by other laws which may require prior approval to contact. California Life Policy Illustration (Summary) and Buyer's Guide Requirements The Buyer’s Guide provides basic information concerning life insurance, the different types of policies which are sold, and the comparative costs of each. California law requires a life insurer provide a copy of the NAIC Buyer’s Guide to Life Insurance to all prospective insureds prior to accepting the applicant's initial premium. If the policy being applied for contains an unconditional refund provision (free look) of at least 10 days, the Buyer's Guide must be delivered prior to or at the time of policy delivery. Most individual life insurance policies issued in California are required to contain a free look period. Cost Comparison Indexes If an agent or insurer makes a presentation comparing the cost of life insurance which does not recognize the time value of money, the agent must present the Life Insurance Surrender Cost Index and the Life Insurance Net Payment Cost Index. The Life Insurance Surrender Cost Index is used to compare the cost of similar policies based on determining the guaranteed cash surrender value, if any, available at the end of the 10th and 20th policy years. The Life Insurance Net Payment Cost Index is also used to compare similar policies, however this index shows the cost based on the death benefit payable after a surrender period of 10 or 20 years rather than the cash surrender value. The presentation of these indexes must be accompanied by an explanation that these are measures of the relative cost of similar plans of insurance and that a low index number represents a lower cost than a higher index number. 20 A.D.Banker&Company® LIFE BASICS Illustrations Life Insurance Illustrations should be presented to be understandable and not misleading. An illustration is a document that shows the cash accumulation in a life policy over a minimum of 20 years on both a Guaranteed (maximum cost of insurance, minimum interest credits) and a NonGuaranteed (current cost of insurance and interest credits assumptions) basis. This is known as a "Basic Illustration." Policy illustration requirements apply to all group and individual life insurance policies, except: Variable Life insurance Individual and group annuity contracts Credit Life insurance Franchise Life insurance Group Term Life insurance Life insurance policies with no illustrated death benefits on any individual exceeding $10,000 Life insurance policies issued in connection with pension and welfare as defined by ERISA Each insurer marketing policies must notify the Commissioner whether a policy form is to be marketed with or without an illustration. If a policy form is marketed with an illustration, a basic illustration showing both guaranteed and non-guaranteed values must be prepared and delivered. An illustration used for life insurance must be clearly labeled “life insurance illustration” and include: Name of insurer Name and business address of producer or insurer’s authorized representative, if any Name, age, and sex of proposed insured Underwriting or rating classification upon which the illustration is based Generic name of policy, the company product name (if different), and form number Initial death benefit Dividend option election or application of non-guaranteed elements, if applicable When using an illustration for life insurance, an insurer or agent will not: Represent the policy as anything other than a life insurance policy Use or describe non-guaranteed elements in a manner that is misleading or has the capacity or tendency to mislead State or imply that the payment or amount of non-guaranteed elements is guaranteed Use an illustration that does not comply with the illustration requirements Use an illustration that at any policy duration depicts policy performance more favorable to the policyowner than that produced by the illustrated scale of the insurer whose policy is being illustrated Provide an applicant with an incomplete illustration Represent in any way that premium payments will not be required for each year of the policy in order to maintain the illustrated death benefits, unless that is the fact Use the term “vanishing” or “vanishing premium,” or a similar term that implies the policy becomes paid up, to describe a plan for using non-guaranteed elements to pay a portion of future premiums Use an illustration that is “lapse-supported,” except for policies that can never develop nonforfeiture values Use an illustration that is not self-supporting A.D.Banker&Company® 21 CHAPTER TWO A basic illustration must also include all of the following: A brief description of the policy being illustrated, including a statement that it is a life insurance policy A brief description of the premium outlay or contract premium for the policy A brief description of any policy features, riders or options, guaranteed or non-guaranteed, and the impact they may have on the benefits and values of the policy Identification and a brief definition of column headings and key terms used in the illustration The date prepared, issue age of the applicant, and number of years the policy will be in force If a basic illustration is used by an insurance producer, or other authorized representative of the insurer, in the sale of life insurance and the policy is applied for as illustrated, a signed copy of that illustration must be submitted to the insurer and provided to the applicant at the time of the policy application. California Senior Market and Policy Illustrations Every insurer and life agent offering for sale individual life insurance policies or individual annuity contracts that are issued for delivery to senior citizens in California with the use of nonpreprinted illustrations of non-guaranteed values must disclose on those illustrations, or on an attached cover sheet, the following statement: “This is an illustration only. An illustration is not intended to predict actual performance. Interest rates, dividends, or values that are set forth in the illustration are not guaranteed, except for those items clearly labeled as guaranteed.” All preprinted illustrations containing non-guaranteed values must show the columns of any guaranteed values in bold print. 2.3 Completing the Application Completing the Application and Field Underwriting An application is a written formal request by an applicant to an insurer requesting the insurer issue a policy based upon information contained in the application. It is the producer’s responsibility to probe beyond the stated questions, which is known as field underwriting. The application is the primary source of information for an insurer underwriting a potential risk. If attached to the policy, a copy of the application becomes part of the entire contract. Required Signatures Both the producer and the applicant/insured must sign the application. The applicant is representing that statements on the application are true and accurate. If the applicant is a minor, a guardian must sign the application. Changes in the Application Whenever an answer to a question needs to be corrected, the applicant or producer makes the correction and the applicant initials the change, or the producer can complete a new application. Consequences of Incomplete Applications The producer’s primary underwriting role is to make sure the application provides proper information for the insurer. The underwriter will return an incomplete application to the producer for completion by the applicant. If a policy is issued with questions unanswered, it is assumed the information is not material to the issuance and the insurer waives the right to challenge a claim based on the incomplete application. 22 A.D.Banker&Company® LIFE BASICS Information Required In California, life insurance applications generally ask for the following types of information: Personal Includes name, address, driver’s license number, Social Security number, income, employment, tobacco use, number of dependents, etc. Ownership Establishes who will actually own the policy and be responsible for paying the premiums. Product The policy, riders, and options for which application is being made. Beneficiary The person who will receive the benefit and the payout order. Business Coverage Questions about business coverage are used only if the policy is being purchased for business uses. Premium Questions about the premium are asked to determine how premiums will be paid (direct bill, electronic transfer, etc.) and how often they will be paid (annually, quarterly, etc.). Existing Coverage Any insurance policies already covering the proposed insured is considered existing coverage. Limited Temporary Life Insurance Eligibility Determines if the proposed insured is eligible for coverage until the policy is issued. If not, no policy will be issued and any payment made will be refunded. Nonmedical Questions This is the information regarding foreign travel, high risk occupations, and hazardous hobbies. It also determines if the applicant has already applied for coverage, been rejected for coverage, or applied for bankruptcy. Nonmedical Application A nonmedical application is used when the policy requested does not require a medical examination for underwriting. Health questions on the application are asked by the producer and are the only medical information required initially. On the basis of answers provided in a nonmedical application, the underwriter may order additional medical testing, such as collection of blood and urine, EKG, physician exam, etc., prior to accepting the proposed insured. Collecting the Initial Premium and Issuing the Receipt Whenever possible, a producer should collect the initial premium and submit it along with the application to the insurer. The types of receipts that can be issued when a premium is submitted with the application are: A.D.Banker&Company® 23 CHAPTER TWO Conditional Receipt Provides that coverage is effective as of the date of application or date of completed medical exam (if required), whichever is later, as long as the insurer would have issued the policy as standard or better. This receipt provides conditional coverage even if the underwriting process has not been completed. If an applicant is a substandard risk, there is no conditional coverage. Temporary Insurance Agreement This is a receipt that provides immediate coverage during the underwriting period (rather than a specified number of days) until a policy is issued or the application is declined. To be eligible, the application cannot include any material misrepresentations, and the insurer may require that the proposed insured never received medical treatment or been diagnosed with cancer, HIV, AIDS, coronary artery disease, stroke, or drug or alcohol misuse. Trial Application If an application is submitted without a premium, it is a Trial Application. The policy would not take effect until the policy is issued by the insurer, delivered by the agent, and the premium is paid. Disclosures and Consent Issues Relating to AIDS and HIV Testing California law established standards that prevent insurers from unfairly discriminating against individuals of the same class when it comes to testing for the presence of HIV, AIDS, and AIDSrelated conditions (ARC). Life insurance applications cannot contain questions about prior HIV testing unless the question is limited to prior testing for the purpose of obtaining insurance. Geographic location or personal information such as occupation, marital status, relationship of insured to beneficiary, or known or suspected homosexuality or bisexuality cannot be used to require an HIV test. A current and prior HIV positive test result (two positive blood tests) may be the basis for an insurer to decline an applicant for life insurance. All tests require informed consent and the results must remain confidential in accordance with privacy protection provisions. Applicants for life insurance must be given a disclosure that they will be tested for HIV/AIDS and have the opportunity to name a health care professional with whom a positive test result may be shared. If no health care professional is named, they must be urged to seek counseling. The insurer must pay for the cost of the testing. Negligent disclosure of HIV results to a third party which identifies an individual may result in a civil penalty of up to $1,000. 2.4 Individual Underwriting by the Insurer Insurable Interest Before the process of underwriting begins, the underwriter will make the final determination as to whether insurable interest exists. In California, every person has an insurable interest in the life and health of: 24 Their own life Any person on whom they depend wholly or in part for education or support Any person under a legal obligation to them for the payment of money or respecting property or services, of which death or illness might delay or prevent the performance Any person upon whose life any estate or interest vested in them depends A.D.Banker&Company® LIFE BASICS Underwriting is the process of selection, classification and rating, determining if someone is insurable, classifying the risk, and determining the rate or premium to be charged. The purpose of underwriting is to prevent adverse selection. The sources of underwriting include the application, medical exams, an Attending Physician’s Statement, the Medical Information Bureau (MIB) Report, an inspection report, agent’s report, DMV records, and a hazardous activity questionnaire. Information Sources and Regulation The application consists of two parts: 1. Part 1 contains general questions about the applicant, such as sex/gender, marital status, residence, date of birth, occupation, and past and present life insurance. 2. Part 2 contains questions pertaining to medical background, past and present health, any medical visits, medications, height/weight, hospitalizations/surgeries in recent years, and the medical status of immediate family members (includes ages, causes of death, etc.). Medical Examinations are conducted by physicians or nurses who provide results of an examination and information regarding the applicant’s present health. Examinations are usually requested by the insurer after determining if the amount of coverage, age of applicant, or their health history warrant the examination. They are commonly requested due to the higher amounts of insurance applied for coupled with the high degree of cardiovascular concerns, high cholesterol and enzyme levels, as well as the prevalence of the HIV virus. Additional medical testing may include a simple physical exam, a stress test on a treadmill, or even an electrocardiogram (EKG). Medical exams are at the insurer’s expense. The results of the medical examination is the only report that might be copied and made part of the policy. An Attending Physician Statement (APS) is used in cases in which the individual application and/ or medical reports reveal conditions of which more information is required. The applicant’s treating physician will complete this as part of the applicant’s medical history. An applicant must sign a written release to enable a release of the APS. The insurer pays for this. The MIB, Inc. (Medical Information Bureau) Report is primarily used to collect adverse medical information about an applicant’s health (supported by insurance companies) and act as an information exchange. The MIB is a member-owned corporation that operates on a not-for-profit basis in the United States and Canada. MIB’s Underwriting Services are used exclusively by MIB’s member life and health insurance companies to assess an individual’s risk and eligibility during the underwriting of life, health, disability income, critical illness, and Long-Term Care insurance policies. These services “alert” underwriters to fraud, errors, omissions, or misrepresentations made on insurance applications. In addition, MIB may help lower the cost of life and health insurance for consumers. MIB’s coded reports represent general medical information and other conditions (typically hazardous hobbies and adverse driving records) affecting the insurability of the applicant. If the coded reports are inconsistent with the information provided by the applicant, underwriters are required to conduct a further investigation to obtain more information about the reported medical histories or conditions prior to making an underwriting decision. Because the MIB information is general, the MIB report cannot solely be used to decline an applicant for insurance. An Inspection Report is a general report of the applicant’s finances, character, morals, work, hobbies, and other habits. This is sometimes referred to as a Consumer Investigative Report. This can be completed by the insurer or a third-party provider. The applicant must be made aware of any information gathering and has rights provided under the FCRA. A.D.Banker&Company® 25 CHAPTER TWO An Agent’s Report is a personal statement submitted by the producer to the insurer regarding the applicant’s financial condition, any personal knowledge of the applicant, etc. This information remains confidential between the producer and the insurer, and it does not become part of the entire contract. A Department of Motor Vehicle (DMV) report may be requested to provide information regarding the applicant's driving history. If an applicant has engaged in high risk hobbies (skydiving, scuba diving, motorcycle racing, mountain climbing), a hazardous activity questionnaire will be required to determine, based on the risk and frequency, if those activities will affect insurability. Individual Selection Criteria The insurer uses information collected by the field underwriter and other sources to determine the insurability of an individual. It is ultimately the home office underwriter’s responsibility to determine if an individual meets the underwriting requirements of the insurer. Example The insurer receives a prepaid application. Upon the receipt of the MIB report, health problems are revealed. The underwriter will, at this time, require additional information in the form of an Attending Physician Statement (APS) and/or a medical examination. The underwriter may rate or deny the application based on this additional information. The MIB report reveals past medical concerns and cannot be used as the only medical report for rating or denying an application. Group Selection Criteria It is important to compare the selection criteria for individual vs. group insurance. Group insurance is issued based on the characteristics of the group as a whole instead of each individual. Having one uninsurable individual in the group will not cause a declination. Classification of Risks Rating Applicants Upon receipt of information such as the application, medical exam, blood and urine test results, etc., underwriters analyze the information and determine if the applicant is an acceptable risk. If acceptable, underwriters then determine the classification to be used in the calculation of the premium. Risk classifications include: 26 Standard Risks – Individuals who have the same health, habits, sex/gender, and occupational characteristics as those reflected in the mortality table. Individuals in this category have an average life expectancy. Preferred Risks – Individuals who meet certain requirements and qualify for lower premiums because of ideal health, height, and weight. Individuals in this category have a longer than average life expectancy. Substandard Risks (Higher Risk Exposure) – Individuals who are not acceptable at standard rates because of poor health, bad habits, or occupational hazards. Individuals in this category are issued “rated policies” as follows: A.D.Banker&Company® LIFE BASICS □ Graded (Lien) Plan – A graded death benefit usually provides 50% of the face amount to start and increases to the full face amount over 1-2 years. The substandard premium does not change. This is generally used with senior life insurance plans to provide minimal benefits without a medical examination. □ Rated-Up Age – The premium for a "rated-up" policy is that of a standard risk, but for an insured 5 to 10 or more years older than the actual age of the proposed insured. □ Flat Rate – A flat additional premium may be assessed on a temporary (1 to 5 years) or permanent basis. □ Tabular Rate – A surcharge is calculated by adding 25% of the base rate to the standard premium for each "Table" number based on the condition causing the substandard rating. There are 10 standard tables used. Declined – This is not a rating classification, but a decision that the risk is one for which the insurer refuses to issue insurance. In this case, the applicant is deemed uninsurable. Being declined by one insurance company does not mean a person will be declined by all other insurance companies. 2.5 Premium Determination for Life Insurance Assumptions and Calculations When calculating premium rates, life insurers assume that all: Premiums are paid annually in advance of the period of coverage Premiums will be invested and earn interest Claims will be paid on the last day of the year Factors in Premium Determination for Life Insurance Premiums are based on expected mortality, interest, and expenses, and these factors are used by all insurers to determine premiums. Mortality Mortality Tables are used to give the company a basic estimate of how much money it will need to pay for death claims each year. By using a Mortality Table, a life insurer can determine the average life expectancy for each age group, based on the year of birth. The mortality rate is taken from the Mortality Table that shows life expectancy and the death rate per 1,000 people living in the United States. This table allows the insurer to rate policies using the law of large numbers, so accurate mortality predictions are extremely important. The higher the age group, the higher the mortality rate—translating to a higher premium. The Mortality Table also show that males have a higher mortality rate than females. Based on this statistic, males will pay a higher rate than females. Interest Interest earnings are also used in calculating premium. Insurance premiums are paid in advance and insurance companies invest these premiums and assume a certain rate of interest will be earned. Interest earnings reduce the amount of premium needed to fund the future liability of the policy death benefit. Expenses The amount charged to cover each policy’s share of expenses of operation (salaries, commission, premium taxes, and cost of doing business) is called Expense Loading. This can vary from company to company based on its operations and efficiency. A.D.Banker&Company® 27 CHAPTER TWO Premium Concepts Net Premium Excludes the expense component and takes into account interest and mortality factors only. The process of calculating this rate requires: The age and sex/gender of the insured and the benefits to be provided The mortality rate to be used and the rate of interest assumed Gross Premium Additional charges (loading) are added to the net premium rate to enable an insurer to meet all costs under the contract, such as operating expenses, commissions, medical examination costs, etc. Policy Reserves The net premiums paid plus additional interest earned must be set aside for future claims and possible contract obligations. A reserve is the actuarial amount needed to cover potential liabilities to policyholders, such as cash surrender and nonforfeiture values Earned vs. Unearned Premium Premiums are earned for each day the policy is in force. Premiums paid in advance are considered unearned premiums until coverage has been provided, and the insurer has "earned" the right to retain the premium. Mortality Cost Formula Mortality Cost is figured using the following formula: Mortality Cost – Interest (investment return) = Net Premium (pure rate) Net Premium (pure rate) + Loading (insurer expenses) = Gross Premium Premium Payment Mode Mode is the frequency of payment. Premium payments are made either monthly, quarterly, semiannually, or annually. Payment modes other than annual may result in higher premiums to offset the lost interest earnings and increased administration costs. For this reason, an annual mode results in the lowest premium outlay while monthly premiums result in the highest. The more frequently premiums are paid, the more expensive the mode of payment. 2.6 Policy Delivery When the insurer determines that an applicant is an acceptable risk, the insurer will send the policy to the producer for delivery to the insured. It is the producer’s responsibility to deliver the policy and collect any premiums (if not paid at the time of application). The producer is expected to explain the policy to ensure the policyowner/insured understands the benefits, including any ratings, endorsements, exclusions, and riders. Constructive or legal delivery occurs only if the premium was paid at the time of application. Once the insurer issues the policy, a legal contract has been formed since the policy becomes the acceptance. Once the insurer mails the policy to the producer, it is considered constructively or legally delivered by the insurer. It is still the producer’s responsibility to obtain delivery signatures and explain policy benefits to the policyowner/insured. 28 A.D.Banker&Company® LIFE BASICS If a policy is not approved as applied for, the insurer may make a "counteroffer" to the applicant. The insurer may issue a policy with a higher rating or exclusions to the policy. The producer must handdeliver the policy to the applicant to collect any additional premium, explain any substandard rating or changes in coverage and premium, and reinforce the value of the contract. When the initial premium is not paid with the application, the producer must collect the premium before coverage can begin. The producer must also obtain a Statement of Good Health from the applicant/insured at the time of policy delivery that verifies the insured has remained in the same health status continuously since the time of application. If the applicant is not in good health, the policy should be returned to the insurer for further underwriting. An insurer is required to deliver a life insurance policy to the owner in order to start the free look period. Policy delivery in California will be accomplished by: Personal delivery, with a signed receipt of delivery Registered or certified mail with a signed receipt of delivery First-class mail with a signed receipt of delivery Delivery by reasonable means, as determined by the Commissioner If an insurer does not deliver the policy by reasonable means as determined by the Commissioner, the burden of proof will be on the insurer to establish that the policy was delivered. A policy is considered to have been received 6 months after the date of issuance if premiums have been paid to date. 2.7 Replacement of Life Insurance and Annuities The requirements for the replacement of life insurance and annuity contracts have been established to: Regulate the activities of agents and insurers Protect the interests of life insurance and annuity purchasers from the loss of benefits Assure that the purchaser receives enough information to make an informed decision Reduce the opportunity for misrepresentation Establish penalties for failure to comply with the rules of replacement Definitions Replacement Any transaction in which new life insurance or an annuity is to be purchased and it is known that the existing contract will be: Lapsed, forfeited, surrendered, or terminated Converted to reduced paid-up insurance, continued as extended Term insurance, or otherwise reduced in value by the use of nonforfeiture benefits or other policy values Amended to reduce the benefit or term in which the coverage would remain in force Reissued with a reduction in cash value Pledged as collateral or subjected to borrowing for amounts in the aggregate exceeding 25% of the loan value set forth in the policy Conservation Conservation includes any attempt by the existing insurer or agent to deter a policyowner from the replacement of an existing life insurance policy or annuity contract. This does not include late payment reminders or reinstatement offers. A.D.Banker&Company® 29 CHAPTER TWO Existing Insurer The Existing Insurer is the insurer whose policy is or will be changed or terminated through a replacement. Replacing Insurer The Replacing Insurer is the insurer that issues a new policy which is a replacement of an existing policy or annuity contract. Replacement does not apply to: Credit Life insurance Group life insurance or annuities Conversion of an existing policy Proposed life insurance that is to replace life insurance issued by the same insurer Duties of all Insurers Every life insurer must inform its field representatives or other personnel responsible for compliance with the replacement requirements and require a statement indicating whether replacement is involved with each completed application for life insurance or annuity. Duties of Replacing Agents Each agent who accepts an application for life insurance or annuity that involves replacement of any existing life or annuity contract must submit to the insurer a Notice Regarding Replacement, which must include: A statement signed by the applicant as to whether replacement of existing life insurance or annuity is involved in the transaction A signed statement as to whether or not the agent knows if replacement is involved If a replacement is involved, the replacing agent must: Present to the applicant at the time of application a Notice Regarding Replacement which must be signed by both the agent and the applicant Collect and provide a list of life insurance policies or annuities to be replaced along with the names of the insurers and contract numbers Leave with the applicant the originals or copies of all written or printed communication used for presentation—including sales proposals and comparisons of policies Duties of Replacing Insurers When replacement is involved, the insurer must: 30 Require the agent submit a Notice Regarding Application and a list of all existing policies or contracts, including the names of the insurers and policy numbers with the application Send to the existing life insurer within 3 working days of the date the application is received a written communication advising of the replacement or proposed replacement (this includes the identification information and a policy summary, contract summary, or a ledger statement containing policy data on the proposed life insurance or annuity) Maintain evidence of the Notice Regarding Replacement, the policy or contract summary, any ledger statements used, and a replacement register for at least 3 years Provide in its policy or a separate written notice that the applicant has a right to an unconditional refund of all premiums paid within 30 days from the date of policy delivery A.D.Banker&Company® LIFE BASICS The replacing insurer may request the existing insurer (upon conservation) to furnish it with a copy of the summaries or ledger statement, which must be sent within 5 working days of request. Since new evidence of insurability may be required, the existing policy should not be terminated until the replacing policy is issued and delivered. Duties of Existing Insurer Every existing life insurer that undertakes a conservation will: Furnish the policyowner with a policy or contract summary for the existing insurance or annuity within 20 days from written communication of the replacing insurer Maintain evidence of policy summaries, contract summaries, or ledger statements used in any conservation for at least 3 years Violation and Penalties A violation occurs if an agent or insurer recommends the replacement or conservation of an existing policy by use of materially inaccurate presentation or comparison of an existing contract’s premiums, benefits, dividends, and values. This is also known as "twisting" and is a misdemeanor. It is also a violation to recommend that an insured 65 years of age or older purchase an “unnecessary replacement annuity.” An unnecessary replacement annuity means the sale of an annuity to replace an existing annuity that results in a surrender charge for the annuity that is being replaced and does not confer a substantial financial benefit over the life of the contract to the purchaser so that a person would reasonably believe the purchase is unnecessary. An agent who violates any replacement regulations is liable for an administrative penalty of no less than $1,000 for the first violation. For subsequent violations, the penalty is no less than $5,000 and no more than $50,000 per violation. An insurer who violates any replacement regulations is liable for an administrative penalty of $10,000 for the first violation and for subsequent violations no less than $30,000 and no more than $300,000 per violation. 2.8 Personal Uses of Life Insurance Life insurance reduces uncertainty, giving a greater peace of mind by replacing the possibility of a larger loss (income) with a known smaller loss (premium). Life insurance does not eliminate risk; it transfers the larger risk from the policyowner/insured to the insurance company. Survivor Protection Provides funds for surviving spouses and dependents. Estate Creation Life insurance proceeds provide financial assets to create an immediate estate the insured can pass on to survivors. Estate Conservation Provides money to pay any estate taxes or loans which must be satisfied upon the death of the insured, preserving the insured’s estate. Cash Accumulation Life insurance other than term may develop cash value over time, which may later be borrowed or withdrawn prior to the death of the insured. Liquidity Immediate funds available upon death to pay creditors, taxes, and final expenses, as well as cash values available for policy loans, withdrawals, and full surrenders. Pre-need Plan A type of coverage with a small face amount ($50,000 or less), typically purchased to pay the burial expenses of the insured. A.D.Banker&Company® 31 CHAPTER TWO Charities To help fund favorite charitable organizations upon the insured’s death, new or existing policies may be donated to charities. Viatical /Life Settlements An individual selling an owned insurance policy to a third party for less than the death benefit but more than the cash values in order to obtain funds when no other sources are readily available. Stranger Originated Life Insurance (STOLI) STOLI transactions occur when a person with no insurable interest in the life of another induces that person to purchase a life insurance policy with the sole intent of becoming the beneficiary and profiting upon the death of the insured. The insured assigns the policy ownership to the investor and receives a payment for an amount less than the death benefit but greater than the policy’s cash value. Essentially, the insured is “selling” their mortality. Upon policy assignment, the purchaser will continue to pay premiums to keep the policy in force. Upon death of the insured, the purchaser/beneficiary files a claim for the death benefit. STOLI has been prohibited by law in California since 2010 due to the absence of legitimate insurable interest at the time of policy issue. The California DOI has issued a Senior Advisory on STOLI transactions. 2.9 Personal Insurance Planning Process: Determining Amount of Personal Life Insurance Needed Before making a recommendation, it is important to help the client identify the overall financial objective. While life insurance can create an immediate source of income, there may be other objectives that may be met such as paying off debts, providing funds for education expenses or continuing retirement income for a spouse. Once these needs are identified, the agent can develop and implement a plan to meet these objectives. The methods of risk management (avoidance, retention, sharing, reduction, and transferring) can be used to treat loss exposures. The plan will include transferring some or all of the risk with the purchase of insurance. As part of the plan, the agent will not only help identify which type of plan will meet the client’s needs, but also determine the amount of protection needed. Two of the approaches used to determine the need and amount of life insurance are human life value and needs analysis. Human Life Value This approach is a measure of the projected future earnings and services of a person at risk in the event of a premature death. The objective is to provide the proper amount of coverage as determined by the value of the individual to their dependents using the following factors: 32 The individual’s age and gender The individual’s occupation The individual’s annual wage The individual’s planned retirement age Inflation A.D.Banker&Company® LIFE BASICS Needs Analysis Approach This approach determines a need for coverage upon the premature death of an individual. It always assumes the death of the individual to be immediate and factors the following steps into arriving at the proper amount of coverage needed: Calculate all financial needs caused by an immediate death, including debts, medical bills, and final expenses Provide lifetime income to the spouse Pay off a mortgage or other debt Provide funds for children’s education An Emergency Reserve Fund may be part of the calculation to provide for unexpected emergencies the family might encounter immediately after the death of the insured Subtracts any assets available to fund financial needs after death (such as retirement plan assets, other insurance, liquid investments, separate savings) 2.10 Types of Life Insurance Policies Group Life A Group Life insurance plan is normally owned by an employer or association, under which coverage is provided for the employees or members. The group cannot be formed for the purpose of purchasing insurance. The cost is usually lower than for individual policies and the benefits are limited to the coverage selected by the group sponsor. The insurer provides a single master policy to the employer or association and each employee or member receives a certificate of insurance outlining the coverage. Group insurance generally provides protection for an employee’s named beneficiary, typically a spouse if married. The coverage may be changed only in the master policy. The coverage is normally written on a renewable term basis providing no cash value or living benefits as found in individual cash value policies; however, the group plan can be written as any type of insurance. The amount of coverage can be limited to a fixed dollar amount such as $50,000 or a multiple of earnings (for example, 2 times annual salary). Some group plans allow for the purchase of additional coverage which may be partially or fully underwritten. Upon retirement, group coverage can be converted to an individual permanent life insurance plan without having to prove insurability. Individual Life Individual Life policies may be of any classification or type of insurance. Individual life policies may also build or preserve an estate or provide a living benefit for the terminally ill. Unlike group insurance, which usually terminates upon separation of service or the employer choosing to discontinue the plan, individually owned policies leave the decision of continuing the policy to the policyowner. Whole Life Whole Life is an life insurance policy that remains in force to age 100 or beyond. This coverage is often referred to as permanent because it is designed to last the insured's lifetime. Whole Life provides a guaranteed death benefit based on a guaranteed flat premium. The premium is always higher than that on a term policy at issuance when the amount of coverage and underwriting factors are equal. This policy provides for living benefits for the policyowner or insured by way of its cash values, which can be borrowed against. It also has many options available to the policyowner. A.D.Banker&Company® 33 CHAPTER TWO Term Term Life insurance has the lowest of initial premium outlay and is designed for someone with a large insurance need, but with limited cash flow. This coverage is often referred to as temporary, as it is usually written to cover a specified time period. Premiums increase based on the insured's attained age when the policy renews, which could be annually. This policy does not build cash values or have surrender values. Most Term policies provide a fixed level benefit or decrease benefit depending on the type of policy. It is typically used to cover mortgages, short term obligations, or for younger couples. Mortgage Life Mortgage Life is a type of decreasing Term Life insurance that can pay off or reduce the balance owed on a primary or refinanced mortgage. The decreasing death benefit tracks with the balance due on the loan. Coverage may be provided through a creditor on a group basis or through a licensed agent on an individual basis. Credit Life Credit Life policies are a type of group Term Life insurance marketed through creditors that can pay off or reduce the balance of a consumer loan, or loan for the purchase of consumer goods, in the event of the insured's death. The decreasing or reducing death benefit tracks with the outstanding loan balance to be paid off upon the insured's death. Universal Life Universal Life is a type of insurance that provides a guaranteed minimum amount of insurance, which can be adjusted by the policyowner. The premiums are flexible and the growth of the cash value fluctuates based on current and guaranteed interest rates, making this an interest-sensitive product. Variable Life Variable Life is derived from Whole Life insurance but uses a separate account for the cash value accumulation. The separate account includes subaccounts which are similar in nature to mutual funds, and a securities and life insurance license are required to sell these policies. The policyowner takes on the investment risk of the policy. The policy’s overall death benefit can increase along with the cash values with positive investment performance coming from the separate accounts selected; however, there is no guarantee of return and down markets can cause significant loss of policy value. Participating A Participating Policy is class of policy marketed by a mutually owned company. The word participating means a dividend may be paid to the policyowner when it is declared by the board of directors. The company is not required to issue only participating policies, but only participating policies will be eligible for dividends. Participating policy dividends are treated as a refund of premium for tax purposes initially. However, once all premiums have been recovered, any further dividends are taxable. 34 A.D.Banker&Company® LIFE BASICS Nonparticipating A Nonparticipating Policy is marketed by a stock insurer. A stock insurer is a company under the control of the stockholders who would receive a share of any profits in the form of a corporate dividend, as opposed to a policy dividend. Stock dividends are treated as ordinary income for tax purposes. A policyholder does not have to be a stockholder. Fixed Insurance Fixed Insurance is characterized by having a fixed amount of coverage, benefits, and premium. Without riders, future inflationary trends will cause the purchasing power of the policy’s benefits to be reduced. Flexible Insurance Universal and Variable Universal Life policies offer the policyowner more flexibility in terms of premiums, investment objectives, and other policy benefits. These policies have the potential to provide greater cash accumulation than Whole Life policies. Funeral and Burial In California, Funeral and Burial policies are specific life insurance policies having an initial face amount of $20,000 or less that are designated by the purchaser for the payment of funeral and burial expenses. A.D.Banker&Company® 35 3 Types of Policies and Riders OVERVIEW The purpose of this chapter is to acquaint the student with the types of life insurance products, their features, characteristics, and uses. There are no “standard” life insurance policies. However, all policies are either temporary or permanent, and can also be fixed or variable. The chapter concludes with a discussion of various riders that can be utilized to alter, amend, or supplement the underlying policy. Upon the completion of this chapter, you will be able to: 1. 2. 3. 4. 5. 6. 3.1 Define endow, face amount, cash value, and rider Compare and contrast the types of Term Life insurance Identify the characteristics of Whole Life insurance List the characteristics of Universal Life insurance Distinguish between variable and Universal Life insurance Explain the purpose of life insurance policy riders General Policy Definitions Cash Value Money accumulated in a Permanent Whole Life policy that is considered a living benefit that the policyowner may borrow against or receive if the policy is surrendered before the insured dies. Face Amount or Limit of Liability The death benefit amount payable or coverage provided on a life insurance policy. This is also referred to as the limit of liability. Endow (Mature) In a cash value policy, the date on which the contract ends. A Whole Life policy is expected to have cash value equal to the face amount (if no loans are taken and all premiums are paid) on the endowment date, and the policy value is paid to the owner. Rider An added benefit attached to the policy that supplements existing coverage. A rider is usually added at the time of application and may result in a small increase in premium. 36 A.D.Banker&Company® TYPES OF POLICIES AND RIDERS 3.2 Term Insurance Characteristics Term insurance is considered Pure Insurance and provides a Pure Death Benefit. Term insurance does not offer any cash value benefits. For this reason, Term insurance policies are less expensive in the early years as compared to permanent forms of insurance. Term insurance offers temporary life insurance protection for a specified period of time. This period could be as short as 1 year, or provide coverage for a specific number of years such as 5, 10, or 20 years. It also could be purchased to provide coverage up to a specified age, such as 65. The premium is level for the duration of the stated term, which represents the average level of risk over the course of the policy. All Term insurance policies expire at either a specified age (Term to 65) or after a specified period of time (10-Year Term). The face amount is paid out to the named beneficiary only if the insured dies during the specified term of the policy. The low, initial premium outlay when the insured is young will increase at renewal or upon conversion, and as the insured gets older, the policy becomes more expensive. Coverage can be written separately or with other types of insurance (as a rider) to suit individual needs. Rates charged are based upon underwriting class, the age and gender of the insured, and upon the length of time protection is provided. The longer the term's length, the higher the rates will be. For example, rates are higher for a 10-Year Level Term than for a 5-Year Level Term. Types of Term Policies Level In a Level Term policy, the death benefits remain level during the entire policy. This means that the death benefit will not change throughout the life of the policy. There are three types of level term policies, which are identified by the premium differences. Guaranteed Level Premium The policy premium is guaranteed to be level throughout the term of the policy. Non-guaranteed Level Premium The premium can be increased to a new premium level for the remainder of the term. Indeterminate Premium Term The premium may fluctuate between the current charge and a maximum rate stated in the policy based on the insurer's mortality, expenses, and investment returns. Decreasing In a Decreasing Term policy, the death benefit decreases, but premiums remain level for the policy term. Often such policies are sold as mortgage protection with the amount of insurance decreasing as the balance of the mortgage is paid by the insured. If the insured dies, the proceeds of the policy can be used to pay off the mortgage. The premiums paid for Decreasing Term are lower than the premiums payable for level term since the benefit decreases throughout the term of the policy. A.D.Banker&Company® 37 CHAPTER THREE Credit Life Insurance Credit Life insurance is a special form of Decreasing Term. Unlike the standard Decreasing Term policy, Credit Life automatically names the creditor as the beneficiary. The policy cannot be written for more than the outstanding debt, since that is the limit of the creditor’s insurable interest. Once the loan is paid, the policy ends. Credit Life is usually sold on a group basis to a creditor, such as a bank, finance company, or a company selling high-priced items on the installment plan. The policy generally pays the outstanding balance of the debt at the time of the borrower’s death, subject to policy maximums. Debts covered in this way include: Personal loans Loans to cover the purchase of appliances, motor vehicles, mobile homes, or farm equipment Educational loans Bank credit and revolving check loans Mortgages loans, etc. Mortgage Redemption When Credit Life insurance is used to protect against the unpaid balance of a mortgage, it is referred to as Mortgage Protection or Mortgage Redemption insurance. In this case, the amount of protection decreases along with the balance of the mortgage. Increasing In an Increasing Term policy, the death benefit increases over the life of the policy while the premiums remain level. This type of term is normally written as a rider for the return of premium on a Term policy over a set number of years. Annually Renewable Term The simplest form of Term Life insurance is for one year. The death benefit remains level, and the premiums increase yearly as the policy renews up to a specified age. While it initially is very inexpensive compared to other types of life insurance, over time it can become cost prohibitive. The death benefit is paid by the insurer if the insured dies while the policy is in force. Uses of Term Term insurance might be used to cover loans or business or personal obligations. The insured may purchase large amounts to cover a specific liability or need at the least amount of premium. Special Features Renewable A benefit that will renew the contract on the renewal date without evidence of insurability. The policy may be a 1-(annual), 5-, 10-, or 20-year renewable contract up to a specified age, with premiums increasing at the beginning of each renewal period. The renewal premium is based upon attained age. Renewability is important because the risk is that the insured’s health may deteriorate and the insured may be unable to obtain a policy at the same rates or even at all, leaving the insured without coverage. Some term policies include a "re-entry" provision, which offers the insured an opportunity to obtain a new policy at a reduced premium based on new underwriting. 38 A.D.Banker&Company® TYPES OF POLICIES AND RIDERS Convertible The right to convert the existing Term policy to a Permanent policy without evidence of insurability during the conversion period specified in the contract. The premium can be based upon either attained age or original (issue) age. The premiums will be higher than the original policy since the Permanent policy will provide a cash value and coverage can last to age 100 or beyond. If the conversion is based on the issue or original age, back premiums plus interest will be required to be paid at the time of conversion. There is usually a premium increase associated with adding these special features to a policy. A Renewable and Convertible Term policy will cost more than a Level Term policy. 3.3 Permanent Insurance – Traditional Whole Life Characteristics While Term insurance is designed to provide protection for a specified time period, Permanent insurance is designed to provide coverage for an entire lifetime. Whole Life is permanent protection that matures at the insured’s age 100, and the cash value will equal the face amount (when no loans or withdrawals are taken, and all premiums are paid on time). Insurers assume that the insured will not live to age 100. If the insured is still living at age 100, however, the insurer pays the face amount to owner. Policies written in more recent years may mature at age 121. In a Traditional Whole Life policy, also called Ordinary Whole Life, the net amount at risk is the face amount minus the cash value. As the cash value accumulates over time, the net amount at risk decreases. This does not affect the face amount of the policy as that remains level. Since the cash value equals the face amount at maturity, as the cash value grows, the amount of risk to the insurance company decreases. Traditional Whole Life policies have a level premium and level face amount. The premium at younger ages exceeds the actual cost of protection. This extra premium builds a reserve (cash value) which helps pay for the policy in later years as the cost of protection rises above the premium. Traditional policies earn a guaranteed rate of return. Once the cash value has accumulated for a certain number of years the owner can borrow against the policy. Unlike Term insurance, a Whole Life policy cannot be convertible or renewable. Whole Life Insurance Whole Life insurance provides insurance protection to age 100, cash value accumulation to age 100, and fixed level premium payments. The premium payments may be structured as follows: Straight Life or Continuous Premium – The premium is level and payable to age 100 or death of the insured, whichever comes first. The face amount remains level throughout the life of the policy. This policy has the highest total premium outlay. Limited Payment – Premium payments are for a specified time (Example: 20-Pay Life or 30Pay Life) or to a specified age (Example: Life Paid-up at 65). The face amount (death benefit) remains level and cash value continues to earn interest and mature at age 100. While the annual premium is higher than Straight Life, it is paid for a shorter period of time and will have a lower total premium outlay. A.D.Banker&Company® 39 CHAPTER THREE 3.4 Single Premium – The entire premium is paid in a lump sum at the time of purchase and creates immediate cash value. The face amount (death benefit) remains level and cash value continues to earn interest and mature at age 100. This policy has the lowest total premium outlay for the life of the policy. Nontraditional Whole Life (Interest/Market – Sensitive) Universal Life (Flexible Premium Adjustable Life Insurance) Universal Life Insurance (UL) features insurance protection and a savings element (cash value) that grows on a tax-deferred basis. UL is an “unbundled policy.” This means the individual elements of the policy and premium—which includes the mortality risk, policy expenses, and the cash value—are credited to the account separately after the premium is paid. Universal Life has built in guarantees regarding the cost of insurance (mortality risk) and the interest rates applied to cash values. The features of a UL policy include: Adjustable Face Amount – The insured can increase or decrease the face amount of the policy. Any increase in the face amount will require evidence of insurability. Mortality Charges are deducted monthly from the policy’s cash value. The mortality charge is the cost of pure insurance and although it is deducted monthly, it is determined annually based on the insured's age. The increase in the mortality charge is limited to a policy maximum. The insurance protection is considered Annual Renewable Term. Expense Charges are deducted monthly from the cash value to cover administrative costs. This is the insurance company’s cost of maintaining the policy and can be impacted by the overall increasing administrative costs associated with a plan. Like mortality charges, there is a maximum guaranteed amount that can be charged. Interest is credited to the cash value on a monthly basis at the current interest rate, but will never be less than the guaranteed minimum rate established at the time the policy was issued. The current interest rate is controlled and set by the insurance company and can be changed as often as monthly without prior notice to the policyowner. Flexible Premium – A target premium is established by the insurer, which is the minimum amount that must be deducted from the cash value to maintain the policy to age 100, based on current interest rates and the mortality and expense charges. Because mortality and expense charges are deducted from the cash value monthly, the policyowner has more flexibility with Universal Life premium payments. The premiums can be increased, decreased, or even skipped at the policyowner’s discretion as long as there is sufficient cash value to cover these deductions. If the cash value becomes insufficient to pay the monthly deductions, however, the owner will be required to start paying premiums to keep the policy from lapsing. General Account Universal Life cash accumulation is held in the insurer's General Account, and may be invested as reserves according to the requirements of the Insurance Code. When the insurance company obtains higher than expected interest, it may credit excess interest credits in the form of a "current" interest rate which is higher than the policy's "guaranteed minimum" interest rate (typically 3% to 4%). When premiums are paid, the amount is credited to the policy's cash accumulation. Each month, interest is credited on the prior month's cash value, and all expense and cost of insurance amounts are deducted. The cash value will rise or fall accordingly. To remain in force, the policy must always have a positive cash value after all monthly deductions are taken. 40 A.D.Banker&Company® TYPES OF POLICIES AND RIDERS Loans and Partial Withdrawals UL policies give the policyowner the option to take a policy loan or a partial withdrawal from the cash value without terminating the contract. Partial withdrawals are different than loans. A loan is taken against cash value remaining in the policy. The cash value secures the loan and cannot be used for other purposes, but it remains in the policy. The loan itself neither decreases the total cash value nor the face amount. The cash value is collateral if the loan is not paid back before the insured dies or the policy terminates and the unpaid loan balance and loan interest is deducted from a death claim or surrender. A partial withdrawal is a permanent deduction of the cash value and cannot be reversed. The withdrawal may also be taxable. Death Benefit Options Universal Life allows a policyowner to choose from two death benefit options: Option A – Pays the face amount of the policy and provides a level death benefit. As the cash value increases, the company’s risk decreases. If the cash value increases to the point it equals the death benefit, the death benefit will automatically become the greater of the cash value or face amount of insurance. This minimum separation between the cash value and the death benefit is called the “risk corridor.” This corridor of insurance is automatic and does not require insurability. This prevents the policy from maturing too early. Option B – Pays the face amount stated in the contract which is level term, plus any cash values accumulated over the years. This provides for an increasing death benefit. The mortality charge for Option B is greater than Option A. Individuals purchasing Option A will benefit from larger cash value accumulations while individuals purchasing Option B will benefit from greater death benefits. Guaranteed Universal Life A Guaranteed Universal Life policy is also referred to as "Universal Life with a No-Lapse Guarantee." This product provides the guarantee of Term insurance for life. As long as the minimum required premiums are paid, the policy is guaranteed not to lapse. There is minimal cash value growth, but if the owner uses the cash value to cover the premium, or misses a premium payment, the "no-lapse guarantee" is removed from the policy. Survivorship Guaranteed Universal Life Survivorship Guaranteed Universal Life provides the same no-lapse guaranteed but insures two lives under one Universal Life policy with one premium payment. The death benefit is payable after both insureds die. Survivorship life can be effective in estate planning by providing liquidity for the estate to protect an individual's assets. Indexed Universal Life (Equity Indexed) Indexed Universal Life (IUL) policies are a more recent evolution from traditional UL policies. These policies base interest crediting on one or more "strategies" linked to the performance of a known stock or similar index (such as S&P 500), which is not under the control of the insurance company. There is no direct investment in any stocks or indexes. In exchange for the potential of higher interest crediting, these policies offer a minimum interest rate guarantee (which could be 0%) to avoid cash value decreases due to negative index performance. IUL policies also offer a "fixed rate" option, which is not affected by changes in the index performance. The insurer controls and sets the fixed rate. A.D.Banker&Company® 41 CHAPTER THREE Variable Life Variable Life is a Whole Life policy with certain benefits that will vary based on market conditions. Variable Life characteristics include: A Fixed Premium The premium is determined by the insurer and remains fixed and level throughout the contract. Accounts The policy cash accumulation is split between the insurer's general and separate accounts. General Account (Guaranteed Values) The general account provides a fixed rate of interest, and the cash value in the general account provides for a guaranteed minimum death benefit to age 100. Policy loans are available from the general account but will decrease the guaranteed death benefit by the amount of the loan plus unpaid interest. Separate Account (Non-guaranteed Values) The Separate Account is invested in debt or equity securities as offered by the insurance company. The owner may select which subaccounts they want the premium to be invested in. Cash value in the separate account will fluctuate based on market conditions and performance of the subaccounts, which are similar to a mutual fund. The policyowner has an opportunity to achieve higher investment returns. This policy may act as a hedge against inflation but will decrease the guaranteed death benefit by the amount of the loan plus unpaid interest. There is no guaranteed minimum return on the cash value in the separate account and the policy may lose both cash value and death benefit if there are market losses. The death benefit is tied to the separate account and also varies along with the performance of the separate account. Death benefits are recalculated annually. While the separate account values may decrease, the policy will never pay less than the guaranteed death benefit supported by the general account. Since there is no guaranteed return on the separate account, the owner bears all investment risk. All variable products are subject to SEC regulation. Variable Life is considered a security and can only be sold by individuals with a life insurance license and a FINRA securities registration, Series 6 or 7, and Series 63. A prospectus, which describes the separate account, must be provided prior to the sale of a variable policy, and there are suitability requirements that must be met before a variable policy can be sold. Policy loans are available from either the general account or the separate account. Typically 75-90% of the cash value can be borrowed. Partial surrenders are not allowed from a variable Whole Life policy. Variable Universal Life (VUL) Variable Universal Life (VUL) offers the added attraction of the investment component seen in Variable Life policies through the insurer's separate account. Like Universal Life, the policy provides for flexible premiums and adjustable death benefits. Options A and B are available to policyowners. However, like Variable Life, the entire cash value is held in the insurer's separate account, and the investment return fluctuates based on the performance of the separate account. Since all premiums are credited to a separate account, there is no guaranteed minimum death benefit. Since there is no guaranteed return on the separate account, the owner bears all investment risk. 42 A.D.Banker&Company® TYPES OF POLICIES AND RIDERS The policyowner may take a policy loan or a partial withdrawal from the cash value without terminating the contract. A partial withdrawal is paid from the separate account. Policy loans are available based on the amount in the separate account. Typically 75-90% of the cash value can be borrowed. Since Variable Universal Life does not have a general account, the cash values will fluctuate based on the performance of the separate account. Death Benefit Cash Value Premiums Loans/Partial Surrenders Risk Whole Life Fixed; guaranteed minimum Guaranteed Fixed Loans available Insurer Universal Life Adjustable; guaranteed minimum Guaranteed minimum Flexible Loans and partial surrenders Insurer Variable Life Variable; guaranteed minimum Not guaranteed Fixed Loans available Policyowner Variable Universal Life Variable and adjustable; No guaranteed minimum Not guaranteed Flexible Loans and partial surrenders Policyowner 3.5 Specialized Policies Family Policies The special needs of families with young children can be addressed with “Family Income” or “Family Maintenance” policies. Both type of policies begin with a base policy of Whole Life insurance usually written on the parent with the largest income and greatest risk of death. This provides insurance protection to the insured’s age 100. To this base policy, a Term Insurance Rider is attached that is designed to provide a monthly income to the survivor if the insured dies during the specified term. This greatly increases the total insurance amount without affecting the cash accumulation feature of the base policy. Each of these policies only provides insurance protection on one parent. A third policy, the Family Protection Plan, provides insurance protection on the entire family. Family Income A Family Income policy combines Whole Life insurance with a Decreasing Term Rider. The length of the rider is based on the number of years until the youngest child is no longer a dependent, such as age 21. If the insured dies while the rider is in force, the death benefit of the rider is paid in equal monthly installments (including interest) for the remaining number of years the rider would have been in effect. This benefit is in addition to the face amount of the Whole Life policy. If the insured is still living at the end of the decreasing term, the rider drops and the premium decreases. Example An insured owns a Family Income policy with a $100,000 20-year Decreasing Term Rider. If the insured dies with 5 years left to expiration, the rider would provide monthly income (60 installments) based on the decreasing benefit for the remaining 5 years. The face amount of the underlying Whole Life policy will be paid in a lump sum at the end of the installments unless the beneficiary chooses to receive it at the time of death. A.D.Banker&Company® 43 CHAPTER THREE Family Maintenance A Family Maintenance policy combines Whole Life insurance with a Level Term Rider. If the insured dies while the rider is in force, the death benefit of the rider is paid in equal monthly installments (including interest) for the full number of years for which the rider was issued. This benefit is in addition to the face amount of the Whole Life policy. If the insured is still living at the end of the level term, the rider drops and the premium decreases. Example An insured owns a Family Maintenance policy with a $100,000 20-year Level Term Rider. If the insured dies at any time before the expiration, the rider would provide monthly income (240 installments) based on the face amount of the rider for the next 20 years. The face amount of the underlying Whole Life policy will be paid in a lump sum. Family Plan (Family Protection Plan) A Family Plan, or Protection Plan, provides a base policy of Whole Life insurance on the primary insured and the spouse and children are covered by Level Term Riders. The spouse’s coverage is written to a specified age, such as 65, and is usually convertible to a Whole Life policy any time prior to expiration without proof of insurability. The children are covered by a single Level Term Rider with one premium covering all of the children under age 18 who meet underwriting guidelines. Newborn or adopted children will automatically be covered once they are 15 days old without an additional premium as long as the insurer is notified in writing. The children’s coverage is also convertible to a Whole Life policy at a specified age (up to age 25) without proof of insurability. Juvenile Juvenile insurance is any policy written on the life of a minor. A common form of Juvenile insurance is a Jumping Juvenile policy. This policy provides an automatic increase in the face amount at a given age (usually age 21 or 25) without evidence of insurability. The premium remains level for the life of the policy, and the usual increase in the face amount is 5 times the issue amount. Joint Life (First to Die) Joint Life is a Whole Life policy that is written to cover 2 or more lives. The death benefit is paid upon the first insured to die, and the policy terminates. Premiums are based upon a joint issue age which is obtained by an average of both insureds’ ages resulting in a lower premium than 2 separate policies. This policy is designed to provide income protection for the surviving spouse when both have earned income. Joint Survivorship Life (Last to Die) This Whole Life policy is written to cover 2 or more lives, and the death benefit is not paid until the last insured dies. Premiums are based upon a joint issue age which is obtained by an average of both insureds’ ages resulting in a lower premium than 2 separate policies. This policy is often purchased to provide a lump sum benefit to pay estate taxes once the second spouse dies. 44 A.D.Banker&Company® TYPES OF POLICIES AND RIDERS Return of Premium Term This policy provides for a full refund of premiums if the insured is still living at the end of the term. These policies charge a higher premium than level Term insurance. The additional premium paid for this benefit provides a nonforfeiture value which will offer a nominal return of premiums paid if the policy is not held to the end of term. Policies Linked to Indexes Index-Linked Life insurance policies offer the potential for increasing death benefits that are linked to the Consumer Price Index. These policies provide benefits that automatically increase to keep pace with inflation and are designed to avoid being underinsured. 3.6 Methods of Premium Payment Premium methods can vary depending on the type of policy issued. All of the following are types of premium payment methods: 3.7 Single Premium – The entire cost of the policy is paid in a lump sum at the time of purchase Limited Payment – The premium is payable for a specified time, such as 20-pay, 30-pay or to age 65 Modified Premium – The premium is payable for the first few years of the policy (3-5) and is lower than an Permanent insurance policy to make it more affordable Level (Guaranteed) Premium – The premium remains level for the duration of the contract Fixed Premium – The premium amount is determined by the insurance company. Fixed premiums do not have to be level, but cannot be changed by the policyowner. Adjustable Premium – The premium can be increased or decreased by the policyowner on an annual basis. Premiums must be paid and adjusting the premium will affect other features of the policy. Flexible Premium – The premium can fluctuate at the policyowner’s discretion. It can be increased, decreased, or even skipped at any premium due date. Universal and Variable Universal have flexible premium. Initial and Guaranteed Maximum Premium – The initial premium will be guaranteed but only for the first year, then the premium may increase due to the mortality costs. A guaranteed maximum premium table must be included in the policy showing projections of future maximum premiums. Life Insurance Policy Riders An Amendment or Rider modifies the policy by expanding its benefits and can be added at the insured's option. Policy riders are available for an additional premium in most cases. Riders are provided for a specified period of time as stated in the policy. It is typical for a rider to end at a specified age (such as the insured’s age 65). Once a rider drops from the policy, the additional premium will also drop. Most riders are added at the time of policy issue. Any riders added after the policy has been issued usually require evidence of insurability. A.D.Banker&Company® 45 CHAPTER THREE Disability Riders Waiver of Premium If the insured becomes totally disabled, the insurer will waive premiums for the duration of the disability or the end of the policy, whichever occurs first. To qualify for the waiver, the insured must be disabled for a waiting period of 3-6 months. The policyowner must continue to pay premiums during the waiting period, but once eligible, the waiver is retroactive to the start of the disability and the premiums will be refunded. During the disability, the insurer will credit the premiums to the policy and all benefits, such as cash value accumulation and dividend payments, will continue. Unless the insured is disabled, the Waiver of Premium Rider drops at age 65. Payor Benefit (Waiver of Payor’s Premium) If the payor (policyowner) dies or becomes disabled and is unable to make the premium payments, the insurer will waive the premiums payments for a specified period of time. Because this rider is commonly added to a juvenile policy, the payor (usually a parent) typically must show evidence of insurability before the rider can be added to the policy. Disability Income Benefit In the event of total disability and after an initial waiting period (such as 6 months), premiums are waived and the insured is paid a monthly income. The monthly Disability Income Benefit is typically limited to a percentage of the face value (for example, $10 per month for each $1,000 of face amount). The benefit paid from the rider does not reduce the death benefits paid out upon death. Waiver of Cost of Insurance This rider waives the deduction of the monthly cost of insurance and expense charges associated with a Universal Life type policy while the insured is totally disabled, usually after 6 months of continuous disability. The disability must occur prior to 65, and if disabled, the rider typically terminates at age 65. While the rider is in effect, only the monthly deductions are covered and no additional amount is added to cash value other than monthly interest credits. When the rider terminates, premiums must once again be paid. Term Riders Term Riders may be attached to any individual life policy to provide additional insurance protection for a fixed period of time. If the need for additional coverage is temporary, a Term Insurance Rider is more cost effective than buying another policy. Example An individual purchases a new home with a 20-year mortgage. Instead of purchasing a Decreasing Term policy to cover the mortgage, the insured adds a 20-Year Term Rider to their existing life policy for the amount of the mortgage. Adding the Term Rider requires new underwriting for the additional insurance. Riders Covering Additional Insureds Spouse (Other Insured) Rider The Spouse Rider, also called the Other Insured Rider, provides Level Term coverage on the life of the insured’s spouse. This rider will also provide a conversion provision allowing the spouse to convert to permanent coverage without evidence of insurability prior to the termination of the rider or upon the death of the insured covered under the main policy. 46 A.D.Banker&Company® TYPES OF POLICIES AND RIDERS Child Rider The Child Rider provides level term coverage on the life of all of the insured’s children. This rider is usually offered at one premium rate and will cover newborns after 14 days of life and adopted children who can be added to the coverage without increasing the premium. The children have coverage to a specified age (21 to 25) and are usually given the option to convert to a Permanent policy without evidence of insurability. Family Rider The Family Rider provides a combination of coverage on the spouse and children. Usually Family Riders are sold in units (packages) of protection, such as $5,000 on the main wage earner, $1,500 on the spouse, and $1,000 on each child. Additional Insured Rider The Additional Insured Rider provides coverage for another person, other than a spouse or child, such as a business partner. Insurable interest must exist at the time the rider is added. Riders Affecting the Death Benefit Amount Accidental Death Benefit (Double or Triple Indemnity) In the event of a claim, the policy normally pays double or triple the face amount only if the insured's death was a result of an accident (may be called Multiple Indemnity Rider, paying multiple times the face amount). The benefit is payable only if death occurs before a specific age and within 90 days of the accident. It does not add any additional values to the base policy. It may be added to any type of individual life policy. Among other exclusions, death due to sickness is excluded. This rider typically expires at age 65. Accidental Death and Dismemberment This rider provides a benefit in addition to the base of the policy. The rider pays 100% of the amount of the rider, known as the principal sum, upon accidental death. If the insured suffers an accidental dismemberment loss, such as loss of a limb or eyesight in one eye, the rider pays 50% of the rider amount, known as the Capital Sum. Double dismemberment benefits (loss of 2 limbs or total eyesight) are provided at 100% of the rider. Benefits of the rider are only payable if the loss is accidental and occurs within 90 days of the accident. This rider typically expires at age 65 or whenever the principal sum has been paid. Guaranteed Insurability Allows the insured to purchase stated amounts of additional insurance every 3 years based on certain ages (specifically 25, 28, 31, 34, 37, and 40), events, or specified dates without evidence of insurability up to a maximum age, usually 40. The premiums are based on attained age. The events which will allow for the insured to obtain additional insurance in between the specified ages include marriage and the birth or adoption of a child, when the need for insurance coverage may increase. It normally limits the insured to acquire additional amounts of the same type of coverage already in force. The insurer often limits the amount of coverage that may be added. This rider drops at age 40. Return of Premium This rider uses Increasing Term insurance to provide coverage equal to the amount of premiums paid. If the insured dies within the term, the beneficiary would receive the face amount of the policy plus the benefit of the rider equaling the total amount of premiums paid. A.D.Banker&Company® 47 CHAPTER THREE Guaranteed No-Lapse Rider This rider is attached to a Universal Life insurance policy and ensures the policy will not lapse if the cash value is reduced to zero. It relieves the policy owner of responsibility to monitor cash value and comes with a required payment schedule, effectively hybridizing the Universal policy with Whole Life insurance. As long as the policyholder adheres to the payment schedule, the policy will not lapse. Cost of Living (COL) The Cost of Living Rider enables the insured to purchase more insurance each year to help offset increasing insurance needs due to inflation. The amount that can be purchased is based on increases in the cost of living index. This additional coverage is usually available at low rates and evidence of insurability need not be provided for such increases. Accelerated Death Benefit Riders Accelerated Death Benefits provide for an early payment of a portion of the face amount prior to death. This rider provides tax free access to policy benefits based on an insured qualifying as terminally ill or chronically ill. A person is considered terminally ill when a physician has certified that person has a condition which is expected to result in death within 24 months. A person is considered chronically ill if a licensed health care professional has determined within the last 12 months that person is unable to perform at least 2 activities of daily living for at least 90 days without substantial assistance. Accelerated benefits can be received as a lump sum or in periodic payments provided for a certain period only. Accelerated Death Benefits do not have to be repaid if the insured’s health improves, but the amount received reduces the remaining death benefit. There are two riders that provide Accelerated Death Benefits: 1. Living Needs Accelerated Benefit Rider – Allows the early payment of a portion of the face amount before death should the insured become terminally ill with less than 24 months to live. This rider is not designed to provide services to the insured. 2. Long-Term Care Rider – Provides up to 100% of the policy benefits if the insured qualifies for long-term care benefits based on being chronically ill as defined in the rider. Any payout is an acceleration of the life insurance death benefit, meaning it will reduce the ultimate death benefit payable to the beneficiary. The amount of protection is determined at the time of policy purchase. Long-term care benefits are paid income tax free after the insured meets the qualifying requirements. Specific California long-term care training is required for life-only agents when selling a rider or policy that requires services to the chronically ill as a condition prior to providing payments. Effect on the Death Benefit After the Accelerated Death Benefits are paid and any lost interest to the insurer is deducted, the insurer must pay the balance of the face amount to the beneficiary. Exclusions and Restrictions The Accelerated Death Benefit cannot contain exclusions or restrictions that are not also exclusions or restrictions in the policy. Typical exclusions apply to suicide, intentional self-inflicted injury, war, or engaging in illegal occupations or activities. 48 A.D.Banker&Company® TYPES OF POLICIES AND RIDERS Long-Term Care Training Requirements California requires long-term care training before an agent can transact accelerated death benefits or riders that require personal care services to a chronically ill insured, such as a Long-Term Care Rider. This training is not required when an agent is transacting Accelerated Death Benefit Provisions or riders that do not require personal care services to an insured. The training requirements include 8 hours of LTC training: Prior to soliciting individual consumers for the sale of LTC insurance In each of the first 4 years of licensing Every 2-year license term beginning with the fifth year of licensing Insurers are required to ensure that agents offering, marketing, or selling accelerated death benefits are able to describe the difference between benefits provided under an accelerated death benefit and benefits provided by Long-Term Care insurance. Agents must be able to make the following distinctions between the 2 benefits: 3.8 Benefits paid through an Accelerated Death Benefit and through Long-Term Care insurance Benefit eligibility criteria Whether an elimination period applies and a description of the elimination period The benefits under accelerated benefits and LTC insurance if not needed Restrictions on benefit amounts Tax treatment on benefits and premiums Income and death benefit consideration Completion of agent education and CE Life Settlements and Viatical Settlements Definitions Viatical Settlement A Viatical Settlement is an agreement between a policyowner and a third-party buyer to purchase the life policy covering a person who is diagnosed as terminally ill with less than 24 months of remaining life expectancy. California Insurance Laws for Viatical Settlements are referenced under the Life Settlement Laws. Life Settlement Contract A financial transaction in which the owner of a life insurance policy sells an unneeded policy to a third party for more than the cash surrender value and less than the face value. A written agreement is entered between a life settlement provider and the owner of the policy. The contract establishes that compensation is paid in return for the owner’s assignment of an insurance policy. Life Settlement Broker A life settlement broker, for a fee or commission, offers to negotiate Life Settlement contracts between an owner and providers. A life settlement broker represents only the owner and owes a fiduciary duty to the owner to act in the best interest according to the owner’s instructions, regardless of the manner in which the broker is compensated. A.D.Banker&Company® 49 CHAPTER THREE Life Settlement Licensing Regulations Broker Licensing In California, an individual must be licensed as a life settlement broker before offering or negotiating Life Settlement contracts. There are certain requirements and individual must meet before obtaining a life settlement broker license: A life insurance producer licensed as a life agent for at least 1 year or as a licensed nonresident producer meets the licensing requirements and is permitted to operate as a life settlement broker by notifying the Commissioner and paying the life settlement broker license fee Individuals who have not been licensed life agents for at least 1 year who intend to transact life settlements must first complete at least 15 hours of education on life settlement transactions, complete and submit an application, and pay the life settlement broker license fee. A person licensed to act as a viatical settlement broker or provider is qualified for licensure as a broker or provider A life settlement broker license is not required for a licensed attorney, certified public accountant, or accredited financial planner who represents the owner and whose compensation is not paid directly or indirectly by the life settlement provider The Commissioner has the power to suspend or revoke a life settlement broker license for cause after the appropriate hearing procedure. If, for any reason, a licensee intends to discontinue transacting life settlements, the Commissioner must be notified and the license surrendered. Required Disclosures At the time of the application, it must be disclosed to a life settlement contract applicant that: 50 There are possible alternatives to life settlements, including accelerated benefits options that may be offered by the life insurer Some or all of the proceeds of a life settlement may be taxable and the policyowner should seek advice from a qualified tax professional The proceeds from a life settlement could be subject to the claims of creditors Entering into a life settlement contract may cause other rights or benefits to be forfeited, including conversion rights and waiver of premium benefit A change in ownership of the settled policy could limit the insured’s ability to purchase insurance in the future on the insured’s life because there is a limit to how much coverage insurers will issue on one life The owner has a right to rescind a life settlement contract within 30 days of the date it is executed by all parties and the owner has received all required disclosures, or 15 days from receipt by the owner of the proceeds of the settlement, whichever is sooner Proceeds will be sent to the owner within 3 business days after the provider has received acknowledgment that ownership of the policy has been transferred and the beneficiary has been designated in accordance with the terms of the life settlement contract The funds will be available to the owner and the transmitter of the funds on a specified date A.D.Banker&Company® TYPES OF POLICIES AND RIDERS Fraudulent Life Settlements Fraudulent life settlements include acts or omissions committed by a person, such as: Presenting or preparing false material information, or concealing material information, with respect to life settlement solicitations, applications, underwriting, premiums, claims, and change of ownership Entering into Stranger-Originated Life insurance (STOLI) Employing any device to defraud in the business of Life Settlements A.D.Banker&Company® 51 4 Life Policy Provisions and Options OVERVIEW The purpose of this chapter is to inform the student that life insurance policies are not standardized uniform contracts, but they all contain constant provisions and options. We will also acquaint the student with the common interpretation of both the provisions and options and discuss how they may be used to protect the insurer while benefitting the policyowner, insured, and beneficiary. Upon the completion of this chapter, you will be able to: 1. 2. 3. 4. 5. 6. 7. 4.1 Recognize the purpose of each standard provision List the common exclusions Differentiate the different types of beneficiaries Provide examples of the beneficiary designation options Identify the life insurance settlement options Explain the nonforfeiture options List the dividend options Standard Provisions – Individual Policies Only Contractual policy provisions explain what the contract consists of, what duties and responsibilities the parties to the contract have, how the policy works, and the agreement between the policyowner and the insurance company. Provisions and clauses, unlike riders, are included in the contract for no additional charge. Entire Contract Clause This provision describes the parts of the life insurance contract. The entire contract consists of the policy, riders (endorsements), amendments, and a copy of the application. All statements made in the application are, in the absence of fraud, deemed to be representations and not warranties. All parts to the contract must be attached and in writing. Nothing can be incorporated by reference. Incontestability Clause Within the first 2 years of a policy, the insurer may contest a claim and void the contract upon proof of a material misrepresentation or fraud. A material misrepresentation is one in which the insurer would not have issued the policy had they known the true information. Except for nonpayment of premiums, the policy will be incontestable after it has been in force, typically for 2 years from the policy issue date even in cases of fraud. 52 A.D.Banker&Company® LIFE POLICY PROVISIONS AND OPTIONS Insuring Clause The Insuring Clause is found on the first page, also called the title page or the Declarations Page, of the policy and is considered the most important clause in the policy. It identifies the parties to the contract and the perils or conditions in which it will pay. The Insuring Clause is the insurance company’s promise to pay the policy’s death benefit to the named beneficiary, after receiving due proof of death of the insured, as long as the insured died while the policy was in force. It provides all the basic information the policyowner needs to know: The Insuring Clause The name and address of the insurance company Information about the issuing agent The named insured Amount of insurance Amount and frequency (mode) of premium payment Effective date of coverage The Declarations page is not proof of insurance. Consideration Clause To have a valid insurance contract, there must be an exchange of value. The insurance company promises to pay benefits, as stated in the Insuring Clause, in exchange for the insured’s consideration of premium payment. Therefore, the Consideration Clause includes the specifics regarding the premium. It states the amount and frequency of the premium, as well as statements made in the application that help determine the premium. Changes (Modifications) Changes or modifications must be in writing, signed by an executive officer of the insurer, approved by the policyowner, and made part of the entire contract. A producer cannot alter, change, modify, or waive any policy provision. Suicide Clause If the insured commits suicide within 2 years from the issue date, the insurer’s liability is limited to a refund of premium. If the insured commits suicide after the Suicide Clause has expired, the insurer must pay out the death benefit to the named beneficiary. The intent of this clause is to discourage individuals from purchasing an insurance policy while contemplating suicide. Owner’s Rights (Ownership Provision) The policyowner retains all rights in the policy. Unless the insured is also the policyowner, the insured does not have rights. The policyowner has the right to name or change revocable beneficiaries, borrow against the cash values or access living values, surrender the policy, receive dividends and select among the dividend options made available, assign the policy on a collateral basis or an absolute basis, or convert Term insurance to Permanent insurance. It is also the owner’s responsibility to make the premium payments. A.D.Banker&Company® 53 CHAPTER FOUR Assignment Assignment is the transfer of ownership. There are 2 types of assignments. The first is an Absolute Assignment. The original owner, the assignor, will name a new owner, the assignee, of the policy. Since a new owner is named, this is considered a permanent assignment. The full amount of the policy is assigned, and this is referred to as a transfer of ownership. STOLI arrangements and life settlements are both effected through absolute assignments. The second type is a Collateral Assignment which does not cause a permanent change in ownership. However, the rights of the owner will be subject to the assignment. A collateral assignment is typically used when an insurance policy is used as collateral for a loan. This is a temporary assignment until the debt is paid in full. In this case, the assignor is the original owner and the assignee is the creditor. This assignment takes precedence over any beneficiary designation. It can reduce the dollar amount of the beneficiary’s claim at the time of the insured’s death because the assignee has a priority claim against the policy and must be paid first. No assignment of the policy will be binding on the insurer unless it is in writing and received at the insurer’s home office. The insurer is not responsible for determining the validity of the assignment. Example The owner of a Juvenile policy wishes to name the insured child as the new owner once the insured turns age 18. This is considered an absolute assignment. An owner of a policy wishes to take out a loan and use an existing life insurance policy as collateral for the loan in case they die prior to the payoff of the loan. The owner may temporarily assign the policy to the creditor until the loan is repaid. This option is cheaper than purchasing a separate policy to pay off the debt. The beneficiary cannot challenge this decision and may receive a reduced benefit if the insured dies before the loan is repaid. Once the debt is resolved, the assignment will be removed, and all rights will be restored. This is considered a collateral assignment. Misstatement of Age or Gender If the age and/or gender of the insured have been misstated in a policy, all benefits under the policy will be provided based upon the insured’s correct age and/or gender according to the premium scale in effect at the time the policy was issued. An insurer can refund any overpaid premiums if the amount of premium paid was greater than should have been paid. The insurer can reduce the face amount in cases where the amount of premium paid was less than that which should have been paid. For example, if the premium amount paid for the policy was 50% less than what should have been paid, then the death benefit will be reduced by 50%. There is no time limit for discovery, and this provision never cancels or voids a policy. The Incontestability Clause does not apply. Age and/or gender are not considered material to the policy issuance. Free Look and Cancellation (Right of Rescission) Every policy of individual life insurance and annuities (other than variable contracts) that is issued for delivery in California must contain a Notice Regarding Return of the Policy for cancellation of no less than 10 days and no more than 30 days after its receipt by the owner. By delivering or mailing the policy during the cancellation period, the owner voids the policy from the beginning, and the parties will be in the same position as if no policy had been issued. All premiums and any policy fee paid for the policy must be refunded to the owner within 30 days from the date that the insurer is notified of the cancellation. This section does not apply to policies issued in connection with a credit transaction, contractual policy change, or conversion privilege. 54 A.D.Banker&Company® LIFE POLICY PROVISIONS AND OPTIONS The return of Variable Life insurance contracts and modified guaranteed contracts during the cancellation period entitles the owner to a refund of account value and policy fee paid for the policy within 30 days from the date the insurer is notified of cancellation. The minimum free look period is 10 days for persons under age 60. The free look period begins when the policyowner signs an Acknowledgement of Delivery Receipt. If a replacement policy is involved, the free look period must be increased to at least 20 days. California Senior Citizen Requirements California has specific requirements concerning senior citizens for the cancellation of life insurance. Specifically for free look periods and cancellation, a senior citizen is defined as an individual who is 60 years of age or older on the date of purchase of the policy. Persons who are 60 years of age or older must be given a 30-day free look period. This allows additional time to seek the counsel of others to assist in the decision to keep or cancel the new policy. Every individual life insurance and annuity contract delivered or issued for delivery to a senior citizen in California must include a notice in 12-point bold print that the policy may be returned within 30 days after receipt of the policy by the owner for a full refund by returning it to the insurance company or agent who sold the policy. The notice must include a statement that, if returned after 30 days, cancellation may result in a substantial penalty (surrender charge) if applicable. Exclusions Exclusions are conditions stipulated in the contract for which the insurer will not provide coverage. The insurer cannot add or alter any of the exclusions after the policy has been issued. Such exclusions are normally limited to the following: Aviation – The exclusion does not apply to fare-paying passengers on regularly scheduled commercial flights. This exclusion applies most specifically to student pilots or those with a newly issued pilot’s license with a limited number of hours of flying experience. Military Status Clause – No coverage for individuals with military status since these individuals are provided coverage through the government. War Clause – No coverage if death is the result of war, declared or undeclared. If death occurs during the period of war, only the premiums are refunded. Illegal Activity – No coverage for losses resulting from illegal activity. Hazardous Occupation – No coverage if death is related to a hazardous occupation as stated in the policy, such as stunt drivers or auto racers. Hazardous Hobbies or Avocation – No coverage if death is related to a hazardous hobby as stated in the policy, such as sky diving or hot air ballooning. □ Hazardous hobbies or occupations may result in the exclusion of certain causes of death by endorsement, as opposed to the insurer denying coverage. This would result in a refund of premiums paid. Suicide – If suicide is committed within the first 2 years the policy is in force, the insurer’s liability is limited to a refund of premium. If the insured’s death is a result of suicide after the first 2 years, then the insurer pays the full face amount (death benefit) of the policy. A.D.Banker&Company® 55 CHAPTER FOUR 4.2 Payment of Premium Provisions Mode of Premium This provision addresses the frequency of premium payments (monthly, quarterly, semiannually, or annually) and to whom the premiums are payable. The more frequent the payment, the greater the cost. The policyowner has the right to change the premium mode. Grace Period The Grace Period is the time period provided after the premium due date before a policy lapses. If the insured dies during this period, the death benefit is payable minus any premiums or loans due. The grace period in California is 60 days. Coverage continues during the grace period, but if the premium is not paid, the policy lapses at the end of the grace period. Automatic Premium Loans (APL) This provision must be elected by the policyowner and can be cancelled at any time. It enables the insurer to automatically borrow against the cash value to cover a premium payment to prevent the contract from lapsing unintentionally. APL is available on cash value policies only and does not require an additional premium. It becomes effective at the end of a grace period. The APL loan is treated the same as all other loans. If the APL is used to pay premiums, interest on the loan accumulates on an annual basis. Reinstatement If a policy has lapsed unintentionally due to nonpayment, it can be reinstated by the owner. The reinstatement time period is 3 years from lapse. In order to reinstate, the insured must provide evidence of insurability and the owner must pay all back premiums from the date of lapse plus interest. Reinstatements are designed to put a policy back in force as if the lapse never occurred. Upon reinstatement, a new incontestability period takes effect. 4.3 Provisions Specific to Cash Value Policies Policy Loans Provision A policy loan may be made in a cash value policy once there is sufficient cash value to borrow against. A cash value policy must have some cash value not later than the end of the third policy year. A loan against the cash value does not necessarily reduce the cash value in a policy. The cash value is used as collateral against a loan. Interest will be charged annually, and if unpaid, will be added to the balance of the unpaid loan. Interest charged may be fixed or variable. The insurer may defer granting a loan for up to 6 months unless the loan is intended to repay any premium, such as an automatic premium loan. Failing to repay a loan or interest will not void the policy until the total amount of the outstanding loan and unpaid interest equals or exceeds the policy’s total cash surrender value. Any outstanding loans along with any interest due will be deducted from the face amount at time of claim or from the cash values upon surrender. 56 A.D.Banker&Company® LIFE POLICY PROVISIONS AND OPTIONS Policy Loan Rate Provisions Policy loans with fixed rates can have a maximum fixed interest rate of 8%. For policy loans with adjustable (variable) interest rates, the maximum rate is based upon Moody’s corporate bond yield average and is stated in the policy. The policy loan amount cannot exceed the available cash surrender value. Partial Withdrawals or Partial Surrenders A partial withdrawal of cash value is permitted in a Universal or a Variable Universal Life policy. A partial withdrawal is considered a partial surrender of the policy. A partial surrender is actually paid from the policy value and reduces both the amount of the death benefit and the amount of cash value in the policy. Any amount withdrawn in excess of the premium is subject to taxation. There may be a surrender or withdrawal charge associated with the withdrawal. The insurer may limit the number of withdrawals that can be made annually or the amount of the withdrawal by specifying minimums and maximums. Surrenders The owner of a cash value policy may surrender the entire policy. This action will cancel the insurance coverage. The policyowner is entitled to receive the cash surrender value in the policy. Surrender periods must be disclosed in the policy and can last up to 10-20 years. A Surrender Charge Schedule describes in dollar amounts or percentages the amount of the surrender charge in any year. The Surrender Period is the time the owner must wait before funds can be withdrawn without a penalty. Example End of Policy Year 1 2 3 4 5 6 7 8 9 10 Surrender Charge % 10 9 8 7 6 5 4 3 2 1 The difference between the cash value and the cash surrender value is the surrender charge. This provides a means for the insurer to recapture the upfront expenses involved in issuing the policy. 4.4 Beneficiary Provisions Beneficiary Succession The beneficiary is the person identified by the policyowner to receive the benefits upon the death of the insured. The beneficiary succession, or order of payout, is as follows: Primary Beneficiary – The primary beneficiary is the first in line to receive the death benefit upon the death of the insured. Contingent or Secondary Beneficiary – The contingent beneficiary receives the death benefit only if there is no primary beneficiary alive following the death of the insured. In other words, the benefit is payable to the contingent beneficiary only if the primary beneficiary predeceases the insured. Tertiary Beneficiary – The tertiary beneficiary receives policy proceeds if both the primary and the contingent beneficiaries predecease the insured. If there is no surviving named beneficiary at the time of the insured’s death, the proceeds are payable to the policyowner if living or to the insured’s estate. A.D.Banker&Company® 57 CHAPTER FOUR There may be multiple primary or contingent beneficiaries named. When naming multiple beneficiaries, it is important to indicate each beneficiary’s share of the proceeds (either by percentages totaling 100% or in dollar amounts equal to the full death benefit amount) unless they are to share in the proceeds equally. Types of Beneficiaries Revocable The policyowner may change a revocable beneficiary at any time. This beneficiary does not have a vested interest in the policy. Most named beneficiaries are revocable and have no rights. Irrevocable The policyowner may not change an irrevocable beneficiary unless the beneficiary dies or provides written consent for the change. If an irrevocable beneficiary is named, the owner may not make changes to the policy that affect the coverage or benefits without consent of the beneficiary. These changes include assigning the policy, cancelling or surrendering the policy, or taking a policy loan. An irrevocable beneficiary has a vested interest in the policy benefits. Beneficiary Designations A beneficiary designation may be selected at the time of application. A change of beneficiary will take effect on the date the request was signed by the owner, whether or not the insured is alive at the time the insurer actually receives the notice. Individual/Named This designation is very specific. An individual is specified by name as the beneficiary, such as Mary Doe (wife) or John Doe (husband). This prevents probate proceedings. Class or Classification This designation is used in instances where each beneficiary is not directly identified by name. The wording of the class designation must be specific and carefully worded to remove any doubt of the owner’s intentions. For example, “any children of this marriage” or “the insured’s spouse” may be classified as beneficiaries. This could cause complications if the insured has step children or has been married more than once. Additional examples include: Per Capita – This is a method of distribution that will pay to surviving beneficiaries equally if a named beneficiary predeceases the insured. For example, if an insured names their 3 children as beneficiaries and one of the children predeceases the insured, the benefit will pay equally to the surviving named beneficiaries. Each beneficiary receives 50% of the death benefit in this example. Per Stirpes – This is a method of distribution that will pay a deceased beneficiary’s share to the heirs of any beneficiary who predeceases the insured. If an insured names their 3 children as beneficiaries and one of the children predeceases the insured, the deceased beneficiary’s share will be paid to their heirs. The surviving beneficiaries will each receive 1/3 of the benefit and the remaining 1/3 will be paid to the deceased beneficiary’s heirs in this example. Beneficiary designations are distributed per capita unless stated differently. 58 A.D.Banker&Company® LIFE POLICY PROVISIONS AND OPTIONS Estate – By default, if the insured outlives all other beneficiaries, benefits are paid to the insured’s estate. The death benefit increases the estate value and may have adverse tax implications. Trust – When a recipient is not to have direct access to the death benefits, such as in the case of minor children, and the proceeds are to be distributed as per the insured’s directions set forth in a trust. A trust beneficiary may also be used in estate tax planning strategies when using an irrevocable life insurance trust. Minors – If minors are named as beneficiaries but no trust has been established, the funds are placed in a settlement option (held with interest) with the insurer acting as trustee. The guardian or legally responsible adult may receive payments for the benefit of the child until the child is eligible to receive the lump sum at the age of majority. Creditor – Designated by assignment or named at application to cover indebtedness. The creditor may either be the named beneficiary or can be the assignee under a collateral assignment. The creditor can only receive the amount of the indebtedness. The benefit may be purchased as Decreasing Term insurance so the benefit will decrease by the amount of the loan automatically. Common Disaster Clause The Common Disaster Clause provides that, if an insured and primary beneficiary die as a result of the same event, the primary beneficiary must survive the insured by a specific period of time (usually 90 days) or the insurance company will assume the insured died last (the primary beneficiary died first). This provision is designed to pay the benefits to either the contingent beneficiary or the insured/policyowner’s estate if no contingent beneficiary has been designated. Example Mr. and Mrs. C both have insurance policies naming each other as the primary beneficiary. Since this is their second marriage, their children from previous marriages are named as contingent beneficiaries on each policy. Mr. and Mrs. C are in the same accident, and Mr. C dies immediately. Mrs. C dies 3 hours later at the hospital. Under the Common Disaster Clause, it will be assumed that each insured died last for their respective policies. This means that the primary beneficiary predeceased the insured in both policies, and the benefit from each policy will pay separately to Mr. and Mrs. C’s contingent beneficiaries. Without the Common Disaster Clause, the entire benefit amount would be awarded to Mrs. C's contingent beneficiaries because she died after Mr. C. The Uniform Simultaneous Death Act has been adopted by all states and provides that when the insured and primary beneficiary die as the result of the same event and the order of death cannot be determined, it is assumed the insured died last, protecting their secondary beneficiary or heirs. Spendthrift Trust Clause The Spendthrift Clause denies the beneficiary the right to assign their interest in the policy proceeds. The purpose is to prevent creditors of the insured and/or the beneficiary from claiming any benefits payable to the beneficiary before they are actually received. This clause does not protect the beneficiary if the benefits are payable in a lump sum, only when the proceeds are held by the insurance company under a settlement option. A.D.Banker&Company® 59 CHAPTER FOUR 4.5 Life Policy Options Life Policy Settlement Options Characteristics Life insurance benefits are paid in a lump sum, unless another mode of settlement has been selected. A settlement option directs the insurance company how to pay out the death benefits. Settlement Options are used in place of receiving a lump sum death benefit or living benefit at the time of maturity. The choice of a settlement option may be made by the policyowner if the insured is living, or by the beneficiary if the insured is not living, and if no option has been previously selected. It is important to note that if the owner has selected a settlement option, a beneficiary cannot change that option. Principal payments of the death benefit made after an insured’s death are not taxable as income. However, any interest received from a settlement option distribution is taxed as ordinary income. Benefits paid in a lump sum are income tax free. Settlement options include: Interest Only – The death benefit proceeds may be left with the insurer while interest payments are paid at least annually. The principal amount does not decrease, and the interest generated is taxed as ordinary income when paid to the beneficiary. This method of providing income is known as capital conservation. The principal (capital) is left with the insurer at interest, conserving the capital. When this option is selected, the owner or beneficiary must direct the insurer as to when the principal will be paid as a benefit. Fixed Amount – Payments are for a specified dollar amount paid monthly until the benefits, along with interest, are exhausted. In this example, the interest will extend the time period in which the benefits are paid. Only the interest portion of the benefit is taxable. Fixed Period – Payments are guaranteed for a specified period of time (such as 10 or 20 years) after which payments will cease. The proceeds and interest are used to make the payments. The interest will increase the amount of each payment, and the interest is taxable. Life Income Option – This option allows the insurer to use the death benefit to purchase an annuity on behalf of the beneficiary. As with other settlement options, any interest paid is taxed as ordinary income. Nonforfeiture Options (Guaranteed Values) Characteristics These options are required in policies that accumulate cash values and protect the policyowner against total loss of benefits if the policy should lapse due to nonpayment of premium or is intentionally cancelled. Nonforfeiture options include: 60 Cash Surrender – Upon surrendering the policy back to the insurer, the policy owner will receive the cash surrender value stated in the policy less any outstanding loans and accrued interest. Any amount that exceeds the premiums paid into the policy will be taxable as ordinary income. The insured no longer has insurance coverage if this option is selected. Reduced Paid-Up – Present cash value is used to buy a single premium, permanent PaidUp policy of a reduced face amount. This option provides the longest period of coverage provided by a nonforfeiture option. Coverage, although reduced in face value, will continue to age 100. A.D.Banker&Company® LIFE POLICY PROVISIONS AND OPTIONS Extended Term – Present cash value is used to buy a single premium Term policy of the same face amount for as long a period as it will buy, expressed as a combination of years and days. This option provides the largest death benefit and is sometimes referred to as the Automatic (or Default) Option if no other option has been selected. The policy will expire prior to age 100. Male, Age 22 End of Policy Year $50,000 Whole Life Paid Up at Age 90 Table of Guaranteed Values Cash Value Paid Up Insurance $636/year Extended Term Insurance Years Days 1 $0 $0 0 0 2 $289 $2,050 2 163 3 $597 $4,100 5 226 4 $925 $6,100 9 133 5 $1,274 $8,000 13 55 6 $1,643 $9,900 16 334 7 $2,043 $11,700 20 66 8 $2,446 $13,450 22 259 9 $2,886 $15,150 24 231 10 $3,339 $16,800 26 39 11 $3,820 $18,350 27 99 12 $4,325 $19,800 28 70 13 $4,854 $21,200 28 328 14 $5,405 $22,550 29 155 15 $5,988 $23,850 29 295 16 $6,594 $25,100 30 27 17 $7,227 $26,250 30 89 18 $7,888 $27,350 30 125 19 $8,576 $28,400 30 126 20 $9,294 $29,350 30 124 60 $22,255 $41,700 23 200 65 $26,935 $43,750 21 12 70 $30,522 $45,400 18 185 Dividend Options Characteristics Dividends represent the favorable experience of the insurer and result from excess investment earnings, favorable mortality, and expense savings. Dividends are available on participating policies issued by mutual insurers. They are paid annually, if declared, and cannot be guaranteed. Since dividends essentially are a return of excess premiums paid, they are not taxable as income until all of the premiums paid in have been recovered. Should the total accumulation of dividends exceed the total premiums paid, the excess amount is taxable as ordinary income. Interest earned on dividends left to accumulate is taxable as ordinary income. A.D.Banker&Company® 61 CHAPTER FOUR The policyowner decides which dividend option is in effect and can change the election at any time. If dividends are designated for any option other than cash and all current accumulations are withdrawn, the option will begin again at the next declared dividend. Dividend options include: 62 Cash – The policyowner receives the declared dividends in the form of a check on or after each policy anniversary. Premium Reduction – Dividends are applied toward the next premium due. The same could be accomplished if the policyowner received the dividends in cash and remitted the full premium. If the declared dividends equal or exceed the premium, the policyowner will not have to pay premiums for the next year. Accumulate at Interest –The dividends are retained by the insurer, and the interest rate paid the policyowner is compounded annually. Paid-up Additions – The dividends are used to purchase single premium, additional permanent benefits at the insured’s attained age. The additional insurance is paid out in addition to the face amount if the insured dies. While the insured is living, it generates cash value and dividends as if the paid-up additional benefit was part of the original policy. 1-Year Term – The dividends are used to purchase a single premium, 1-Year Term benefit. Premiums are calculated at the insured’s attained age; also referred to as the fifth dividend option. Paid-up Option – The Paid-up Option uses the dividends to pay off the policy more quickly than scheduled. If the company’s overall performance declines, premiums may have to be resumed. A.D.Banker&Company® 5 Annuities OVERVIEW The purpose of this chapter is to acquaint the student with annuity contracts. Annuities can be used to accumulate funds for education and retirement plans. Annuities can also be used to convert a lump sum of money into a temporary or lifetime income payment benefit. Upon the completion of this chapter, you will be able to: 1. 2. 3. 4. 5. 5.1 Compare life insurance to an annuity Differentiate between the accumulation and annuity periods Identify the annuity payout options Define the terms immediate annuity and deferred annuity Recognize 3 types of annuities and their characteristics Annuity Principles and Concepts Concept of an Annuity Annuities are used primarily to provide a steady stream of income to an individual typically upon retirement. In theory, an annuity is designed to protect against outliving an individual’s retirement income by providing lifetime income. One of the primary functions of an annuity is to liquidate an estate, or to pay benefits until the death of an annuitant. In direct comparison to life insurance, an annuity could be referred to as the opposite of a life insurance policy. Annuities are funded and sold through life insurance companies and require at least a life insurance license to sell. Life Insurance vs. Annuities Life Insurance Annuities Provides a benefit upon death of the insured Provides steady income until death of the annuitant Creates an estate Liquidates an estate Pays a death benefit Pays a living benefit Protects against premature death Protects against living too long Owner, insured, beneficiary Owner, annuitant, beneficiary Policy Contract A.D.Banker&Company® 63 CHAPTER FIVE Control of the Contract Owner The owner is the individual who controls the contract and is responsible for making payments into the contract as well as having all of the contractual rights in the policy is the owner. Annuitant The individual whose life the contract is based upon. Upon a lifetime annuitization, payments will be made to the annuitant according to the annuitant’s age, gender, settlement option, and dollar amount used to fund the income benefit payments. Beneficiary The individual or person named in the contract to potentially receive benefits if the owner and/or annuitant die prior to annuitization or if the settlement option selected offers any residual benefit after the annuitant’s death. As with life insurance, annuities may have beneficiaries named and designated by the owner prior to the annuitization or guaranteed payout period. The beneficiary may be named at receipt of the first payment and may only be changed by the owner. The owner’s rights begin at the time of purchase. An owner, who may also be the annuitant, may change the annuity date, beneficiary, and payout option. During the accumulation period, if the contract owner and the annuitant are the same person and the designated beneficiary is the annuitant’s spouse, the IRS code allows the spouse to assume ownership of the annuity upon the death of the annuitant. All rights of ownership are assumed to include tax deferment. Insurance Aspects of an Annuity Annuities are insurance products based on a mortality table. If a life settlement option is chosen, the insurance company guarantees to provide an income benefit payment as long as the annuitant lives (for example, Life Only or Joint and Survivor). Actuarial assumptions based on the Law of Large Numbers allow this to occur. Those who live a shorter life span than expected allow the insurance company to have the reserves in place to be able to pay out guaranteed lifetime income benefit payments to those who live well beyond life expectancy. Death Benefits In addition to providing a guaranteed income benefit payout for life, an annuity also has another guarantee if the annuitant dies prior to annuitizing the contract. In this case, the policy has a named beneficiary, just like a life insurance policy, whereby the insurer pays out an amount equal to the premiums paid or the account value, whichever is greater. 5.2 Accumulation (Pay-In) Period The period of time from the first deposit to the start of the annuity payout is considered the accumulation period, during which taxes are deferred. Accumulation periods are only found within deferred annuities, not immediate annuities. 64 A.D.Banker&Company® ANNUITIES Premium Payment Options Single Premium A lump sum payment is made into an annuity. Periodic Premium Continuous premiums paid into the contract. The most common example of a periodic premium is a flexible premium. Flexible Premium Flexible contributions may be made as often and in whatever amount the contract owner desires. However, most insurers set a minimum and a maximum dollar amount they will accept. Immediate and Deferred Annuities Immediate Annuity The immediate annuity does not have an accumulation period and is used to generate immediate income within 12 months (1 year) of the issue date. Deferred Annuity A deferred annuity will pay periodic benefits starting at some specified time in the future; benefits begin more than 1 year from the issue date. Annuity Mechanics Single Premium Immediate Annuity (SPIA) A single premium (lump sum) is put into an annuity from which the annuitant may immediately begin drawing benefits (within a year of the issue date). A retirement plan rollover, savings account balances or CDs, mutual funds, deferred annuity values, or the death proceeds of a life insurance policy might be used to purchase a SPIA. Single Premium Deferred Annuity (SPDA) A single premium (lump sum) is put into an annuity from which the annuitant will draw the benefits at some specified time in the future, more than 1 year from the issue date. Flexible Premium Deferred Annuity (FPDA) Flexible contributions may be made as often and in whatever amount the contract owner desires. However, most insurers set a minimum and a maximum amount for contributions. Benefits begin more than 1 year from the issue date. Deferred Annuity Characteristics Deferred annuities are normally purchased to defer taxes on any contract earnings. They are ideal for accumulating a retirement fund. During the accumulation period, only the contract owner can sign the request for surrender of a deferred annuity. During the early part of the accumulation period, the insurer normally assesses a surrender charge. Tax-Deferred Growth Since an annuity is an insurance contract, the accumulation value grows tax deferred. Deferred annuities allow for the naming of a beneficiary to receive any policy values if the annuitant dies prior to annuitizing. Withdrawals prior to age 59½ are subject to income tax and generally a 10% tax penalty as well. Systematic withdrawals are allowed as a way to access the policies values without having to elect a settlement option. A.D.Banker&Company® 65 CHAPTER FIVE Nonforfeiture Provisions An annuity owner will not lose the value accumulated up to the point where they stopped paying into the contract. Nonforfeiture Provisions give the owner the rights to the accumulation in the contract. The owner has the right to surrender the contract during the accumulation period. Remember, these provisions only apply to deferred annuities since immediate annuities do not have an accumulation period. Tax Penalty To discourage the use of annuities as short-term tax shelters, a 10% penalty tax is levied against any premature withdrawals prior to 59½ years of age. This discourages withdrawals. The tax penalty does not apply if premature distributions occur due to the death or disability of the contract owner. Surrender Charges When a contract is fully surrendered, any surrender charges will lessen the contract payout. This is also referred to as a back-end load. Surrender charges diminish over a stated number of years, set by the insurer, until they disappear. 5.3 The Annuity Distribution Period (Pay-Out) The annuity period begins once the owner elects to convert a deferred annuity into an income benefit payment. The settlement option selected can provide a temporary or lifetime payment. If a lifetime benefit is selected, it is an irrevocable election. The cash values go towards paying for the income benefit. Lump Sum vs. Annuitization Lump Sum Annuitization The annuitant has the option of cashing out the The election to receive payments from the annuity annuity in a lump sum instead of electing to receive a for life, or for a specified period depending on the stream of income. There could be tax consequences settlement option selected. and tax penalties depending upon when this occurs. Annuity (Benefit) Payment Options Once a contract is annuitized, the insurance company takes ownership of funds in the account. In return, the annuitant is entitled to a guaranteed income stream, called Annuity Payments, based on the terms of annuitization. Depending on the option chosen, the annuitant may be able to name a beneficiary to receive any remaining benefits available upon the annuitant’s death. Annuity income is based on annuity tables which are similar to mortality tables used for life insurance. Other factors that determine the income include the accumulation amount, interest rate return, age and gender of the annuitant, and the payment option selected. The available payment options include: Individual Annuity with Lifetime Income Life Income (Pure or Straight Life) The annuity is payable for as long as the annuitant lives, and upon death, all payments cease. This option provides the highest monthly income than any of the other options. Life Income Period Certain The annuity is payable for life or for a specified period of time, whichever is longer. If the annuitant lives beyond the stated period, benefits continue for life of the annuitant. If the annuitant dies prior to the end of the period certain, a beneficiary receives the balance of the payments for the remaining time period. 66 A.D.Banker&Company® ANNUITIES Life Income with Refund (Installment or Cash Refund) The annuity is payable for the lifetime of annuitant. Upon death, if an annuitant has not received an amount equal to the total of all payments made into the annuity (not the growth), the balance is refunded to the beneficiary as a lump sum, cash refund, or in installments, sometimes referred to as the installment refund. Joint Annuity with Lifetime Income Life Income Joint & Survivor The annuity is payable to 2 annuitants (in one check) while both are living. Upon the death of the first annuitant, survivor benefits continue, either paying the full amount or reduced to 2/3 or 1/2 for the survivor’s income until the survivor dies. Depending on which option is selected, these options may be referred to as Joint and Full Survivor, Joint and 2/3 Survivor, or Joint and ½ Survivor. Joint Life The annuity is payable to 2 or more named annuitants while both are living. Upon the death of the first annuitant, the benefits stop. Period Certain Annuity Annuity benefit payments are received for a specified period of time. If the annuitant dies with time remaining on the period certain, the named beneficiary receives the balance of the payments. An annuity guaranteed to pay out for a specific number of years (such as a typical, state lottery prize) is called a fixed period. 5.4 Types of Annuities Fixed (Guaranteed) Annuity Fixed annuities are general account products, and all fixed annuity benefits are funded from this account. The General Account includes the company's cash assets and reserves—held in various investment portfolios—consisting of conservative investments. The investments in the general account are expected to provide a guaranteed minimum rate or return over the life of the contract. The insurance company assumes the investment risk of the general account. During the accumulation period of a traditional Fixed annuity, the insurer guarantees a minimum fixed interest rate. Fixed annuities provide a guaranteed fixed income for life or for a stated period. During annuitization, a fixed annuity provides a level benefit amount, and the annuitant receives the same monthly payment. Receiving level income payments over an extended period of time poses an inflation risk. The fixed amount purchasing power decreases as the cost of living increases. Some Fixed annuities offer a base interest rate plus a bonus interest rate which becomes the current rate credited into the annuity. The current rate is set by the insurance company at the time the contract is issued and is guaranteed for a specific time period. A life-only insurance license is required in order to sell Fixed annuities in California. A.D.Banker&Company® 67 CHAPTER FIVE Indexed (or Equity Indexed) Annuity Indexed annuities, or Equity Indexed annuities are Fixed annuity products that offer minimum guaranteed interest combined with an interest rate that is linked to the positive performance of a stock market index, such as the Standard & Poor’s (S&P) 500 Index. The contract owner enjoys safety of principal and some guaranteed minimum returns. The safety of principal and previously locked-in interest is backed by the insurer’s general account. The minimum guarantee can be as low as 0%, reflecting that the policy will not be adversely affected by negative stock market index performance but will not have any gains. Opportunity to increase their retirement savings, according to the performance of an index, without actually being invested and exposed to negative risk performance. Equity Indexed annuities are regulated by state law and suitability requirements must be followed. These contracts typically have a fixed account from which funds are transferred into the index selected. They also tend to have higher surrender charges and longer surrender charge periods. Market-Value Adjustment (Adjusted) Annuity This is an annuity product that features fixed interest rate guarantees combined with an interest rate adjustment factor that can cause the surrender value to fluctuate in response to market conditions. Upon withdrawal, the Market-Value Adjustment (MVA) will add or deduct an amount from the annuity or the withdrawal amount. If the interest rates on which the MVA is based are higher than when the annuity was purchased, the MVA will likely be negative, meaning an additional amount may be deducted from either the annuity or the withdrawal amount. If the interest rates on which the MVA is based are lower than when the annuity was purchased, the MVA will likely be positive, meaning money may be added to either the annuity or to the withdrawal amount. Variable Annuity General Account vs. Separate Account Unlike Fixed annuities, which require premiums to be invested in the insurer's general account, Variable Annuities require the insurer to maintain a Separate Account. Performance of the separate account is based on the underlying investments in the stock market and are not guaranteed. Variable annuities are regulated by the SEC and state insurance departments. Annuity payments and cash values fluctuate according to the investment experience of the separate account the contract owner has designated. Payments are based on “units” rather than dollars. While not guaranteed, Variable annuities may act as a hedge against inflation. This protects against the purchasing power risk of a fixed payment annuity by providing income that trends toward keeping pace with inflation. The contract owner bears the investment risk and receives the return earned on invested assets, less any charges assessed by the insurer and investment managers. There is no guaranteed return. The premium paid during the accumulation period is invested in the separate account; the underlying investment in the separate account is similar to a mutual fund. The investment return varies according to the separate account selected based on the assumed interest rate (AIR). If the actual return is lower than the AIR, the monthly annuity payment will be reduced. If the actual return is equal to the AIR, the monthly annuity payment will remain the same as the previous month. If the actual return is greater than the AIR, the monthly annuity payment will increase from the previous month. 68 A.D.Banker&Company® ANNUITIES Both an insurance license and a securities license (FINRA) are required. This annuity is considered a security, and therefore, must comply with the Federal Securities and Exchange Commission (SEC) rules as well as the state insurance laws. A prospective buyer of a variable annuity must be provided with a document called a prospectus. The prospectus gives detailed information on the separate account available in the annuity. This information provides the contract owner the opportunity to make a better decision based on the historical performance of the separate account. The prospectus must be provided at or before the time of the sale. The premium payments made during the accumulation period may be flexible in amount and frequency, limited only to the contract’s provisions. Premiums purchase accumulation units of the separate account. These are similar to shares of a mutual fund. Upon annuitization, accumulation units are converted into annuity units. The number of annuity units liquidated remains level, but the unit value fluctuates, based upon the performance of the separate account. Qualified vs. Nonqualified Annuities A Qualified Annuity is funded with pretax dollars, meaning the contribution itself could qualify for a tax deduction, lowering taxable income. The entire distribution from a Qualified annuity (contributions and earnings) is subject to ordinary income taxes. Qualified annuities may be used to hold qualified retirement plans such as IRAs or Tax Sheltered Annuities. Contributions are limited by the IRS under these types of plans. A Nonqualified Annuity is funded with after-tax dollars, meaning taxes on the money were paid before it goes into the annuity. Upon distribution, only the earnings are taxable as ordinary income. Most individual annuities are nonqualified. Exam questions will be about Nonqualified annuities unless qualified annuities is specifically stated. 5.5 Annuity Riders The addition of several different types of riders may make annuities more desirable. As in life insurance, riders extend or enhance the benefit of the annuity contract. Long-Term Care (LTC) A Long-Term Care Rider will permit the owner of the policy to use all or a substantial portion of the annuity cash accumulation value to pay for the expenses of LTC under the same requirements to trigger and pay benefits as a traditional LTC policy. Cost of Living An inherent risk in a Fixed annuity is the loss of purchasing power due to inflation. A Cost of Living Rider will increase the annuity payments according to changes in the Consumer Price Index (CPI). Accelerated or Living Benefit As in life insurance, this rider permits the policyowner to withdraw funds without a surrender charge prior to annuitization in the event of the annuitant’s terminal illness diagnosis. Death must be expected within 2 years. Some terminal illness riders also permit withdrawals due to permanent total disability. A.D.Banker&Company® 69 CHAPTER FIVE Guaranteed Minimum Income Benefit (GMIB) This is an optional rider typically purchased on a Variable annuity that guarantees a minimum level of payments upon annuitization regardless of market conditions. Upon death, the beneficiary may take a lump sum of the remaining annuity value. If the beneficiary is the spouse, they may continue to receive income until there is a zero balance. Guaranteed Minimum Withdrawal Benefit (GMWB) This is an optional benefit that can be purchased to guarantee a steady stream of income regardless of the investment's performance. This option allows the annuitant to withdraw a specific percentage each year until the initial investment has been paid out. Upon death, the beneficiary receives the market value of the annuity. 5.6 Classification and Uses of Annuities Annuity Classifications are based on: Method of premium payment (single, flexible, and periodic) Funding (fixed vs. variable) When income benefits are payable (immediate vs. deferred) The payout option selected (Life Only vs. Annuity Certain) Number of lives covered (individual vs. joint) Annuity Uses Before determining the use of an annuity, it is important to determine the suitability of the product to the intended purchaser. Suitability describes the steps that must be taken by a producer to ensure that an annuity is addressing a prospective owner’s needs and financial objectives at the time of the sale. Additional factors used when determining suitability include the applicant's age, income, risk tolerance, and potential use of the annuity. Personal Uses – Individual Annuities Retirement Income The funds accumulated inside an annuity can be used to fund all or part of a consumer’s retirement income. The accumulated funds can be used to purchase a settlement option that can provide for a lifetime income stream or an income stream that can end prior to the annuitant’s death. The income received will be tax free as far as the portion of the payment is counted as a return of premium while the balance would be taxable as ordinary income. If premiums were deductible, then the entire income received would be subject to tax. The only exception is if the income comes from a Roth IRA annuity whereby the income stream would be tax free under certain qualifying situations. Lump Sum Structured Settlements Lump sum payments from lawsuits, lottery winnings, or an inheritance can be used to purchase a structured settlement in the form of an annuity. The annuity can then be used to provide guaranteed lifetime income to the annuitant. 70 A.D.Banker&Company® ANNUITIES Business Uses Employer Sponsored Qualified Retirement Plans Annuities are usually purchased by individuals. They may also be purchased as part of a structured corporate pension plan referred to as a Group Annuity. A Group annuity is a contract between the insurer and the employer and is set up for eligible employees. Each employee receives a certificate. This is a defined benefit plan under IRS rules. Corporations may use annuities to provide pensions for employees, funding nonqualified deferred compensation plans or qualified retirement plans, and even to structure payments from liability settlements, known as structured settlements. Corporate owned annuities lose the tax-deferral aspect of the policy and interest or gains are taxable as income in the year earned. Tax-Sheltered Annuities (TSAs) Tax-Sheltered Annuities (TSA) are qualified annuity plans benefitting employees of public schools under the Internal Revenue Code Section 403(b), as well as other nonprofit organizations qualified under Section 501(c)(3). Employees of nonprofit organizations may have an arrangement with the employer where the employer agrees with each participating employee to reduce the employee’s pay by a specified amount and invest it in a retirement fund or contract for the employee. Employees do not make direct payments to the retirement fund. These accounts are owned by the employee and are nonforfeitable and will be paid upon death, retirement, or termination of the employee. Contributions are pretax and interest earned grows tax deferred. 5.7 Life Insurance and Annuity Ethical Concerns Regarding Senior Citizens in California Annuity Suitability Requirements As adopted into California law, the NAIC’s “2010 Model Suitability in Annuity Transactions Model Regulations” require all producers to document that an annuity sold to a person age 65 or older is suitable for that person’s needs and objectives. Insurers must use suitability questionnaires to gather the required information, and producers must receive product-specific training for each annuity they market to seniors before they may even market the annuity. The agent must meet the need for consumer awareness of liquidity limitations or surrender charges. This can be done by obtaining the consumer's suitability information. Prior to recommending and annuity to a consumer, and insurer must make a reasonable effort to obtain the consumer's suitability information. Suitability Information is information that is reasonably appropriate to determine the suitability of a recommendation, including all the following: Age Annual income Financial situation and needs, including the financial resources used for the funding of the annuity Financial experience Financial objectives Intended use of the annuity Financial time horizon A.D.Banker&Company® 71 CHAPTER FIVE Existing assets, including investment and life insurance holdings Liquidity needs Liquid net worth Risk tolerance Tax status Whether or not the consumer has a reverse mortgage Whether or not the consumer intends to apply for means-tested government benefits, including, but not limited to Medi-Cal or the Veterans' Aid and Attendance benefit Annuity suitability requirements do not apply to the following transactions: Direct response solicitations where there is no recommendation based on information collected from the consumer Contracts used to fund any of the following: □ An employee pension or welfare plan covered by ERISA □ A qualified retirement plan regulated by the Internal Revenue Code (IRC), such as a 401(k) or 403(b) plan, if established and maintained by an employer □ A government or church welfare benefit plan or deferred compensation plan or taxexempt organization under Section 457 of the IRC □ A nonqualified deferred compensation arrangement established or maintained by an employer □ Structured settlements associated with personal injury litigation □ Formal prepaid funeral contracts Ethical Practices for Seniors Age 60 or Older Free Look and Cancellation For ethical practices regarding free look and cancellation of annuity contracts in California, a senior citizen is defined as an individual who is 60 years of age or older on the date of purchase of the policy. Persons who are 60 years of age or older must be given a 30-day cancellation and free look period. This allows additional time to seek the counsel of others to assist in the decision to keep or cancel the new policy. Every individual life insurance and annuity contract delivered or issued for delivery to a senior citizen in California must include a notice in 12-point bold print that the policy may be returned within 30 days after receipt of the policy by the owner for a full refund by returning it to the insurance company or agent who sold the policy. The notice must include that, if returned after 30 days, cancellation may result in a substantial penalty, known as a surrender charge, unless those penalties or charges do not apply. During the 30-day cancellation period, the premium for variable annuities may be invested only in fixed-income investments and money—market funds, unless the owner specifically directs that the premium be invested in the mutual funds underlying the variable contract. If the policyowner has not directed that the premium be invested in mutual funds, cancellation will void the policy from the beginning and all premiums will be refunded within 30 days. If the owner has directed that the premium be invested in mutual funds, cancellation entitles the owner to a refund of the account value within 30 days. Disclosures of the investment requirement/option and return of premium/fees in case of cancellation must be in 12-point bold print and displayed on the policy cover page. If the insurer fails to refund all the premiums paid in a timely manner during the 30-day free look period, the applicant is entitled to receive interest on the unreturned premium from the date the insurer the returned contract. 72 A.D.Banker&Company® ANNUITIES Ethical Practices for Seniors Age 65 or Older Except for policy cancellation and free look requirements, the California Insurance Code defines a senior, or elder, as someone age 65 or older. All insurers, brokers, and agents engaged in the transaction of insurance owe a prospective insured who is 65 years of age or older a duty of honesty, good faith, and fair dealing. This duty is in addition to any other duty that may exist. An insurance broker or agent may not participate in or be associated with the origination of a reverse mortgage, unless they maintain procedural safeguards to ensure that the agent or broker has no direct financial incentive to refer a policyholder to a reverse mortgage lender. It is a violation for any insurance agent who is not licensed as an attorney to deliver to a person age 65 or older a living trust or other legal document other than an insurance contract if the purpose of the delivery is to sell an insurance product. An insurance broker or agent may not participate or be associated with obtaining veteran's benefits for a senior, unless the broker or agent has safeguards to ensure that the agent or broker has no direct financial incentive to refer a policyholder to any benefits program offered through the government. Pre-Meeting (Scope of Appointment) Notice The California Insurance Code requires producers who meet with prospective clients age 65 and older in their homes for the purpose of transacting life insurance, annuities, or disability insurance products to provide a written notice of the first meeting at least 24 hours in advance and no more than 14 days prior to the individual's initial meeting in the senior's home. If the senior has an existing relationship with an agent and requests a meeting with the agent at their home on the same day, the agent must provide the written notice prior to the start of the meeting. This notice must be a standalone document and include all the following: The agent's full name, license number, mailing address, and telephone number as it appears on their California insurance license A list of all attendees and their license numbers Information about the products that will be discussed The right to have any other persons, including family members, financial advisers, or an attorney, at the meeting The right to terminate the meeting at any time The right to contact the Department of Insurance for information or to file a complaint The notice may be delivered in person, by mail, fax, or email. Producers must retain a copy of notices in their files for a minimum of 5 years. Established clients may be given the notice at the time of an appointment. A person may not solicit a sale or order for the sale of an annuity or life insurance policy at the residence of a senior, in person or by telephone, by using any plan, scheme, or ruse that misrepresents the true status or mission of the contact. Suitability and Taxation If a life agent offers to sell any life insurance or annuity product to a senior, the agent must advise in writing that the sale of any asset used to fund the purchase of the insurance product may have tax consequences, early withdrawal penalties, or other costs assessed as a result of the sale. The agent may recommend the individual consult independent legal or financial advice before selling assets prior to the purchase of any life or annuity products. A.D.Banker&Company® 73 CHAPTER FIVE Group Life Insurance All group life insurance policies offered for sale to individuals age 65 or older must provide a free look period of 30 days after receipt of the policy or certificate of insurance. If the policyholder or certificate holder chooses to cancel the policy during the 30-day free look period, the premiums must be fully refunded no later than 30 days after the insurer receives the returned policy or certificate. If at the time of application or time of delivery of a group Term Life insurance policy or certificate, the insurer or agent collects more than one month's premium from an individual who is 60 years of age or older, the insurer must provide a prorated refund of premium if the individual cancels the policy during the first 30 days of the policy period. Advertising Requirements Any advertisement designed to produce leads that is directed towards persons 65 years of age or older must prominently disclose that an agent may contact the applicant if that is true. An insurer, agent, or broker may not solicit persons age 65 or older for the purchase of disability insurance, life insurance, or annuities through the use of a true name or fictitious name that is deceptive or misleading with regard to the status, character, or the true purpose of the advertisement. Examples of misleading advertisements include those that imply that coverages are provided by or endorsed by any government agencies, nonprofit institutions, veterans organizations, or senior organizations. Senior Designation A senior designation means any degree, title, credential, certificate, or approval that expresses or implies that a broker or agent possesses expertise, training, competence, honesty, or reliability with regard to advising seniors in particular on finance, insurance, or risk management. A broker or agent may not use a senior designation unless all the following conditions have been met: The broker or agent has been granted the right to use the senior designation by the organization that issues the designation and the broker or agent is currently authorized to use the designation The senior designation has been approved by the Commissioner for use by brokers and agents in the sale of insurance for seniors The broker or agent has been licensed for at least 4 years in any state or territory to sell the types of insurance with which the designation is used Violation of these requirements will be grounds for suspension or revocation of their license. This violation will be grounds for a cease and desist order and a monetary penalty as if the broker or agent had acted in a capacity for which a license was required but not possessed. Annuities and Medi-Cal Eligibility A life agent who offers for sale or sells any financial product based on its treatment under the MediCal program must provide a disclosure, in writing, entitled “Notice Regarding Standards For MediCal Eligibility.” This notice is a brief description of the Medi-Cal eligibility rules. It is to be clearly separate from any other document, and signed by the prospective purchaser, that person’s spouse and legal representative, if any. 74 A.D.Banker&Company® ANNUITIES An annuity may not be sold to a senior if: The senior’s purpose in purchasing the annuity is to affect Medi-Cal eligibility and either of the following are true: □ The purchaser’s assets are equal to or less than the community spouse resource allowance established annually by the State Department of Health Services pursuant to the Medi-Cal Act □ The senior would otherwise qualify for Medi-Cal The senior’s purpose in purchasing the annuity is to affect Medi-Cal eligibility and, after the purchase of the annuity, the senior or the senior’s spouse would not qualify for Medi-Cal Any broker or agent who violates the prohibition against selling annuities to qualify a senior for Medi-Cal is liable for an administrative penalty of $1,000 for the first violation, $5,000 up to $50,000 for subsequent violations, and possible suspension of the agent or broker license by the Commissioner. A.D.Banker&Company® 75 6 Markets and Social Security OVERVIEW The purpose of this chapter is to acquaint the student with the many different markets in which life insurance may be sold. The characteristics and features of each of these markets are discussed. This chapter will wind up with an overview of Social Security. Upon the completion of this chapter, you will be able to: 1. 2. 3. 4. 5. 6. 7. 6.1 Compare the master policy with the certificate of insurance under a group insurance plan List the characteristics of a group insurance plan Define group conversion Explain the purpose of Credit Life insurance Differentiate between contributory and noncontributory List the business uses of life insurance Define fully insured and currently insured under Social Security Group Insurance Market As previously discussed, ordinary individual insurance is issued on individual people using individual policies normally with an evidence of insurability requirement. The policyowner pays the premium with the cost and rating computed on an insured’s life. The underwriter will consider age, gender, weight, health, and tobacco use as this information applies to the prospective insured. The grace period is typically 60 days for all forms of insurance, including Term and Whole Life. Group life insures a group of people under a single contract. The purpose of group life is to underwrite the combined risk of a group of individuals as a single policy. On one hand, it serves the needs of individuals that may have trouble qualifying for coverage. Additionally, it allows the insurer to write a bulk amount of insurance at an appropriate rate. The group sponsor benefits both from the standpoint of employee retention, but also because costs are lowered because the sponsor takes on some of the tasks of marketing and administration. Group Risk Selection Group life insurance is normally less costly than individual insurance because the insurer's expense of underwriting is minimized. In group life insurance, underwriting is not typically looking at the insurability characteristics of any one member of the group. Characteristics of Group Insurance Plans Group insurance is a contract between the sponsor and the insurance company. In a group insurance plan, the insurer issues a Master Policy to the Plan Sponsor and each participant receives a Certificate of Insurance covering the participant and (if offered) their spouse and dependents. Participants in the plan do not have personal control of the policy or policy changes as with an individual policy. 76 A.D.Banker&Company® MARKETS AND SOCIAL SECURITY Group life insurance is available to employee groups as small as 2 persons, and California defines a number of specific groups that are eligible for group life insurance, such as elementary and secondary school teachers, employees of the state colleges and universities, and members of the National Guard. These larger groups must have at least 25 members. Eligibility and Selection of Coverage The sponsor may set the terms and determine which classes of employees qualify, such as fulltime vs. part-time employee. The plan cannot discriminate, so all members of the eligible class of employees must be eligible for predetermined benefits based on a single formula. California law requires that the basic coverage amount must be predetermined by the employer and not be subject to individual employee choice (employees may be offered optional additional coverage). The most common methods of determining group insurance benefits are: Flat benefit (all employees receive the same insurance amounts) Based on a percentage of income (employees receive 100%, 150%, or 200% of their annual base wage, subject to imputed income) Based on one’s position in the company (the employer may establish different benefits for specific classes of employees, but may not discriminate between employees in the same class) Discontinuance The sponsor can elect to discontinue the plan, and the insurance company can increase the rates it charges. To be eligible for a group plan, the group must be a natural group, meaning it was formed for a purpose other than for procuring or reducing the cost of insurance. Group plans must also have a grace period of 60 days. Group insurance is usually written as annual renewable term. Dependents California law also permits insurers to offer an employee’s spouse and all children from birth until age 26 to be covered for up to 100% of the employee’s basic coverage amount. Children with disabilities who are not capable of self-support may continue to be covered beyond the limiting age as long as their disability is due to mental or physical handicap and they are chiefly dependent upon the employee for support and continuous maintenance. Proof of the child’s incapacity and dependency must be furnished to the insurer within 31 days of the child’s attainment of the limiting age (age 26). Subsequent proof may be required by the insurer, but not more frequently than annually after the 2-year period following the child’s attainment of the limiting age. The decision of whether to offer this dependent coverage rests with the employer, and must be offered to 100% of eligible employees. This optional coverage may be paid for by the employer, the employee, or both. Domestic Partners An insurer may require the insured to verify the domestic partnership status by providing a copy of a valid Declaration of Domestic Partnership filed with the Secretary of State or an equivalent document issued by a local agency of this state, another state, or a local agency of the state under which the partnership was created. The policy may also require that the insured notify the insurer upon the termination of the domestic partnership. However, this will be required only if the policy requires the insured to notify insurer of marital status verification, such as marriage or divorce. A.D.Banker&Company® 77 CHAPTER SIX Types of Group Plan Sponsors Group plans may be sponsored by employers, associations, debtors, labor unions, or trusts. The most common type of plan sponsor is an employee group. The employer may be a partnership, a corporation, or a sole proprietorship. There are two legal employer-employee plans: Contributory – Employees will be required to pay up to 100% of the premium payments, and at least 75% of all eligible employees must participate. Noncontributory – Employer pays the entire premium, and 100% of the eligible employees must be covered. The percentage participation requirements are used to reduce adverse selection. Eligible employee groups in California must have the following characteristics: Covers not less than 2 public or private employees and will terminate if coverage falls below 2 lives Issued to the employer with premiums being paid by the employer, employee, or jointly Insures either all employees or all classes of employees as determined by conditions pertaining to employment Written for the benefit of someone other than the employer, such as a trustee representing the employees and dependents When written on a contributory basis, the benefits must be offered to all eligible employees May be issued with or without a medical examination Cannot provide for the employer to be named as beneficiary of the employee’s policy Group Underwriting The underwriter’s greatest concern when underwriting a group plan is adverse selection. To help protect against pre-existing conditions and immediate claims, group plans have a probationary period set by the group sponsor. This is a waiting period between when an individual joins the group they can enroll in the group plan. As long as the individual enrolls during their initial eligibility period (usually the first 30 days of employment), coverage is guaranteed and evidence of insurability is not required. Individuals who do not enroll during the initial enrollment period are considered late enrollees and may be required to provide proof of insurability or be forced to wait until the next annual open enrollment period. Open enrollment periods are offered on an annual basis which allows individuals to enroll without evidence of insurability or to make changes. An individual can make changes at any time if they have a change in status, such as adding an eligible dependent or change in employment status, such as going from full- to part-time employment. The cost of the plan is determined by the average age, size, industrial classification (nature of the work involved), experience rating (the group’s claims), and the personnel turnover history of the group. These factors are more important than the actual overall health of the group. Group Conversion There is a conversion period of 31 days in which the employee may, upon termination of eligibility and without evidence of insurability, convert their group life insurance benefit to an individual Permanent policy. The premium will be at a higher than normal rate to include the insurer’s guaranteed convertible surcharge because the majority of all conversions involve persons that would otherwise be uninsurable. Premiums will also be higher because the conversion policy will be issued at the attained (current) age of the insured and the policy will build cash values. 78 A.D.Banker&Company® MARKETS AND SOCIAL SECURITY The conversion period is also a grace period. In the event a terminated or ineligible employee dies during the conversion period, whether they were going to elect individual coverage or not, a death claim will be paid by the group policy, less the premium due for the benefit. Conversion Period Coverage If an employee under a group policy becomes entitled under the terms of the policy to have an individual policy issued without evidence of insurability (as long as an application is submitted with the initial premium) and is not given notice of this right within 15 days prior to the 31-day expiration period, the employee must be given an additional period to exercise this right. The additional period will expire 25 days after the notice but will not extend beyond 60 days after the 31-day period provided in the policy. Group Policy Provisions The following provisions must be included in a group policy as specified by the California Insurance Code: Incontestability The validity of the policy cannot be contested, except for nonpayment of premium, after it has been in force for 2 years. However, each new insured added after the group policy is issued is subject to their own 2-year period of contestability based on enrollment application information. Misstatement of Age A group policy must contain a provision allowing for the adjustment of premium or amount of insurance payable in the event of a misstatement of the age of an employee. A death claim payable for an insured whose age was misstated will be adjusted in relation to the misrepresentation, but does not affect the benefit payable for any other insured. Exclusions for War, Military, and Aviation Risks An employer group policy may provide for the exclusion or limitation of coverage for losses arising from conditions relating to war, military service, or aviation exposures. Facility of Payment The insurer may pay to a relative or anyone it deems entitled to the benefits in the absence of a designated beneficiary. Policy Continuation and Replacement Every policy containing a life insurance benefit must contain a reasonable Extension of Benefits upon discontinuance of the policy which will continue coverage for employees or their dependents who become totally disabled while insured under the policy and who continue to be totally disabled at the date of discontinuance of the policy. Every policy containing a life insurance benefit which does not contain a disability benefit provision must include a reasonable extension of benefits upon discontinuance of the policy if it provides the totally disabled employee the same rights of conversion to an individual life insurance policy that the employee would have had if employment had terminated on the same date. The extension of benefits may be terminated if the employee or dependent is no longer totally disabled or at such time as a succeeding carrier may elect to provide replacement coverage to that employee or dependent without limitation as to the disabling condition. A.D.Banker&Company® 79 CHAPTER SIX Blanket Life Insurance In California, a life insurer may issue Blanket Life insurance policies for a term not exceeding 1 year with premium rates less than the usual rates for such insurance as approved by the Commissioner. These policies may be renewed. Permitted Blanket Life insurance must conform to the following conditions: 6.2 The policy is issued to a newspaper, farm paper, magazine, or other periodical publication (these are considered the policyholders) The policy insures independent contractors, such as newspaper carriers, dealers, distributors, wholesalers, or other personnel engaged in the sale, distribution, collection, or other activities pertaining to the marketing and delivery of such publications The policy is written for the benefit of the persons insured, not the policyholder An individual (or guardian of a minor) can submit a written statement requesting not to be covered. If the number of persons filing such statements exceeds 10% of a specified category, coverage will not be issued or renewed. Specialized Plans Credit Life Insurance (Individual and Group) Credit Life insurance is typically issued in the form of a Group Term Life policy, and covers only the outstanding obligation of the insured debtor. The premium is either paid for by the debtor or the creditor. Although the purchase of Credit Life insurance is usually optional, it could be a standard requirement of the lender for all borrowers in order to qualify for a loan. If this is true, a debtor cannot be required to purchase the insurance from a specific agent or insurance company. When paid for by the debtor, the coverage tends to be Single Premium Decreasing Term, with the cost of the policy added to the amount borrowed. The borrower is free to obtain coverage from any admitted insurer. The creditor will be the irrevocable beneficiary, and in the event of the insured's death, the proceeds must be used to extinguish the debt. If the debt or policy is cancelled early, unearned premium must be refunded. 6.3 Business Uses of Life Insurance In addition to personal uses of life insurance, the business market also benefits from the purchase of life insurance. Business uses of insurance often mirror individual needs—to cover the unexpected death of business partners, executives, and key employees by providing funds for the continuation of the business, not for the heirs of the decedent. Buy-Sell Agreement A Buy-Sell Agreement contractually establishes the intent to purchase, at a predetermined value, the assets of a business if one of the contract participants (such as a business partner) predeceases the others. It may be used with a sole proprietorship, a partnership, or with stockholders of a closed corporation. 80 A.D.Banker&Company® MARKETS AND SOCIAL SECURITY Some of the advantages of having such an agreement: It is legally enforceable The value of the business is previously agreed upon It is an immediate and automatic method of transferring the deceased’s interest Some disadvantages of not having an agreement: Income to surviving family members stops Surviving business owners may suffer a loss of income Asset reduction due to forced liquidation The estate transfer may be delayed due to forced business liquidation Shares of ownership transfer to surviving relatives Any type of life insurance may be used to provide funds for the Buy-Sell Agreement. Premiums are not deductible, and policy proceeds are received income tax free. Types of Buy-Sell Agreements Cross Purchase Plan This is used when the partners of a business purchase life insurance on each other. At the death of one of the partners, policy proceeds are used to purchase that person’s interest in the business from their heirs. Each partner owns insurance on each of the other partners. Example There are 3 partners in a company valued at $300,000, then each would have a $100,000 interest in the company. Each partner would purchase a policy on the other partners, providing for a total of 6 policies (3 x 2 = 6). Each policy would be valued at $50,000 (6 x $50,000 = $300,000). Entity Plan Under this plan, a business entity enters into an agreement in which it is obligated to purchase the deceased person's interest. The entity typically buys life insurance policies on each of the partners. The entity would then name itself as the beneficiary of each policy. The death benefit of the policy would be equal to the predetermined purchase price as stated in the Buy-Sell Agreement. Upon death of one or more of the partners, the entity would use the death proceeds to purchase that partner’s interest. Example ABC Enterprises is worth $300,000, and each shareholder is an equal owner of the company, then the company would buy three $100,000 life insurance policies, one on the life of each owner. The policies would be owned by the company. ABC Enterprises would be named as the beneficiary. At the death of one of the partners, the company would have the funds necessary to buy the deceased’s interest in the company. A.D.Banker&Company® 81 CHAPTER SIX Key Person (Key Employee) Key persons are employees whose contributions have a significant impact on the revenue and profitability of the company, especially in small businesses. A Key Employee is an employee who contributes substantially to the success of a company. They are typically: Part of the management team Paid a higher income Respected by customers, creditors, suppliers, and vendors Directly responsible for sales, production, or service The life insurance proceeds from a Key Person Life insurance policy provides the necessary funds to recruit, hire, and train a replacement employee, restore lost profits, and reassure customers that the business operations will continue. Either term or permanent coverage can be used to fund the plan. The policy is owned by the employer, and may be retained by the employer or assigned to the employee upon termination of employment. Split-Dollar Plans A Split-Dollar Plan is not a tax-qualified plan, but it does provide a benefit for the employee’s family upon the death of an employee. Upon an employee’s termination of employment, the policy may be purchased from the employer at the full cost basis of the policy. This is a plan which insures the employee's life with premiums split between an employee and the employer. At the death of the employee, the full death benefit, less the collateral interest of the employer, is paid to the employee's beneficiary. A certain period of time must elapse before an employee is entitled to any of the cash value. Nonqualified Deferred Compensation This is an incentive plan in which an employer promises to pay highly compensated employees the full value of their voluntary salary deferral at a defined future point in time. Income taxes are deferred until the employee takes possession of the incentive funds. The employer is both the policyowner and the beneficiary. If the employee dies before retirement, the life insurance benefit is paid to the employer tax free, who in turn pays the employee's heirs, who will pay income tax. If the employee lives to retirement, the policy may be surrendered to pay the deferred compensation. A Supplemental Executive Retirement Plan (SERP) is a nonqualified deferred compensation plan that allows employers to provide additional retirement income to key, highly compensated employees beyond the benefits of traditional retirement plans. A Salary Continuation Plan is an agreement by an employer to continue a key employee's salary upon retirement, death, or disability as long as the employee continues employment during the term of the agreement. Benefits are usually expressed as a percentage or multiple of salary and may be funded with life insurance. 82 A.D.Banker&Company® MARKETS AND SOCIAL SECURITY 6.4 Third-Party Ownership When a policy is owned by a person other than the insured, it is known as a third-party ownership. The three parties involved in a third-party ownership are the policyowner, insured, and insurer. Examples of third-party ownership policies are: 6.5 A person owns a policy on their spouse A parent owns a policy on one of their children A business owns a policy on a key employee A business partner owns a policy on another business partner The Social Security System Funding Funding is provided by both employee and employer through Federal Insurance Contributions Act (FICA) withholding. The employer withholds the employee’s contribution and pays it along with the employer’s portion. Self-employed individuals pay an amount equal to the total of an employer and employee payment. Based on one’s taxable income and number of years in the workforce, each covered employee earns credits toward fully insured status and entitlement to Social Security benefits. The credits are based on annual income and allow a worker to accumulate up to 4 credits, or quarters of coverage, per year. Once eligible, the amount of monthly Social Security benefits is calculated according to a basic formula which determines each covered worker’s Primary Insurance Amount (PIA). Insured Status Fully Insured status requires an individual to have earned 40 quarters or credits, which is approximately 10 years of employment. A fully insured worker has permanent coverage under Social Security and cannot lose this status. Benefits that may be received under fully insured status are: Retirement income at age 62 or older Spousal retirement at age 62 or older Widows and widowers can begin receiving Social Security benefits at age 60 Disability and survivor's income benefits Premium-free Medicare Part A benefits and eligibility for Medicare Part B Currently Insured status requires the minimum requirement for workers under age 24 to obtain a currently insured status for disability benefits is to earn at least 6 quarter credits in the last 3 years (13-quarter period). Beginning at age 24, additional credits are required, based on the worker's age at the time of disability, to obtain currently insured status. A.D.Banker&Company® 83 CHAPTER SIX Types of Social Security Benefits Retirement At Full Retirement Age, a retired worker is eligible to receive monthly income equal to their PIA. The Full Retirement Age (FRA) varies based on year of birth, but is up to age 67. Covered workers may begin receiving retirement benefits as early as age 62, however, benefits will be permanently reduced. Delaying benefits beyond FRA will increase future benefits. Social Security retirement benefits may be modified each year for Cost-of-Living Adjustments. Retirement benefits are also payable to qualified dependents of a covered or deceased worker. Death Benefits A one-time lump sum payment of $255 may be made after the taxpayer’s death. This death benefit is only payable to a surviving spouse or minor children. Disability Income Benefits These benefits pay monthly disability income benefits to a qualified worker once they become eligible based on the Social Security definition of a disability. The individual must be unable to perform the duties of any occupation for 5 months before applying for benefits. This waiting period is not retroactive. Once approved, benefits will be payable in the 6th month until the injured worker qualifies for retirement benefits. Survivor Benefits A monthly Survivor Benefit is payable to eligible dependents of a currently or fully insured deceased worker. A surviving spouse with a dependent child is entitled to monthly income until the youngest child reaches age 16 (or a disabled child reaches age 22). Once the youngest child reaches age 16, the surviving spouse's benefits stop. An unmarried surviving spouse may start receiving retirement benefits at age 60. The blackout period is the time between when the youngest child reaches age 16 and the spouse is eligible for retirement benefits at age 60. Surviving children of a deceased worker are eligible for benefits and covered to age 18 or 19 if still enrolled in high school. Beginning at age 62, surviving parents are also eligible for monthly survivors benefits if being at least 50% supported by the deceased worker. Social vs. Private Insurance Social insurance is designed to provide basic benefits that an insured can build upon. It is not designed to replace private insurance, but to supplement it. Contributions to private insurance plans are voluntary, whereas participation in Social insurance plans are mandatory in most cases. 84 A.D.Banker&Company® 7 Federal Tax Considerations OVERVIEW The purpose of this chapter is to acquaint the student with federal income taxation of life insurance, annuities, and retirement plans. This chapter will also review qualified and nonqualified retirement plans, as well as the requirements set forth by the Employee Retirement Income Security Act (ERISA). Upon the completion of this chapter, you will be able to: 1. Identify taxation of premiums, cash values, policy loans, and dividends as it applies to personal life insurance 2. List the characteristics of a Modified Endowment Contract 3. Describe the taxation of group insurance premiums and proceeds 4. Recognize what constitutes a 1035 Exchange 5. Define the exclusion ratio in an annuity 6. Compare a qualified and nonqualified retirement plan 7. Identify ERISA requirements 8. Compare and contrast a Traditional and Roth IRA 9. List the types of qualified retirement plans 7.1 Taxation of Personal Life Insurance Premiums For individuals, premiums are considered a personal expense and are not deductible. They are paid with after-tax dollars. This establishes a cost basis in the policy for tax purposes. Cash Values A cash value policy may experience increases in the cash value annually. Part is from the premium, and part is from any interest or gains. The interest or gains are not taxable at the time they are credited to the policy. Any earnings in the cash value are allowed to grow on a tax-deferred basis until one of the following events occurs: The policy is surrendered The policy is transferred for value (sold or assigned) The policy ceases to meet the IRS definition of a life insurance contract If the policyowner does sell, surrender, or withdraw funds from the policy, the difference between what is received and what had been paid is taxed as ordinary income. This is the Cost Recovery Rule. A.D.Banker&Company® 85 CHAPTER SEVEN When withdrawing cash from a cash value life insurance policy, the amount of withdrawals up to the policy’s cost basis will be tax free. This is referred to as "first-in, first-out," or FIFO. The cost basis is the amount of premiums paid into the policy less any dividends or withdrawals previously taken. Any withdrawals in excess of the cost basis will be taxed as ordinary income. Upon surrendering a cash value life insurance policy, any gains will be subject to federal, and possibly state, income tax. The gain on the surrender of a cash value policy is the difference between the gross cash value paid out, plus any loans outstanding, and the cost basis in the policy. If the policy matures, the cash value will be paid as a lump sum. As with other distributions made while the insured is alive, the sum in excess of the cost basis is taxable as ordinary income. Policy Loans If a policyowner takes out a loan against the cash value of a life insurance policy, the amount of the loan is not currently taxable. This is true even if the loan is larger than the amount of the premiums paid in. The loan is not taxed as long as the policy is in force. If the policy lapses with a loan outstanding, the excess over cost basis becomes taxable as ordinary income. The interest paid on a permanent life insurance policy loan is not tax deductible. Dividends A participating policy’s dividend consists of the amount of premium that is returned to the policyowner if the insurance company achieves lower mortality and expense costs than expected. Dividends are paid out of the insurer’s surplus for that year. The dividends are not taxable since dividends are considered a return of unearned premium. When dividends are left on deposit with the insurance company, interest earned on dividends is taxable as ordinary income in the year earned. When dividends received exceed the total premium paid for the life insurance policy, the excess dividends are then considered taxable income. Death Benefit Proceeds (Claims) The death benefit, or face amount, of the policy is generally not considered taxable income when paid as a lump sum to a named beneficiary. If a settlement option is used instead of a lump sum payment, any interest or earnings component of each payment would be taxable as ordinary income. Estate Taxes and Considerations When an individual life insurance policy is owned by the insured, the value of the death benefit may be included in the insured’s estate, either intentionally or by default. The policyowner may name the estate as a beneficiary. These values will be added to the amount in the estate and potentially be subject to federal estate taxes. Accelerated Death Benefits The payment of an accelerated death benefit is tax free to a recipient if the benefit payment is qualified. To be a qualified benefit, the benefit must meet the following conditions: 86 A physician must give a prognosis of 24 months or less life expectancy for the named insured The amount of the benefit must at least be equal to the balance of the face amount remaining after payment of the accelerated benefit. The total amount of the payout cannot be less than 100% of the original face amount. The insurer provides a monthly report for the insured showing the amount paid and the amount of benefit remaining in the life insurance policy A.D.Banker&Company® FEDERAL TAX CONSIDERATIONS 7.2 Taxation of Group Life Insurance Premiums Paid by the Employer and the Employee Group Term Life premiums paid by an employer are tax deductible to the business as an ordinary and necessary business expense. Any employee paid premiums are not eligible for a tax deduction. Employer paid premiums in connection with group life insurance do not constitute taxable income to the employee unless the death benefit paid for by the employer exceeds $50,000. All employer paid premiums for amounts above $50,000 are reported as taxable income to the employee. Death Benefit Proceeds Death benefit proceeds from a group life insurance plan to an employee’s named beneficiary are received income tax free. 7.3 Modified Endowment Contracts (MECs) Prior to 1988, individuals could place large sums of money into a cash value policy (typically in a lump sum), and the cash would grow tax deferred until the insured died, at which point a death benefit is paid income tax free. Or if they needed cash, they could take a tax-free lifetime loan. These policies were used to avoid paying taxes. Under current law, if a policy is funded too quickly, it will be classified as a Modified Endowment Contract (MEC). MEC rules impose stiff penalties to eliminate the use of life insurance as a short term savings vehicle. 7-Pay Test When a contract does not pass the 7-Pay Test, it will be deemed a MEC. The 7-Pay Test is a limitation on the total amount that can be paid into a policy in the first 7 years. It compares premiums paid for the policy during the first 7 years with the net level premiums that would have been paid on a 7-Pay Whole Life policy providing the same death benefit. As long as the policy premium guidelines are met, the policy will avoid being deemed a modified endowment contract. If a policyowner pays premiums in excess of the guidelines, the excess premium can be refunded by the insurer within 60 days after the end of the contract year. Since a single premium life insurance policy clearly does not pass the 7-Pay Test, it will automatically be deemed a MEC. The other types of policies that could be classified as MECs are flexible premium policies such as Universal and Variable Universal Life. The flexible premium feature allows the owner to pay premiums on their own schedule. Once a policy is classified as a MEC, it will maintain that classification for the life of the policy. The overfunding cannot be undone in future years. Taxation If a contract is deemed to be a MEC, then any funds that are distributed are subject to a “last-in, first-out” (LIFO) tax treatment, rather than the normal “first-in, first-out” tax treatment. Taxable distributions include partial withdrawals, cash value surrenders and policy loans (including automatic premium loans). A.D.Banker&Company® 87 CHAPTER SEVEN Penalties If the contract is a MEC, all cash value transactions are subject to taxation and penalty. Funds are subject to a 10% penalty on gains withdrawn prior to age 59½. This is considered a premature distribution. Distributions made on or after 59½ and distributions paid out due to death or disability are not subject to the penalty. 7.4 Life Insurance Transfer for Value Rule The transfer-for-value rule was passed by Congress to discourage business transfers of ownership between parties looking to take advantage of the tax-free status of life insurance death benefits. If a life insurance policy is transferred to a new owner in return for any kind of material consideration, the transfer-for-value rule may result in the death benefit being partially or fully taxable at the time it is paid. The rule states that the amount of the death benefit that exceeds the value of consideration and any additional premium paid will be taxed as ordinary income. Example A $500,000 policy is transferred to a new owner and sold for $50,000. After the sale, the new owner pays $10,000 in life insurance premiums while the insured is alive. Upon death of the insured, $60,000 ($50,000 + $10,000) of the death benefit is received income tax free to the beneficiary while $440,000 is taxable ($500,000 – $60,000). 7.5 Section 1035 Exchanges Internal Revenue Code Section 1035 allows for the exchange of existing insurance policies into another without incurring any tax liability on the interest and/or investment gains in the current contract. These tax-free exchanges, known as 1035 Exchanges, can be useful if another insurance policy has features and benefits that are preferred or are superior to those found in an existing contract. One of the benefits of a 1035 Exchange is that the cost basis of the original policy will be transferred to the new policy in addition to any cash value. Policyowners must be aware that surrender charges might still apply on the existing contract, and a new surrender charge period may start after the exchange on the newly acquired policy. Further, the new insurance contract may have higher fees and charges than the old one which will reduce the returns or increase costs for such things as policy loans. Types of exchanges the IRS will allow on a tax-free basis are from: Life insurance to life insurance Life insurance to an annuity Annuity to an annuity Life insurance or annuity to long-term care But never an annuity to life insurance A 1035 Exchange will only take place after the newly applied for policy has been issued and accepted. Once the free look period has elapsed, the new insurer will request cancellation of the old policy and transfer of the cash value. 88 A.D.Banker&Company® FEDERAL TAX CONSIDERATIONS 7.6 Taxation of Annuities Individual Annuities Tax-qualified annuities are funded with pretax dollars. They’re also fully taxable at ordinary income rates when money is withdrawn because the premiums paid and subsequent premiums do not establish a cost basis. Nonqualified annuities are funded with after-tax dollars. The premium paid for the nonqualified annuity, along with any subsequent premiums, establishes the cost basis for the nonqualified annuity. In simple terms, the cost basis equals the total amount paid for the annuity. The basis is the starting point for establishing gains in the contract at the time of distribution or surrender. Any interest or other gains during the accumulation phase of the annuity are tax deferred. If the policy is cashed out for a lump sum, then any amount received in excess of the cost basis is taxable as ordinary income. If the policy is annuitized, then the original investment is returned in equal tax-free installments over the life expectancy of the annuitant. This portion of each payment is not taxed since they are simply a return of principal while the balance of monies received in annuity payments is the taxable gain or earnings. This is taxed at ordinary income tax rates even if the gains come from the investment separate accounts found within a variable annuity. Once the entire cost basis has been distributed to the annuitant, the remainder of payments during the annuitant's lifetime will be fully taxable as income. Exclusion Ratio In general, the way in which taxation of annuities is computed is referred to as the exclusion ratio. The IRS has tables and formulas to determine which part of the income benefit payment is tax-free return of premium and which part is taxable. A withdrawal or partial surrender is any amount distributed from the annuity that is not part of the annuitization process. Distributions are taxed on a last-in, first-out basis (LIFO). That means for income tax purposes, the first money out of the annuity will be gains, not principal, and will be taxed as ordinary income when withdrawn from the contract. Additionally, withdrawals made prior to the annuitant’s age 59½ are generally subject to a 10% early withdrawal penalty. The basic formula for computing the exclusion ratio is "Cost Basis" divided by "Expected Return" equals the percentage of each payment that will be excluded from taxation. Annuity distributions from a variable annuity are treated in a slightly different manner. Because the monthly payment can go up or down depending on separate account performance, the amount of future annuity payments can also go up or down. The IRS rules assume that there will be no change in payments over the lifetime of the annuitant. Once the exclusion amount is determined, it does not change. If actual monthly payments go down the taxable portion will be lower, and if payments go up, the taxable portion will be higher. Distributions at Death When the annuitant dies during the accumulation phase of the annuity, the unpaid annuity benefits are paid to the beneficiary as a death benefit. The beneficiary must pay income tax on any gain. A.D.Banker&Company® 89 CHAPTER SEVEN Estate Taxation During the accumulation phase, if the contract owner dies, the value of the annuity is included in the owner’s estate for valuation. If the annuitant dies during the annuity or payout phase, the remaining value in the account will be added to the deceased annuitant’s estate for valuation. However, if the annuitant was receiving income from a pure life or straight life annuity, the company keeps the balance and nothing is included in the annuitant’s estate for valuation. Corporate-Owned Annuities An annuity contract owned by a non-natural person is not treated as an annuity for federal income tax purposes so the contract‘s gains are currently taxed as opposed to being tax deferred. In short, there are no tax benefits when an annuity is owned by a corporation. 7.7 Life insurance and Qualified Retirement Plans Qualified Retirement Plans Qualified plans must meet the requirements of ERISA (Employee Retirement Income Security Act), which is a federal law that sets minimum standards for pension plans in private industry. ERISA does not require any employer to establish a pension plan. It only requires that those who establish plans must meet certain minimum standards. Qualified pension and profit-sharing plans were created by Congress to help employees accumulate assets for retirement and provide tax advantages for contributions made by employers. While there are generally no specific limitations on the types of assets that may be purchased to fund these plans, there are limitations on the types of benefits which may be included in a qualified plan. Specifically, there is restriction on the amount of life insurance that can be held in a qualified plan. The restriction is referred to as the incidental benefits limitation and the IRS has developed standards, or rules, to determine the allowable limits. Generally, life insurance will be considered incidental to a qualified plan if no more than 50% of the contributions are used to pay insurance premiums, and the insurance amount is not more than 100 times the expected monthly benefit amount. 90 A.D.Banker&Company® 8 Health Basics OVERVIEW The purpose of this chapter is to acquaint the student with the types of perils, losses, and benefits involved in health insurance. This chapter will also review the process of completing an application, underwriting, and delivering a health insurance policy. Health insurance, which may be referred to as accident and health or accident and sickness insurance, is purchased by the owner of the policy. The owner controls the policy, is responsible for the premium payments, and maintains all rights within the policy. The owner may also be the insured. Upon the completion of this chapter, you will be able to: 1. Identify the definitions of accident, sickness, peril, and pre-existing conditions 2. Understand the principal types of losses and benefits covered by accident and health policies 3. Classify the different underwriting actions that may be taken by an underwriter 4. Identify 4 sources of underwriting information 5. Explain the consequences of replacing a health insurance policy 8.1 General Definitions Term Definition Accident & Health Insurance Policy covering both injury and sickness. Accidental Bodily Injury A spontaneous event, unforeseen and unintended, resulting in injury. One of the following may be used: Accidental Losses Accidental Results – Requires only that the injury be unintended and unforeseen Accidental Means – Requires both the injury and the cause of the injury to be unintended and unforeseen; considered more restrictive Coinsurance The cost sharing between the insurer and the insured stated as a percentage of the claim amount, payable after the deductible has been met. Copayment A stated dollar amount that applies per claim in addition to any other costsharing. Deductible The initial amount payable by the insured before insurance benefits apply. Morbidity Table Table showing the mathematical probability of a loss due to a sickness or injury. This table is used to help determine premiums for accident and health insurance. The morbidity table is comparable to the mortality table used for life insurance rating. Pre-existing Conditions Prior medical conditions for which the applicant has received, or should have received, medical advice, diagnosis, or treatment within a specified period before the effective date of a policy. A.D.Banker&Company® 91 CHAPTER EIGHT Term Definition Probationary Period Specified period of time after the policy effective date and before claims are payable for specified conditions, such as losses due to a sickness or preexisting conditions. Sickness An illness or disease that is contracted after the probationary period has ended. 8.2 Principal Types of Losses and Benefits Disability Income (Loss of Time or Income) Contract that pays weekly or monthly benefits due to injury or sickness if an insured is totally disabled. The benefit is either a percentage of the insured’s regular earnings or a flat dollar amount. Medical Expense Contract that covers the various medically necessary expenses for health care and treatments, including hospitalization, which an insured may incur due to an accident or sickness. Dental Expense A form of health insurance covering the treatment and care of dental disease and injury affecting the insured’s teeth. Long-Term Care Expense Product designed to provide coverage for personal care services in a setting other than an acute care unit of a hospital, such as a nursing home or even one’s own home, for chronically ill persons who are impaired in 2 or more of the 6 activities of daily living. Accidental Death and Dismemberment Pays the principal sum (face amount) upon accidental death, loss of sight in both eyes, or loss of 2 limbs. It pays the capital sum per policy schedule (up to 50% of the face amount) for the loss of vision in 1 eye or loss of 1 limb. It may be a stand-alone policy or added as a rider to a Disability Income, Medical Expense, or a life insurance policy. 8.3 Classes of Health Policies Individual vs. Group Individual health insurance (including coverage for a family) is purchased by an individual and is not dependent upon an employer. Individual plans tend to be more costly than group plans and may have higher deductibles and out-of-pocket expense. Group insurance plans (employer sponsored) are available to employees and dependents. Group underwriting factors determine the premiums for the group, as opposed to underwriting each individual. The employer makes all decisions regarding the coverage under a group plan, but mandatory benefits must be offered. Proof of insurability is not typically required for an employee to obtain coverage under a group health plan. An ERISA-covered group health plan is an employee welfare benefit plan established or maintained by an employer or by an employee organization, such as a union, that provides medical care for participants and dependents through insurance. 92 A.D.Banker&Company® HEALTH BASICS Private vs. Government Most insurance is written through private insurers. Private insurers are commercial companies, such as stock and mutual insurers, or HMOs and PPOs, that sell to the general public. Insurance may also be offered through the government. Health insurance plans provided by the government include Medicare, Medicaid, and TRICARE for military personnel. 8.4 Producer Responsibilities in Individual Health Insurance Solicitation and Marketing Requirements Advertising The purpose of advertising regulation is to give a complete and accurate description to the public, prevent unfair competition, and set a minimum standard of conduct. In most states, including California, each insurer must provide the Department of Insurance a copy of any advertisement prior to its use. Each insurer must maintain at its home or principal office a complete file containing every printed, published, or prepared advertisement of its individual, blanket, franchise, and group policies. Advertisements are printed or published material, audiovisual material, and descriptive literature, including newspapers, magazines, radio scripts, television scripts, billboards, sales talks, presentations, and personal testimonials. Sales Presentation Agents are required to provide prospective health insurance buyers with all sales materials used when soliciting policies of insurance. Outline of Coverage An Outline of Coverage (also called a policy summary) must be provided to a prospective buyer of health insurance at the time of application or policy delivery. The outline of coverage includes benefits, premiums, and other relevant information regarding the sale of the policy. Additional requirements: Insurance companies are responsible for the accuracy of their personal testimonials Insurers may include statistical information as long as it is accurate and the source is named The agent must include the full name of the insurer when advertising a certain type of policy When an agent misleads the public in an advertisement, both the insurer and agent are held accountable When insurers advertise that a group endorses a certain health product, the public must be made aware of any control the insurer may have over the group When insurers advertise by comparison of like products, the comparisons must be complete and include rates, policies, benefits, and dividends The history of a very high or unique claim settlement cannot be used in advertising by the agent or insurance company A.D.Banker&Company® 93 CHAPTER EIGHT Prohibited Forms of Advertising 8.5 No advertisement of a hospital or facility confinement benefit shall advertise that the amount of the benefit is payable on a weekly or monthly basis when, in fact, the amount of the benefit is based on a daily pro rata basis related to the total amount of days of confinement An advertisement cannot use the words: “only,” “just,” “merely,” “minimum,” or similar words to imply a minimal imposition of restrictions and reductions An advertisement cannot imply that claim settlements are generous or liberal or use similar words to imply the same thing Any advertisement that uses a policy title to misrepresent or that might misrepresent coverage is unlawful Individual Disability Insurance Underwriting The Policyowner is the person applying for insurance coverage and is responsible for completing an application. The owner may or may not be the insured, or the person being covered for a loss under the policy. Typically, benefits are payable to the insured in a health insurance contract. The policyowner may select a Beneficiary who will receive benefits under the contract if a loss occurs. If the policy provides a death benefit and the insured dies before the benefits are paid out, the named beneficiary will receive payment from the claim. The primary beneficiary is the first in line to receive a benefit. A secondary beneficiary may also be named in case the primary beneficiary dies before the insured. Both the owner, or applicant, and the insured must be present and sign the application. Field Underwriting Nature and Purpose Field underwriting is very important due to the risk of a moral hazard. It is the initial step of the total process of insuring a health risk. It includes the agent’s initial personal contact with the applicant and the determination of insurability while assisting the applicant in recording information on the application. Fundamentally, the purpose is to be certain that a prospective insured individual or group has the same probability of loss for which the premium rate is based. Completing the Application and Field Underwriting An application is a written formal request by an applicant to an insurer requesting the insurer issue a policy based upon information contained in the application. It is the producer’s responsibility to probe beyond the stated questions, which is known as field underwriting. The application is the primary source of information for an insurer underwriting a potential risk. If attached to the policy, a copy of the application becomes part of the entire contract. The application must be completed accurately and truthfully to the best of the agent's ability. Required Signatures Both the producer and the applicant/insured must sign the application. The applicant is representing that statements on the application are true. If the applicant is a minor, a guardian must sign the application. Changes in the Application If an answer to a question on the application needs to be changed, the producer or applicant may make the correction. The applicant must initial the change, or the producer can complete a new application. 94 A.D.Banker&Company® HEALTH BASICS Consequences of Incomplete Applications It is the producer’s responsibility to make certain the application is filled out completely, correctly, and to the best of the applicant’s knowledge. The underwriter will most likely return an incomplete application to the producer for completion by the applicant. If a policy is issued based on an incomplete application, it is assumed the information is not material to the issuance, and the insurer waives the right to challenge a claim based on the incomplete application. Collecting the Initial Premium and Issuing the Receipt If a premium is paid at the time of application, the producer will provide the owner with a conditional receipt. The conditional receipt provides coverage effective back to the date of application as long as coverage is issued as applied for or better. If a loss occurs before the policy is issued, the insurer would have to prove the policy would not have been issued as applied; otherwise, the loss is covered based on the terms of the receipt. If a producer does not collect the initial premium to submit it along with the application to the insurer, the policy will not go into effect until the application has been approved and the policy has been issued. Disclosures and Consent Notice of Information Practices and Disclosure – Fair Credit Reporting Act (FCRA) The insurance company must meet requirements under the FCRA when gathering information from a third party to use during underwriting. The applicant must be notified and give consent for information to be received by a third party. This information is disclosed as part of the application. The signature on the application by the applicant serves as the notice of information practices. This gives the insurance company the right to obtain the various investigative, medical, and financial reports to compete the underwriting process. HIPAA Disclosures and Consent Health care providers are required to preserve patient confidentiality and protect health and medical information. All medical information obtained on an applicant during the underwriting process must remain confidential and the applicant’s privacy must be protected. Before an insurer can share any medical information, the applicant must be notified of the treatment of the information, rights to maintain privacy, and an opportunity to refuse the dissemination of information. Insurable Interest Before the process of underwriting begins, the underwriter will make the final determination as to whether insurable interest exists. In California, every person has an insurable interest in the life and health of: Themselves Any person on whom they depend wholly or in part for education or support Any person under a legal obligation to them for the payment of money or respecting property or services, of which death or illness might delay or prevent the performance Any person upon whose life on which any estate or interest vested in them depends A.D.Banker&Company® 95 CHAPTER EIGHT Underwriting Factors Underwriting is the process of selection, classification, and rating determination if someone is insurable, classifying the risk, and determining the rate or premium to be charged. The sources of underwriting include the application, medical exams, an Attending Physician’s Statement, the Medical Information Bureau (MIB) report, an inspection report, and the agent’s report. Underwriting involves analysis of the applicant to determine if they are acceptable for the proposed insurance. It also attempts to eliminate conditions with more frequent and higher claims than the insurer’s rates anticipate. Individual underwriting factors may include: Age Gender Tobacco use Occupation and hobbies (degree of risk); if more than 1 occupation, the most hazardous will be used Physical condition Moral hazard/financial hazard Health history Foreign travel/residence Other insurance Plan applied for Information Sources and Regulation of Underwriting Application Part I – General: Contains general questions about the applicant, such as gender, marital status, residence, date of birth, occupation, and past and present insurance. Part II – Medical: Contains questions pertaining to medical background, past and present health, any medical visits, hospitalizations, or surgeries in recent years, and medical status of immediate family members, including their ages and causes of death. Medical Examination Records of an examination conducted by a medical professional regarding the applicant’s present health. It is usually requested by the insurer after determining if the amount of coverage, age of applicant, or health history warrant the examination. Medical exams are the insurer’s expense. Attending Physician Statement (APS) Used in cases in which the individual application and/or medical reports reveal conditions of which more information is required. This statement is completed by the applicant’s personal physician treating a specific condition. An applicant must sign a written release to enable a release of the APS. MIB Inc. Report (Formerly the Medical Information Bureau) The primary purpose of the MIB is to collect adverse medical information about an applicant’s health (supported by insurance companies) and act as an information exchange. The MIB is a member-owned corporation that operates on a not-for-profit basis. The MIB’s underwriting services are used exclusively by MIB member life and health insurance companies to assess an individual’s risk and eligibility during the underwriting of life, health, disability income, critical illness, and Long-Term Care insurance policies. These services “alert” underwriters to fraud, errors, omissions, or misrepresentations made on insurance applications. The MIB may help lower the cost of life and health insurance for consumers. 96 A.D.Banker&Company® HEALTH BASICS The MIB’s coded reports represent general medical information and other conditions (typically hazardous hobbies and adverse driving records) affecting the insurability of the applicant. If the coded reports are inconsistent with the information provided by the applicant, underwriters are required to conduct a further investigation to obtain more information about the reported medical histories or conditions prior to making an underwriting decision. Because the MIB information is general, the report cannot be used for the sole purpose of declining an applicant for insurance. Inspection Report A general report of the applicant’s finances, character, morals, work, hobbies, and other habits. This is sometimes referred to as a Consumer Investigative Report. This can be completed by the insurer or a third-party provider. The applicant must be made aware of any information gathering and has rights provided under the FCRA. Agent’s Report The Agent's Report is a personal statement submitted by the producer to the insurer regarding any personal knowledge of the applicant, including information observed during the application process. This information remains confidential between the agent and the insurer, and it does not become part of the entire contract. Individual Selection Criteria The insurer uses all of the information collected by the field underwriter and other sources to determine the acceptability of an individual. It is ultimately the home office underwriter’s responsibility to determine if this individual meets all the underwriting requirements set forth by the insurer. Example The insurer receives a prepaid application. Upon the receipt of the MIB report, health problems are revealed. The underwriter will, at this time, require additional information in the form of an Attending Physician Statement (APS) and/or possibly a medical examination. The underwriter may rate or deny the application based on this additional information. The MIB report reveals past medical concerns and cannot be used as the only medical report for rating or denying an application. Classification of Risks Premium Determination and Rating Disability insurance requires underwriting similar to life insurance, but the risk to the insurance company is different. Underwriters are concerned about the probability of illness or injury rather than death. Upon receipt of the necessary information, the home office underwriters analyze accident and illness history, exposure to environmental hazards, and working conditions in order to determine if the applicant is an acceptable risk. If acceptable, underwriters determine the classification to be used in the calculation of the premium. A.D.Banker&Company® 97 CHAPTER EIGHT Assumptions and Calculations of Premiums Premiums are always paid in advance and are invested and earn interest for the insurer. Factors in premium determination include the morbidity charge, which is based on the risk factor of the insured less any interest credited to the insurance company, plus insurance company expenses. Premiums are calculated using the following: Morbidity – The predicted number of claims resulting from illness or injury in any given year for a specific group of insureds. Morbidity tables are used to provide statistics that give the company a basic estimate of how many insureds might be expected to suffer an illness or injury in any year. Interest – The second factor used in calculating the premium is interest earnings. Companies invest premiums in bonds, stocks, mortgages, real estate, etc., and assume it will earn a certain rate of interest on these invested funds. Expenses – The amount charged to cover each policy’s share of operation expenses (salaries, commission, and cost of doing business) is called expense loading. This can vary from company to company based on its operations and efficiency. Morbidity - Interest = (Net Premium) + Expenses = Gross Premium Mode of Premium Modes of premium payment refer to the frequency in which a premium may be made. Premiums can be paid monthly, quarterly, semiannually, and annually. The more frequently the premium is paid, the higher the overall cost of the policy due to the company’s higher administration costs and loss of investment income. Policy Reserves A reserve is an amount based on net premium representing actual or potential liabilities kept by an insurer to cover future claims and other obligations. When assets exceed liabilities, the insurer has a surplus. Participating policies pay policy dividends to policyowners out of earned surplus. Earned vs. Unearned Premium Premiums are earned for each day the policy is in force. Premiums paid in advance are considered unearned premiums. Underwriting Actions and Classification Upon completion of the underwriting process, the insurer’s underwriter will take one of the following actions: 98 Issued as a Preferred Risk – A lower rate will be used if the insured meets the insurance company’s qualifications as a preferred risk (lower than average risk). Issued as a Standard Risk – The coverage requested at the rate that was quoted. Some health insurance may only be issued with standard rates. Premium rate-up would still be permitted for tobacco users. Issued as a Substandard Risk □ Issued Rated-up – Issue the coverage requested but at a higher rate. Higher premiums are required due to the greater potential for a larger number of claims. □ Issued with Exclusions/Limitations – May be temporary or permanent; limits the insurer’s obligation to pay. The rider used to exclude coverage for existing conditions is sometimes referred to as an Impairment Rider. Rejection – The policy is not issued and will be declined since the applicant is considered an excessive risk. A.D.Banker&Company® HEALTH BASICS Delivering the Policy The premium paid by the applicant is the Offer and the policy issued by the insurer is the Acceptance. The insurer will send the policy to the agent for delivery, but coverage is in effect as of the date of application with Conditional Approval if it is accompanied by premium, or date of a completed medical exam, if required. When the insurer determines that a particular applicant is an acceptable risk and has paid the premium, the insurer will send the policy to the producer for delivery to the insured. It is the producer’s responsibility to deliver the policy and explain it so the insured understands the benefits, provisions, riders, exclusions, and ratings endorsements. If no initial premium is paid, the application is considered a “trial application.” The policy then becomes the offer and upon delivery the premium is the acceptance. The insurer will send the policy to the producer for a formal delivery. There is no coverage until a signed Statement of Good Health and premium are collected at the time of delivery. The Statement of Good Health is a signed statement by the applicant that everything stated on the application is still true. If the applicant’s health has changed since application, the policy should be returned to the insurer, or the producer may deliver the policy after the insurer grants permission. 8.6 Replacement Considerations Replacement If replacing an individual health or disability policy, care must be taken to compare limits of coverage, benefits, and exclusions. The process of replacement includes cancelling an old policy upon the purchase of a new policy. The current policy should not be cancelled before the new policy is issued, otherwise this could leave the applicant without coverage. The new policy may require underwriting to prove evidence of insurability which can affect the coverage and premiums of the new policy. Upon issue of a new policy, depending on the type of health insurance, there may be a new waiting period (probationary period) for pre-existing conditions or the policy may be issued with lower benefits, limitations, or exclusions of coverage the insured had in the old policy. Premiums may also be higher in the new policy. A Notice Regarding Replacement must be signed by both the policyowner and producer, acknowledging the replacement situation and risks involved. Both the existing and replacing insurer must receive a copy of the notice. A.D.Banker&Company® 99 9 Medical Expense Plans and Concepts OVERVIEW The purpose of this chapter is to acquaint the student with the characteristics and features that distinguish many of the various health care providers as to their philosophies in the delivery of health care. Health insurance policies are usually written with a 1-year policy term. Upon the completion of this chapter, you will be able to: 1. 2. 3. 4. 5. 6. 7. 8. 9.1 Define earned and unearned premium Identify the differences between indemnity and service providers Distinguish which providers have insureds and which have subscribers Compare and contrast the characteristics of an HMO, PPO, and a POS Explain the role of a primary care physician or gatekeeper Recall the terminology associated with major medical expense plans List 3 limited medical expense policies Recognize the types of dental care coverages and plan types General Definitions Term Definition Earned Premium Portion of a premium for which protection has already been given Unearned Premium Portion of a premium for which policy protection has not yet been given Service Area The primary geographical area of coverage and service provided by a Health Maintenance Organization (HMO) Subscriber A person applying for coverage through a service provider Insured A person applying for coverage through an indemnity provider 9.2 Classification of Healthcare Plans and Benefit Structure Indemnity (Reimbursement) Plan The insured can choose any doctor or hospital without referrals or a primary care physician. The plan requires the insured to pay up front for services, and then submit a claim for reimbursement. The insurer will pay benefits directly to the insured as specified in the policy up to the amount of expenses incurred. Indemnity plans are generally marketed through commercial insurers. 100 A.D.Banker&Company® MEDICAL EXPENSE PLANS AND CONCEPTS Service Plan The plan pays benefits directly to the providers of health care rather than as a reimbursement to the subscriber. Plan participants are called subscribers and pay a premium or subscription fee in exchange for the service provided. Service plan providers include Health Maintenance Organizations (HMOs), Preferred Provider Organizations (PPOs) and Point of Service plans (POS). The plans have a contractual agreement with a healthcare provider to accept a negotiated fee for services. Self-Funded Plans A plan in which the sponsor (employer, labor union, fraternal organization) chooses to pay claims from its own resources. A self-funded plan may or may not be insured. The employee/ member ultimately retains liability for all expenses incurred. In California, labor unions, fraternal organizations, and co-ops may opt for a self-insured medical and disability plan, but not death benefits. Benefit Structure of Plans Usual, Customary, Reasonable (UCR) Benefits are based on the average fee charged by all providers in a given geographical area. This is the allowable charge insurers are willing to pay. Any amount charged over the UCR amount and the balance of any overcharges or costs of any disallowed services are the insured’s responsibility. 9.3 Healthcare Provider Settings While most health care is still provided in the setting of a doctor’s office or hospital, there are alternatives to the traditional healthcare facilities. Health care may also be provided in the following settings: Surgicenter A facility where outpatient surgery is performed for those patients that require general anesthesia but are not required to stay overnight. The cost of care provided at a surgicenter will be less expensive than an overnight stay in a hospital. Urgent Care Center A facility, usually staffed 7 days a week, where a patient can receive treatment for acute, but non-life threatening, medical conditions without an appointment. The cost of care provided at an urgent care center will be less expensive than a visit to a hospital emergency room. Skilled Nursing Facility A facility licensed by the state that provides medically-necessary care for persons who do not require the services of an acute care hospital. Staff and care is supervised by at least one registered nurse on duty 24 hours a day, and care is under the direction of a licensed physician. Home Health Care This type of care is for patients that are at home but cannot fully provide for all their needs. Often this care is provided by a visiting nurse or home health aide. A.D.Banker&Company® 101 CHAPTER NINE 9.4 Health Maintenance Organizations (HMOs) An HMO is regarded as a managed healthcare system providing a comprehensive array of medical services on a prepaid basis, which means little or no out-of-pocket expenses. Members enrolled in Managed Care plans are called subscribers, as opposed to insureds. All subscribers must live within a specific geographic region called the service area. The HMO has a contract with medical providers within the service area and subscribers must seek treatment from a contracted provider. Coverage will not be provided outside the service area, except in cases of an emergency, unless prior authorization is obtained. HMOs emphasize preventive medicine by providing prepaid routine medical exams, wellness programs, and diagnostic screenings. Early detection of a condition reduces unnecessary procedures, surgeries, and hospitalizations. Although HMOs provide services on a prepaid basis, members may be required to make a copayment for office visits and hospital services. The copayment is considered an administrative fee and is not based on the specific services provided. The copayment helps to discourage unnecessary use of medical resources, such as emergency room services for non-emergency care. Subscribers do not file claims or receive a bill. HMO primary care physicians are paid based on a Capitation Fee, a fixed monthly payment made for each subscriber enrolled in the doctor's office regardless of the services provided. HMOs are deemed to be both a healthcare financing and servicing mechanism. The principal objectives are to reduce medical expenses by: Stressing preventive medicine through physical exams and diagnostic procedures Reducing the number of unnecessary hospital admissions Reducing the average number of days per hospital visit Reducing duplication of benefits Saving on administrative costs HMOs are required to provide basic healthcare services, including the usual physician, hospitalization, prescription drugs, laboratory, X-ray, urgent care, emergency and preventive services, and out-of-area coverage for emergency care. Payments are provided to member hospitals on a predetermined basis. Emergency care outside of the network must be covered for necessary services at the nearest emergency room. Other supplemental benefits, such as medical equipment, adult dental care and vision, physical therapy, and chiropractic services are optional. Physician services include care provided by a Primary Care Physician (PCP) also known as a Gatekeeper. This is a physician who provides both the first contact for a person with an undiagnosed health concern as well as continuing care of varied medical conditions. The PCP will either provide treatment, or make the determination to refer the subscriber to a specialist. Since the specialist or referral physician is more costly, the HMO will require subscribers to seek treatment first through a PCP. 102 A.D.Banker&Company® MEDICAL EXPENSE PLANS AND CONCEPTS Primary Care Physician vs. Specialist Physician Primary Care Physician A Primary Care Physician (Gatekeeper) monitors health care needs and helps to control costs by not recommending unnecessary services (including referrals to other physicians and specialists). Not utilizing the primary care physician will cause a claim to be denied. The primary care physician will determine if the covered person needs ongoing care from a specialist. Specialist Physician A Specialist or Referral Physician will treat a member if the primary care physician has made a referral, usually after all other treatments have been exhausted. Examples of specialists include neurologists, cardiologists, and oncologists. After an HMO has been in operation for 24 months, it may have an annual open enrollment period of at least 1 month during which it accepts enrollees up to the limits of its capacity. Standard HMO Modes There are 3 standard HMO models: Group Model The HMO contracts with an independent medical group to provide a variety of medical services to subscribers. Under the agreement, the HMO pays a capitation fee to the medical group entity directly. A capitation fee is a fixed amount paid monthly per subscriber. The medical group will then pay the individual physicians who remain independent of the HMO. Staff Model Contracting physicians are paid employees working on the staff of the HMO. They generally operate in a clinic setting at the HMO’s physical facilities. As hospital services are required, staff doctors and HMO administrators arrange for these services. The staff model is considered closed panel since the providers do not work outside of the HMO and subscribers must use the providers on staff for treatment, with very few exceptions. Unlike the group model, practitioners in the staff model are under no financial risk. The HMO, as the employer, takes the risk. Independent Practice Association (IPA) Model This model gives HMO members the maximum freedom of choice of physicians and locations because the HMO is allowed to contract with a network of independent physicians who are part of an independent practice association. Physicians operate out of their own private offices and subscribers may be individuals the physicians were already treating. Payment to physicians is by capitation (per subscriber) or on a fee-for-service basis negotiated in advance. Since the IPA model contracts with physicians in private practice who also treat non HMO patients, this is considered an open panel plan. 9.5 Preferred Provider Organizations (PPOs) PPOs are an arrangement under which a selected group of independent hospitals and medical practitioners become preferred providers in a geographic area. Unlike an HMO prepaid plan, the providers perform services to subscribers and charge a discounted fee-for-service negotiated in advance. Payment is made directly to the provider after treatment is received. The contracting agency or organizer of a PPO might be a commercial insurance company, Blue Cross/Blue Shield, local group of hospitals and physicians, an HMO, large employers, or trade unions. A.D.Banker&Company® 103 CHAPTER NINE PPO subscribers may see any licensed physician or health care professional, and use any hospital or ancillary facility, in or out of the local network. A subscriber's out-of-pocket expense will be lower when using in-network providers. PPOs share the concept of cost reduction by healthcare management and differ from HMOs in that PPOs do not have separate physical facilities and are not as capable of controlling expenses other than negotiating standard fees for services with its network providers. Exclusive Provider Organization (EPO) An EPO is a type of PPO that requires a subscriber to seek treatment from a limited number of network providers. Unlike an HMO, use of a primary care physician and referral to a specialist are not required and the provider is paid a negotiated fee-for-service. 9.6 Point of Service (POS) These plans combine PPO and HMO benefits. Members can choose which part of the plan to use at the point of service. If the subscriber stays in network (open-panel HMO), benefits are paid as an HMO. A primary care physician will apply, and referrals will be necessary if the plan is being utilized as an HMO. If the subscriber uses an out-of-network provider, they will have a higher out-of-pocket responsibility. This feature is similar to an indemnity plan, and the provider will be paid based on a fee-for-service. 9.7 California Jurisdiction The California Department of Insurance (CDI) has jurisdiction over entities that provide coverages designed to pay for health care providers’ services and expenses unless the health care providers are appropriately licensed or certified by other governmental agencies. The CDI is the primary regulator of issuers of most Preferred Provider Organizations (PPOs) and Exclusive Provider Organizations (EPOs) and other disability insurance companies. The California Department of Managed Health Care is the primary regulator of issuers of all Health Maintenance Organizations (HMOs) and Point of Service (POS) plans, along with some PPOs and EPOs. Information can be found at: www.dmhc. ca.gov. 9.8 Major Medical Policy Major Medical Policies provide benefits for potentially catastrophic and/or prolonged injury or illness. These policies include a lifetime limit. The limit does not include the out-of-pocket expenses the insured pays, including deductibles and coinsurance amounts. Hospice and home health care are not normally covered. Major medical expense policies are characterized by the following provisions: 104 Deductible – An initial amount the insured must meet per year before benefits are paid. This applies as per person or family. Deductibles can vary in cost and are designed to allow the insured to assume a portion of the risk. Changing the deductible will affect the premium cost. Higher deductibles result in a lower premium. Coinsurance – After the annual deductible has been met, the coinsurance feature applies. Coinsurance is a cost sharing feature and is stated as a percentage of sharing between the insurer and the insured, such as 80/20, 70/30, 60/40. The insurer pays the larger amount. Stop-Loss Provision – Also called Stop-Loss Limit, this is the maximum dollar limit set on the coinsurance to limit the out-of-pocket expense that an insured can incur in a policy year. This may or may not include the deductible. Once the out-of-pocket limit has been reached, A.D.Banker&Company® MEDICAL EXPENSE PLANS AND CONCEPTS the Stop-Loss Provision kicks in and the policy will cover 100% of covered losses for the balance of the year. Common Accident Provision – If several family members are injured in the same accident, only one deductible is applied. Family Deductible – If a family is insured, a maximum of 2 or 3 deductibles will satisfy the deductible requirement for the entire family per calendar year. Carryover Provision – Expenses that did not satisfy the previous year’s deductible and were incurred in the last 3 months of that year are used towards satisfying the current year’s deductible. 9.9 Individual Medical Expense Plan Benefits and Provisions Newborn Infant Coverage All individual health insurance policies providing coverage for dependents of the insured must provide coverage for the insured’s newborn child from the moment of birth. Adopted children are covered at the date of placement for adoption. The coverage must include injury and sickness, including the necessary care and treatment of medically diagnosed congenital defects and birth abnormalities. Notification of birth or adoption and payment of the required premium must be within 31 days after the date of birth or adoption, in order to continue coverage beyond 31 days; otherwise, the coverage is only for 31 days. Dependent Child Coverage (Limiting Age Law) Federal law requires that every policy providing coverage for a dependent child extends coverage up to age 26 (through age 25). This includes natural children, adopted children, married or unmarried, even if eligible for other insurance. There is no requirement for a dependent child to be enrolled as a full-time student to qualify. Mental Health and Substance Abuse Every medical expense policy must offer coverage for mental illness and substance abuse. Coverage will be subject to the same deductibles and coinsurance factors as those that apply to any physical illness. Includes coverage on an inpatient and outpatient basis. 9.10 Medical Expense Insurance Optional Benefits Adult Vision Care This stand-alone coverage provides for one routine annual examination and may provide payment for the cost of lenses, frames, and contact lenses. It does not pay for sunglasses or safety glasses. This coverage also does not pay for medical expenses incurred from disease or injuries to the eye. Adult Dental Expense Dental plans may be limited and provide for scheduled benefits. Comprehensive dental plans are usually stand-alone policies. A.D.Banker&Company® 105 CHAPTER NINE 9.11 Common Exclusions from Coverage Exclusions are causes or conditions listed in the policy that are not covered and for which no benefits are payable. If an exclusion rider is added by the insurer after the application is taken and a receipt has been issued, coverage is effective when the insured accepts the policy. The following exclusions are typical of those found in some individual or group disability policies or medical expense policies, depending upon the insurer: War or any act of war Elective cosmetic surgery Medical expenses payable under Workers’ Compensation, or any Occupational Disease Law Military service and overseas residence Coverage payable under a government plan Commission or attempt of a felony 9.12 Limited Benefit Plans Limited benefit policies that specify the exposure to be covered and the amount of the corresponding benefit. These policies will pay only under specific limited conditions. Types of Limited and Voluntary Policies Accidental Death and Dismemberment Provides that the face amount, or Principal Sum, will be paid if the insured dies due to an accident within 90 days from the date of the accident. The principal sum will also pay if an insured loses total eyesight (both eyes) or the loss of any two limbs due to an accident. The Capital Sum, typically 50% of the principal sum, may be paid for the loss of one limb or sight in one eye due to and within 90 days of the accident. Limited Travel Accident Provides benefits for expenses incurred for accidental injuries only that are usually associated with specific events. Critical Illness (Dread Disease or Limited Sickness Plans) Provides specific benefits for a specified sickness, such as cancer. Hospital Income or Indemnity (Cash Payment) Pays directly to the insured a specified dollar amount per day during hospitalization. Payment is based solely on the number of days the insured is hospitalized. It pays the daily amount stated in the policy. Policies may limit claims to hospitalizations due to injury only. Credit Insurance (Credit Disability Insurance) Covers a debtor, with the creditor receiving benefits to pay the debt if the debtor becomes disabled as defined in the policy. It is commonly sold as a group plan; however, individual contracts may be written. Benefits are generally limited to pay the "minimum monthly payment" rather than a fixed amount intended to pay off a debt. If the debt is an open-end credit arrangement, benefits may be limited to 18-24 months of payments. Coverage may not exceed the total amount of the debt or the amount of the monthly payment. 106 A.D.Banker&Company® 10 Disability Income OVERVIEW The purpose of this chapter is to acquaint the student with the various types of Disability Income insurance products and their features, characteristics, and uses. Also discussed are various riders that can be used to alter, amend, or modify the underlying policy. Upon the completion of this chapter, you will be able to: 1. 2. 3. 4. 5. Differentiate between a Loss of Income and Income Replacement policy Define benefit period and elimination period Explain the difference between own occupation and any occupation List 4 types of disability benefits Compare the characteristics of a group short-term disability plan and long-term disability plan 6. Identify the special uses of disability income 7. Recognize 12 riders associated with Disability Income insurance 10.1 Disability Income Insurance Disability Income Insurance is sometimes referred to as “the forgotten need.” Many workers think they have coverage through Workers’ Compensation insurance without realizing it does not provide coverage for disabilities which occur outside of work. Social Security does provide disability benefits, but qualifying for Social Security Disability Income is not likely due to the restrictive requirements needed to qualify. Having a disability that leaves an individual unable to work not only eliminates income, but may also increase expenses due to cost of medical care, rehabilitation, and possibly inhome assistance. The financial impact of a disability may be greater than that of premature death. To protect against these losses, an individual may choose to purchase a Disability Income policy. Types of Policies Disability Income (Loss of Income or Time) Policy Pays an income benefit when the insured is unable to work due to illness or injury (even if injured on vacation). Benefits are paid weekly or monthly and determined as a flat benefit or a percentage of the insured’s current earnings (normally 60% – 70%). The full income is not paid in order to reduce malingering. In other words, if the insured received 100% income replacement, they would not be very motivated to recover and return to work. A.D.Banker&Company® 107 CHAPTER TEN Pure Loss of Income (Income Replacement) Policy Under this policy, the insured will receive benefits if loss of income is due to a covered accident or sickness, but without the need to be totally disabled. With traditional Disability Income policies, there has to be a loss of time to trigger coverage, but under the Pure Loss of Income policy, the insured is eligible based solely on a decrease in income due to a covered disability. The insurer will consider any other sources of disability income the insured may be entitled to when underwriting the policy. The purpose is to prevent overinsurance that could cause a moral hazard or fraudulent claim. Disability benefits are typically paid monthly, but can be paid on a weekly basis. The amount of the benefit payable is found in the policy and is based on income reported at the time of application. Characteristics of a Disability Income Policy Elimination Period The elimination period, sometimes referred to as a “time deductible,” is the length of time an individual must be totally disabled and have to wait before benefits become payable. The elimination period for a disability due to an illness may be longer than for an injury due to an accidental injury. For example, a policy may have a 6-month elimination period for loss due to a sickness and waive the elimination period to provide immediate coverage in case of an accident. The elimination period can be selected by the policyowner at the time the policy is purchased. The length of the elimination period will directly affect the premium. A shorter waiting period will result in a higher premium. Benefit Period The length of time the insured is eligible to receive payments after the elimination period has been met. The benefit period may be written for a specified number of years (1, 2, 3, 5, or 10 years), to a specified age (65 or 70), or for the life of the insured. The policyowner can purchase a policy with a short or long benefit period. A longer benefit period will result in a higher premium. To make disability coverage more affordable, a person could choose a very short elimination period (7-10 days) and a short benefit period (such as 12 to 24 months), and combine that with a longterm disability policy with a 2-year elimination period, instead of buying a single policy with a long benefit period and short elimination period. 10.2 Qualifying for Disability Benefits There are two types of disability policies that can be purchased as an individual plan or part of a group plan that determine how a worker qualifies for benefits: 108 Occupational – The policy covers a disability due to injury and sickness which occurs either on or off the job. Nonoccupational – The policy covers a disability due to injury and sickness which occurs off the job only. A.D.Banker&Company® DISABILITY INCOME Definitions of a Disability Total Disability Disability policies will pay benefits according to one of two definitions of total disability. Own Occupation – Some policies require the insured’s inability to perform the main duties of their own occupation. This definition often applies for the first 2 years of a disability, then changes to any occupation. This definition is the least restrictive and is easier to qualify for benefits. It is typically reserved for more skilled occupations and may result in a higher premium. Any Occupation – Some policies are stricter and require the insured to be unable to perform the duties of any occupation for which they are reasonably suited by reason of education, training, and experience. This definition is more restrictive and harder to qualify for benefits. In order to qualify for disability benefits, it may be required that the insured be under the care of a physician, regardless of the definition used in the policy. Permanent Disability A disability that impairs the insured’s ability to work and from which full recovery is not possible. Temporary Disability An insured's ability to work is impaired, but a full recovery is expected. Other Disability Benefits Partial Disability When a person cannot perform 1 or more of the essential duties of their occupation, but is not totally disabled, a partial disability benefit may provide up to 50% of the total disability benefit for a limited period of time, such as 90-180 days. Residual Disability Provides benefits for loss of income after the insured returns to work following a total disability. Benefits are based on the reduction of earnings as a result of the disability. Recurrent Disability When a subsequent disability is suffered due to the same cause within a certain period of time (usually 6 months), the elimination period will not apply and the disability will be considered continuous. Presumptive Disability Loss is presumed to be total and permanent due to the loss of sight, hearing, speech, or the loss of 2 limbs. Benefits under presumptive disability may be paid in a lump sum. Payments are based on the assumption the insured will not be able to return to work. Transplant Donor Benefit When an insured is totally disabled because of the transplant of an organ to another individual, the company will deem the insured to be disabled as a result of sickness. A.D.Banker&Company® 109 CHAPTER TEN 10.3 Unique Aspects of Individual Disability Underwriting In underwriting disability income, the insured’s occupation is the single most important rating factor because a worker in the United States is more likely to suffer a disability than die prior to age 65. Insurance companies writing disability income generally have an occupational classification system based on considerations, such as job duties, claims history of the occupation, and stability of the industry. The concept of morbidity is also used to determine the frequency of illness and injury that occur within a group of individuals over a stated period of time. This is used to help predict losses that lead to disability claims. The Change of Occupation Provision in a Disability Income policy is designed to protect the insurer if the insured changes occupations without notifying the insurer. This could result in a change of benefits depending on the new occupation, or the insurer could change the amount of premium to fit the occupational rating for the current level of benefit. The more hazardous the occupation, the less benefit and/or the higher the premium. Consideration is also given to any hazardous hobbies or avocations which would affect the rating or require an exclusion rider. In addition to occupation, other factors influence both underwriting and rates, including age and gender, and a person’s current health status and prior health history. When a person is approved by underwriting, the final rate is determined by the amount of benefit purchased, the duration of the benefit period, and the length of the elimination period. Individual plans can provide for greater indemnity amounts compared to group or state-mandated benefits, longer benefit periods, and are typically issued with noncancellable or guaranteed renewable provisions. Benefits limitations will also be determined during underwriting. While the benefit may be based on a percentage of income, the policy may state this as a flat dollar amount based on income at the time of underwriting, depending on the policy. Once all underwriting information has been reviewed, the underwriter must determine if the risk is insurable or not. If uninsurable, the risk will be declined. If insurable, the risk may be standard or substandard. If substandard, the insurer may want to reduce the risk exposure. This may be accomplished by use of one or a combination of the following: Charge an extra premium Increase the elimination period, shorten the benefit period, or reduce the amount of benefit Utilize a Full Exclusion Rider when a condition appears certain to result in recurrent disabilities 10.4 Group Disability Income Underwriting Group Disability Plans When writing Disability Income insurance on a group basis, there is no medical underwriting. The field underwriter’s job is to guard against adverse selection and overinsurance. Group Disability Income insurance is usually offered only on a nonoccupational basis, which will not cover work-related disabilities. Work-related injuries are covered under Workers’ Compensation insurance. Most insurers require that a minimum number of employees participate in a group plan. This enables the insurer to issue the plan without evidence of insurability. 110 A.D.Banker&Company® DISABILITY INCOME Short-Term Disability Short-Term Disability Income plans are characterized by maximum benefits for periods of rather short duration, such as 13, 26, or 52 weeks. Often, benefit periods are coordinated with the employer’s “sick pay plan.” Short-Term Disability plans will not pay benefits for disabilities lasting longer than 1 year. The elimination period may be as short as 0 days for accidents and 7 days for sickness but is rarely more than 15 or 30 days. Benefits are typically paid weekly and usually pay 60% of the individual’s pretax income. Short-term disability benefits offer the following advantages: Short or no elimination period Provides close to 100% of the individual's after-tax income Long-Term Disability (LTD) This coverage is often characterized by benefit periods of 1 year, 5 years, to age 65, or lifetime. The elimination period is much longer than the elimination period for short-term disability and can be written for up to 1 year, to coincide with the short-term disability benefits. Benefit amounts are usually limited to 60%-70% of the participant’s income. Benefits stated in a policy are the maximum benefit amounts and maximum period of time covered. A Waiver of Premium Provision may also be found in a disability policy that will waive premiums once the insured is disabled for a specified length of time. Long-term disability benefits offer the following advantages: Can be payable to the insured for life Can be paid in addition to state disability insurance, social disability insurance, and Workers' Compensation (if the loss is not work-related). Benefits are coordinated and cannot pay more than 100% of the insured's income. Because long-term disability has such a long elimination period, it is beneficial for an individual to carry both Short-Term and Long-Term Disability insurance. 10.5 Disability Income Special Uses Business Overhead Expense Business Overhead Expense provides the funds to cover the overhead expenses of a business when the owner becomes disabled. The benefits include expenses such as office rent, utilities, and employee labor. However, the owner cannot collect for loss of income under this policy. Key Employee Insurance Key Employee insurance pays a benefit to the business when a key employee becomes disabled by helping pay for a replacement, train a new employee, or replace loss of revenue due to the disabled employee’s inability to work. The policy may also include an acceleration provision that permits payment of a lump sum in the event of an executive employee's total and permanent disability. A.D.Banker&Company® 111 CHAPTER TEN Buy-Sell Agreement or Disability Buyout Buy-Sell Agreement or Disability Buyout pays a lump sum, enabling a partnership or business to buy out the totally disabled party's interest in the business. Policy proceeds are normally received tax free. 10.6 Disability Income Policy Riders Optional Benefits Cost of Living Rider Automatically increases monthly benefits annually, including after the onset of a disability based on the increase of the Consumer Price Index (CPI). This rider helps protect the insured against inflation. Guaranteed Purchase Option (Guaranteed Insurability, Future Increase) Rider Guarantees that on specified dates, ages, or occurrences, the insured may purchase additional monthly benefits without proof of insurability. Increases will continue to be based on a percentage of income and rates are based on attained age. Waiver of Premium Rider In the event a total disability continues beyond a specified waiting period, future premiums will be waived by the insurer for the duration of the disability. Premiums must be paid on the policy until the waiting period ends, but will be reimbursed once the waiver begins. Impairment Rider Eliminates coverage for pre-existing conditions as specified in the policy. The use of this rider may make insurance obtainable for an otherwise uninsurable person often at standard rates, since certain disabilities are not covered. Cash Value (Surrender) Rider This form of a return of premium begins building values equal to a percentage of premiums paid for a disability policy. The values start building around the third year and build to no more than 100% at age 65, which can be returned to the insured at that time, less any claims. Lifetime Benefit Rider Extends the benefits for life if total disability begins before a specified age. If disability begins when the insured is older than the age specified, the rider is not in effect. Rehabilitation Benefits Benefits are paid while the insured is totally disabled and receiving benefits, if the insured elects to participate in some form of vocational rehabilitation approved by the insurer. Total disability benefits will be continued as long as the insured is actively participating in the training program and remains totally disabled. Non-Disabling Injury Rider This rider does not pay disability income, but pays the medical expenses that are related to an injury that does not result in total disability (such as emergency room, X-rays, durable medical equipment, etc.). It is a limited form of medical expense coverage added to a Disability Income policy. 112 A.D.Banker&Company® DISABILITY INCOME Hospital Confinement Rider The elimination period is waived if insured is hospitalized during the elimination period, but only pays as long as the insured is being treated as an inpatient. Social Insurance Supplement (SIS) Rider This rider pays in addition to regular disability policies until Workers’ Compensation or Social Security disability payments begin. It is also designed to provide benefits if Social Security is declined or stopped. If either benefit stops, the SIS will pay benefits. The SIS, which was developed by private insurers to reduce overinsurance by matching Social Security as closely as possible, is normally written for a specified period of time. Additional Monthly Benefit (AMB) Rider Many insurance companies offer a short-term additional benefit in the form of a rider. The rider normally covers the first 6 to 12 months of a disability. Some insurers refer to the rider as a Social Security Rider as it pays benefits while the insured is awaiting Social Security Benefits. The rider is not related to Social Security and, therefore, an AMB Rider is used to define the benefit. The shortterm benefit could supplement either a government or private benefit plan. Unlike the SIS, AMB does not consider the amount of a Social Security Benefit. It is strictly in addition to all other disability benefits. 10.7 Exclusions and Limitations Common exclusions and limitations that apply to Disability Income policies include: Attempted suicide Intentional self-inflicted injuries, including intoxication or misuse of prescription medication Pre-existing conditions as defined in the contract War or act of war Active duty in the military Aviation – pilots and crew Hazardous hobbies or occupations Foreign travel 10.8 California State Disability Insurance Most employers in California must participate in the State Disability Insurance (SDI) Program unless a voluntary plan has been approved by the Employment Development Division. Voluntary plans require a deposit from the employer and the majority of the employees must agree to the plan. The SDI programs are state-mandated and funded through employee payroll deductions. SDI provides short-term benefits to eligible workers who contribute a small percentage of their gross wages each pay period up to the annual maximum. Workers covered by SDI are covered by 2 programs: Disability Insurance and Paid Family Leave. SDI benefits received for a period of disability are not taxable as income, but benefits received for time off under the Paid Family Leave program are federally taxable as income. A.D.Banker&Company® 113 CHAPTER TEN 10.9 Social Security Disability Insurance (SSDI) Qualification for Social Security Disability benefits is contingent upon the worker having the proper insured status—either “fully” insured (40 credits), disability insured (20 credits were earned in the last 10 years), or “currently” insured (a sliding scale based on age, beginning with 6 credits in the past 13 quarters for persons age 21 to 24)—and satisfying the waiting period. Definition of Disability To collect Social Security Disability benefits, a worker must be unable to engage in any substantial gainful activity due to a medically determined physical or mental condition that has lasted or is expected to last at least 12 months or result in an early death. Waiting Period (5 “full” months) In general, benefits start with the 6th full calendar month of disability and are not retroactive to the date of disablement. In no event are benefits retroactive prior to the date of application for disability determination. Disability Income Benefits Based on the employee’s average indexed monthly earnings on which Social Security taxes have been paid. This is referred to as the Primary Insurance Amount (PIA). Benefits cease when the employee reaches age 65, dies, or is no longer disabled. Starting at age 65, the employee becomes eligible for retirement benefits. 10.10 Integration (Coordination) of Benefits When it comes to receiving Disability Income benefits, an individual may be entitled to income from more than one source. To prevent overinsurance, benefits are coordinated between individual and group insurance and other sources of insurance. Both Workers’ Compensation and Social Security Disability Income benefits have an effect on other benefits to which a person may be entitled. Workers’ Compensation Workers’ Compensation benefits are primary to either individual or group disability income benefits. The individual or group benefit will be reduced dollar-for-dollar by the amount of Workers’ Compensation benefits paid, so that the total disability income benefit payable from all sources combined will not exceed the amount that would be payable by the individual or group disability policy on its own. Social Security Disability Income Limitation SSDI benefits are secondary to Workers’ Compensation and any other public insurance benefits. If the total of SSDI, Workers’ Compensation, and other public disability benefits exceeds 80% of the worker’s pre-disability earnings, the SSDI benefit will be reduced dollar-for-dollar until the 80% limitation is reached. 114 A.D.Banker&Company® 11 Senior Needs OVERVIEW The purpose of this chapter is to acquaint the student with both government and private sponsored plans available to address the health care needs of the aged population and special needs individuals in the United States. Upon the completion of this chapter, you will be able to: 1. 2. 3. 4. 5. 6. 7. 8. Identify when Medicare is the primary or secondary payor Explain the 3 types of enrollment periods of Medicare Differentiate between the purpose and coverages of Medicare Part A and Part B Understand the purpose and intent of a Medicare Supplement policy (Medigap) Recognize the standardized core benefits provided by all Medigap policies Identify the triggers in a Long-Term Care policy Distinguish between skilled, intermediate, and custodial care Identify the optional LTC coverages 11.1 Medicare Overview Medicare is a federal health insurance program that was originally designed to provide hospital and medical insurance primarily for citizens and legal residents (in the United States at least 5 years) age 65 or over. The program has been expanded to provide coverage to citizens and legal residents of any age who have been: Diagnosed with chronic or permanent kidney failure, or End Stage Renal Disease Diagnosed with Amyotrophic Lateral Sclerosis, or ALS (known as Lou Gehrig's Disease) Received Social Security Disability Income for at least 24 consecutive months (2 years) Medicare is administered by the Centers for Medicare & Medicaid Services (CMS), a separate division within the Department of Health and Human Services Administration, and is responsible for reviewing and approving Medicare claims. Originally, eligibility for Medicare coincided with eligibility for Social Security retirement benefits. Medicare eligibility remains at age 65, even though the full retirement age for retirement benefits has changed. A.D.Banker&Company® 115 CHAPTER ELEVEN Primary vs. Secondary Payor If an individual is age 65 or over and continues to work, coverage may be provided by Medicare and an employer group health plan in which the individual participates. A group health plan with 20 or more employees is primary to Medicare and pays first. If the employer’s plan does not pay all of one’s expenses, Medicare will pay secondary benefits for Medicare-covered services to supplement the group plan benefits. Employers who have 20 or more employees are required to offer the same health benefits and under the same conditions to employees and spouses age 65 or over, as offered to younger employees and spouses. Small group health plans covering less than 20 employees may be designated primary or secondary to Medicare by the Medicare-eligible employee. Insurers are permitted to charge a higher premium when their health plan is made primary to Medicare. Medicare Products The “Original” Medicare program consists of 2 parts, Part A and Part B. Both parts are provided by the government for basic hospital and medical expense coverage, including amounts that the recipient must pay out-of-pocket, such as deductibles and coinsurance. There are currently 4 parts of coverage available under Medicare: Part A – Hospital insurance provided by the federal government Part B – Medical insurance and outpatient expenses provided by the federal government Part C – Medicare Advantage plan substitutes Part A and Part B into a Managed Care plan offered by private insurance providers in place of Original Medicare Part D – Prescription drug coverage offered by private insurance providers Medicare Enrollment Part A Enrollment For individuals who meet the eligibility requirements, Medicare Part A is premium-free. Individuals eligible for premium-free Part A can enroll in Part A at any time after they are first eligible. If someone cannot qualify for Medicare on their own, they may qualify under an eligible spouse. Part A coverage begins the month an individual turns 65. An individual receiving monthly Social Security retirement benefits for at least 4 months prior to turning age 65 will be automatically enrolled at age 65. All other individuals must file an application for Medicare through the Social Security Administration (SSA) within 6 months of their birthday months. Individuals over age 65 who do not qualify may receive benefits for Part A coverage by paying a monthly premium. To enroll in Part A with a premium, individuals must file an application through the SSA, enroll during a valid enrollment period, and also enroll in or already be enrolled in Part B. An individual will be required to pay the premium until they are considered fully insured under Social Security. A worker may continue to earn credits up to the 40 required for fully insured status, after which time the Part A premium will end. Individuals with less than 30 credits will pay a higher monthly premium than individuals with 30-39 credits. Late Enrollment Penalty for Premium Part A Failure to enroll in Part A and pay premiums once an individual becomes eligible may result in a 10% premium penalty. This increase will apply for twice the number of years the individual waited to enroll after they were eligible. For example, if an individual enrolled 2 years after they were eligible, they would pay the higher premium of 10% per months for 4 years. 116 A.D.Banker&Company® SENIOR NEEDS Part B Enrollment Enrollment for Medicare Part B is automatic for individuals who are already receiving Social Security benefits when they become eligible for Medicare. Medicare Part B is not premium-free. Individuals who are automatically enrolled in Part B have the option to drop it if they do not wish to pay the premium. If an individual is actively employed at age 65 and is covered by any employer-sponsored health plan, enrollment for Part A and Part B may be rejected or delayed without penalty. Individuals not receiving Social Security benefits who are not automatically enrolled, who previously refused Part B, or who terminated their Part B enrollment, may enroll (or re-enroll) in Part B during certain enrollment periods. Late Enrollment Penalty for Part B Failure to enroll in Part B when they are first eligible may result in a lifetime cumulative premium penalty of 10% per 12-month period the beneficiary was not enrolled in Part B. The late enrollment penalty is an additional charge of 10% of the amount of the Part B premium for every 12-month period that has elapsed since the individual became eligible for Medicare. For example, if an individual enrolled 30 months after they were eligible, they would pay a penalty of 20% per month (10% for each 12-month period) for as long as they have Part B. Enrollment Periods If an individual is not automatically enrolled in Medicare Parts A and/or B, they will need to sign up for coverage. Individuals eligible for premium-free Part A can enroll at any time after they become eligible, and coverage is retroactive up to 6 months from enrollment. Individuals must sign up for Part B and premium-required Part A during a valid enrollment period. The following enrollment periods apply: Initial Enrollment Period (IEP) The Initial Enrollment Period lasts 7 months, that: Begins 3 months before the month of an individual’s 65th birthday Includes the month they turn 65 Ends 3 months after the month they turn 65 The actual month of eligibility is the month of the individual’s birthday. For individuals who sign up during the first 3 months of the IEP, coverage becomes effective on the first day of their birth month. For individuals who sign up during their birth month, coverage begins 1 month later. For individuals who sign up the month after their birth month, coverage begins 2 months later. For individuals who sign up in the last 2 months of the IEP, coverage begins 3 months later. This period occurs once in an individual's lifetime. It does not recur. General Enrollment Period (GEP) The General Enrollment Period provides an open enrollment period from January 1 to March 31 each year for those who did not enroll in Medicare Part B when they first became eligible. For individuals enrolling during the general enrollment period, coverage begins on July 1. Individuals enrolling during the GEP may have to pay a late enrollment penalty. Special Enrollment Period (SEP) The Special Enrollment Period begins when a person past age 65 who was covered by an employer-sponsored group health plan is no longer covered by the plan (whether the person elects COBRA continuation or not). This period lasts 8 months and allows an individual the opportunity to enroll in Medicare Part B without incurring the lifetime premium penalty for failing to enroll at age 65. A.D.Banker&Company® 117 CHAPTER ELEVEN Annual Open Enrollment Period (OEP) Each year between October 15 and December 7, Medicare beneficiaries are given an opportunity to make certain changes to their coverage. These changes become effective on January 1. This is known as the Open Enrollment Period (OEP). During this time, Medicare beneficiaries can: Change from Original Medicare to a Medicare Advantage plan Change from a Medicare Advantage plan back to Original Medicare Switch from a Medicare Advantage plan to another Medicare Advantage plan Join, switch, or drop Medicare Part D prescription drug plan coverage Medicare Advantage Open Enrollment From January 1 – March 31 each year, individuals already enrolled in a Medicare Advantage plan can switch to a different Medicare Advantage plan or switch to Original Medicare and joint a separate Medicare Part D prescription drug plan. This enrollment period does not apply to individuals currently in Original Medicare. 11.2 Part A – Hospital Insurance (Inpatient) Medicare Part A is financed by payroll and FICA contributions and is premium-free to eligible individuals who qualify through Social Security, Railroad Retirement, or government employment. Part A provides coverage for medically necessary inpatient hospital-related charges, skilled nursing, home health care, hospice, and inpatient mental healthcare services. Part A claim payments are made directly to the provider for covered services. Part A Benefits and Out-of-Pocket Expenses Medicare Part A requires a deductible before benefits are payable. Once the deductible is met, benefits are payable as specified based on the benefit period. The deductible is not annual, but applies per benefit period. A benefit period begins the first day the insured enters the hospital after being enrolled in Medicare and ends once the insured has been out of the hospital for 60 consecutive days. Inpatient Hospitalization Part A provides coverage for up to 90 days per benefit period. Medicare will pay 100% of covered charges for days 1 – 60. The insured will be responsible for a daily copayment for days 61 – 90 and Medicare will pay the balance. If the insured is hospitalized beyond 90 days in a benefit period, 60 nonrenewable lifetime reserve days are available for coverage with a higher daily copayment. Once the insured is out of the hospital for 60 consecutive days, a new benefit period begins which renews the 90 days of coverage and requires a new deductible. The lifetime reserve days do not renew. If an insured uses the all 60 lifetime reserve days and is hospitalized longer than 90 days in a benefit period, the out-of-pocket expense is 100%. Medicare Part A includes the following coverages: 118 Semiprivate room and board Operating room costs Prescription drugs including anesthesia Miscellaneous hospital services and supplies Blood transfusions after the first 3 pints of blood A.D.Banker&Company® SENIOR NEEDS Skilled Nursing Care Medicare Part A provides limited benefits for skilled nursing care following 3 days of hospitalization, including nursing and therapy care that is performed by medically trained professionals based on the written orders of a physician. It is provided to treat, manage, and observe a condition, and evaluate the care. The beneficiary will be responsible for any deductible in the 3-day period before benefits begin. No deductible applies to the Skilled Nursing Care benefit. Days 1–20: Medicare pays 100% of covered services Days 21–100: The beneficiary is responsible for a daily copayment, and Medicare pays the balance for covered services Days 101 and beyond: The beneficiary pays all costs Home Health Care Medically necessary care following the release from the hospital, including home health aide services, nurses’ visits, and medical supplies are covered. Hospice Care Pain relief and support services provided to the terminally ill and their family members are covered. Blood There is a “deductible” amounting to the first 3 pints of blood administered per calendar year. After the deductible is met, Part A will cover the cost of inpatient blood transfusions for the remainder of the year. Medicare Part A Exclusions Part A does not cover a private hospital room, unless it is deemed to be medically necessary. It also does not cover private duty nursing, personal care items (socks), or a television or telephone in the room. Medicare does not cover the following types of care: Long-term care (private or custodial nursing care) in any setting that can be provided by persons without medicare training Homemaker services Private nursing Cosmetic surgery, unless medically necessary Experimental or alternative medicines or procedures, such as acupuncture Routine dental care or dentures Eye exams related to prescribing eyeglasses Hearing aids and exams for fitting them A.D.Banker&Company® 119 CHAPTER ELEVEN 11.3 Part B – Medical Insurance (Physicians, Surgeons, and Outpatient) Medicare Part B is optional coverage and is offered to all applicants when they become eligible for Part A. Part B provides coverage for medically necessary services administered by physicians and supplies that are needed to diagnose or treat a medical condition, including access to outpatient services, preventative care, and drugs administered in a clinical setting. All Part B recipients pay a monthly premium. High income beneficiaries are assessed higher monthly premiums. Medicare Part B pays 80% of covered expenses after an annual deductible has been met. The Medicare beneficiary pays 20% coinsurance with no maximum out-of-pocket. Part B Benefits Outpatient Health and Diagnostic Services Medicare covers many medically necessary diagnostic and treatment services is hospital outpatient departments and other outpatient settings, such as clinics and emergency room departments. Medicare also pays for approved diagnostic laboratory tests used to diagnose or rule out a suspected illness or condition, such as blood and urinalysis tests and clinical laboratory tests to biopsy tissue specimens. Diagnostic non-laboratory tests, such as CT scans, MRIs, EKGs, X-rays, and PET scans are covered as part of treating a medical condition. Physician and Surgeon Services Medicare covers medically necessary doctor services when provided to a beneficiary as an outpatient, hospital inpatient, or rehabilitation facility inpatient. It also covers services provided by other health care providers, like physician assistants; nurse practitioners; social workers; physical, occupational, and speech therapists; and psychologists. Home Health and Hospice Care Part B provides benefits for home health care and hospice care that may not be covered under Part A. This includes medically necessary skilled care, home health aide services, medical supplies, for those who are home bound in their personal residence, but who have not had a qualifying hospitalization. Assignment Payment Method Medicare Part B assignment determines if the doctor accepts Medicare for outpatient services. If a provider is participating and accepts the Medicare rates for services, the beneficiary will pay 20% of the Medicare-approved amount. If a provider does not accept assignment, the provider cannot require a Medicare beneficiary to pay charges that exceed the Medicare-approved amounts by more than 15%. The beneficiary usually pays for the services out-of-pocket and must file a claim to Medicare for reimbursement. Preventive Care A one-time “Welcome to Medicare” preventive visit is covered along with yearly “wellness’’ visits. In addition, Part B will cover preventive screenings for cancer, depression, diabetes, HIV, obesity, and sexually transmitted diseases. Many of the preventative services are not subject to Part B deductible or coinsurance requirements if the provider accepts the assignment. Laboratory Services Blood tests, biopsies, urinalysis, and other labs on an outpatient basis are covered by Part B. 120 A.D.Banker&Company® SENIOR NEEDS Mental Health Care Medicare Part B will cover mental health services on an outpatient basis when provided by a health care provider who accepts Medicare payment. An additional copayment or coinsurance may be required if services are provided in a hospital outpatient clinic or department. Outpatient Hospital (Emergency Room/Urgent Care) Treatment Reasonable and necessary services for the diagnosis or treatment of an illness or injury on an emergency basis. Medicare Part B Exclusions Prescription drugs unless administered at an outpatient medical facility Care received outside the United States Routine dental care including dentures Routine foot care Long-term care (private or custodial nursing care) in any setting Routine hearing, hearing aids, eye exams, or eye glasses Acupuncture Cosmetic surgery (unless medically necessary) Experimental procedures Routine foot care Hospital expenses covered by Part A Medicare Part B Claim Terminology The Original Medicare Fee-for-Service program bases benefits on a fee schedule of reasonable charges. The amount a doctor or supplier that accepts assignment can charge a patient is the Medicare-approved amount. A Claim is the request for payment and is submitted by health care providers and medical equipment suppliers to the Centers for Medicare and Medicaid Services (CMS). Assignment vs. Non-Assignment Assignment is the transfer of rights from the beneficiary to Medicare. Under an assignment, the claim is paid directly to the doctor or provider. Medicare “approved” providers, or participating providers, have agreed to accept Medicare assignment and must accept Medicare’s payment as payment in full. A beneficiary will pay only 20% of Medicare's approved amount when using a participating (approved) provider. Non-Assignment refers to a nonparticipating provider that does not accept Medicare’s assigned amount for services provided. Nonparticipating providers may charge up to 115% of the Medicareapproved amount. Medicare Summary Notice (MSN) A Medicare Summary Notice (MSN) is a statement that lists the details of all the services and supplies that were billed to Medicare for the previous 90 days. The MSN also shows the Medicareapproved amount, how much Medicare paid, and what the patient must pay. If a provider does not accept a Medicare assignment, the beneficiary is responsible for filing the claim independently to the Medicare carrier. An Explanation of Medical Benefits that outlines the covered services and approved amounts will be sent to the beneficiary. A.D.Banker&Company® 121 CHAPTER ELEVEN Right to Appeal If a claim is denied or the beneficiary disagrees with a decision on the amount Medicare will pay on a claim, the beneficiary has the right to appeal the decision if the amount in question exceeds $99.99. The request for appeal must be made in writing within 6 months of receiving the Explanation of Benefits. 11.4 Part C – Medicare Advantage Medicare beneficiaries who are eligible for both Part A and Part B have the option to choose a Medicare Advantage plan. These plans are offered by private insurance companies that contract with Medicare to provide both Part A and Part B benefits and typically prescription drugs. Medicare Advantage plans include Health Maintenance Organizations (HMOs), Preferred Provider Organizations (PPOs), Private Fee-for-Service plans, and Special Needs plans. Enrollment in both Medicare Parts A and B is required and premium payments for Part B must be continued. There may be an additional premium for Medicare Advantage. Enrollment in Medicare Advantage is a substitute for Original Medicare. Medicare Advantage beneficiaries may also be required to obtain their healthcare services through a network of providers contracted by the Medicare Advantage plan they have chosen. But because plans are better able to control costs by maintaining their own provider network, some Medicare Advantage plans are able to offer extra benefits without charging an additional premium. Medicare Advantage plans can also manage their costs by imposing various out-of-pocket charges such as deductibles, coinsurance, and copayments on services. They can also have rules about how beneficiaries may access services, such as whether a referral is required to see a specialist. These charges and rules must meet certain requirements set by Medicare, but they vary from plan to plan. They can also change from year to year. To enroll in a Medicare Advantage plan, beneficiaries must reside in the plan's service area. Beneficiaries may not belong to more than one Medicare Advantage plan at one time. It is a violation for a producer to sell a Medicare Supplement to individuals with a Medicare Advantage plan. Managed Care Organizations There are several types of Medicare Advantage plans that are provided by managed healthcare organizations. Coverage must cover all benefits provided under Original Medicare but may cover different claims to a greater extent. Managed care may reduce out-of-pocket expenses for senior health care. Health Maintenance Organizations (HMOs) A Medicare HMO plan is a type of Medicare Advantage plan where subscribers must get care and services from providers within the plan's network, except for emergency care, out-of-area urgent care, and out-of-area dialysis. These plans require the subscriber to select a primary care physician to manage healthcare needs, and the subscriber must receive a referral to see a specialist. Preferred Provider Organization (PPOs) Preferred Provider Organization (PPO) Plans have network doctors, other health care providers, and hospitals. Plans offered through PPOs do not require a primary care physicians or referrals and allow the subscriber to choose out-of-network providers with significantly higher out-of-pocket expenses or reduced coverage limits. 122 A.D.Banker&Company® SENIOR NEEDS Private Fee-for-Service Plans (PFFS) Private Fee-for-Service Plans (PFFS) are offered by private insurance companies under contract with Medicare. They differ from Managed Care plans because they allow you to go to any doctor, hospital, or other provider that agrees to accept the plan’s terms of payment. The member must live in the plan’s service area to be eligible, but treatment can be received anywhere in the United States, as long as the provider agrees in advance to accept the plan’s terms. If the member goes to a health care provider that does not belong to the plan's network for non-emergency services, the PFFS may not cover the services or the costs could be higher. The plan cannot be significantly different than Original Medicare but may provide coverage for additional services. As with Medicare HMOs and PPOs, the person must be enrolled in Medicare Parts A and B. Special Needs Plans (SNPs) Special Needs Plans (SNPs) limit membership to people with specific diseases or characteristics. Because SNPs tailor their benefits, provider choices, and drug formularies to best meet the specific needs of the groups that they service, SNPs may cover "value added" services such as extra days in the hospital. To be eligible, an individual must be enrolled in Medicare Part A and Part B, live in the plan's service area, and meet characteristics in one of the SNPs categories: Chronic Condition SNP (C-SNP): The individual has a severe or disabling chronic conditions, such as: □ Chronic alcohol or other dependence □ Autoimmune disorder □ Cancer □ Cardiovascular disorder or chronic heart failure □ Dementia □ Severe hematologic disorders □ Chronic and disabling mental health conditions □ Neurological disorders □ Stroke □ End-Stage Renal Disease that requires any mode of dialysis Institutional SNP (I-SNP): The individual lives in an institution, like a nursing home, or requires nursing care at home Dual Eligible SNP (D-SNP): The individual has both Medicare and Medicaid. This is sometimes referred to as "Medi-Medi" eligibility Enrollment in Medicare Advantage A Medicare beneficiary may enroll in a Medicare Advantage plan when they are first eligible for Medicare or during the Annual Election Period. During this period, a person may change to another Medicare Advantage plan or switch from Original Medicare to a Medicare Advantage Plan. A person may terminate their enrollment in a Medicare Advantage plan and return to Original Medicare at any time during the first year of coverage. After that, they must wait until the annual Medicare Advantage Disenrollment Period. A Medicare Supplement plan is unnecessary with Medicare Advantage. Medicare Advantage plans do not coordinate with Medicare Supplements, since it is duplicate coverage. Sale of a new Medicare Supplement plan to a Medicare Advantage enrollee will result in automatic disenrollment from Medicare Advantage. A.D.Banker&Company® 123 CHAPTER ELEVEN 11.5 Part D – Prescription Drug Benefit Medicare Part D is a federal program administered only through private insurers. It is a prescription drug benefit that covers most outpatient self-administered (retail) drugs. Under the provisions of Part D, anyone entitled to or enrolled in Part A or Part B of Medicare may enroll in a prescription drug program. Beneficiaries must enroll in a stand-alone plan with a participating approved Medicare Part D Prescription Drug Provider (PDP) or a Medicare Advantage plan that includes prescription drug coverage (MA-PD). Enrollment in a stand-alone PDP automatically terminates enrollment in a Medicare Advantage plan. If a person does not enroll in Part D when first eligible after age 65 and goes more than 63 days before enrolling, a cumulative penalty of 1% for each month the beneficiary has no "creditable coverage" for prescription medications will be charged upon subsequent enrollment. Creditable coverage is that which is substantially the same as or better than the minimum requirements of Part D. An individual currently covered under an employer sponsored plan must be informed if the plan is creditable. Penalties only apply to "noncreditable" coverage. Individuals enrolled in the standalone plan from a PDP will have to pay a monthly premium, annual deductible and copays. Medicare prescription drug plans have unique "formularies" (lists of covered drugs), deductibles, copays, and premiums, which may vary significantly from one plan to another. Changing from one plan to another is only permitted during the Annual Enrollment Period. Part D Costs Part D drug plan costs vary depending on the particular member's plan, the prescriptions used, whether the pharmacy is in the plan's network, and if the drugs are on the plan's formulary. The beneficiary is responsible for paying the following costs associated with Part D: Monthly premiums Annual deductibles Copayments and/or coinsurance at the time of purchase Medicare beneficiaries can qualify for "Extra Help" paying their monthly premiums, annual deductibles, and copayments/coinsurance related to Part D. To qualify, individuals must be receiving Medicare, have limited resources and income, and reside in the 50 states or Washington D.C. Formulary Formulary is the grouping of prescription drugs under Medicare – Part D. A “formulary” is a listing of prescription drugs that are covered under Part D and varies by insurance carrier. These drugs are placed into three different tiers, which are categorized based on cost: Tier 1 – Lowest copayment and covers the most generic prescription drugs Tier 2 – Medium copayment and covers preferred, brand-name prescription drugs Tier 3 – Highest copay and covers very high prescription drugs A formulary must include at least 2 drugs in each treatment category, but is not required to include all drugs. If a particular drug is dropped from a carrier’s formulary list, the insured must be notified within 60 days. The insured can switch plans during the next enrollment period. Plans can be switched annually. Only payments for formulary drugs will count toward the benefit limits. Insurance companies must create and annually file a formulary. 124 A.D.Banker&Company® SENIOR NEEDS 11.6 Medicare Supplement Insurance (Medigap) Overview Purpose Medicare Supplement plans, often referred to as Medigap, are private insurance plans that are designed to supplement Medicare Part A and B and fill in some of the gaps in Original Medicare. These plans pay all or some of the Medicare deductibles and coinsurance. In order to purchase a Medicare Supplement, an eligible individual must be enrolled in Medicare Parts A and B. A separate premium payment is required for the purchase of a Medigap policy. All Medigap policies are guaranteed renewable and are automatically renewed each year. Medigap policies are standardized and must follow federal and state laws. The front of a policy must clearly indicate that it is "Medicare Supplement Insurance." The standardized policies that insurers offer must provide the same benefits, but the premiums may vary. Open Enrollment A person 65 years of age or older may also purchase a Medicare Supplement by paying the necessary premium. The Medigap open enrollment period lasts for 6 months, beginning the month an individual turns age 65 and enrolls in Medicare Part B. If enrolled during this period, the insurer cannot use medical underwriting, refuse coverage, charge a higher premium, or impose a waiting period for pre-existing conditions. 11.7 Standardized Medicare Supplement Coverage Requirements Every Medigap policy must follow federal and state laws designed to protect the public. Insurance companies can only sell a standardized policy. All policies must offer the same basic or core benefits but some will offer additional or optional benefits. Each insurance company decides which Medigap policies it wants to sell, but thy must offer at least the basic benefit policy known as Plan A if they offer any Medigap policy. Plans A, B, C, D, F, F with High Deductible, G, K, L, M, and N are available. Every insurer must make available a policy including only the basic core benefits (Plan A) to all prospective insureds. If an insurer offers any Medicare Supplement plans other than Plan A, it must also offer a choice of either Plan C or Plan F. Plan A – Core Benefits Plan A is the basic Medicare Supplement plan and must be offered by all insurers marketing Medicare Supplements. Plan A provides the core benefits that must also be included in all other Medigap plans. The core benefits include: Part A Medicare eligible expenses for hospitalization to the extent not covered by Medicare from the 61st day through the 90th day in any Medicare benefit period Part A Medicare eligible expenses incurred for hospitalization to the extent not covered by Medicare for each Medicare lifetime inpatient reserve day used All costs of the Medicare Part A eligible expenses for hospitalization for a nonrenewable lifetime maximum benefit of an additional 365 days, after all reserve days have been exhausted A.D.Banker&Company® 125 CHAPTER ELEVEN The reasonable cost of the first 3 pints of blood Coverage for the coinsurance amount (20%) of Medicare eligible expenses under Part B after the deductible has been met regardless of hospital confinement Part A Medicare eligible hospice care and respite care expenses coinsurance or copayment Additional Benefits In addition to the basic benefits, a number of other benefits are included in Plans B-J in different combinations and with some limitations. The key benefits include: 126 Skilled Nursing Facility Care – Payment of the beneficiary’s coinsurance amount from the 21st day through the 100th day in a benefit period for post-hospital skilled nursing facility care eligible under Medicare part A. This is not custodial care. Foreign Travel Emergency Care – Payment of 80% of the billed charges for foreign emergency care that Medicare would have covered if it was provided in the United States. Care must begin during the insured’s first 60 days outside the U.S. The calendar year deductible is $250. The lifetime maximum benefit is $50,000. Part A Deductible – Payment of the Part A per-benefit-period deductible for inpatient hospital stays Part B Deductible – Payment of the Part B annual deductible that beneficiaries must meet before Medicare begins paying Part B benefits Part B Excess Doctor Charges – Payment of 100% of any excess fees, which are limited to 15% above the Medicare-approved amount (if most of the beneficiary’s doctors take Medicare assignment, this benefit may not be needed) Plans F and G pay Medicare Part B excess doctor charges: Pays 100% of a doctor’s excess fees Plan F High Deductible Plan: This Plan offers all the regular Plan F benefits, but in return for a lower premium, the policyholder accepts an annual deductible to be met out-of-pocket before benefits apply. The deductible amount is set by Medicare and is subject to an annual adjustment. Plans K and L: Plans K and L cover the same basic services as other Plans, but at different levels. In exchange for lower premiums, Plan K has a 50% coinsurance and Plan L 75%. Both Plans have annual out-of-pocket limits, which are adjusted for inflation annually. Once the annual limits are reached, the supplement pays 100% for the remainder of the year. Part M and N: Plans M and N cover the same basic services as other Plans, but at different levels. Both Plans M and N cover 100% of Part A hospitalization with 365 additional days, part B coinsurance, the cost of 3 pints of blood, hospice, skilled nursing, and 50% of Part A deductible. Part B requires a small copay of $20 for office visits and $50 for emergency room visits that do not result in admission. Part B also covers 100% of the Part A deductible. A.D.Banker&Company® SENIOR NEEDS The following chart provides a snapshot of the various plans and coverages available: Medicare Supplement Plans Plan Benefits Part A Coinsurance Hospital Costs (Up to 365 days) Part B Coinsurance or Copay Blood (1st 3 pints) Part A Hospice Care Coinsurance or Copay A B D G K L M N C F 50% 75% 50% 75% 50% 75% 50% 75% 50% 75% Skilled Nursing Coinsurance Part A Deductible Medicare first eligible before 2020 only 50% Part B Deductible Part B Excess Charges Foreign Travel Emergency (Up to Plan Limits) Medicare SELECT Medicare SELECT insurance is a managed care Medicare Supplement policy. This plan, which is not available in all states, requires policyholders to use specific hospitals and health care providers in the SELECT network to be fully covered for non-emergency services. SELECT plans must cover the same benefits as traditional Medigap plans if the plan's network for care is used. Services are provided to the insured through network providers who have contracted with the insurer to provide medical care. By using hospitals, physicians, and surgeons on the approved provider list, the insured receives benefits. If the insured seeks services from a non-network provider, higher deductibles and coinsurance will be required, unless it is an emergency. If a Medicare SELECT program is discontinued, the insured will have the right to convert coverage to a traditional Medicare Supplement policy without evidence of insurability. A policy cannot be advertised as a Medicare SELECT policy unless it meets the requirements. Coverage must have been approved by the Commissioner. A Medicare Supplement policy must be offered that has comparable or lesser benefits without a restricted network. 11.8 Medicare Supplement Minimum Benefit Standards Policy Requirements A Medicare Supplement policy must contain a 30-day Free Look Provision on the first page in bold print allowing the purchaser a full refund of premiums paid if returned during this period The policy must also contain an Outline of Coverage containing information on benefits, deductibles, exclusions, and premiums The insurer is required to explain the relationship of this coverage to the benefits of Medicare Losses resulting from accident and sickness must be paid on the same basis The insurer must also provide a Buyer’s Guide and an outline of coverage at the time of application. A signed acknowledgment indicating receipt of these documents is required. A.D.Banker&Company® 127 CHAPTER ELEVEN Application Questions All application forms must include questions to determine if at the date of application: The applicant currently has a Medicare Supplement, Medicare Advantage, Medi-Cal coverage, or another health insurance policy or certificate in force A Medicare Supplement policy or certificate is intended to replace any other disability policy or certificate presently in force Guaranteed Issue, Renewability, and Cancellation A Medicare Supplement policy must be offered on a guaranteed issue basis if applied for during the 6-month period following a beneficiary's first enrollment in Medicare Part B. An insurer offering a Medicare Supplement cannot: Deny or condition the issuance or effectiveness of a Medicare Supplement policy that is offered and is available for issuance to new enrollees by the issuer Discriminate in the pricing of that Medicare Supplement policy because of health status, claims experience, receipt of health care, or medical condition A probationary period for pre-existing conditions for which a beneficiary has received advice, diagnosis, or treatment in the 6 months preceding application may still apply for the first 6 months after the policy is issued. Medicare Supplement policies must be issued at least guaranteed renewable and cannot be terminated for a reason other than nonpayment of premium or material misrepresentation. Pre-existing Conditions The policy must not exclude coverage for any pre-existing conditions that occurred more than 6 months prior to the effective date of coverage. Duplication An agent cannot sell a policy that duplicates the coverage benefits already provided by Medicare or sell more than one Medigap policy to a Medicare beneficiary. A person cannot receive benefits from more than one Medicare Supplement plan. Permitted Compensation First year commissions for the sale of Medicare Supplement insurance cannot exceed 200% of the second and subsequent years' compensation. Commissions for the sale of a replacement policy cannot be more than the difference between the renewal commission for the existing policy and the renewal commission for the replacement policy. Notice of Medicare Benefit Changes A policy that pays benefits according to the cost sharing percentages of Medicare must automatically change to coincide with any changes in the Medicare laws. The insurer must notify the insured of the changes in Medicare deductibles and copays as well as any adjustments to the policy. Premium Rates and Increases Any premium rate adjustments and increases must be provided to the insured in writing by the insurer at least 30 days prior to the effective date of the change. 128 A.D.Banker&Company® SENIOR NEEDS Continuation and Conversion If a group policy is terminated by the group policyholder, the insurer must offer a certificate holder one of the following: An individual policy providing the same benefits as the group policy An individual policy that provides only benefits required to meet the minimum standards If the group policy is replaced with another group policy, the replacing insurer must offer the same coverage to all persons covered under the former policy without any new or additional waiting periods and exclusions. If a group policy is purchased during the open enrollment period, the policy must be issued regardless of the group’s health status. 11.9 Medicare Supplement Replacement Requirements Issuers of Medigap policies must: Establish marketing procedures that ensure that policy comparisons will be fair and accurate Establish marketing procedures that prevent excessive insurance from being sold or issued Display prominently on the policy’s first page, the statement: “Notice to buyer: This policy may not cover all of your medical expenses” Make every reasonable effort to determine if a Medigap policy applicant already has health insurance and the types and amounts of that insurance The following acts and practices are prohibited: Twisting – Intentionally making any false or materially inaccurate representation or comparison of two or more policies which induces any person to lapse, forfeit, surrender, or not take, a policy of insurance High-Pressure Tactics – Using any marketing method that induces or even tends to induce the purchase of insurance through force, fright, threat or undue pressure. Such unlawful pressure may be either implicit or simply implied Cold Lead Advertising – Using any method of marketing that fails to conspicuously disclose that a purpose of the advertising is the solicitation of insurance and that contact will be made by an insurance agent or insurance company When replacing a Medicare Supplement policy, the agent must: Be sure that the replacement does not result in decreased benefits at an increase in premium Use an application containing questions that elicit information to determine if the applicant has or has had a Medicare Supplement in effect or if the application is for replacement of an existing Medicare Supplement Provide a notice of replacement to the applicant at the time of application for a new Medicare Supplement policy (A copy of the notice, signed by the applicant and the agent, must be provided to the applicant and a signed copy must also be retained by the insurer) When recommending the purchase or replacement of a Medicare Supplement policy, an agent must make reasonable efforts to determine the appropriateness of the purchase or replacement. Any sale of a duplicate Medicare Supplement policy is prohibited, unless the transaction would not insure more than 100% of the individual’s actual medical expenses covered under the combined policies. A.D.Banker&Company® 129 CHAPTER ELEVEN Every insurer providing Medicare Supplement insurance must report annually the policy and certificate numbers along with issue dates for individuals who have more than one Medicare Supplement. If a Medicare Supplement policy replaces another Medicare Supplement policy that has been in force for 6 months or more, the replacing insurer cannot impose an exclusion or limitation based on a pre-existing condition. If the original policy has been in force for less than 6 months, the replacing insurer must waive any time periods applicable to pre-existing conditions to the extent that they have already been satisfied under the original policy. Commissioner's Annual Rate Guide Each year, the Commissioner will prepare a rate guide for Medicare Supplement insurance contracts, which must be available on or before the date of the fall Medicare annual open enrollment. The rate guide must include: A listing of policies and plans (A-D, F, G, K-N) for each company that sells Medigap policies in California, which are available for Medicare beneficiaries under age 65 The toll-free telephone number of the company that consumers can use to obtain information from the company Sample rates for each policy listed using ages 0-65, 65, 70, 75, and 80 The premium rate methodology for each policy listed. “Premium Rate Methodology” means attained age, issue age, or community rated. The waiting period for pre-existing conditions for each policy listed This consumer rate guide must be distributed using all of the following methods: □ Through Health Insurance Counseling and Advocacy Program (HICAP) offices □ By telephone, using the Department’s consumer toll-free telephone number □ On the Department’s website 11.10 Medi-Cal Eligibility Medi-Cal is the name of the Medicaid program in California that provides health coverage to people with low-income and asset levels who meet eligibility requirements. Eligibility For individuals age 19 through 64 and not confined to an institutional setting, Medi-Cal eligibility is conditioned only on a household's annual income, or Modified Adjusted Gross Income (MAGI). Household income below 138% of the Federal Poverty Line (FPL) qualifies an individual or family for enrollment in Medi-Cal, regardless of home ownership, assets, or savings. Children under age 19 are eligible for Medi-Cal if household income is less than 266% of FPL. Persons receiving care in an institutional setting remain subject to a test of income and assets before eligibility for Medi-Cal is established. Medi-Cal expenditures on behalf of persons in institutional settings and all expenditures on behalf of persons age 55 and older are subject to "asset recovery" under federal Medicaid rules following the death of the individual. In some instances, other family members may be responsible for repayment of Medi-Cal expenditures. 130 A.D.Banker&Company® SENIOR NEEDS Benefits Medi-Cal is a federal program that is administered by the state. The federal government provides most of the money to provide benefits; the state provides the administrative services necessary to run the program. Medi-Cal follows the 10 Essential Benefits set by the ACA, and pays for “medically necessary” health care, including: Outpatient services (ambulatory) Emergency services Hospitalization Maternity and newborn care Mental health and substance use disorder services Prescription drugs Rehabilitative services, such as physical and occupational therapy Laboratory services Preventative and wellness services Children's services, including dental and vision Premiums and Costs Share of Cost (SOC) For most Medi-Cal beneficiaries, there is no out-of-pocket "premium" and minimal out-of-pocket expenses for health care and related services and supplies. For individuals or families with an income level too high to qualify for a free Medi-Cal program, there may be a Share of Cost (SOC) requirement, which requires the beneficiary to spend a certain amount of monthly income toward health care expenses before Medi-Cal begins to cover those expenses. 11.11 Long-Term Care Insurance Long-Term Care Insurance Defined The Long-Term Care (LTC) insurance regulation is intended to promote the availability of long-term care coverage. Long-Term Care insurance includes any individual policy, group policy, or rider that is advertised, marketed, offered, solicited, or designed to provide coverage for no less than 12 consecutive months. It may cover diagnostic, preventive, therapeutic, rehabilitative, maintenance, or personal care services that are provided in a setting other than an acute care unit of a hospital. The Long-Term Care Need National studies indicate that at some point, 40% of people over age 65 will enter a nursing home The older a person, the greater the possibility of a need for some kind of long-term care Medicare provides very limited coverage (skilled nursing) for long-term care Medi-Cal provides coverage but only when a specific monthly test of assets and income is satisfied The need for coverage can arise at any age A.D.Banker&Company® 131 CHAPTER ELEVEN Suitability Standards and Requirements Insurers who market and sell Long-Term Care policies must develop and maintain a copy of suitability standards for solicitation and sales. All producers must be trained in the company’s suitability standards. A copy of the insurer’s suitability standards must be made available for inspection by the Commissioner. Suitability standards determine: The applicant’s ability to pay for the proposed coverage The applicant’s goals or needs regarding long term care and the advantages/disadvantages of long-Term insurance in meeting those goals or needs Whether the applicant already has an existing long term care policy that will be supplemented or replaced, and the advantages/disadvantages of such a transaction Whether issuing Long-Term Care insurance coverage to an applicant is appropriate The issuer and/or agent must make reasonable efforts to obtain the suitability information from an applicant. Prior to the application, applicants must complete and submit a Long-Term Care Personal Worksheet (as developed by the NAIC) that will be used to determine suitability. If the purchase of a Long-Term Care policy is determined to be unsuitable for the client, a Letter of Unsuitability will be provided to the applicant. This does not apply to life insurance policies that accelerate benefits for long-term care. Types of Contracts that Provide Coverage Long-term care coverage may be written as any of the following: Riders for life insurance policies and annuities Individual Policies (issue ages 18 to 84) – The most common form of LTC being sold today. These policies are regulated by the state and can be customized to meet the insured’s needs. Group Policies – Are subject to the same standards and regulations as individual policies, but may be less costly than individual coverage Elimination Period, Benefit Period, and Benefit Amount Rates are affected by the length of the elimination and benefit periods and the amount of the benefit. The elimination period may be as short as 30 days or as long as 1 year, with 90 days being the most common. The elimination period is a waiting period after a loss occurs before the benefit period begins. The shorter the elimination period, the higher the premium. The elimination period qualification can be achieved one of two ways: Service Days – The elimination period is based on the number of days in which the insured actually received care. For example, if the insured was receiving home care for 4 days a week, only 4 days would count toward the elimination period. Calendar Days – The elimination period is based the number of calendar days starting with the first day of the claim. The policy benefit period is the amount of time the benefits will be paid upon a loss, which is not the same as how long the policy is in force. The benefit period begins at the end of the elimination period. Upon triggering benefits, LTC policies in California convert the benefit period and daily benefit amount into a "bucket of money" which may be used according to the limitations of the contract. Benefits will not be exhausted until there is no money remaining to pay claims. The longer the benefit period, the higher the premium. 132 A.D.Banker&Company® SENIOR NEEDS Long-Term Care contracts are usually indemnity plans that are structured to pay a daily benefit amount as specified in the contract, such as $50 – $200 per day. The contract will pay up to the policy maximum limits according to the daily limitations in the policy. Benefit Triggers There are conditions that initiate or trigger the benefits to be paid under a Long-Term Care policy. Prior hospitalization is not a requirement to trigger benefits. There are two classifications of benefit triggers: Activities of Daily Living The Activities of Daily Living (ADLs) include bathing, continence, dressing, eating, toileting, and transferring. Insurers may include the definition of ambulating within the definition of transferring, but ambulating by itself cannot be included as an ADL in a tax-qualified LTC policy. If the insured is incapable of performing or requires “stand-by assistance” with any two or more of these ADLs, the benefits will be triggered. The insured is considered to be functionally impaired. A Physician Certification stating the patient is chronically ill and in need of long-term care is required. Cognitive Impairment Involves the loss of memory and deductive or abstract reasoning due to an organic mental illness, including Alzheimer’s disease and senile dementia. Also includes impairment due to traumatic brain injury, such as a stroke or blunt-force trauma. Impairment in any of the ADLs is not required under this classification. 11.12 Long-Term Care Coverages and Conditions LTC Facilities and Levels of Care Skilled Nursing Skilled Nursing Care is 24-hour constant nursing care provided under the direct and immediate supervision of a registered nurse (RN) or licensed medical professional. Skilled nursing care is typically provided in a licensed Residential Care Facility for the Elderly (RCFE) that operates according to the laws of the state requiring a licensed physician to be responsible for all patient care. Services provided include the use of feeding tubes, IV therapy, dialysis, and wound care. Daily medical records are maintained for each patient. Intermediate Care Intermediate Care requires daily supervision by a licensed medical professional. It is considered "in-between" care to help patients requiring less than skilled care to remain independent. This type of care is designed to assist with medication management and basic medical monitoring. Intermediate care is usually provided in a nursing home, intermediate-care unit, or assisted living facility that is licensed by the state and requires a licensed physician to be responsible for all patient care. Daily medical records are maintained for each patient. Custodial (Non-skilled) Care Custodial Care is nonmedical personal care providing assistance with ADLs, meal preparation, housework, shopping, laundry, and similar activities. Custodial care does not require the caregiver to be a licensed medical professional and can be provided in a licensed facility or in one's home. A.D.Banker&Company® 133 CHAPTER ELEVEN LTC Coverages Long-Term Care insurance may provide coverage for institutional care, home care, and communitybased care. Policies that only provide institutional care must prominently display in the outline of coverage the words “Nursing Facility and Residential Care Facility Only.” Policies that only provide home care and community care must prominently display the words “Home Care Only” in the outline of coverage. Only policies that provide coverage for institutional, home, and community care can be called Comprehensive Long-Term Care insurance. The following are standard coverages that must be provided by policies providing home and community care: Home Health Care Noninstitutional care received in one’s own home or the home of another under a planned program by an attending physician. Assistance with activities necessary to the insured's ability to remain in their residence provided by a skilled or unskilled person under a plan of care developed by a physician or a multidisciplinary team under medical direction. Hospice Care Provides pain control, comfort, and counseling for the terminally ill patient. Hospice care also includes a family counseling benefit. Adult Day Care Centers Designed to provide custodial care and supervision on a day care basis outside the home for individuals not requiring 24-hour confinement in a nursing home but who continue to live at home. Respite Care Provides relief to a primary caregiver and can include a service, such as someone coming to the home while the original caregiver tends to other matters. Most policies will include benefits for temporary institutionalization of the insured during a period of respite. Personal Care Personal care services are provided for people who need assistance with daily living, but do not require nursing. In California, such caregivers do not require separate licensing. Personal care may be categorized in more than one level, such as: Level I – Assistance with general household activities Level II – Assistance with bathing, dressing, meal preparation, housekeeping, and selfadministered medication Home Care Benefits cannot be limited or excluded by any of the following: 134 Requiring a need for care in a nursing home if home care services are not provided Requiring that skilled nursing or therapeutic services be used before or with unskilled services Requiring the existence of an acute condition Limiting benefits to services provided by Medicare-certified providers or agencies Limiting benefits to those provided by licensed or skilled personnel when other providers could provide the service, except where prior certification or licensure is required by state law Defining an eligible provider in a manner that is more restrictive than that used to license that provider by the state where the service is provided Requiring "medical necessity" or similar standard as a criteria for benefits A.D.Banker&Company® SENIOR NEEDS Every Comprehensive Long-Term Care policy that provides for both institutional care and home care and that sets a daily, weekly, or monthly benefit payment maximum, must pay a maximum benefit payment for home care that is at least 50% of the maximum benefit payment for institutional care, and home care benefits cannot be paid at a rate less than fifty dollars ($50) per day. Policy Provisions Waiver of Premium Most Long-Term Care policies include a Waiver of Premium benefit that provides for premiums to be waived after the stated elimination period has elapsed and for as long as disability continues. The elimination period in a Long-Term Care policy is a one-time requirement. Inflation Protection (Cost of Living) At the time of application, LTC policies must offer the insured the option of purchasing inflation protection that provides for the daily benefit amount and benefit maximums to increase based on reasonably expected increases in the cost of services provided in the policy. LTC insurers in California must offer this feature that is not less favorable than one or more of the following: Annual increase at a rate of not less than 5% of the original daily benefit either at a fixed or compounding rate Guarantees the insured the right to periodically increase benefit levels without evidence of insurability or claims history as long as the option for the previous period has not been declined Covers a specified percentage of actual or reasonable charges When an applicant does not accept the offer of inflation protection, the producer must obtain a signed statement that the applicant has been made aware of and rejects the inflation protection benefit. Guaranteed Insurability Option (Future Increase Option) Provides for future periodic increases without proof of insurability, even if the insured is on claim. Future purchase options will increase the premium each time an increase in daily benefit is accepted. Return of Premium This optional benefit provides for a refund of a portion of the premium to a named beneficiary if the insured dies before all benefits pay out. The refund is offset by the amount of any claims paid prior to the insured’s death. Nonforfeiture Options This rider will provide paid-up coverage if the insured cancels or lapses the policy due to nonpayment of premium. The nonforfeiture amount will be used to provide future benefits based on the premiums that were paid into the policy. Nonforfeiture options include: Cash Surrender Value – Provides a lump sum payment of surrender values accumulated in the policy Reduced Paid-Up – Reduces the daily benefit for the duration of the benefit period once premiums have been discontinued Extended Term – Provides for the current daily benefit limit to be paid for a reduced number of years based on the discontinuance of premium payments A.D.Banker&Company® 135 CHAPTER ELEVEN Pre-existing Conditions An LTC policy cannot more restrictively define a pre-existing condition than “a condition for which advice or treatment was recommended or received within 6 months of the effective date of coverage.” Prohibited Provisions An LTC policy may not contain a provision that: Cancels, nonrenews, or terminates the policy on the grounds of age or deterioration of the mental or physical health of the insured; a Long-Term Care policy may only be cancelled by the insurer for nonpayment of premium Establishes a new waiting period when existing coverage is converted or replaced by a new form, except when the insured voluntarily selects an increase in benefits Provides coverage for only skilled nursing care instead of lower levels of care Limits or denies benefits to a policyholder who is diagnosed with any destructive brain tissue disease that will result in loss of brain function Provides for payments of benefits based on standards described as “usual and customary” or “reasonable and customary” or words of similar importance (policies must pay actual expenses, up to the dollar limitations of the policy) 11.13 LTC Minimum Benefit Standards and Exclusions Every Long-Term Care policy must provide a 30-day free look period from the date the policy is delivered. If the applicant is not satisfied, the policy may be returned for a full refund and the policy is void. LTC policies also must contain a renewal provision that is not less favorable to the insured than Guaranteed Renewable. A guaranteed renewable policy requires the insurer to continue to renew, but may increase rates based on the “class” of insureds, such as age. The renewal provision must be stated on the first page of the policy. A Long-Term Care policy may be cancelled for nonpayment of premium. Every group policy must provide for continuation or conversion if the group coverage is terminated for any reason other than the insured’s failure to make a required payment when due. An Outline of Coverage must be delivered to an applicant on the initial solicitation and prior to the presentation of the application form. The outline must include: A description of benefits and coverages Exclusions, reductions and limitations Explanation of the renewability provision and possible increase in premiums A description of the Free Look Provision Continuation, conversion, and replacement rights of the insured The relationship of cost of care and benefits Every insurer issuing LTC policies must include the benefits for care of individuals who have Alzheimer’s disease. Every LTC policy must include basic policy requirements in the policy provisions. An Extension of Benefits must be provided if institutionalization began while the policy was in force and continues without interruption after termination of the policy if due to nonpayment of premiums. The extension of benefits may be limited to the duration of the benefit period or to the payment of maximum benefits. 136 A.D.Banker&Company® SENIOR NEEDS Long-Term Care Exclusions Acute care (hospitalization) Rest cures Nervous or mental disorders which have no demonstrable organic cause (Alzheimer’s disease cannot be excluded) Injury or sickness caused by war or any act of war, declared or undeclared Intentionally self-inflicted injuries Chemical dependency unless it results from the administration of drugs under a physician’s prescription and direction Conditions covered under Workers’ Compensation Injury arising out of committing or attempting to commit a felony Services provided outside the United States 11.14 Replacement of Long-Term Care Policies In recommending the purchase or replacement of any Long-Term Care insurance, an agent must make a reasonable effort to determine its appropriateness. No insurer or agent may unnecessarily replace a policyholder’s Long-Term Care insurance policy or replace it with a policy that will result in decreased benefits and an increased premium. Any third or greater policy sold to a policyholder in any 12-month period is deemed unnecessary unless the replacement is for consolidation purposes with a single insurer. All LTC applications must contain questions which request information from the applicant concerning whether the new policy is intended to replace any other accident, sickness, or LongTerm Care contract. When it is determined that the sale of the policy involves replacement, the agent must provide the purchaser with a “Notice Regarding Replacement of Accident and Sickness or Long-Term Care Coverage” prior to the delivery of a policy. A copy of the notice is given to the applicant and a signed copy is retained by the insurer. If a policy replaces another Long-Term Care policy, the replacing insurer must waive any time periods applicable to pre-existing conditions that have been satisfied under the existing policy. Any time that Long-Term Care coverage is replaced, the sales commission that is paid by the insurer must be calculated on the difference between the annual premium of the replacement coverage and that of the original coverage and the first year commission cannot be greater than 200% of the second or subsequent years' commission. If the premium on the replacement product is less than or equal to the premium for the product being replaced, the sales commission must be limited to the percentage of sale normally paid for renewal of Long-Term Care policies. Commission or other compensation includes monetary or non-monetary rewards of any kind for the sale or renewal of a policy. Such rewards include, but are not limited to, bonuses, gifts, prizes, awards, and finder’s fees. A.D.Banker&Company® 137 CHAPTER ELEVEN 11.15 Qualified Long-Term Care Insurance Long-Term Care policies that use federal standards to cover benefits are labelled as "Federally Tax Qualified." Some or all of the premiums for tax-qualified policies may be deductible as a medical expense on federal and state income tax returns, depending on the individual's age and the amount of the annual premium. Certain requirements must be met for a policy to be tax qualified, including: The only protection in the contract is for long-term care The contract does not pay any Medicare reimbursable expenses The policy must be a guaranteed renewable contract The policy has no cash value accumulation that may be assigned as collateral, borrowed or surrendered for value. A policy may include a nonforfeiture option that allows conversion of an LTC policy to paid-up status, or refunds the balance of premiums paid which are in excess of claims paid. All refunds or dividends must be applied to either reduce premiums or increase benefits. The policy must comply with the NAIC Model Act which has been adopted by most states. The Act defines qualified long-term care services as either: □ Required diagnostic, preventive, therapeutic, curing, treating and rehabilitative required for a chronically ill or injured person and the services are provided by a licensed care giver □ The person is expected to be functionally unable to care for themselves for a period of 90 days due to the loss of 2 functions of Activities of Daily Living (ADLs), and needing substantial assistance from another person A qualified policy must contain at least 5 of the 6 ADLs to be considered a qualified LongTerm Care plan receiving the tax benefits set forth by the IRS. California law requires all 6 ADLs. The Health Insurance Portability and Accountability Act established new requirements and qualifications under federal law. California requires all tax-qualified plans to qualify based on federal legislation. Non-tax qualified plans must meet the eligibility requirements of the California Insurance Code. All agents selling LTC must be aware and able to explain the differences between eligibility of a qualified and nonqualified LTC policy. 11.16 Long-Term Care Partnership Policies California was one of the original four states that instituted a Long-Term Care Partnership program. The term "partnership" is used because the insurance coverage is a result of a cooperation or partnership between state Medicaid agencies and insurers. The goal is to encourage the purchase of long term care policies that subsequently will ease the financial burden on Medicaid. The purchase and use of a partnership policy does not guarantee future Medicaid enrollment. California has 2 types of partnership policies: 1. Comprehensive – These policies provide benefits for both institutional care and home care. 2. Facility Only – These policies cover only care provided in a facility, such as skilled nursing, intermediate nursing, assisted living, or other residential facilities. 138 A.D.Banker&Company® SENIOR NEEDS California LTC Partnership policies: Must be tax qualified as previously described Must include 5% compound inflation protection unless the applicant is 75 years of age or older Provide "asset disregard," which means whatever benefit amount a partnership policy paid will be disregarded from a person’s assets if Medicaid is applied for in the future. Assets will not have to be "spent down" and the policy’s paid benefit amount will be deducted from a person’s estate should Medicaid later attempt to recover its expenses after the recipient dies. 11.17 California Consumer Protection All insurers, brokers, agents, and others engaged in the business of insurance owe a consumer a duty of honesty, good faith, and fair dealing. The conduct of an insurer, broker, or agent during the offer and sale of a policy must not breach the duty of honesty, good faith, and fair dealing. A copy of any Long-Term Care insurance advertisement intended for use in this state must be provided to the Commissioner for review at least 30 days before dissemination. Advertisements must be retained by the insurer for at least 3 years. An advertisement designed to produce leads must prominently disclose that “an insurance agent will contact you,” if that is the case. The following acts and practices are prohibited: Twisting – Intentionally making any false or materially inaccurate representation or comparison of two or more policies which induces any person to lapse, forfeit, surrender, or not take a policy of insurance. High-Pressure Tactics – Using any marketing method that induces or even tends to induce the purchase of insurance through force, fright, threat, or undue pressure. Such unlawful pressure may be either implicit or simply implied. Cold Lead Advertising – Using any method of marketing that fails to conspicuously disclose that a purpose of the advertising is the solicitation of insurance and that contact will be made by an insurance agent or insurance company. An agent, broker, or other person who contacts a consumer as a result of receiving information generated by a cold lead device must immediately disclose that fact to the consumer. Every insurer providing Long-Term Care insurance in California must: Establish marketing procedures to assure that any comparisons of policies will be fair and accurate and that excessive insurance is not sold or issued Submit a list updated semiannually of all agents or representatives authorized to solicit consumers for the sale of Long-Term Care insurance Display prominently on the first page of the policy and the outline of coverage: □ "Notice to buyer: This policy may not cover all of the costs associated with long-term care incurred by the buyer during the period of coverage. The buyer is advised to review carefully all policy limitations." Provide to a prospective applicant, at the time of solicitation, written notice that the Health Insurance Counseling and Advocacy Program (HICAP) provides health insurance counseling to senior California residents free of charge Provide a copy of the Long-Term Care insurance Shopper's Guide developed by the California Department of Aging to each prospective applicant prior to the presentation of an application or enrollment form for insurance A.D.Banker&Company® 139 CHAPTER ELEVEN Health Insurance Counseling and Advocacy Program (HICAP) HICAP is a federally mandated state and federally funded program that provides free counseling to Medicare beneficiaries and their families that have questions concerning Medicare benefits, Medicare Advantage, Medicare Supplement insurance, Prescription Drug plans, Medi-Cal, and Long-Term Care insurance. This program administered by the California Department of Aging and is operated locally by Area Agencies on Aging. Its functions include: Free assistance Education Consumer advocacy Legal assistance with problems regarding benefits, claims, billing, and appeals The Program does not sell insurance or endorse any specific type of insurance. HICAP provides assistance by phone or in person and can provide legal assistance in regard to Medicare and MediCal. Contact information for the local HICAP agencies can be found at: www.aging.ca.gov/hicap/ countylist.aspx. Long-Term Care Training Requirements Long-term care training is required for each agent or other insurer representative authorized to solicit individual consumers for the sale of Long-Term Care insurance. For resident licensee's the training will count toward the licensee's continuing education requirement. The training requirements include 8 hours of LTC training: Prior to soliciting individual consumers for the sale of LTC insurance In each of the first 4 years of licensing Every 2 year license term beginning with the fifth year of licensing Licensees must complete this training prior to being authorized to solicit individual consumers for the sale of Long-Term Care insurance. 140 A.D.Banker&Company® 12 Individual Policy Provisions OVERVIEW The purpose of this chapter is to explain the various provisions and clauses that help establish basic continuity between health insurance policies. Since health policies are not standardized uniform contracts, the Mandatory Uniform Provisions are designed to protect the insured. The Optional and Standard Provisions also further specify the rights of the insurer and the insured. The provisions in this chapter are specific to individual accident and health policies, including Medical Expense, Disability Income, Medicare Supplements, and Long-Term Care. Upon the completion of this chapter, you will be able to: 1. 2. 3. 4. 5. 6. Recognize the 12 Mandatory Uniform Health Provisions Identify each individual health policy's Optional Uniform Provisions Define the Free Look, Insuring, and Consideration Clauses Differentiate between the various Policy Renewal Provisions List the cost-saving services included in a Managed Care plan Explain the Impairment, Guaranteed Insurability, and Multiple Indemnity Riders 12.1 Mandatory Uniform Provisions The Mandatory Uniform Provisions were developed by the NAIC to establish policy provision standards. By law, these uniform provisions must be included in every individual accident and health insurance policy to protect the policyowner and insured's interests. Different wording may be used as long as it is at least as favorable as the original wording. No additional provisions may be included which otherwise restrict or modify a uniform provision. Entire Contract Clause The entire contract includes the policy, provisions, a copy of the application, and any riders, waivers, or endorsements. Changes to the policy must be requested in writing, signed by the insurer, and attached to the contract in the form of an amendment. The agent does not have the authority to directly make changes to the policy or waive any policy provisions. Time Limit on Certain Defenses (Incontestable) False statements on the application may lead to rescission of the policy by the insurer during the first 2 years of the contract. After the policy has been in force for 2 years, it becomes incontestable, meaning no statement or misstatement made in the application at the time of issue can be used to deny a claim. The only exception to the time limit is for fraud. Fraudulent statements can be used to deny coverage at any time while the policy is in force. Fraud is a crime of intent, and the insurer would have to prove that the insured knew the information was false and had intended to obtain benefits which would be denied if the true information were known. A.D.Banker&Company® 141 CHAPTER TWELVE This provision also provides that a pre-existing condition cannot be excluded beyond the 2-year time limit unless specifically excluded by name in the contract. Grace Period The grace period is the time after the premium due date before the policy lapses for nonpayment of premium. The grace period varies with mode of premium. The grace period must not be less than 7 days (weekly premiums), 10 days (monthly premiums) and 31 days for all other modes of premium. Reinstatement Reinstatement allows the insured, at the insurer’s discretion, to put back in force a policy that has lapsed for nonpayment of premium by paying past due premiums plus interest. A reinstatement application to prove insurability may also be required. If the insurer does not reject the reinstatement application within 45 days, coverage will be automatically reinstated. Accidents are covered immediately and sickness coverage begins 10 days after reinstatement. Any premium accepted for reinstating the policy may be applied to a period of not more than 60 days for which premium was not previously paid. Notice of Claim It is the insured’s responsibility to notify the insurer of a claim. It must be given in writing and is required within 20 days of loss or as soon as reasonably possible. A notice to the agent is the same as notice to the insurer. If the insured receives continuing disability in which benefits may be payable for at least 2 years, the insurer can require notice of continuance of disability every 6 months. Claim Form Provision If the insurer requires a claim form, it must be received by the insured from the company within 15 days after notice of claim. If forms are not furnished, the insured may submit written proof of occurrence, character, and extent of the loss. Proof of Loss This provision limits the amount of time the insured has to submit proof of a loss to the insurer. Proof of loss is required within 90 days of loss. Failure to provide proof of loss within the required time limit will not invalidate or reduce the claim if it was not reasonably possible as long as the proof is provided as soon as possible and not later than 1 year from the time proof was required, except in the absence of legal capacity. Time of Payment of Claims All claims are to be paid immediately upon written proof of loss. Loss-of-Time benefits (disability income) will be paid not less frequently than monthly. Payment of Claims Claims are paid to the policyowner unless otherwise specified or there is an assignment of benefits. Any death benefits are paid to the named beneficiary or to the insured's estate if no designation is effective. 142 A.D.Banker&Company® INDIVIDUAL POLICY PROVISIONS Assignment of Benefits A method that allows the insured to transfer the payment of hospital, nursing, medical, or surgical services to the provider of services, such as a physician or hospital. Assignment of benefits makes the claims process easier for the insured. Physical Exam and Autopsy Gives the insurer the right to examine the insured or require an autopsy at insurer’s expense, where not prohibited by law. Legal Actions No legal action may be brought against the insurer to recover payment on a policy prior to 60 days after written proof of loss is furnished. Legal action against an insurer may not be brought against an insurer after 3 years from the time the written proof of loss was required to be furnished. Change of Beneficiary Consent of beneficiary is not required for the insured to surrender or assign the policy, change the beneficiary, or make any other changes in the policy unless the beneficiary is irrevocable. The change becomes effective on owner’s signature date upon the insurer’s recording the change. 12.2 Optional Uniform Provisions The NAIC also developed Optional Uniform Provisions that are not required, but may be included in a policy at the insurer's option. The wording must follow NAIC standards, however, different wording may be used if at least as favorable to the insured or beneficiary. These provisions are included at the insurer’s option and are designed to protect the insurer. However, if used, they must conform to the state’s insurance code. Change of Occupation If the insured changes to a more hazardous occupation without notifying the insurer prior to submitting a claim, the benefits will be reduced to that benefit which premiums paid would have purchased at the more hazardous occupation. If the insured changes to a less hazardous occupation, the benefits will pay as stated in the policy and the insured may apply for a rate reduction. If the insured works at two occupations, rates for the most hazardous occupation will be charged. This also applies to situations which the insured changes occupations and fails to notify the insurer prior to a loss. Misstatement of Age If the age of the insured has been misstated on the application, benefits paid will be based on what the premium paid would have purchased at the correct age. If the misstatement leads the insurer to provide coverage beyond the age limit, liability is limited to a refund of premiums. Other Insurance with This Insurer If the insured has more than 1 policy with the same company, the insured may decide which policy to use. Excess premiums for the excess coverage will be returned. The provision protects insurers against overpayment of claims. A.D.Banker&Company® 143 CHAPTER TWELVE Insurance with Other Insurers When an insured is covered by more than one policy, claims will be paid according to the policy with the largest benefit, but claims will be apportioned between the various insurers in relation to the amount of premiums paid as a percentage of the total premium the insured has paid for all such policies. The form of this optional provision may vary slightly based on whether the benefits are "expense incurred" or simply "other benefits" which are not expense incurred. Expense Incurred In the total amount of coverage from all valid policies exceeds the insured's allowable benefit for expenses incurred, each insurer's liability is limited to a proportion of the loss. This is calculated by determining each company's proportion of the total coverage and applying that same proportion to the loss. Excess premiums will be refunded to the insured. Other Benefits The same provision applies to policies that do not provide Expense-Incurred benefits, such as Lossof-Time benefits. If coverage from all policies exceeds the insured's earned income at the time of application, each company will pay a proportion of the benefits. Relationship of Earnings to Insurance Disability Income (loss-of-time) benefits cannot exceed the greater of the insured’s monthly earnings at the time the disability began or the insured’s average earnings for the 2 years immediately preceding a disability. The monthly benefit cannot be reduced to less than $200. Unpaid Premiums This provision allows an insurer to deduct unpaid premiums from a claim that has occurred during a grace period. Conformity with State Statutes Any provision on the policy effective date that is in conflict with statutes of the state is automatically amended to meet state requirements. Illegal Occupation/Act When this provision is included, a claim will be denied if the insured is injured while committing an illegal occupation/act. Also, an illegal occupation will result in an application being declined for coverage. Intoxicants and Narcotics If an injury is caused by the insured being intoxicated or under the influence of drugs, unless administered in accordance with the advice of a physician, a claim will be denied. Cancellation The insurer may cancel with 5-day written notice to the insured. Unearned premium is refunded on a pro rata basis if cancelled by the insurer. The insured may cancel after the initial policy term with written notice to the insurer at any time. The unearned premium is returned on the short rate basis, which includes a cancellation fee. The insured's cancellation will become effective not later than 5 days after receipt of the cancellation request by the insurer. 144 A.D.Banker&Company® INDIVIDUAL POLICY PROVISIONS 12.3 Other Standard Provisions and Clauses The following are general standard provisions that may be included in individual and group insurance contracts. The terminology may vary based on state law. Right to Examine (Free Look) Allows the insured, upon delivery of the policy, 10–30 days to look over the policy and if dissatisfied, return it for a full refund. A free look period of 30 days is required for Medicare Supplement and Long-Term Care policies. Insuring Clause This provision states who is insured, the insurer, the amount of coverage, the time period and the insurer's promise to pay benefits according to the terms and provisions found in the policy. Consideration Clause Consideration by definition is the exchange of value in a contract. This clause states the amount and frequency of the premium, including statements in the application that determine the premium. This is the insured’s consideration in exchange for the insurer’s promise to pay benefits within the contract terms. Pre-existing Condition Provision This provision defines conditions that the applicant received, or should have received, medical advice or treatment prior to the effective date of the policy. Probationary Period A specified period of time before coverage goes into effect for pre-existing conditions. This is designed to protect the insurer for losses due to a sickness that occur immediately (10 – 30 days) after the policy is issued. Losses due to an accident are not pre-existing and are covered immediately with no waiting period. Elimination Period A waiting period found in disability insurance policies before benefits are payable after a loss occurs. This acts as a time deductible and eliminates claims for losses that do not last a minimum period of time. The policyowner can choose the elimination period in the policy and the time period selected will affect the premium. The longer the elimination period chosen, the lower the cost of coverage. Waiver of Premium Premiums are waived by the insurer after a stated time period (usually 3 – 6 months). Premiums are not paid by the insured until such time they have recovered from the disability; then premiums are resumed at the same mode and amount. A.D.Banker&Company® 145 CHAPTER TWELVE 12.4 Policy Renewal Provisions Each health policy must define conditions and provisions for coverage to continue. Effective and termination dates must be shown in the policy. Insurers may cancel under any of the renewal provisions when premium payments are discontinued. Noncancellable Guaranteed renewable and the premiums cannot be altered. This is most favorable for the insured because only the owner can terminate the policy and rates never increase. The insurer cannot change the policy terms or provisions, except to make them more favorable for the insured, once issued. Guaranteed Renewable Renewable without proof of insurability at insured’s option, to age 65 or for the insured’s lifetime. Premiums are not guaranteed, and may be changed on a class basis only, not an individual basis. Conditionally Renewable Policy is renewable unless a termination notice is given by the insurer or is nonrenewable for specified conditions (such as the insured must still live in California, or the insured has not changed occupations) that must be stated in the policy when issued. Optionally Renewable The policy may be cancelled at the option of the insurer (but only on a premium due date or policy anniversary). Cancellable Insurer or insured may cancel at any time (has lowest premium). This is the least favorable to the insured. Period of Time (Nonrenewable) Life of the policy is expressed and cannot be renewed. If the covered medical services were provided while the policy was in force and just before policy termination, the insurance company must pay the claim as any other claim. 12.5 Cost Containment in Health Care Delivery Managed Health Care has been implemented to contain or reduce costs associated with health care delivery. Managed Health Care plans usually include the following cost-saving services: Preventive Care Managed Care plans are known for stressing preventive care. This is care designed to prevent illness or disease. The basic premise is that it is more cost effective to prevent losses than to treat losses after they occur. Examples of preventive care include covering well child care visits, immunizations, mammography screenings, as well as nutrition and weight loss programs. 146 A.D.Banker&Company® INDIVIDUAL POLICY PROVISIONS Alternatives to Hospital Services Oftentimes, care may be provided in a setting other than a hospital. Many procedures can now be performed in a surgical center on an outpatient basis as opposed to a hospital admission. Treatment may also be provided by a visiting nurse in one’s home, or hospice for the terminally ill. Comprehensive Case Management A case manager may be assigned to determine the appropriate course of action for an insured. The case manager may require a referral or a second opinion before approving a procedure. The case manager will also manage the utilization review of a subscriber’s stay in the hospital or may provide assistance with a future course of action during recovery of the insured. Mandatory Second Surgical Opinion This requirement may be included in policies that offer Surgical Expense benefits, requiring the insured to consult a physician, other than the attending physician, to determine the necessity of surgery and/or alternate methods of treatment. If the insured should fail to obtain the second opinion, benefits are greatly reduced. The provision also permits the insured to request a second opinion if they disagree with the recommendation of the treating physician or health care provider. Utilization Review The review that determines whether provided or proposed healthcare services are or were medically necessary. This does not apply to emergency services but involves “before, during, and after” medical services. Prospective Review A utilization review conducted prior to the delivery of the requested medical service. Prospective reviews include the initial review conducted before treatment starts, and the initial review for treatment to a different body part. During prospective (or concurrent) review, copies of medical records may be required only when necessary to verify that the healthcare services being considered are medically necessary. Concurrent Review A utilization review conducted while services are being provided. The insurer monitors the insured’s hospital stay to make certain that everything is proceeding according to schedule. The length of hospital stay is monitored. Retrospective Review A review of claims for services already received. Retrospective review may be used to confirm medical necessity of services, identify coordination of benefits opportunities, and to determine if a non-precertification penalty applies. Precertification Requires the insured to notify their insurer in advance of certain non-emergency procedures. The physician may submit claim information prior to treatment to know in advance if the procedure is covered and at what rate benefits will be paid. A.D.Banker&Company® 147 CHAPTER TWELVE Ambulatory Outpatient Care These facilities monitor the cost effectiveness of outpatient services and provide, in addition to diagnosis and treatment: Preventive care Health education Family planning Dental/vision care Emergency Services In a bona fide emergency, when loss of life or serious complications may result if treatment is delayed, an insured will not be required to obtain permission from a primary care physician to use a hospital emergency room. An "emergency" is whatever the insured believes it to be, but the insured is expected to not use the emergency room for routine health care needs. In an emergency, an insured may use the nearest physician, hospital, or urgent care facility without regard to whether it is "in-network" or "out-of-network." All emergency care must be covered as if it were provided on an in-network basis. Non-Emergency Hospital Pre-authorization Admissions When admission to a hospital's facilities is "elective," the insurer may require pre-authorization approval before claims will be paid. Failure to obtain pre-authorization can result in denial of coverage, or a substantial reduction in the coverage normally provided. Out-of-Area Benefits and Services In an HMO health plan, all routine services must be obtained within the established network of hospital and other service providers, unless prior authorization is obtained from the HMO to use a non-network provider. Emergency services are always exempt from this restriction. 12.6 Policy Riders Impairment Rider An Impairment Rider is a temporary or permanent rider added to a policy that will exclude specific conditions that would normally cause a policy to be declined or rated substandard. The use of this rider allows an insured to qualify for a policy with the exclusion attached, generally at standard rates. Guaranteed Insurability Rider This rider, which may also be referred to as the Future Insurability Option, is commonly found in disability income and Long-Term Care policies. It will allow an insured to increase limited benefits at specified intervals in a policy without evidence of insurability. This rider is added to the policy for an additional premium. 148 A.D.Banker&Company® 13 Group Health Insurance OVERVIEW This chapter will focus on group health insurance provisions, the group underwriting process, eligible groups, and group insurance plan design. The federal mandates of COBRA and HIPAA will also be explored in this chapter. Upon the completion of this chapter, you will be able to: 1. 2. 3. 4. 5. 6. Identify the characteristics of group insurance Recognize the types of eligible groups Explain the open enrollment period in employer-related group plans Differentiate between experience and community rating in group health plans Recall the plan design features of a group insurance plan Identify the roles that COBRA and HIPAA play in the healthcare arena 13.1 Characteristics of Group Insurance Group health insurance is similar in nature to group life insurance. Employers are the most common sponsors of group insurance. The employer may contract with an insurance company, HMO, or PPO to provide for payment of direct health care expenses, or may hire a Third Party Administrator to manage claims and other aspects of a self-funded plan. These plans are designed to cover only nonoccupational (not work-related) injury or disease. In order for a group to be eligible, it must be considered a natural group, which is a group that is formed for a purpose other than to obtain insurance. Insurance must be incidental to the group. A group insurance contract is between the group sponsor (employer) and the insurance company. The group sponsor receives a Master Policy, while individual employees receive a Certificate of Insurance and a Summary of Benefits. In order for a group to be eligible, it must be considered a Natural Group, which is a group that is formed for a purpose other than to obtain insurance. Insurance must be incidental to the group. Eligibility for Coverage To be eligible, an employee must meet the employer's eligibility requirement. Employers who offer health insurance to full-time employees cannot exclude any who work at least 30 hours per week. The employer maintains control over the plan, determines benefits, oversees the enrollment process, and makes premium payments. The employer cannot discriminate when determining eligibility and employee benefits. A.D.Banker&Company® 149 CHAPTER THIRTEEN 13.2 Large Group Underwriting Process Open Enrollment Period A Large Group for health insurance in California is a single employer with more than 100 (101+) full-time employees. These underwriting practices and requirements are only applicable to large groups. The underwriter’s greatest concern when underwriting a group plan is adverse selection. To help protect against pre-existing conditions and immediate claims, group plans may have a probationary period of not more than 90 days. This is a waiting period between when an individual joins the group before they can enroll in the group plan. As long as the individual enrolls during the eligibility period that begins after the probationary period ends, coverage is guaranteed and evidence of insurability is not required. Individuals who do not enroll during the initial enrollment period are considered late enrollees and must provide evidence of insurability unless they wait until the next open enrollment period. The cost of the plan is determined by the average age of the group, gender, size, industrial classification (nature of the work involved), experience rating (the group’s claims) and the personnel turnover history. These factors are more important than the actual overall health of the group. Experience vs. Community Rating Insurers may use experience or community rating when determining cost. Experience rating is determined by examining the history of claims a particular group experiences. The insurer uses past experience to predict future cost. Community rating determines premiums by examining a particular geographic region of all plans in force. Participation Requirements The insurer can require a minimum percentage of the group to enroll in the plan to guard against adverse selection. Minimum percentage requirements include: Contributory Plans require that both the employees and employer contribute to the premium, and 75% participation is required Noncontributory Plans require the employer to pay all premiums and 100% participation is required 13.3 Group Provisions Standard Policy Provisions The following provisions must be included in a group policy as specified by the California Insurance Code: Incontestability The validity of the policy cannot be contested, except for nonpayment of premiums, after it has been in force for 2 years. Employees added to the plan after the inception of the policy each have their own 2-year period of contestability with regard to enrollment application misrepresentations and concealments. 150 A.D.Banker&Company® GROUP HEALTH INSURANCE Misstatement of Age A group policy must contain a provision allowing for the adjustment of premium in the event of a misstatement of the age of an employee. Exclusions for War, Military, and Aviation Risks An employer group policy may provide for the exclusion or limitation of coverage for losses arising from conditions relating to war, military service, or aviation exposures. Dependent Eligibility and Continuation California law permits insurers to offer coverage to an employee’s dependents. Eligible dependents include the employee’s spouse and all children from birth until age 26. Disabled children who are not capable of self-support may continue to be covered beyond age 26 as long as their disability is due to mental or physical handicap and chiefly dependent upon the employee for support and continuous maintenance. Proof of the child’s incapacity and dependency must be furnished to the insurer within 31 days of the child’s attainment of the limiting age. Subsequent proof may be required by the insurer, but not more frequently than annually after the 2-year period following the child’s attainment of the limiting age. The decision of whether to offer dependent coverage rests with the employer, must be offered to 100% of participating employees, and this optional coverage may be paid for by the employer, the employee, or both. Domestic Partners A policy of group health insurance that provides hospital, medical, or surgical expense benefits shall provide equal coverage to the registered domestic partner of an employee, insured, or policyholder subject to the same terms and conditions, as provided to a spouse of the employee, insured, or policyholder. An insurer may require the insured to verify the domestic partnership status by providing a copy of a valid Declaration of Domestic Partnership filed with the Secretary of State, an equivalent document issued by a local agency of this state, another state, or a local agency of another state under which the partnership was created. The policy may also require that the insured notify the insurer upon the termination of the domestic partnership. However, this will be required only if the policy requires the insured to notify insurer of marital status verification, such as marriage or divorce. Events that Terminate Coverage Group coverage may be terminated for an employee if employment is terminated, the employee no longer meets eligibility requirements (becomes part-time) or if the group contract is terminated. Conversion Privilege Upon the termination of the employee's eligibly for group insurance, the employee is entitled to convert group benefits to an individual policy during a 31-day conversion period. As long as the application is submitted with the initial premium, the individual policy is issued without evidence of insurability. Premiums will be higher because the conversion policy will be issued at the attained (current) age of the insured. A.D.Banker&Company® 151 CHAPTER THIRTEEN Conversion Period Coverage If an employee under a group policy becomes entitled under the terms of the policy to have an individual policy issued without evidence of insurability and is not given notice of this right within 15 days prior to the 31-day expiration period, the employee must be given an additional period to exercise this right. The additional period will expire 25 days after the notice, but will not extend beyond 60 days after the 31-day grace period provided in the policy. Nonduplication and Coordination of Benefits When an individual has more than one policy that can cover the same loss, the Coordination of Benefits Provision prevents an insured from receiving duplicate benefits by determining the order in which each policy will cover the claim. This prevents Overinsurance, or when more than 100% of a claim is paid. The Coordination of Benefits Provision, also referred to as the Nonduplication of Benefits Provision, will name a policy as primary or secondary. The plan that covers a person as an employee is that person’s primary coverage, and coverage as a dependent under their spouse’s group plan is secondary. In the event children are covered by more than one group plan, the “birthday rule” applies. Under the birthday rule, the plan covering the parent whose birthday occurs first in the calendar year will be the children’s primary coverage. Secondary carriers will only pay claims that are not covered or are not paid in full by the primary carrier, and only to the extent that the claim would be paid if the secondary carrier was in the primary position, such as deductibles, copayments, and/or coinsurance. Relationship with Medicare If an individual is age 65 or over and continues to work, they may be covered by both an employer's plan and Medicare. Medicare is usually the secondary insurer to any employer group health plan the individual participates in. Employer sponsored insurance plans must follow specific rules in coordination with Medicare, such as: A group health plan with 20 or more employees is primary to Medicare and pays first If the employer’s plan does not pay all of one’s expenses, Medicare may pay secondary benefits for Medicare covered services to supplement the amount paid by the group plan Employers who have 20 or more employees are required to offer the same health benefits, under the same conditions to employees age 65 or over and to employees’ spouses who are age 65 or over, as offered to the younger employees and spouses. If an employee is disabled and on Medicare, they are to receive the same offer as all other employees. Take-Over Benefits – Coinsurance and Deductible Carryover In the event that a group health plan changes insurers in mid-year, employees must be fully credited with all expenses that have accumulated toward the annual deductible and/or out-of-pocket limit. This includes copayments for prescription medications in companion or stand-alone prescription drug plans. 152 A.D.Banker&Company® GROUP HEALTH INSURANCE 13.4 Types of Eligible Groups Employment-Related Groups Group health insurance plans in California must have the following characteristics: Covers at least 2 public or private employees Issued to the employer with premiums being paid by the employer, employee, or jointly Insures either all employees or all classes of employees as determined by conditions pertaining to employment Written for the benefit of someone other than the employer, such as a trustee representing the employees and dependents When written on a contributory basis, the benefits must be offered to all eligible employees In addition to Individual Employer Groups for employees of an eligible employer, there are other types of eligible groups. Multiple Employer Trusts (METs) METs are entities formed by unrelated businesses in the same or related industrial classification and/or third-party administrators who are called sponsors, thus allowing small to medium sized employers with limited numbers of employees to combine their employees into a single, larger group in order to obtain more favorable life and health insurance premiums and increased benefits (METs can also provide access to other employee benefit plans, such as defined contribution or defined benefit retirement plans). Some features of METs include: The sponsor develops the plan, sets the participation rules, and administers the plan Due to the smaller size of the individual companies participating in the Trust, group health coverage is almost always fully insured, relieving the Trust and participant employers of most liability for the claims of employees The Trust gets the master policy Multi-Employer Welfare Associations (MEWAs) MEWAs are generally formed by larger employers for the purpose of obtaining more favorable rates for life and health insurance. These groups can be created as fully insured, self-funded, or partially self-funded benefit programs as an alternative mechanism to traditional health insurance for small employers. In order for the Department of Insurance to grant a MEWA a certificate of compliance, the MEWA must adhere to standards set forth in the code that are consistent with the provisions of ERISA. In California, MEWAs that are unable to show that they are subject to the jurisdiction of another agency, state, or federal government must be examined by the Commissioner to determine their organization and solvency, and whether they are in compliance with applicable provisions of the Code. MEWAs are required to obtain a certificate of authority to do business in California and be required to meet all appropriate reserve, surplus, capital, and other necessary requirements imposed by the Code for all insurers. A.D.Banker&Company® 153 CHAPTER THIRTEEN Employer Self-Funded Plans Employer Self-Funded Plans are plans created and funded by large employers insuring the risks of the group without the backing of an insurance company. These plans must meet specific funding requirements under ERISA. Third-Party Administrator (TPA) Most self-funded plans have a third-party administrator to handle the administrations services, certification, and claims process on behalf of the employer. Self-Insured Association Health Plans An Association Health Plan (AHP) is a self-insured group health plan that allows businesses and associations, including self-employed workers, to form a group to obtain health care coverage as if they were a single large employer. AHPs are not subject to ACA regulations and are allowed to charge members higher premiums based on factors such as age, health status, and gender, and can refuse treatment for pre-existing conditions. In California, AHPs are prohibited by the Regulations. Labor Unions The Taft-Hartley Act was a 1947 amendment to the National Labor Relations Act of 1937. Among the provisions of the Act, labor unions were permitted, under certain conditions, to establish primarily employer-funded trusts for the provision of health and welfare benefits to union members. Blanket Insurance Group Blanket insurance covers a group of individuals whose membership changes frequently, such as students, passengers traveling on a common carrier, sports teams, volunteer firefighters, or other groups of people while being exposed to a specific risk. Blanket policies do not name specific individuals as insureds, the insured organization/business must certify a covered person's claim as legitimate. The term for a Blanket policy cannot exceed one year. Creditor Group This type of group covers debtors who are obligated to repay an indebtedness in equal installments over a year or more and repay a final balance in any amount on a certain date to a creditor. To qualify, the group must have at least 10 new entrants yearly, the amounts insured cannot exceed the balance of the debt, and the premiums are paid by or through the creditor. 13.5 Replacement of Group Health Insurance Discontinuance Discontinuance is the termination of a policy or of coverage for an entire employer unit under a group disability policy, group nonprofit hospital service contract, or self-insured welfare benefit plan. Insurers replacing hospital, medical, or surgical benefits within 60 days of discontinuance must cover all employees and dependents covered by or eligible for coverage under the previous policy as of the date of discontinuance. The level of benefits must be equal to the coverage provided by the discontinued policy. The replacing insurer is not required to provide future benefits for conditions that caused a disability which arose during the term of the previous policy. 154 A.D.Banker&Company® GROUP HEALTH INSURANCE Extension of Benefits When a group health insurance policy is terminated or replaced, covered individuals who are totally disabled at the time of replacement must continue to have their claims covered. The extension of benefits may be terminated if the employee or dependent is no longer totally disabled. Coverage provided by the new insurer is called Replacement Coverage. No Loss-No Gain for Existing Claims The No Loss-No Gain Provision requires that when group health insurance is being replaced, ongoing claims under the former policy must continue to be paid under either the former policy or the new policy. Coverage under a new policy must not be less beneficial than the former policy, and if covered by the former policy, claims must be paid for the duration of the disability or until the allowable benefit of the former policy has been exhausted. 13.6 Small Group Health Insurance Definition of a Small Group A Small Group for health insurance in California is a single employer with 2-100 “full-time equivalent” employees (persons who work at least 30 hours per week). Two part-time employees each working 15 hours per week is the equivalent of one full-time employee working 30 hours. Small groups may obtain health insurance through Covered California for Small Business (CCSB) or through any of the private exchanges which exist. Health insurance for all eligible employees is a guaranteed issue and must be issued on a standard basis. Although the business owner may be counted as a member of the group, in most circumstances, the spouse and children (under age 26) of a business owner cannot be counted as employees, but may be covered as dependents. Small employers with 25 or fewer employees who each average less than $50,000 in annual income may be eligible for federal premium tax credits of up to 50% of the employee premium for a health plan purchased through CCSB. Premium tax credits are only available to the business for up to 24 months. Health insurance purchased through a private exchange is not eligible for premium tax credits. 13.7 Continuation of Coverage Under COBRA (Consolidated Omnibus Budget Reconciliation Act of 1985) This Act states employers with 20 or more employees must provide a health coverage continuation option to all covered employees and dependents up to 18 months in the event of: Termination of employee (unless it is for cause as defined by federal law) Reduction of hours for employee, so they no longer qualify as a full-time employee Coverage may continue up to 29 months if an employee or dependent is totally disabled at the time of a qualifying event Coverage may continue for dependents up to 36 months for certain qualifying events: Death of employee Divorce or legal separation Employee’s entitlement to Medicare benefits A child ages out of the group plan as a dependent at age 26 A.D.Banker&Company® 155 CHAPTER THIRTEEN Employees must be notified of their right to continue coverage within 14 days of a qualifying event. The employee or the beneficiary must notify the employer within 60 days if they elect to continue coverage. Recipients of COBRA continuation will be required to pay premiums to the employer. Employers may require a former employee or their surviving spouse to pay up to 102% of the premium. The continuation coverage is the same group plan the employee or dependent was enrolled in. Events that will cause termination of continuing health coverage by COBRA are: Timely premium payments are not made Employer ceases to maintain any group health plan Employee becomes eligible for Medicare benefits; dependents may remain under COBRA Employee becomes eligible for any other group health plan Employee converts to an individual health plan Notification of an individual’s right to continue coverage under COBRA is required twice. The first notification is when a group plan begins or is amended to include the Continuation of Coverage Provision. The second notification is when a qualifying event occurs. Cal-COBRA Employers with fewer than 20 employees are not required to offer continuing coverage under COBRA. California residents have the additional protection of Cal-COBRA, which provides coverage to employees not covered under COBRA. Cal-COBRA also offers a time extension for those whose COBRA eligibility has expired. Under either case, Cal-COBRA permits the insurer to charge up to 150% of the premium. Under Cal-COBRA, health, dental and vision plans are covered. However, if a carrier offers a package of these benefits, it cannot be required to offer only the dental and/or vision components under Cal-COBRA. Most companies are required to extend benefits for up to 36 months when the individual is allowed less than 36 months under COBRA. This extension of benefits under Cal-COBRA includes family/ medical leave and maternity benefits as covered under COBRA. Eligibility for Cal-COBRA extends to indemnity policies, PPOs, and HMOs only. Self-insured plans are not eligible. Unlike COBRA, church plans are eligible under Cal-COBRA. 13.8 ERISA Qualified Plans A group health plan is an employee welfare benefit plan established or maintained by an employer, an employee organization (such as a union), or both, that provides medical care for participants or their dependents directly or through insurance company. Most private sector health plans are covered by the Employee Retirement Income Security Act (ERISA). ERISA governs employer-sponsored employee retirement and welfare and benefit plans. Among other things, ERISA provides protections for participants and beneficiaries in employee benefit plans, including providing access to plan information. Also, those individuals who manage plans (and other fiduciaries) must meet certain standards of conduct under the fiduciary responsibilities specified in the law. An employer is required to provide a Summary Plan Description filed with the Department of Labor explaining benefits to the employee on an annual basis. An annual financial report must be filed with the IRS. 156 A.D.Banker&Company® GROUP HEALTH INSURANCE 13.9 HIPAA (Health Insurance Portability and Accountability Act) HIPAA was designed to provide protections for persons with pre-existing conditions who left one employer and might not be covered by a new group health plan. In addition, HIPAA created a number of regulations concerning privacy protections for personal health information, including safeguards for recordkeeping and sharing of medical records. HIPAA also includes a variety of regulations concerning individual medical records, their retention and security, and limits access to and disclosure of an individual’s Protected Health Information (PHI) both with and without express consent of the individual. Group Health Plans HIPAA laws applying to groups of 2 or more: Limit the ability of a new employer plan to exclude coverage for pre-existing conditions Provide additional opportunities to enroll in a group health plan if a member of the group loses other coverage or experiences certain life events Prohibit discrimination against employees and their dependent family members based on any health factors they may have, including prior medical conditions, previous claims experience, and genetic information Guarantee the continuation of health benefits to individuals who have 12 months creditable coverage from a group insurance plan immediately preceding a change of employment and who choose to participate in the new employer’s group health plan. A certificate of creditable coverage, or proof of coverage, is required. Guaranteed Coverage HIPAA allows a new employee to enroll immediately without a waiting period if a certificate of creditable coverage is presented. This law also applies to employees leaving the employer to become self-employed. They cannot be denied coverage. Renewability Existing coverage must be renewed unless one of the following exists: Failure of the plan sponsor to pay premiums timely Failure of the plan sponsor to comply with a material provision, such as maintaining a minimum required percentage of participation The plan sponsor committed an act of fraud or intentional misrepresentation of a material fact regarding the terms of the plan The employer is no longer a member of the association that sponsors a plan There is no covered employee that lives or works in the service area of a network plan The issuer of coverage ceases to offer coverage in a particular market A.D.Banker&Company® 157 CHAPTER THIRTEEN 13.10 Additional Federal Regulation of Group Insurance ADA (Americans with Disabilities Act) An employer may not refuse to hire a qualified applicant who has a disability or has a dependent with a disability because of concern about the potential impact on health insurance costs. ADA regulations require that employees be given equal access to the same health benefits that are provided to other employees. If an employer provides health insurance to employees, the employer must provide equal access to employees with disabilities. However, ADA Title V allows insurers and health benefit plans to make health-related distinctions, provided that these practices are not used to evade the ADA. Family and Medical Leave Act (FMLA) Under the FMLA, an employer always must maintain the employee’s existing level of health coverage (including family or dependent coverage) under a group health plan during the period of FMLA leave, provided the employee pays their share of the premiums. An employer may not discriminate against an employee using FMLA leave, and must provide the employee with the same benefits normally provided to an employee in the same leave or part-time status. Basic Provisions The FMLA provides 12 workweeks of leave in a 12-month period with regard to the following situations: The birth of a child and to care for the newborn child within 1 year of birth The placement with the employee of a child for adoption or foster care and to care for the newly placed child within 1 year of placement To care for the employee’s spouse, child, or parent who has a serious health condition A serious health condition that makes the employee unable to perform the essential functions of their job Any qualifying crisis arising out of the employee’s spouse, children, or parent being covered as a military member on “covered active duty” 26 workweeks of leave during a single 12-month period to care for a covered service member with a serious injury or illness who is the spouse, son, daughter, parent, or next of kin to the employee (Military Caregiver Leave) Pregnancy Discrimination Act (PDA) Pregnancy discrimination involves treating a woman less favorably on the basis of pregnancy, childbirth, or related medical conditions. The PDA prohibits discrimination against pregnant women in all areas of employment, including hiring, firing, seniority rights, job security, and receipt of fringe benefits. The law requires that pregnant employees be treated the same as other employees on the basis of their ability or inability to work. This means the same accommodations must be provided for an expectant worker would be provided for any other employees unable to perform their regular duties. The PDA applies to groups with 15 or more employees. 158 A.D.Banker&Company® GROUP HEALTH INSURANCE Mental Health Parity Act The Mental Health Parity Act is a federal law that originally prevented group health plans and health insurance issuers that provide mental health or substance use benefits from imposing less favorable benefit limitations on those benefits than on medical/surgical benefits. The Act applies to employerrelated group plans with 100 or fewer employees and was amended to also apply to individual health insurance coverage. A.D.Banker&Company® 159 14 Health Concepts and Tax Considerations OVERVIEW This chapter provides a summary of the Patient Protection and Affordable Care Act (PPACA) and public assistance programs available in California, discusses the various consumer-driven health plans, health spending accounts, and includes pertinent information regarding federal taxation of both personal and business health insurance policies. Upon the completion of this chapter, you will be able to: 1. Recognize the features of health insurance policies that have been mandated by the PPACA 2. Identify the characteristics of the California Health Benefit Exchange 3. Compare and contrast the characteristics of an HSA, MSA, HRA, and FSA 4. Differentiate between the taxation of personal health insurance and group/business insurance 14.1 Patient Protection and Affordable Care Act (PPACA) The Patient Protection and Affordable Care Act, referred to as the Affordable Care Act (ACA), was signed into law on March 23, 2010. The PPACA consists of a combination of measures to control healthcare costs, and an expansion of coverage through public and private insurance which includes broader Medi-Cal eligibility and Medicare coverage, and subsidized, regulated private insurance. Eligibility for premium tax credits or eligibility for Medi-Cal is determined on the basis of Modified Adjusted Gross Income (MAGI). The PPACA was enacted with the goals of increasing the quality and affordability of health insurance, lowering the uninsured rate by expanding public and private insurance coverage, and reducing the costs of healthcare for individuals and the government. It is important to remember that the ACA does not mandate that employers provide health insurance to their employees. The Act also established the Health Insurance Marketplace, which is a resource where individuals, families, and small businesses can learn about their health coverage options; compare health insurance plans based on costs, benefits, and other important features; choose a plan; and enroll in coverage. 160 A.D.Banker&Company® HEALTH CONCEPTS AND TAX CONSIDERATIONS Provisions of the PPACA Changes due to the ACA have become effective in stages since 2010. The following provisions have been established: Minimum health standards identified as Essential Health Benefits Prohibited insurers offering group or individual health insurance coverage from imposing lifetime or annual limits on the dollar value of the mandatory essential health benefits Eliminated copayments, coinsurance, or deductibles for preventive care and medical screenings Extended dependent children's coverage through age 25 (up to age 26) based strictly on the parent – child relationship Health insurance exchanges must be available to individuals and small businesses as a resource to learn about healthcare options, compare and choose between those options and enroll in health plans Cost Sharing Reductions must be available on policies purchased through an Exchange by consumers with income above 138% of the Federal Poverty Line (FPL) up to 250% of the FPL Employers with more than 50 employees that don’t offer an affordable health plan that provides the minimum essential benefits will be required to pay an Employer Shared Responsibility penalty if the government has to subsidize at least one employee’s individual plan purchased through an Exchange PPACA Terminology Essential Health Benefits All health plans, group and individual, offered through an Exchange must provide, at a minimum, benefits in the following 10 categories of care and services: Ambulatory patient services Mental health and substance use disorders, including behavioral health treatment Emergency services Hospitalization Laboratory services Maternity and newborn care (including prenatal and delivery care) Prescription drugs Pediatric services, including dental and vision care Preventive, wellness, and chronic disease management Rehabilitative and habilitative services and devices Annual and Lifetime Limits Insurance companies cannot set annual or lifetime dollar limit on what they spend on essential health benefits for an individual's care while they are enrolled in the plan. However, they may put annual or lifetime dollar limits on spending for health care services that aren't considered essential health benefits. Actuarial Value The actuarial value of a health plan equals the percentage of the total average costs that a plan pays for Essential Health Benefits. If a health plan had an average actuarial value of 60%, insured individuals would be responsible for paying 40% of the costs of covered benefits. A plan meets the minimum value requirement if it is designed to pay at least 60% of the total costs for covered benefits. A.D.Banker&Company® 161 CHAPTER FOURTEEN Qualified Health Plan (QHP) A qualified health plan is any plan which provides coverage for the 10 Essential Health Benefits and provides a minimum actuarial value of 60%. Metal Tier Benefit Categories An Essential Health Benefits package is required by the PPACA to provide coverage for at least one of four levels of coverage offered through all health exchanges. These coverage levels are known as “Metal Tiers” and are defined as Bronze, Silver, Gold, or Platinum. The main difference between the plans is the actuarial value, or percentage, the plan pays of the average overall cost of providing essential health benefits to members. The plan category chosen affects the total amount an individual will spend for essential health benefits during the year. Plan Level Characteristics Bronze Plan Covers 60% of the benefit cost of the plan Silver Plan Covers 70% of the benefit cost of the plan Gold Plan Covers 80% of the benefit cost of the plan Platinum Plan Covers 90% of the benefit cost of the plan In addition to the Metal Tiers, catastrophic plans are available in the individual market for those who are under age 30 or are eligible for a hardship exemption because they cannot afford health insurance offered by an Exchange. The premiums are lower than a QHP, but the out-of-pocket costs are higher. Minimum Essential Coverage Minimum Essential coverage is a standardized list of required coverages that must be present in a health insurance policy in order for the IRS to consider the policy satisfactory to meet the individual mandate provision. Plans that offer Minimum Essential coverage include: Medicare, Medicaid, individual insurance offered through an Exchange, and employer-sponsored health insurance. Dependent Coverage Coverage for children under a parent's individual or group policy is extended until the dependent's 26th birthday, unless the child qualifies as a disabled dependent. Guaranteed Issue The Guaranteed-Issue Provision is designed to eliminate discrimination based on health status by insurers. Insurers must provide health insurance to any person, regardless of medical history or current state of health. Insurers may no longer rate and charge higher premiums for substandard risks. Rates are strictly based on regional costs and the age of the insured. Pre-existing Conditions Insurers are required to cover children under 19 with pre-existing conditions and are prevented from dropping policyholders if they get sick. All health plans are prohibited from discriminating against or charging higher rates to any individual on the basis of pre-existing conditions. Medical Loss Ratios The medical loss ratio (MLR) is the ratio of an insurer’s claims costs and certain taxes and fees versus its total premiums received. By requiring a minimum MLR, an insurance company provides greater value to its policyholders when a higher percentage of premiums is used for healthcare costs versus administrative expenses or profits. 162 A.D.Banker&Company® HEALTH CONCEPTS AND TAX CONSIDERATIONS The ACA requires the medical loss ratio to be 85% for large group plans and 80% for individual and small group plans. If an insurer fails the MLR test (the loss ratio is lower than the required minimum) in a calendar year for all plans in a given market segment (individual or group), the excess premium is to be refunded to consumers enrolled in plans in that market segment. Open Enrollment Period An open enrollment period is the length of time during which any eligible person may enroll in a Qualified Health Plan offered through an Exchange. Open enrollment begins on November 15 before the Benefit Year and ends on February 15 of the Benefit Year. Special Enrollment Period A special enrolment period is the length of time during which a person may enroll in a Qualified Health Plan outside of open enrollment if a qualifying life event, such as marriage, divorce, or the birth of a child, takes place. The special enrollment period in the Individual Marketplace lasts 60 days from the date of the qualifying event and lasts 30 days in the Small Business Marketplace. California Health Benefit Exchange (Covered California) In California, the Individual Exchange and Covered California for Small Business (CCSB) allow for individuals and small businesses to compare plans and buy health insurance in the private market. The Exchange is an independent public entity within the state government and operates under the name of Covered California. Covered California must meet all federal requirements established under the ACA. Covered California for Small Business (CCSB) The CCSB, formerly known as the Small Business Health Options Program SHOP, allows small businesses throughout California to take advantage of a competitive marketplace. CCSB provides employees the benefit to choose the doctors and hospitals they prefer when this coverage is purchased by their employer. The CCSB was originally established to serve small businesses with up to 50 employees. However, health and dental coverage options are available for small businesses with 1-100 employees. Eligibility Individuals and small employers must meet federal citizenship or legal residency requirements. Household incomes between 138% and 400% of the federal poverty level may qualify for Advanced Premium Tax Credits or Cost Sharing Reductions. The California Exchange will ensure that federallyauthorized tax credits are paid to the insurers. Small employers with less than 100 employees may also purchase coverage through the exchange. Requirements Health insurance products offered through each Exchange must be available in the same form to consumers purchasing coverage outside the Exchange. All health plans and insurers participating in Covered California must also offer plans at the federally designated bronze, silver, gold and platinum levels off the Exchange. Covered California offers a catastrophic Minimum Coverage plan which helps protect a person from financial disaster in the event of a serious and expensive medical emergency. Minimum Coverage plans are designed to cover excessive medical bills that occur above the limit that an insured would be able to manage financially. Minimum Coverage plans are offered to those up to age 30, or those individuals who prove they are without affordable coverage options or are experiencing financial hardship A.D.Banker&Company® 163 CHAPTER FOURTEEN Administration The Exchange does not change how existing state health care coverage programs are administered. Medi-Cal will continue to be administered by the Department of Healthcare services (DHCS). The Exchange will screen for and enroll individuals in Medi-Cal if they are eligible for those programs. The federal law requires state exchanges to perform this function. The Exchange will coordinate with the DHCS and California counties to ensure that individuals are seamlessly transitioned between coverage programs if their eligibility changes. Healthcare Cost Assistance California residents can obtain financial assistance in obtaining healthcare insurance coverage in one of the following ways: Medi-Cal Assistance – California expanded the Medi-Cal program to cover individuals under age 65 with income up to 138% of the federal poverty level (FPL). The coverage is free for those who qualify and is part of the provisions of the Act. Advanced Premium Tax Credits – Premium Tax Credits are available from the federal government to help lower the cost of health coverage for households with income of not more than 400% of the FPL that do not have affordable health insurance that meets the minimum essential coverage requirements and small employers with 25 or fewer employees. A QHP must be purchased through Covered California to obtain Premium Tax Credits. The tax credit is calculated by Covered California and paid by the Exchange directly to the insurers. Cost-Sharing Reduction – Provides out-of-pocket reductions for expenses such as deductibles and copayments on policies purchased through the Exchange by consumers with income above 138% and up to 250% of the FPL. Certified Insurance Agent A Certified Insurance Agent is certified by the Exchange to transact in the individual and the CCSB to write applications for Qualified Health plans through Covered California. All individuals licensed as a life licensee to transact in accident and health insurance are eligible to apply. To become a Certified Insurance Agent, eligible individuals must: Create an account for agents at www.CoveredCA.com Select a preferred method of payment Submit a completed application Complete the Exchange training requirements Pass an exam administered by the Exchange Recertification is required every 5 years following initial certification 14.2 Consumer-Driven Health Plans (CDHPs) Consumer-driven health care allows employers and individuals to use a 3-tiered approach to funding the costs of medical services and treatment. The various consumer-driven health plans help control benefit costs by allowing employers, administrators, and individuals to decide how the health plan funds are used. Options include: 164 Tier 1: Pretax account, such as a Health Savings Account (HSA), Archer Medical Saving Account (MSA), Health Reimbursement Account (HRA), and Flexible Spending Account (FSA) Tier 2: The amount the individual chooses to pay, out-of-pocket, after the funds in the pretax account have been exhausted and before the health insurance plan’s deductible is met A.D.Banker&Company® HEALTH CONCEPTS AND TAX CONSIDERATIONS Tier 3: A high deductible health plan (HDHP), which is a health insurance plan that has been designed to coordinate with pretax accounts to help consumers manage spending for health care and insurance High Deductible Health Plan (HDHP) High Deductible Health Plans are similar to other health insurance plans; however, they contain restrictions pertaining to the individual and family deductibles, as well as annual out-of-pocket limits. To qualify as high deductible health insurance, the annual deductible must meet a minimum dollar amount, and the maximum out-of-pocket expense may not exceed the maximum dollar amount identified by the IRS. Other than preventive care, which must be made available with no costsharing, all covered health care expenses are an out-of-pocket expense until the annual deductible has been satisfied. After that point, depending on plan design, an insured may have little or no outof-pocket expense, or claims will be subject to coinsurance until the annual out-of-pocket limit is reached. HDHPs also limit the contributions an individual may make to an HSA, MSA, HRA, or FSA. Health Savings Accounts (HSAs) HSAs are available to any employer or individual for an account beneficiary (the insured, including spouse and dependents) who has high deductible health insurance coverage. HSAs are funded with pretax income, grow tax-deferred, and may be used tax-free to pay for unreimbursed qualified medical expenses. Nonqualified withdrawals prior to age 65 are subject to a 20% penalty tax. After age 65, funds may be withdrawn and used for any purpose without a penalty, but if not used to pay for health care expenses, withdrawals will be subject to ordinary income tax. The penalty does not apply when the taxpayer is age 65 or older, or in the event of the account owner’s death or disability. There are no income limitations imposed on establishing an HSA, but contributions may only be made in years in which the taxpayer purchases a High Deductible Health Plan (HDHP). An eligible individual or an employer may establish an HSA with a qualified custodian or trustee (typically an insurance company or bank). Generally, account contributions may be made by the individual, the employer, or both. Contributions are deducted if made by the individual or excluded from the employee’s income if made by the employer. If funds remain in the account at the end of the calendar year, they may be rolled over for use in the following year without a penalty. Medical Savings Account (MSAs) Archer Medical Savings Accounts are similar to HSAs; however, they have different contributions limits, minimum annual deductibles, and maximum out-of-pocket limits. MSAs were designed specifically for small businesses and self-employed individuals who cannot establish HRAs or FSAs. An MSA is a plan purchased along with a High Deductible Health Plan. The plan is established by an employer on behalf of the employee. Premiums paid by the employer are tax deductible by the business. Distributions for qualified expenses are not taxable to the employee. Nonqualified distributions are included in the employee’s gross income and subject to a penalty tax if withdrawn before age 65. If funds remain in the account at the end of the year, they can be rolled over for use in the following year without a penalty. A.D.Banker&Company® 165 CHAPTER FOURTEEN Health Reimbursement Arrangements (HRAs) An HRA is a type of health insurance plan that reimburses employees for qualified medical expenses. The plans are entirely employer-funded and there is no limit on the amount an employer can contribute. Employees are not allowed to contribute so contributions are not subject to any salary reductions. Cash payouts are not permitted, but a former employee may continue to receive subsequent coverage periods. Employer-provided coverage and medical care reimbursement amounts under an HRA are excludable from the employee’s gross income. With an HRA, unused fund amounts may be carried over from year to year. Employers have full control over how the roll over is managed and determine whether all or only a portion of unused funds carries over to the next year. The employer may determine that all fund balances reset to zero after the close of a HRA plan year. If an employee leaves their place of employment, any remaining funds revert to the employer. An employee does not own any contributions made by the employer. HRA plans do not require coordination with a high deductible health plan. Qualified Small Employer Health Reimbursement Arrangements A Qualified Small Employer Health Reimbursement Arrangement allows small employers with less than 50 employees to provide non-taxable reimbursement of certain health care expenses, such as health insurance premiums and coinsurance, to employees who maintain minimum essential coverage, including individual Marketplace plans. A small business is not eligible to offer a QSEHRA if they offer a group health plan or a plan through the CCSB. Flexible Spending Accounts (FSAs) This is an employer-established plan that permits the employee to defer up to $2,550 on a pretax basis into a specifically designated account from which the employee may withdraw funds to pay for unreimbursed medical expenses such as eyeglasses, elective cosmetic surgery, deductibles, copayments, and coinsurance which are part of the insured’s out-of-pocket medical expenses. The IRS sets a limit on the calendar year maximum amount the employee can defer into the account. The employer funds the account in full at the beginning of the year and withholds a prorated amount of income at each pay period throughout the year until the employee’s allocation has been fully received. FSA contributions are considered a “use it or lose it” form of voluntary salary reduction agreement. In the event that the employee fails to spend all of the designated funds in the account by the end of the plan year (which can extend into the first 2 or 3 months of the following calendar year), the employer retains the unused funds. An FSA may be opened without a high deductible health plan or any other medical care plan. 14.3 Federal Tax Considerations for Personally-Owned Individual Health Insurance Policies Medical Expense Insurance 166 The premiums and unreimbursed medical expenses that exceed 7.5% of the individual’s adjusted gross income may be tax deductible. Medical expense benefits received are not taxable. A.D.Banker&Company® HEALTH CONCEPTS AND TAX CONSIDERATIONS Long-Term Care Insurance The amount of LTC premiums paid that may be claimed as medical expenses is subject to scheduled limits based on age (limit increases with age) Unreimbursed LTC expenses (other than premium) may be included as medical expenses LTC benefits received from a qualified plan are not taxable. 14.4 Federal Tax Considerations for Business and Group Health Insurance Policies Medical and Dental Insurance Group medical and dental expense premiums paid by the employer are tax deductible to the employer. Self-employed persons may deduct up to 100% of the cost of health insurance for themselves and their dependents. An employee’s share of premiums paid for group health insurance are deductible only to the extent that all premiums, as well as unreimbursed medical expenses, exceed 7.5% of their AGI. Benefits received under any medical expense and dental plan, regardless of the premium payer, are not taxable to the employee. Long-Term Care Insurance Premiums paid by the employer are tax deductible. Benefits received from a qualified LTC policy are not taxable. Accidental Death and Dismemberment Premiums paid by the employer are tax deductible. Benefits received are not taxable. 14.5 Business Disability Insurance Business Overhead Expense Premiums paid by the business are tax deductible. Benefits received are taxable to the business owner and must be reported as income. The taxes are offset when the money is used to pay business expenses other than the owner's personal income. Key Person Disability Insurance When an employer purchases a Disability Income policy on a key employee and is also the beneficiary, the premiums are not tax deductible to the business. Benefits received are not taxable. Disability Buy-Sell Agreement Premiums are not tax deductible. Benefits received are not taxable. A.D.Banker&Company® 167 15 California Ethics and Laws OVERVIEW The purpose of this chapter is to acquaint the student with the insurance regulatory and licensing process in the State of California, as defined in the California Insurance Code, California Code of Regulations, and other California Codes as they may apply, as well as the ethical standards, practices, and obligations expected of the insurance professional. Upon the completion of this chapter, you will be able to: 1. 2. 3. 4. 5. 6. Recognize insurance definitions set forth by California's Insurance Code and Regulations Distinguish the duties of the Insurance Commissioner, insurers, and producers Know prohibited acts and the associated penalties Identify the requirements for attaining and maintaining an insurance license Understand California's privacy protection provisions Recognize the power of California's Guarantee Association 15.1 Code and Ethics Ethics is a code of conduct based upon an accepted standard of right and wrong. It specifies and explains what is and is not acceptable in regards to behaviors or practices. The California Insurance Code and the California Code of Regulations identify many illegal and unethical practices. However, these are not a complete guide to ethical behavior for all situations. Insurance agents have a responsibility to be aware of the insurance laws and requirements designed to protect consumers. The California Insurance Code The Insurance Code ("the Code") is the set of statutes enacted by the state legislature which regulate the business of insurance in California. The Commissioner does not have the authority to change the Insurance Code; only the state legislature has the authority to write or amend the Insurance Code. The Department of Insurance and the Insurance Commissioner are a primary source of consumer protection activities in California, and the general purpose of the Code is defined by the 4 broad “powers” conferred on the Commissioner and the Department of Insurance: 168 Prevent insurer insolvency and prevent fraud in the conduct of the insurance business or by individuals Insure that policies are reasonably priced and widely available in most lines of insurance Establish procedures that guide the operation of insurance companies, and the activities of agents, brokers, and other licensees Provide the authority needed by the Insurance Commissioner to oversee insurance agents and companies A.D.Banker&Company® CALIFORNIA ETHICS AND LAWS Statutory Definitions The Insurance Code provides specific definitions for various persons, organizations, and the activities they conduct. Shall/May The word “shall” is mandatory and the word “may” is permissive, unless otherwise apparent from the context. Natural Person A living human being (as opposed to a business entity). Mailing as Proof of Notice Any notice required to be given to an insured may be mailed, postage paid, and addressed to the policyowner, insured, claimant, or beneficiary to be notified at their last known address of record. The written notice may also be provided by electronic transmission if each party has agreed. The affidavit of the person who mails or transmits electronically the notice, stating the facts, is sufficient (prima facie) evidence that the notice was mailed. The policyowner is responsible for notifying the insurer of address changes including any change of email address. Insurer/Insured The person who undertakes to indemnify another by insurance is the insurer, and the person indemnified is the insured. Insurer – Any person capable of making a contract may be an insurer, subject to restrictions. Insured – Any person, except a public enemy, may be insured. California Code of Regulations The Insurance Code does not always define how the laws are enforced. The Commissioner enforces the Code by writing and adopting regulations that specify the manner of enforcement or provide details on how the Code is to be administered. The various regulations enacted by the Commissioner are found in the California Code of Regulations (CCR). The Commissioner’s regulations are first proposed and published in draft form, then undergo a series of public hearings, and following final adoption, are reviewed by the Office of Administrative Law (OAL). After passing review by the OAL, the regulations are passed on to the secretary of state, who is responsible for maintaining the CCR. The Commissioner has authority to enact Emergency Regulations without having to follow the normal public hearing process, subject to OAL review and judicial appeal by any person directly impacted by such emergency regulations after they have become effective. The Commissioner’s regulations cover all aspects of the business of insurance. Among others, the CCR include topics such as: Criteria the Commissioner may use to deny an application for an insurance license Fictitious business name approval for insurance producers Bail transactions Insurance for motor vehicles as required by the Vehicle Code Surplus lines of insurance The sale of insurance products in connection with loans or the sale of real or personal property Premium financing and the compensation a person may derive from it Recordkeeping by agents, agencies, and insurers A.D.Banker&Company® 169 CHAPTER FIFTEEN 15.2 The Insurance Commissioner The Insurance Commissioner is elected by the people and may serve up to two 4-year terms. The Commissioner’s term runs concurrently with that of the governor, and in the event a Commissioner does not complete a term of office, the governor is authorized to appoint a new Commissioner (with legislative confirmation) to serve the remainder of the term. Insurance Commissioner’s Duties and Responsibilities File and keep all books and papers as required by law Issue certificates of authority to companies that meet the requirements of state law Issue, refuse, revoke or suspend licenses or certificates of authority Regulate the internal affairs of the Department of Insurance Aid in the interpretation of any state insurance law Make sure that insurer rates are adequate, not excessive, or unfairly discriminatory—but the Commissioner does not set rates Structure and control insolvency procedures Inquire into all violations of insurance laws in this state Subpoena witnesses/documents for testimony on any insurance-related matter The Commissioner has the authority to revise or create rules and regulations (after public notice and hearings) as necessary to help carry out the intent of the Code. Recordkeeping and Examination of Records by the Commissioner The Commissioner has authority to conduct examinations of an agent's or insurer’s books and records at any time. Upon receiving a request for records, insurers and/or agents must deliver the records to the Commissioner within 30 days. If the requested files cannot be immediately furnished, on request, the agent will be given an additional 60 days to provide the information. It is the obligation of each agent and insurer to maintain records at the principal place of business for a minimum of 5 years. Failure to maintain the required files may result in administrative sanctions including fines and suspension or revocation of a person’s license. Most administrative sanctions can only be issued following a public hearing into the conduct of the agent. There are also civil penalties enumerated for persons who furnish false information to the Commissioner not to exceed $100,000 per violation, as well as a $5,000 penalty for every 30day period during which the person fails to comply with a request, or up to $10,000 if the person willfully refuses to deliver requested information, up to a maximum of $100,000. Cease and Desist Orders Persons who transact insurance without being appropriately licensed may be issued a cease and desist order, carrying administrative penalties of up to $5,000 per day for each day a violation occurred, as well as a fine of up to 5 times the amount of money received by the unlicensed person for acting in a capacity which requires a license. The Commissioner also has authority to issue cease and desist orders relative to unfair acts and practices enumerated in the Code. Committing any act considered an unfair method of competition or an unfair act or practice recognized by the Code may result in an administrative fine of $5,000 for each such act, up to $10,000 per act when determined to be a willful violation or committed with 170 A.D.Banker&Company® CALIFORNIA ETHICS AND LAWS such frequency that it may be considered a general business practice of the person. If a person is issued a cease and desist order, failure to cease the prohibited act may result in a $5,000 fine, or up to $55,000 for willful violation. If an agent or insurer violates a standing cease and desist order, the Commissioner may, after a hearing, suspend or revoke the license or certificate up to 1 year. 15.3 Insurance Company Regulation Regulation of Admitted and Nonadmitted Insurers An admitted insurer is one that has complied with the laws of this state to become authorized to transact insurance and has been issued a certificate of authority from the Commissioner. Admitted insurers are also known as “standard” insurers because they sell policies for the standard market, which covers average or better than average risks. When risks are too high for the standard market, they may be covered by other types of policies, such as surplus lines or assigned risk. A nonadmitted insurer is not authorized to transact insurance in this state and has not been issued a certificate of authority. Excess and surplus lines insurance for risks that are too high for the standard market can be placed through a nonadmitted insurer, which is in the state's list of "approved nonadmitted insurers." Some risks can be placed only with nonadmitted insurers. Such risks include: Shipowner interest, international maritime transportation Marine builder’s risks, dry docks Aircraft or spacecraft insurance Property or operations of railroads engaged in interstate commerce Potential Consumer Consequences Consumers should be aware of the following potential consequences of being issued a policy by a nonadmitted insurer: Nonadmitted insurers are not subject to the financial solvency regulation and enforcement that applies to California licensed insurers Nonadmitted insurers do not participate in any of the insurance guaranty funds created by California law, and therefore, these funds will not pay the insured’s claims, or protect the insured’s assets if the insurer becomes insolvent and is unable to make payments as promised Certificate of Authority A person cannot transact any class of insurance business in this state without first being admitted or authorized by securing a certificate of authority from the Commissioner. The certificate will be issued once the applicant meets the necessary qualifications. The penalty for unlawfully acting as an insurer without a certificate of authority is imprisonment (state or county jail) not to exceed 1 year, and/or a fine not to exceed $100,000. Insurer Insolvency The law requires insurers to be sufficiently capitalized and all insurers transacting in California must file quarterly annual reports and the annual NAIC financial report not later than March 1 of the following calendar year. Insolvency means any impairment of minimum “paid-in capital” or “capital paid-in” required of an insurer for the classes of insurance which it transacts. This means that there is an inability for a company to meet its financial obligations when they are due. A.D.Banker&Company® 171 CHAPTER FIFTEEN An insurer cannot escape the condition of insolvency just by being able to provide for its liabilities and reinsure outstanding risks. An insurer must not only provide for all its liabilities, but must also possess minimum paid-in capital requirements. The paid-in capital requirements are as follows: For foreign mutual insurers without outstanding capital stock, the value of its assets that is in excess of all expenses, taxes, indebtedness and reinsurance as provided by law. The paid-in capital of available cash assets must amount to at least $200,000. For domestic insurers, the value of its assets that are in excess of the sum of its liabilities for losses reported, expenses, taxes, and all other indebtedness or the aggregate par value of its issued shares of stock, including treasury shares, whichever is lower For the purpose of computing paid-in capital or capital paid-in, shares of stock are not taken as liabilities. Conservation of Insurers Regardless of the regulations and controls, a few insurers find themselves in financial difficulty. When this happens, the Commissioner will step in and attempt to help the insurer become solvent again. If the Commissioner finds that an insurer is at risk of becoming insolvent or financially impaired, an application may be filed with a superior court. The court may appoint the Commissioner as the Conservator of the insurer, directing the Commissioner to take possession of the books, records, property, and assets of the insurer and its officers, directors, agents, and employees if the insurer or entity: Has refused to submit books, records, papers, accounts, or affairs Has refused to be examined under oath Has neglected to observe an order of the Commissioner to make good any deficiency in its capital or reserve Has attempted to transfer its property or business or has entered into any transaction of which it is to merge, consolidate, or reinsure its property or business without the Commissioner's consent Is found, after an examination, to be in a hazardous financial condition Has embezzled, sequestered, or wrongfully diverted any assets Does not comply with the requirements for a certificate of authority, or its certificate of authority has been revoked Has shown to be insolvent on the last examination report Summary Seizure Whenever it appears to the Commissioner that any of the acts permitting conservatorship or that irreparable loss and injury to the property and business of the insurer has occurred--or may occur without immediate action--the Commissioner may take possession of the property, business, books, records, and accounts of such insurer without notice and before apply to the superior court. It is a misdemeanor to refuse to deliver books, records, or assets to the Commissioner after a seizure order has been issued in an insolvency proceeding. This is punishable by a fine of up to $1,000 and/or imprisonment for up to 1 year. Liquidation If it is not prudent to proceed as a conservator, the Commissioner may apply to the court for an order to liquidate and wind up the business of the insurer. After a full hearing, the court may appoint the Commissioner as liquidator to carry out the order. 172 A.D.Banker&Company® CALIFORNIA ETHICS AND LAWS 15.4 California Life and Health Guarantee Association The purpose of the Association is to protect covered persons against failure in the performance of contractual obligations under life, health, and annuity contracts due to the impairment or insolvency of the member insurer that issued the policies or contracts. To provide this protection, the Association was created to pay benefits and continue coverage. Member insurers are subject to assessments to provide funds to carry out the purpose of the Association. All insurers, including reciprocal insurers, admitted to transact insurance in this state are considered member insurers and must participate in the Association. Nonadmitted insurers are not covered under the Association. The California Life and Health Guarantee Association is a nonprofit organization and maintains three separate accounts: life, annuity, and health. Covered Persons The Association provides coverage to persons who own policies and are residents of California. Nonresidents are covered under the following conditions: The issuing insurer is domiciled in this state The insurer never held a certificate of authority in the state the covered person resides The state in which the person covered resides has an association similar to that of California The person is not eligible for coverage by the Association in the state of residence due to the fact the insurer was not licensed in that state The Association does not provide coverage for persons who are eligible to receive coverage by a similar association of another state. This also applies to residents of California. Covered Contracts The Association provides coverage for: Individual direct nongroup life, health, annuity, and supplemental policies or contracts Group direct life, health, annuity, and supplemental policies or contracts The health policies and contracts covered include: □ Basic hospital, medical, and surgical □ Major medical □ Disability income and disability □ Long-term care The Association does not provide coverage for the following: A contract or policy not guaranteed by the insurer, such as variable contracts A contract of reinsurance Any portion of a contract issued with an interest rate that exceeds statutory limitations Guaranteed investment contracts An unallocated annuity contract Employer contract that is self-funded or uninsured A contract that provides dividends or fees in connection with the administration of the contract A contract issued by an insurer without a certificate of authority An annuity contract issued by a charitable organization that is not engaged in the business of insurance A contract or policy issued by a health care service plan or Managed Care plan, charitable organization, fraternal benefit society, a state pool plan, or mutual assessment company A.D.Banker&Company® 173 CHAPTER FIFTEEN Covered Claims Covered claims include the obligations of an insolvent insurer and are the benefits the Association may become liable. The life and annuity payments from the association cannot exceed the lesser of: 80% of the contractual obligations for which the insurer is liable $300,000 in life insurance benefits per life and not more than $100,000 in net cash surrender or withdrawal values $250,000 in present value of an annuity per life including surrender or withdrawal values The Association is not liable for more than $300,000 in total for the life of one individual or $5 million in benefits for any owner of multiple policies. The health insurance payments from the Association cannot exceed the lesser of the contractual obligations for which the insurer is liable or $200,000 in health care benefits. Coverage includes long-term care and other disability and Disability Income insurance, and Accidental Death and Dismemberment policies. 15.5 Unfair Practices The Unfair Practices Article defines unfair and deceptive acts and unfair methods of competition. These practices apply to all reciprocal insurers, Lloyd's insurers, fraternal benefit societies, life agents, broker-agents, surplus line brokers, and special lines surplus brokers, as well as all other persons engaged in the business of insurance. Definitions Claimant – Any person who asserts a right of recovery under a surety bond or insurance policy. Notice of Legal Action – Notice of an action begun against the insurer with respect to a claim, or against the insured by the insurer, or against the principal under a bond, and includes any proceeding arbitration. Proof of Claim – Any evidence or documentation the insurer has obtained providing any evidence of the claim and reasonably supports the magnitude or the amount of the claimed loss. Unfair Trade Practices The following trade practices are considered unfair or deceptive and are prohibited: Misrepresentation Misrepresentation includes any of the following: Making, issuing, or circulating any estimate, illustration, circular, or statement misrepresenting the terms of any contract issued Using any name or title misrepresenting the true nature of any policy or class of policies Misrepresenting the financial condition of any insurer Making any misrepresentation to a policyholder insured by any company for the purpose of inducing the policyholder to lapse, forfeit, or surrender a policy Twisting A form of misrepresentation involving replacement of existing insurance which induces a person to lapse, forfeit, or surrender an existing policy, based on an unfair comparison of features or concealment of material disadvantages of a proposed policy. 174 A.D.Banker&Company® CALIFORNIA ETHICS AND LAWS Rebating Returning a portion of the agent's commission or anything of value to an insured as an inducement to buy insurance. It is illegal for life and health insurance agents to rebate. Defamation Making or disseminating before the public in any newspaper, publication, or advertising device, any statement containing any assertion, representation, or statement with respect to the business of insurance, or with respect to any person in the conduct of insurance business, which is untrue, deceptive, or misleading. Boycott, Coercion, or Intimidation Entering into any agreement that would result in an unreasonable restraint of, or monopoly in the business of insurance. False Financial Statements Filing with any supervisory or other public official any false statement of financial condition of an insurer with intent to deceive. False Entries Making any false entry in any book, report, or statement of any insurer with intent to deceive any public official to whom the insurer is required by law to report, or who has authority by law to examine its condition or into any of its affairs, or omitting to make a true entry of any material fact pertaining to the business of the insurer in any book, report, or statement of the insurer. Unfair Discrimination Making or permitting any unfair discrimination between individuals of the same class and equal expectation of life in the rates charged for any contract of life insurance or life annuity, in the dividends or other benefits payable, or in any other of the terms and conditions of the contract. An insurer may not cancel or refuse to renew a policy on the sole basis of the insured's religious organization or if the insured was the victim of a hate crime. For any contract of ordinary life insurance or individual life annuity applied for an issued on or after January 1, 1981, to require differentials based upon the sex of the individual insured or annuitant in the rates or dividends or benefits, or any combination thereof. This requirement is satisfied if those differentials are substantially supported by valid pertinent data segregated by sex, including, but not limited to, mortality data segregated by sex. Advertising of California Insurance Guarantee Association Making or disseminating in any publication or other advertising device a statement that a named insured or specified insurers are members of the California Insurance Guarantee Association and are insured against insolvency. All admitted insurers are required to be covered under the association, therefore, advertising membership is not permitted. Deceptive Advertising Advertising insurance that an insurer will not sell. An intentional violation is considered a misdemeanor punishable by a fine of up to $10,000. This does not prohibit an insurer from advertising insurance products it is licensed to sell in this state where the product is not available as long as the unavailability is disclosed. This does not apply to advertisements by an insurer where the advertisements are broadcast and originate from outside this state. This also does not apply to any insurer that refuses to sell a policy of insurance on the basis of its underwriting guidelines. A.D.Banker&Company® 175 CHAPTER FIFTEEN Unfair Claim Settlement Practices Knowingly committing any of the following acts is considered an Unfair Claim Settlement Practice: Misrepresenting to claimants pertinent facts or provisions in the insurance policy Failing to acknowledge and act promptly on claims Failing to adopt and implement reasonable standards for the prompt investigation of claims Failing to acknowledge claim coverage within a reasonable period of time after proof of loss requirements have been met by the insured Failing to attempt to promptly and fairly settle claims in which liability is clear Offering an insured substantially less than what a lawsuit would award Attempting to settle a claim for less than the amount to which the claimant believed they were entitled by reference to written or printed advertising material Attempting to settle a claim based on an application that was altered by the agent Failing to inform the insured or beneficiary, upon request, of the coverage under which payment has been made Making known to insureds or claimants a practice of appealing from arbitration awards in favor of insureds or claimants for the purpose of compelling them to accept settlements less than the amount awarded in arbitration Delaying the investigation or payment of claims by requiring submission of a preliminary claim report, then requiring submission of formal proof of loss, both of which submissions contain substantially the same information Failing to settle claims promptly under one portion of the policy in order to influence settlements under other portions of the policy Failing to provide a reasonable explanation for the denial of a claim Directly advising a claimant not to obtain the services of an attorney Misleading a claimant as to the applicable statute of limitations Delaying the payment of hospital, medical, or surgical benefits for services provided in relation to AIDS or AIDS-related complex for more than 60 days after the insurer has received a claim for those benefits, when the delay is for the purpose of investigating whether the condition pre-existed the coverage Penalties The Commissioner has the power to investigate the affairs of any person engaged in the business of insurance to determine whether such person has been or is engaged in any unfair method of competition or unfair or deceptive act or prohibited practice. If it is believed the person has violated a trade practice, the Commissioner will issue a statement of charges, a statement of potential liability for civil penalties, a show cause order as to why a cease and desist should not be issued, and a 30day notice of a hearing. The Commissioner may conduct hearings to identify additional unfair acts or practices that determine their enforcement. If the charges are justified, a civil penalty not to exceed $5,000 for each act will be assessed. If the violation is willful, the maximum penalty is $10,000 for each act. A cease and desist order will be placed requiring the individual to refrain from engaging in the prohibited acts. Violation of a cease and desist order imposes a penalty of up to $5,000 per violation or a maximum penalty of $55,000 if the violation is willful. Subsequent violations will lead to suspension or revocation of a license. 176 A.D.Banker&Company® CALIFORNIA ETHICS AND LAWS File and Record Documentation Every licensee’s claim files are subject to examination by the Commissioner at all times. Claims files are required to contain all documents, notes and work papers, including copies of all correspondence, which reasonably pertain to each claim in such detail that pertinent events and the dates of the events can be reconstructed, and the licensee’s actions pertaining to the claim can be determined. Insurers are required to maintain claim data so that it is accessible, legible, and retrievable for examination, and must be able to provide the claim number, line of coverage, date of loss, date of acceptance, date of payment, date of denial or closing without payment. This data must be available for all open and closed files for the current year, and the 4 preceding years. Licensees must also record the date the licensee received, transmitted, or mailed every material and relevant document in the file, or otherwise processed anything relevant to a claim. Duties Upon Receipt of Communication Insurers (and other licensees) must respond in writing to an insured’s or claimant’s notice of loss within 15 days of receiving that notice orally or in writing. Agents who receive the first notice of a loss from an insured or claimant must immediately forward that information to the insurer. Upon receiving notice of claim, every insurer must immediately acknowledge the receipt of notice, provide necessary forms to the claimant and begin any necessary investigation. As long as a claim remains in process, and until it has been resolved by denying or affirming the claim, the insurer must communicate with the claimant no less often than every 30 days. Upon receiving any written or oral inquiry from the Department of Insurance concerning a claim, every licensee must respond to the Commissioner immediately within 21 calendar days of the receipt of the inquiry, furnishing a complete written response based on the facts as then known to the licensee. If additional time is required to provide the information requested, the initial response must indicate how much additional time is required. Standards for Prompt, Fair, and Equitable Settlements It is an unfair practice for any insurer to discriminate in the investigation or settlement of a claim on the basis of a person’s age, race, gender, income, religion, language, sexual orientation, ancestry, national origin, physical disability, or upon the territory of the property or person. Unless the insurer requires additional information to determine liability for a loss, the insurer is generally expected to either affirm or deny a claim within 40 days of notice of the loss. This time limit does not apply to disability income or health insurance. When a claim cannot be resolved within 40 days, the claimant must be notified of this fact and, as discussed previously, the insurer must continue to communicate the status of the claim no less often than every 30 days. When the insurer approves the claim, in whole or in part, and when necessary, upon receipt of a properly executed release, the insurer is required to make payment to the claimant or an assignee, or take action to perform its claim obligation within 30 days. Disability income insurance claims payments must be made at least once every 30 days until the insurer’s obligation to pay claims has ended. A.D.Banker&Company® 177 CHAPTER FIFTEEN 15.6 Fraudulent Claims The Fraudulent Claims section of the Code enables the Commissioner and Department of Insurance to more effectively investigate and discover insurance fraud and to halt fraudulent activities. Insurance fraud is particularly problematic in automobile, workers’ compensation and health insurance. Any insurer who provides a form to file a claim against it must include the following statement on the form: “For your protection, California law requires the following to appear on this form: Any person who knowingly presents a false or fraudulent claim for the payment of a loss is guilty of a crime and may be subject to fines and confinement in state prison.” If an insured signs a false claim form, the insured may be guilty of perjury. Fraudulent Acts Fraudulent acts include filing a false claim for loss or injury, filing the same claim for loss or injury with multiple insurers with the intent to defraud, and knowingly participating in an auto collision or other vehicular accident with the intent to present a false or fraudulent claim. The type of insurance fraud which is most prevalent in California concerns Workers’ Compensation. Workers’ Compensation fraud can arise from both the claims of employees and the acts of employers. Employees who misrepresent their injuries, their ability to work or perform activities of daily living, or recovery status commit fraud. Employers who misreport payroll, pay employees in unreported cash for their regular or overtime wages, privately pay for or discourage workers from seeking treatment following a legitimate injury, or deny employees treatment by threatening to terminate their employment also commit Workers’ Compensation fraud. Penalties Violators may be subject to imprisonment in the county jail for 1 year, or state prison for 2, 3, or 5 years and/or a fine of up to $50,000 or double the value of the fraud, whichever is greater. If the violator has a prior felony conviction of the same offense, there will be an additional 2-year sentence for each prior conviction. Insurers, employees, or agents are not subject to civil liability for libel, slander, or any other tort by virtue of providing any of the following without malice: Information or reports relating to the suspected fraudulent insurance transaction furnished to law enforcement officials or other persons subject to the California Insurance Code Information or reports required by the Commissioner Fraud Protection The Insurance Department’s Fraud Division enforces the provisions prohibiting fraudulent claims. Every admitted insurer must maintain a Special Investigations Unit for the purpose of detecting and investigating fraudulent claims. Insurers are required to notify the local district attorney's office and Fraud Division within 60 days if they have knowledge of actual or suspected fraud. 178 A.D.Banker&Company® CALIFORNIA ETHICS AND LAWS Insurance Claims Analysis Bureau An insurance claims analysis bureau performs the following functions: Collects and compiles information and data from members or subscribers concerning insurance claims Disseminates information to members or subscribers relating to insurance claims for the purpose of preventing and suppressing insurance fraud Promotes training and education to further insurer investigation, suppression, and prosecution of insurance fraud Provides to the Commissioner all California data and information contained in the records of the insurance claims analysis bureau to further the prevention and prosecution of insurance fraud 15.7 Discriminatory Practices Failure or Refusal to Accept an Application No admitted insurer can fail to accept an application or cancel insurance under conditions less favorable to the insured, except for reasons that apply to all persons of the same marital status, gender, race, color, religion, national origin or sexual orientation. Domestic Violence No admitted insurer licensed to issue life insurance may refuse to accept an application for insurance, refuse to issue or renew a policy, cancel a policy, or deny coverage under a policy because the applicant for insurance or any person who is or would be insured is, or has been, a victim of domestic violence. Identification of Applicant’s Race or Birthplace No application for insurance used in determining the insurability of the applicant can require the applicant’s race, color, national origin, ancestry or sexual orientation. The applicant’s birthplace can be used only for purposes of identifying the applicant and not to discriminate against the applicant. Sexual Orientation and Underwriting An insurer cannot consider sexual orientation in its underwriting criteria or use marital status, living arrangements, occupation, sex, beneficiary designation or zip code to determine whether to require a test for the presence of HIV. Penalties Any insurer who knowingly violates these practices will be assessed a civil penalty in the amount of $1,000-$5,000, plus any court costs. Genetic Characteristics and Disability Traits Admitted insurers issuing disability insurance for hospital, medical, or surgical expenses cannot refuse to accept an application, refuse to issue, cancel, renew, charge a higher rate or premium, or place a limitation on insurance on the basis of a person’s genetic characteristics. This includes any scientifically or medically identifiable gene or chromosome that is known to cause a disease or disorder that is presently not associated with any symptoms of any disease or disorder. There can be no discrimination in the fees or commissions of agents or brokers writing or renewing disability insurance on the basis of a person’s genetic characteristics. A.D.Banker&Company® 179 CHAPTER FIFTEEN Disclosure of Genetic Test Results It is a violation to negligently disclose results without written authorization of a test for a genetic characteristic to any third party that provides identifying characteristics of the person to whom the test results apply. Such negligent disclosure results in a civil penalty up to $1,000 with a maximum $5,000 for willful disclosure. Negligent willful disclosure that results in economic, bodily, or emotional harm is a misdemeanor punishable by a $10,000 fine. Physical or Mental Impairment An individual or group life, annuity, or disability insurer may not refuse to insure, or refuse to continue to insure, or limit the amount, extent, or kind of coverage available to an individual, or charge a different rate for the same coverage solely because of a physical or mental impairment, except where the refusal, limitation or rate differential is based on sound actuarial principles or is related to actual and reasonably anticipated experience. “Physical or mental impairment” is any physical, sensory, or mental impairment which substantially limits one or more of that person’s major life activities. Autism Every health insurance policy must provide coverage for behavioral health treatment for pervasive developmental disorder or autism. An insurer may not utilize any information regarding whether a beneficiary's psychiatric inpatient admission was made on a voluntary or involuntary basis for the purpose of determining eligibility for claim reimbursement. Blindness An individual or group life, annuity, or disability insurer may not refuse to insure, continue to insure, limit coverage or charge a different rate for the same coverage based on blindness or partial blindness. 15.8 Prohibited Business Practices Pretext Interviews Pretext interviews are prohibited in the transaction of all forms of insurance (but not in the investigation of a claim). A pretext interview involves an attempt to obtain personal, nonpublic information through deception, leading the person to believe the “interviewer” is someone other than a licensed agent or insurance company representative acting in an authorized capacity. The Insurance Code also requires all producers who meet with prospective clients age 65 and older in their homes for the purpose of transacting life insurance, annuities, or disability insurance products to first provide a written notice of the first meeting at least 24 hours in advance. The notice provides information concerning: The products that will be discussed Who will be attending the meeting, and the insurance license numbers of those persons Alerts the consumer to the fact that they may have any other persons (family members or advisers) of their choosing at the meeting, and that they have the right to terminate the meeting at any time The notice may be delivered in person, by mail, fax, or email. Producers must retain a copy of such notices in their files for a minimum of 5 years. Established clients may be given the notice at the time of an appointment. 180 A.D.Banker&Company® CALIFORNIA ETHICS AND LAWS Free Insurance No insurer or agent may participate in any plan to offer or effect any kind of insurance or annuities in this state as an inducement to the purchase or rental by the public of any property, real or personal or mixed, or services, without any separate charge to the insured for such insurance, nor can any agent, broker, or solicitor arrange the sale of any such insurance. The Commissioner may suspend or revoke a license or certificate of authority of anyone willfully violating this provision not to exceed 1 year. Aiding a Nonadmitted Insurer to Transact The following are considered misdemeanors with regard to a nonadmitted insurer, except when performed by a surplus lines broker: Transacting insurance business in the state as an agent for a nonadmitted insurer Advertising as a nonadmitted insurer in this state Assisting a nonadmitted insurer to transact business in this state A penalty of $500 along with a fine of $100 per month for each month the violation continues will be assessed those found in violation. Insurance in Connection with Sales or Loans No person engaged in the business of financing the purchase of real or personal property may require the purchaser of that property to obtain insurance for that property through a particular agent or broker. A lender cannot refuse to accept insurance provided by an acceptable insurer on the grounds that the insurance provides more coverage than is required. No person making a loan on the security of real property is allowed to use information contained in a fire or casualty policy for the purpose of soliciting such coverage if the borrower has filed a signed statement with the lender that such information may not be used. The Commissioner, after a hearing, may issue a cease and desist order to any person who has, in more than one transaction, violated this section. The violation of the cease and desist order is a misdemeanor. Alteration of Disability Application No alteration of a written application for a disability policy can be made by any person other than the applicant without written consent. Any alteration made without consent by an officer or employee of the insurer is considered an act by the insurer and is a misdemeanor. 15.9 Agent and Broker Licensing and Maintenance Requirements Agents and Brokers Agent In an insurance transaction, an agent represents the insurance company. Resident Agent A person who resides in California and is licensed to represent an admitted insurer in this state. A.D.Banker&Company® 181 CHAPTER FIFTEEN Nonresident Agent A person who does not reside in California but is licensed to represent an admitted insurer in this state. Life Licensee Life Licensees are authorized to transact life and health insurance under one of the following: A Life-only agent is a person authorized to transact insurance coverage on human lives including endowments and annuities. An Accident and Health agent is a person authorized to transact coverage for sickness and bodily injury, including disability income. A life-only agent who is not also licensed as an accident and health agent may transact certain disability benefits as riders to life or annuity contracts, such as disability income or long-term care, subject to any specific continuing education requirements. Broker A Broker is someone who for compensation transacts insurance on behalf of another person, but not an insurer. There are no brokers for life or health insurance in California. All life licensees are agents when transacting life or disability insurance, regardless of the language the insurance company may use in its agency agreements, advertising, or other communication. Life Settlement Broker Under California law, a Life Settlement Broker is exclusively the representative of the policyowner who seeks to sell their interest in the policy. The life settlement broker must be a licensed Life-Only agent for more than 1 year or have completed a 15-hour course in life settlements. A life settlement broker must file an application and post a $10,000 surety bond. As a fiduciary, the broker must disclose all purchase offers received to the policyowner. Solicitors An Insurance Solicitor is employed to aid a property and casualty broker-agent acting as an insurance agent or insurance broker in transacting insurance other than life, disability, or health. There is no such license as “Life Solicitor" or "Health Solicitor.” Only life licensees may transact life and disability insurance, according to their individual licensing. Agent vs. Broker vs. Solicitor The duties and responsibilities of a licensee will vary depending on the type of license held. The following requirements apply: 182 A solicitor cannot be employed by more than one property and casualty broker/agent at the same time An insurance solicitor cannot at the same time act as either an agent or broker. Agents and brokers cannot act as solicitors at the same time An insurance agent cannot act as a broker for any insurer by which the agent is actively appointed A.D.Banker&Company® CALIFORNIA ETHICS AND LAWS Third Party Administrators An administrator is any person who collects any charges or premium from, or who adjusts or settles claims on, residents of this state in connection with life, health or annuity insurance coverage. An administrator must have a written agreement with an insurer. A copy of the agreement must be kept for 5 years after the agreement has ended. Life and Disability Analyst A Life and Disability Insurance Analyst is a person who, for a fee, advises an insured, beneficiary, or person who: Has any interest in a life or disability insurance contract or has questions regarding the rights in their contract Reviews clients’ incomes, insurance, and investments Makes recommendations An organization may hold a license to act as a life and disability insurance analyst. Only the following natural persons are eligible to be named under an organizational license: Any general partner or employee of a copartnership Any member, officer, or employee of an association Any officer or employee of a corporation According to California's Insurance Code, a life and disability analyst, must: Be a resident of the state of California As stated in California's Insurance Code, be at least age 18 at the time of application Be licensed as both a life-only and accident and health licensee for 5 years preceding the date of the examination □ Because all applicants for licensure must be age 18, the experience requirements for an analyst license will make the applicant at least 23 years of age Have passed a written examination prepared by the Commissioner within the last 12 months Have filed an application and paid the appropriate fees An employee or officer of an insurer is not eligible for license as a life and disability insurance analyst. A life insurer may not pay a life and disability insurance analyst any commission directly or indirectly, on any life or disability insurance transacted by and in the capacity as a life and disability insurance analyst. A life and disability analyst may not charge fees for services that are customarily associated with the solicitation of insurance sales or the servicing of insurance contracts written by the licensee or contracts for which the licensee is receiving compensation from the insurer. A fee cannot be charged without a written agreement signed by the party to be charged. An analyst must have a written agreement signed in advance stating the service to be performed for a fee and the amount of the fee. The agreement must be retained for 3 years. A person acting as an analyst without a proper license or after such license has been revoked is guilty of a misdemeanor and is subject to a maximum fine of $1,000 and imprisonment of up to 1 year or both. A life and disability analyst may continue to be licensed as a life-only and/or accident and health agent, subject to completion of continuing education requirements and payment of license fees. A.D.Banker&Company® 183 CHAPTER FIFTEEN Transacting Without a License Any person who acts, offers to act, or assumes to act in a capacity for which a license is required without holding a license is guilty of a misdemeanor, punishable by a fine of up to $50,000 and/or 1 year in jail. A person cannot transact business in any class of insurance without first being admitted as an agent for that class. Exemption from Insurance Licensing Requirements The following are exempt from insurance licensing requirements: Full-time salaried employees of a title insurer Salaried solicitors or agents of a mortgage insurer who receive no commission An officer of an insurer License Qualifications and Requirements Prelicensing Education Prelicensing education is a requirement to obtaining an agent or broker license in California. Only prelicensing education from an approved provider and approved courses count towards credit. The requirements include: 20 hours for life-only, accident and health-only, property-only, casualty-only, or personal lines broker/agent licenses 40 hours for life and health or property and casualty broker/agent license Applicants for all lines must complete a 12-hour Ethics and Code course There are a few exceptions to prelicensing requirements: A new California resident who holds a current resident license from another state and completed equivalent prelicensing in that state will be exempt from the 40 hour requirement but must complete 12 hours of Ethics and Code Prelicensing education requirements shall not apply to a life and health agent who is limited by the terms of a written agreement with the insurer to transact only specific life policies or annuities having an initial face amount of $20,000 or less that are designated by the purchaser for the payment of funeral or burial expense Examination Upon completing the required prelicensing education requirements, the applicant must pass a state licensing exam. The license exam must be passed within 12 months of the date of completion of the applicable prelicensing course. License Application Once an application for license is filed, the Commissioner may conduct an investigation and require the filing of supplementary documents necessary to determine whether the prerequisites for licensing have been met. The application for a license may not be submitted prior to successfully passing the required exam(s), and is only submitted electronically through the Department of Insurance website. 184 A.D.Banker&Company® CALIFORNIA ETHICS AND LAWS Continuing Education Requirements An individual licensed as a life-only or accident and health agent must complete a minimum of 24 hours of instruction (including 3 hours of Ethics) prior to renewal of the license every 2 years. Lifeonly and accident and health agents may only receive credit for CE courses in the life and health category. The courses, programs of instruction, or seminars must be approved by the Commissioner for the types of licenses held. Agents who complete more than the minimum required hours will have excess hours rolled over to the next license term. Life licensees who are also licensed as property and casualty broker-agents may receive credit for CE courses in either license type, of which 3 hours must be in ethics. Exemption A licensee will not be required to comply with the CE requirements if the licensee submits proof satisfactory to the Commissioner that the licensee has been in good standing for 30 continuous years in California and is 70 years of age or older. In addition to the continuing education requirements, a licensee may also need to complete specified product training requirements. California Annuity Suitability Education Requirements A life-only agent who sells annuity products to individual consumers must complete an initial 8-hour training course prior to soliciting for sales. Agents must complete 4 hours of subsequent training every 2 years prior to license renewal. California Long-Term Care Education Requirements Before marketing any Partnership policies, agents must complete an initial training course. Newly licensed agents who intend to market Long-Term Care insurance must complete an 8-hour course in Long-Term Care insurance in each of their first 4 years of licensing (two terms). After 4 years of licensing, the 8-hour LTC course must only be completed once each license term prior to license renewal. Agents who intend to market California Partnership LTC policies must complete an additional 8-hour course in Partnership LTC each license term. Mandatory training course completions are included in the total number of required CE credits. Appointments Before a licensed agent may transact insurance, the agent must first be appointed by an admitted insurer or a licensed agency which has a marketing agreement with one or more insurers. The insurer or authorized representative must file a Notice of Appointment with the Commissioner. Additional notices of appointment may be filed by other insurers before the license is issued and thereafter as long as the license remains in force. The appointment becomes effective the date the notice is signed. A property or casualty broker or agent may file a Notice of Appointment on behalf of a solicitor. An agent may be appointed by an unlimited number of insurers, and appointments remain in effect until: Cancellation or expiration of the license The filing of a notice of termination by the appointing insurer A.D.Banker&Company® 185 CHAPTER FIFTEEN Upon termination of all appointments, a permanent license will not be cancelled but will become inactive. It may be reactivated at any time prior to its expiration by the filing of a new appointment or the filing of a new bond. An agent’s license remains in active status as long as renewal fees are paid, continuing education requirements have been met, and at least one active Notice of Appointment is on file with the Commissioner. Original License Appointment An insurer filing a notice of appointment on behalf of an applicant for an original license declares that the applicant is of good reputation and worthy of the license. Life Agent Solicitation Prior to Appointment A licensed life agent may present a proposal for insurance to a prospective policyholder on behalf of a life insurer for which the life agent is not specifically appointed. If the insurer issues the policy, the insurer has 14 days from when the application for life insurance was submitted to file a Notice of Appointment with the Commissioner. If the insurer requires all its life agents to represent only that insurer or a group of affiliated insurers of which that insurer is a member, or to submit risks prior to submitting them to other insurers, then a licensed life agent who is not specifically appointed for a particular life insurer may not solicit insurance with that insurer. Termination of License A licensee may terminate their license by surrendering it to the Commissioner. If the license is in the possession of an employer or insurer, the agent may notify the Commissioner in writing of the intent to terminate the license and the inability to return the license. An individual license will automatically terminate: Immediately upon the death of the licensee If the license has not been renewed within 12 months following its expiration An organizational license will automatically terminate upon: Dissolution or termination of the partnership, corporation, or association Any change in the partnership underlying the license Any change in the principal officers of a corporation or LLC No licensed principal associated with the organization In the event of an organization's license being terminated, that organization's right to transact insurance is automatically terminated. This does not keep a licensed agent from continuing to transact insurance in a different capacity or with a different organization. In the event that an organizational license terminates, the organization may continue to transact insurance under the former license if a new application for an organizational license is submitted within 30 days. In the event of a change in membership of a partnership, the partnership may continue to transact insurance under the license if: 186 An application is filed with the Commissioner within 30 days At least one person who acted as an agent or broker of the original partnership continues as an agent or broker The application is signed by a general partner A.D.Banker&Company® CALIFORNIA ETHICS AND LAWS The license of an organization licensed as a property or casualty broker/agent or a life-only agent will become inoperative whenever any natural person named on the license is no longer associated with the licensee. The organization may continue to transact under the former license as long as an application for a new organizational license is submitted within 30 days of any such change. Inactive License If renewal fees are paid and continuing education requirements are satisfied, but the agent has no active Notice of Appointment on file with the Commissioner, the license will be placed on inactive status. A license may be continued on inactive status as long as renewal fees are paid and continuing education requirements are satisfied. An inactive license will immediately be restored to active status upon submission of an Action Notice of Appointment. As long as an agent’s license is inactive, the agent is prohibited from transacting insurance in any manner. A licensee who is unable to pay renewal fees or complete continuing education due to military service will be allowed to complete the renewal requirements upon termination of military service and will not have to pay a renewal penalty. Expired License An application for renewal of an expired license without retesting may be filed after the expiration date until the same month and day of the next succeeding year, providing the delinquent fee for that year is paid. The Commissioner has continuing authority to act against a former agent whose license has been surrendered or expired for up to 5 years. License Renewal All licenses renew every 2 years on the last day of the month in which the license was originally issued. A licensee who has applied to renew a license will be entitled to continue operating under the existing license for 60 days after its specified expiration date, or until notified by the Department that the renewal application is deficient, whichever comes first. The applicant must satisfy all license renewal requirements, including: The submission of the applicable renewal application and fee on or before the expiration date of the license The satisfaction of all required continuing education or training requirements This does not apply to any license that is suspended or revoked. A license may be renewed without examination within 12 months of its expiration date by payment of a penalty fee equal to 50% of the two-year license fee. License Number Required on Documents Every licensee shall prominently affix, type, or have printed on business cards, price quotations and printed advertisements in this state, their license number in type the same size as that indicated for address or telephone number. Any person found to have violated this requirement shall be subject to a fine in the amount of $200 for the first offense; $500 for the second offense; and $1,000 for the third and any subsequent offense. A.D.Banker&Company® 187 CHAPTER FIFTEEN Change of Address All licensees are required to provide the Commissioner with a home address, business address, mailing address, and a valid email address. In the event any or all of these addresses change, the change must be reported immediately to the Commissioner. Address changes are submitted electronically on the CDI website. Office Location Every resident property and casualty broker/agent must maintain a principal office in this state for the transaction of business. The office address must be specified on all license and renewal applications. Display of License Every license to act as a property and casualty broker-agent must be prominently displayed in the licensee’s office. Fictitious Agency Names Every individual and organization licensee and every applicant for a license must file with the Commissioner in writing the true name of the individual or organization and all fictitious names under which business will be conducted and, after licensing, must file with the Commissioner any change in or discontinuance of such names. The Commissioner may, in writing, disapprove the use of any true or fictitious name (other than the bona fide natural name of an individual) if the name: Interferes with a name already filed by another licensee May mislead the public Infers that the licensee will engage in activities not permitted under licenses held Implies that the licensee is an underwriter, though the licensee can use the designations of Chartered Life Underwriter or Chartered Property and Casualty Underwriter when entitled Denial of License Application, Suspension, or Revocation The Commissioner may, upon conviction and after a hearing, deny the application for a license, or suspend or revoke an agent's license after it has been issued, if the individual: 188 Is not qualified to perform the duties of the license for which the applicant applied Does not intend, actively and in good faith, to transact business with the general public which would be permitted by the issuance of the license Is not of good business reputation Lacks integrity Has been refused a professional, occupational, or vocational license or had such a license suspended or revoked by any licensing authority for reasons that should prevent the granting of the license Seeks the license for the purpose of avoiding or preventing the operation or enforcement of the insurance laws of this state Has knowingly or willfully made a misstatement in the license application, in a document filed in support of the application, or in testimony given under oath before the Commissioner Has previously engaged in a fraudulent practice or act or has conducted any business in a dishonest manner A.D.Banker&Company® CALIFORNIA ETHICS AND LAWS Has shown incompetency or untrustworthiness in the conduct of any business, or has by commission of a wrongful act or practice in the course of any business exposed the public or those dealing with them to the danger of loss Has knowingly misrepresented the terms or effect of an insurance policy or contract Has failed to perform a duty expressly enjoined upon them by a provision of or has committed an act expressly forbidden by the California Insurance Code Has been convicted of a: □ Felony □ Misdemeanor as defined by California's insurance laws □ Public offense having as one of its necessary elements a fraudulent act or an act of dishonesty in acceptance, custody, or payment of money or property Has aided or abetted any person in an act or omission which would constitute grounds for the suspension, revocation, or refusal of a license or certificate issued Has permitted any person in their employ to violate any provision of the California Insurance Code Has conducted, while unlicensed, any business which legally requires a license Has submitted to the Commissioner a false or fraudulent certificate of prelicensing or continuing education Has committed any prohibited inducement or unfair practice The Commissioner may deny a license application if the granting of the license would be against public interest. The Commissioner may deny, suspend, or revoke the license of an organization if the controlling person—a person who possess the power to direct the management and policies of the organization—is convicted of any of these acts. Denial of License Application, Revocation of a License without a Hearing The Commissioner has the right to deny an application without a hearing, or to revoke an agent’s license if the applicant or agent has: Been convicted of a felony by judge or jury Been convicted of a misdemeanor relating to insurance law by judge or jury Had a previous professional, occupational, or vocational license denied, suspended, or revoked for cause by any licensing authority, within 5 years of the date of the filing of the application Suspension or Revocation Any licensed agent who has committed any offense denounced by the Code may have their license suspended or revoked by the Commissioner. A license may be suspended for up to 3 years. A license suspended for more than 2 years will require the agent to retake the prelicensing course and pass the qualifying exam. A license which has been revoked may not be reinstated within 1 year of revocation. An agent is responsible for the actions of their employees, and if an agent permits an unlicensed employee to perform acts for which a license is required, the agent is subject to having their license suspended or revoked. An insurer who permits an agent to willfully violate the Code in a manner that could lead to suspension or revocation of the agent’s license is subject to having its certificate of authority suspended or revoked. A.D.Banker&Company® 189 CHAPTER FIFTEEN Restricted License As a disciplinary measure when a violation of the Insurance Code would justify suspension, revocation or denial of license, the Commissioner may revoke the permanent license and issue a restricted license. A restricted license requires the agent to comply with all laws, and complete all CE requirements and license renewals on time for up to four years. The agent must request restoration of the permanent license once the terms of the restricted license have been completed. A restricted license may be suspended or revoked without hearing or cause. Temporary Authority Upon written notification to the Department of Insurance, in the event of the incapacity or death of an agent, the conservator, administrator, or executor of the agent’s estate may be permitted to wind down the affairs of the agent, including receiving commissions for new business submitted by the agent prior to incapacitation or death, and any renewal commissions to which the agent would be entitled by virtue of the agent’s contract with the insurer(s). An unlicensed person may also be approved to handle the affairs of an agent on active military service, but may not transact new business in that agent’s name. Recordkeeping Requirements The Commissioner will specify the manner and type of records to be maintained by those licensees acting as insurance agents and brokers and the location where the records must be kept. Life and Disability insurance agents must maintain records in their place of business for at least 5 years and must be open to inspection or examination by the Commissioner at all times. Original (or certified copies) must be delivered to the Commissioner within 30 days of request. Records must be kept by agents for at least 5 years following actual policy delivery, or 5 years from the date of application if no policy is issued. The records must include names, dates, amounts and policy numbers of each transaction. The records are composed of all of the following: The original application for each policy sold in this state A record of insurance policies issued and premiums received Production records indicating the policies sold by each agent in the past 5 years Record of commissions paid and to whom Records identifying any agent other than the agent on the application who handled any portion of an insurance transaction and who was not compensated Correspondence or written solicitations sent to a prospective insured Correspondence or notices of termination or nonrenewal of a policy The written comparison of benefits, limitations and exclusions of the existing policy to the proposed new coverage Correspondence between the policyholder or prospect and the agent or insurer Outline of coverage or disclosure statement Correspondence of any person acting on behalf of the policyholder or prospect and the agent or insurer In the case of broker-agents who have authority to maintain trust accounts for the collection and distribution of premiums for property and casualty insurance, bank records, including periodic statements of an account supplied by the bank, records of all deposits, cancelled checks, and records of withdrawals, must be maintained at all times. 190 A.D.Banker&Company® CALIFORNIA ETHICS AND LAWS Noncompliance Whenever the Commissioner may have good cause to believe that any property and casualty broker/ agent has failed to keep or maintain the records required, the Commissioner may issue an order requiring the licensee to establish and complete those records within 60 days from the date of the order. Notice of the order may be given by certified mail addressed to the office of the licensee. Failure of the licensee to comply with the order within the time specified will be grounds for the suspension or revocation of the license or licenses of the licensee. Disclosure of Policy Effective Date A life agent, property and casualty broker-agent must provide at the time of application or receipt of premium the effective date of coverage, if known, or the circumstances under which coverage will be effective if there exists conditions precedent to coverage. This applies to all personal lines coverages, such as private passenger auto, homeowner and renter insurance, personal liability, and individual disability and health insurance. Internet Advertisements All internet advertisements directed to California insurance consumers must include the agent’s California insurance license number in addition to the agent’s principal place of business. Nonresident agents must clearly indicate their state of resident licensing. A person will be deemed to be transacting insurance when the person advertises on the internet, and does any of the following: Provides an insurance premium quote to a California resident Accepts an application for coverage from a California resident Communicates with a California resident regarding one or more terms of an agreement to provide insurance on an insurance policy Errors and Omissions (E&O) Insurance Agents have a duty to carefully determine the insured’s needs and suitability. Failing to meet these needs when making a recommendation can affect the insured’s coverage or leave them without coverage due to the agent’s neglect. The agent can be held legally responsible for neglect, errors, or omissions when making customer recommendations. E&O insurance is used for the purpose of protecting an agent from this legal liability and provides coverage for legal defense and settlement costs up to a limit. Errors and Omissions insurance is usually offered with a minimum limit of liability of $1 million. Policies usually include a significant retention (or deductible) of $2,500 or $5,000. Most E&O policies are issued on a “claims made” basis, meaning the policy covers claims which arise while the policy is in force, and usually requires continuous coverage from the time of the claim to the time of adjudication. A “tail” provision may be added to cover acts that occurred prior to the inception of the policy. E&O policies also provide limited protection for the negligent acts of an agent’s unlicensed employees. But E&O policies never provide coverage for fraud, illegal activities, or criminal acts of the agent or an employee, nor does it provide protection for liability or casualty losses which are normally covered by a commercial liability policy, such as personal injury, property damage, or torts such as libel and slander. Misuse of client funds is also excluded. A.D.Banker&Company® 191 CHAPTER FIFTEEN Reporting of Administrative Actions and Criminal Convictions All licensees and applicants for licenses issued by the CDI Producer Licensing Bureau are required to report any administrative actions or criminal convictions to CDI in writing within 30 days of the final disposition of the matter. This requirement applies to both California resident and nonresident licensees and applicants. Background information that must be reported includes any of the following: Misdemeanor or felony conviction Filing of felony criminal charges in state or federal court Administrative action regarding a professional or occupational license Licensee’s discharge or attempt to discharge in a personal or organizational bankruptcy proceeding an obligation regarding any insurance premiums or fiduciary funds owed to any company, including a premium finance company, or managing general agent Admission, judicial finding, or determination of fraud, misappropriation, or conversion of funds, misrepresentation, or breach of fiduciary duty Methods of Reporting To report information to CDI in writing, use the background change disclosure form available on the CDI website at www.insurance.ca.gov and select “Producer Background Information” under “Agents & Brokers.” Additional information regarding this requirement, and the form, can be found by following the link or by typing “background change” in the search box on CDI’s home page. Background changes also can be submitted electronically to the National Insurance Producer Registry (NIPR) Attachment Warehouse Reporting of Actions (ROA) at www.nipr.com by selecting “Reporting of Actions” under “Attachments Warehouse.” 192 Please include supporting documents such as a statement regarding the background change; certified court documents; administrative or disciplinary documents; or any other information relative to the change. If any of the changes in the background information involves an applicant or licensee who is listed as an endorsee on a business entity license, the licensee or applicant must also provide the notice of background change to any officer, director, or partner listed on that business entity license or application. A.D.Banker&Company® KEY WORD INDEX Alternatives to Hospital Services 147 Ambulatory Outpatient Care A 148 Annually Renewable Term Accelerated Death Benefit Policy 38 Riders 48 Annuitant 64 Accelerated Death Benefits 86 Annuities and Medi-Cal Accelerated or Living Benefit Eligibility 74 69 Annuitization 66 Accidental Death and Dismemberment 47, 92, Annuity (Benefit) Payment Options 66 106, 167 Annuity Distribution Period Accidental Death Benefit (Pay-Out) 66 (Double or Triple Annuity Mechanics 65 Indemnity) 47 Accident and Health agent 182 Annuity Principles and Concepts 63 Accident and Health Agent 8 Annuity Riders 69 Accumulate at Interest 62 Annuity Uses 70 Activities of Daily Living 133 Any Occupation 109 Actuarial 5 Applicant 19 ADA (Americans with Application 19 Disabilities Act) 158 Additional Federal Regulation of Appointments 185 Assignment 54 Group Insurance 158 Assumptions and Calculations Additional Monthly Benefit 27 (AMB) Rider 113 Attained Age 20 Adjustable Face Amount 40 Attending Physician Statement Adjustable Premium 45 (APS) 25 Admitted (Authorized) Insurer 5 Automatic Premium Loans (APL) Adverse Selection 13 56 Advertising of California Aviation 55 Insurance Guarantee Association 175 B Agent 181 Beneficiary 19, 64 Agent's Authority 7 Beneficiary Designations 58 Agent’s Report 26 Beneficiary Succession 57 Agent’s Responsibilities to the Benefit Structure of Plans 101 Insurer 7 Benefit Triggers 133 Agent vs. Broker vs. Solicitor Blanket Insurance 154 182 Aiding a Non-Admitted Insurer Blanket Life Insurance 80 Blindness 180 to Transact 181 Boycott, Coercion or Aleatory Contract 16 Intimidation 175 Alien Insurer 5 Broker 182 Allowable Information Sharing Broker Licensing 50 10 Bronze Plan 162 Alteration of Disability Application 181 1-Year Term 62 7-Pay Test 87 A.D.Banker&Company® Business Disability Insurance 167 Business Overhead Expense 111 Business Uses 71 Business Uses of Life Insurance 80 Buy-Sell Agreement 80 Buy-Sell Agreement or Disability Buyout 112 C Cal-COBRA 156 California Annuity Suitability Education Requirements 185 California Consumer Protection 139 California Department of Managed Health Care 104 California Financial Information Privacy Act 10 California Health Benefit Exchange 163 California Insurance Code 168 California Jurisdiction 104 California Life Policy Illustration Requirements 20 California Long-Term Care Education Requirements 185 California Senior Citizen Requirements 55 California Senior Market and Policy Illustrations 22 California State Disability Insurance 113 Cancellation 54, 72, 128, 144, 146 Carryover Provision 105 Cash 62 Cash Surrender 60 Cash Value 36, 56, 85 Cash Value (Surrender) Rider 112 Cease and Desist Orders 170 Certificate of Authority 171 193 KEY WORD INDEX Certificate of Insurance 149 Change of Address 188 Change of Beneficiary 143 Change of Occupation 143 Changes in the Application 22 Changes (Modifications) 53 Characteristics of a Disability Income Policy 108 Characteristics of Group Insurance (health) 149 Characteristics of Group Insurance Plans 76 Characteristics of Insurance Contracts 16 Child Rider 47 Claim Form Provision 142 Claims 5 Classification of Risks 26 Class or Classification of Beneficiary 58 COBRA 155 Code and Ethics 168 Cognitive Impairment 133 Coinsurance 104 Cold Lead Advertising 129 Collecting the Initial Premium and Issuing the Receipt 23 Common Accident Provision 105 Common Disaster Clause 59 Common Exclusions from Coverage 106 Completing the Application 22 Comprehensive Case Management 147 Concept of an Annuity 63 Concurrent Review 147 Conditional Contract 16 Conditionally Renewable 146 Conformity with State Statutes 144 Consequences of Incomplete Applications 22 Conservation 29 Conservation of Insurers 172 Consideration Clause 145 194 Constructive or Legal Delivery 28 Consumer-Driven Health Plans (CDHPs) 164 Contingent or Secondary Beneficiary 57 Continuing Education Requirements 185 Continuous Premium 39 Contract Law 15 Contract of Adhesion 16 Contributory 78 Control of the Contract 64 Corporate-Owned Annuities 90 Cost Containment in Health Care Delivery 146 Cost of Living (COL) 48, 69 Credit Insurance (Credit Disability Insurance) 106 Credit Life Insurance 38 Credit Life Insurance (Individual and Group) 80 Critical Illness (Dread Disease or Limited Sickness Plans) 106 Cross Purchase Plan 81 Custodial (Non-skilled) Care 133 Dependent Child Coverage (Limiting Age Law) 105 Dependents 77 Direct Response 6 Disability Income Benefit 46 Disability Income Benefits 114 Disability Income Insurance 107 Disability Income (Loss of Income or Time) Policy 107 Disability Income Policy Riders 112 Disability Income Special Uses 111 Disability Riders 46 Disability Traits 179 Disclosure of Genetic Test Results 180 Disclosure of Policy Effective Date 191 Discontinuance 154 Discriminatory Practices 179 Display of License 188 Distributions at Death 89 Dividend Options 61 Dividends 86 Domestic Insurer 5 Domestic Partners 77, 151 D Dread Disease 106 Duties and Responsibilities 6 Death Benefit Options 41 Duties of all Insurers 30 Death Benefit Proceeds 87 Death Benefit Proceeds (Claims) Duties of Existing Insurer 31 Duties of Replacing Agents 30 86 Duties of Replacing Insurers 30 Death Benefits 64 Duties Upon Receipt of Deceptive Advertising 175 Communication 177 Decreasing Term Policy 37 Deductible 104 E Defamation 175 Deferred Annuities 65 Earned Premium 100 Definition of Disability 114 Earned vs. Unearned Premium Definitions of a Disability 109 28 Denial of License Application, Effective Date 20 Revocation of a License Effect on the Death Benefit 48 without a Hearing 189 Elements of a Legal Contract 15 Denial of License Application, Elements of Ideally Insurable Suspension, or Revocation Risks 14 188 A.D.Banker&Company® KEY WORD INDEX Eligibility and Selection of Coverage 77 Elimination Period 145 Emergency Services 148 Employer Self-Funded Plans 154 Employer Sponsored Qualified Retirement Plans 71 Employment-Related Groups 153 Endow (Mature) 36 Enrollment in Medicare Advantage 123 Entire Contract Clause 52, 141 Entity Plan 81 ERISA Qualified Plans 156 Errors and Omissions (E&O) Insurance 191 Estate 59 Estate Taxation 90 Estate Taxes and Considerations 86 Events that Terminate Coverage 151 Examination of Records by the Commissioner 170 Exclusion Ratio 89 Exclusions and Limitations 113 Exclusive Agency 6 Exclusive Provider Organization (EPO) 104 Exemption from Insurance Licensing Requirements 184 Existing Insurer 30 Expense Charges 40 Expenses 27, 98, 118 Experience vs. Community Rating 150 Expiration Date 20 Expired License 187 Express Authority 7 Extended Term 61 Extension of Benefits 155 F Face Amount 36 A.D.Banker&Company® Factors in Premium Determination for Life Insurance 27 Failure or Refusal to Accept an Application 179 False Entries 175 False Financial Statements 175 Family and Medical Leave Act (FMLA) 158 Family Deductible 105 Family Income 43 Family Maintenance 44 Family Plan (Family Protection Plan) 44 Family Policies 43 Family Rider 47 Federal Tax Considerations for Business and Group Health Insurance Policies 167 Federal Tax Considerations for Personally-Owned Individual Health Insurance Policies 166 Fictitious Agency Names 188 Fiduciary Duty 7 Field Underwriting 22 File and Record Documentation 177 Fixed Amount 60 Fixed (Guaranteed) Annuity 67 Fixed Life Insurance 35 Fixed Period 60 Fixed Premium 42, 45 Flat Rate 27 Flexible Life Insurance 35 Flexible Premium 40, 45, 65 Flexible Premium Deferred Annuity (FPDA) 65 Flexible Spending Accounts (FSAs) 166 Foreign Insurer 5 Formulary 124 Fraternal Benefit Societies 4 Fraud Protection 178 Fraudulent Acts 178 Fraudulent Claims 178 Fraudulent Life Settlements 51 Free Insurance 181 Free Look and Cancellation 54 G Gatekeeper 102 General Account 40 General Account (Guaranteed Values) 42 General Account vs. Separate Account 68 Genetic Characteristics and Disability Traits 179 Gold Plan 162 Grace Period 56, 142 Graded (Lien) Plan 27 Gross Premium 28 Group Conversion 78 Group Disability Income 110 Group Insurance Market 76 Group Life Insurance 33 Group Life Policy Provisions 78, 79 Group Model 103 Group Provisions (Health) 150 Group Risk Selection 76 Group Selection Criteria 26 Group Underwriting 78 Group Underwriting Process 150 Guaranteed Insurability 47 Guaranteed Insurability Rider 148 Guaranteed No-Lapse Rider 48 Guaranteed Purchase Option (Guaranteed Insurability, Future Increase) Rider 112 Guaranteed Renewable 146 H Hazard 12 Hazardous Hobbies or Avocation 55 Hazardous Occupation 55 Healthcare Provider Settings 101 195 KEY WORD INDEX Health Insurance Counseling and Advocacy Program (HICAP) 140 Health Maintenance Organizations (HMOs) 102 Health Reimbursement Arrangements (HRAs) 166 Health Savings Accounts (HSAs) 165 High Deductible Health Plan (HDHP) 165 High-Pressure Tactics 129 HIPAA (Health Insurance Portability and Accountability Act) 157 Home Health Care 101 Hospital Confinement Rider 113 Hospital Income or Indemnity (Cash Payment) 106 Human Life Value 32 Individual Underwriting by the Insurer 24 Inflation Protection (Cost of Living) 135 Information Required 23 Information Sources and Regulation 25 Initial and Guaranteed Maximum Premium 45 Inpatient Hospitalization 118 Inspection Report 25 Insurability 14 Insurable Events 15 Insurable Interest 15, 19, 24 Insurance 14 Insurance Agent 7 Insurance Aspects of an Annuity 64 Insurance Broker 8 Insurance Claims Analysis Bureau 179 Insurance Commissioner 170 Insurance Commissioner’s I Duties and Responsibilities 170 Identification of Applicant’s Insurance Company Regulation Race or Birthplace 179 171 Illegal Occupation/Act 144 Insurance Concepts 14 Immediate Annuity 65 Insurance in Connection with Impairment Rider 112, 148 Sales or Loans 181 Implied Authority 7 Insurance Information and Inactive License 187 Privacy Protection Act 9 Incontestability Clause 52 Insurance Policy 14 Indemnity Contract 16 Insurance Solicitor 9 Indemnity (Reimbursement) Insurance with Other Insurers Plan 100 144 Independent Agency 6 Insured 19, 100 Independent Practice Insurer as Principal 6 Association (IPA) Model Insurer Insolvency 171 103 Individual Annuity with Lifetime Insurer Underwriting 18 Insuring Clause 53, 145 Income 66 Integration (Coordination) of Individual Life Insurance 33 Benefits 114 Individual Medical Expense Plan Interest 27, 40 Benefits and Provisions Interest Only 60 105 Intermediate Care 133 Individual/Named Beneficiary Internet Advertisements 191 58 Individual Selection Criteria 26 Intoxicants and Narcotics 144 196 Irrevocable Beneficiaries 58 Issue (Original) Age 20 Issues Relating to AIDS and HIV Testing 24 J Joint Annuity with Lifetime Income 67 Joint Life 67 Joint Life (First to Die) 44 Joint Survivorship Life (Last to Die) 44 Juvenile Insurance 44 K Key Employee Insurance 111 Key Person (Key Employee) 82 L Labor Unions 154 Law of Agency 6 Law of Large Numbers 14 Legal Actions 143 Level (Guaranteed) Premium 45 Level Term Policy 37 License Number Required on Documents 187 License Qualifications and Requirements 184 Examination 184 License Renewal 187 Life Agent Appointment 186 Life and Disability Analyst 183 Life Income Joint & Survivor 67 Life Income Option 60 Life Income Period Certain 66 Life Income (Pure or Straight Life) 66 Life Income with Refund (Installment or Cash Refund) 67 Life insurance and Qualified Retirement Plans 90 Life Insurance Policy Riders 45 Life Insurance Transfer for Value Rule 88 Life Insurance vs. Annuities 63 A.D.Banker&Company® KEY WORD INDEX Life Licensee 182 Life-Only Agent 8, 182 Life Policy Options 60 Life Policy Settlement Options 60 Life Settlement Broker 49, 182 Life Settlement Licensing Regulations 50 Life Settlements 49 Lifetime Benefit Rider 112 Limited Health Policies 106 Limited Payment 39, 45 Limited Temporary Life Insurance Eligibility 23 Limited Travel Accident 106 Limit of Liability 36 Liquidation 172 Living Needs Rider 48 Loans and Partial Withdrawals 41 Long-Term Care Coverages and Conditions 133 Long-Term Care Exclusions 137 Long-Term Care Insurance 131 Long-Term Care (LTC) 69 Long-Term Care Need 131 Long-Term Care Partnership Policies 138 Long-Term Care Personal Worksheet 132 Long-Term Care Rider 48 Long-Term Disability (LTD) 111 Loss 12 Loss Exposure 13 LTC Coverages 134 LTC Facilities and Levels of Care 133 LTC Minimum Benefit Standards and Exclusions 136 LTC Suitability Standards and Requirements 132 Lump Sum Structured Settlements 70 Lump Sum vs. Annuitization 66 A.D.Banker&Company® M Mailing as Proof of Notice 169 Major Medical Policy 104 Managed Care Organizations 122 Management and Operating Divisions 5 Managing Risk 13 Avoidance 13 Reduction 13 Retention 13 Sharing 13 Transfer 13 Mandatory Second Surgical Opinion 147 Marketing and Distribution Models 6 Marketing/Sales 5 Market-Value Adjustment (Adjusted) Annuity 68 Master Policy 149 Medi-Cal Eligibility 130 Medical Examinations 25 Medical Expense Insurance Optional Benefits 105 Medical Information Bureau (MIB) 25 Medical Loss Ratios 162 Medical Savings Account (MSAs) 165 Medicare Claim Terminology 121 Medicare Enrollment 116 Medicare Part A - Hospital Insurance (Inpatient) 118 Medicare Part B Exclusions 121 Medicare Part B - Medical Insurance (Physicians, Surgeons, and Outpatient) 120 Medicare Part C - Medicare Advantage 122 Medicare Part D - Prescription Drug Benefit 124 Medicare Products 116 Medicare Summary Notice (MSN) 121 Medicare Supplement Insurance (Medigap) Overview 125 Medicare Supplement Plan Chart 127 Medicare Supplement Replacement Requirements 129 Mental Health and Substance Abuse 105 Mental Health Parity Act 159 Methods of Premium Payment 45 Methods of Reporting 192 Military Status Clause 55 Misrepresentation 174 Misstatement of Age 143 Mode of Premium 56 Modified Endowment Contracts (MECs) 87 Modified Premium 45 Morale Hazard 13 Moral Hazard 13 Mortality 27 Mortality Charges 40 Mortality Cost Formula 28 Multi-Employer Welfare Associations (MEWAs) 153 Multiple Employer Trusts (METs) 153 Mutual Insurance Company 4 N National Association of Insurance Commissioners (NAIC) 3 Natural Group 149 Natural Person 169 Needs Analysis Approach 33 Net Premium 28 Newborn Infant Coverage 105 No Loss-No Gain for Existing Claims 155 Non-Admitted (Unauthorized) Insurer 5 Noncancellable 146 Noncompliance 191 197 KEY WORD INDEX Noncontributory 78 Non-Disabling Injury Rider 112 Nonduplication and Coordination of Benefits 152 Non-Emergency Hospital Preauthorization Admissions 148 Nonforfeiture Options (Guaranteed Values) 60 Nonforfeiture Provisions 66 Nonmedical Application 23 Nonoccupational 108 Nonparticipating Life Insurance 35 Nonresident Agent 182 Nontraditional Whole Life (Interest/Market Sensitive) 40 Notice of Claim 142 Notice of Legal Action 174 Notice of Medicare Benefit Changes 128 Notice Regarding Replacement 30 O Occupational 108 Office Location 188 Open Enrollment Period 150 Optional Benefits 112 Optionally Renewable 146 Optional Uniform Provisions 143 Original License Appointment 186 Other Insurance with This Insurer 143 Other Standard Provisions and Clauses 145 Out-of-Area Benefits and Services 148 Owner 64 Owner’s Rights (Ownership Provision) 53 Own Occupation 109 198 P Policy Renewal Provisions 146 Policy Reserves 28 Paid-up Additions 62 Policy Riders 148 Paid-up Option 62 Potential Consumer Part A Benefits and Out-ofConsequences 171 Pocket Expenses 118 Precertification 147 Part B Benefits 120 Pre-existing Condition Provision Partial Disability 109 145 Partial Surrenders 57 Preferred Provider Partial Withdrawals 57 Organizations (PPOs) 103 Participating Life Insurance 34 Preferred Risks 26 Participation Requirements 150 Pregnancy Discrimination Act Patient Protection and (PDA) 158 Affordable Care Act Prelicensing Education 184 (PPACA) 160 Pre-Meeting Notice 73 Payment of Claims 142 Premium Concepts 28 Payment of Premium Provisions Premium Determination for Life 56 Insurance 27 Payor Benefit (Waiver of Payor’s Premium Payment Mode 28 Premium) 46 Premium Payment Option 65 Penalties 31, 88, 176, 178, 179 Premium Rates and Increases Per Capita 58 128 Peril 13 Premium Reduction 62 Period Certain Annuity 67 Premiums Paid by the Employer Periodic Premium 65 and the Employee 87 Period of Time (Nonrenewable) Presumptive Disability 109 146 Pretext Interviews 180 Permanent Disability 109 Preventive Care 146 Permanent Insurance 39 Primary Beneficiary 57 Personal Contract 16 Primary Care Physician (PCP) Personal Uses - Individual 102 Annuities 70 Primary Care Physician vs. Per Stirpes 58 Specialist Physician 103 Physical Exam and Autopsy Primary vs. Secondary Payor 143 116 Physical Hazard 13 Principle of Indemnity 14 Physical or Mental Impairment Privacy Protection and Federal 180 Regulations 9 Plan A - Core Benefits 125 Private Fee-for-Service Plans Platinum Plan 162 (PFFS) 123 Point of Service (POS) 104 Private Firms and Persons 3 Policy Continuation 79 Probationary Period 145 Policy Delivery 28 Producer 8 Policy Effective Date 191 Producer Responsibilities 20 Policy Loan Rate Provisions 57 Prohibited Business Practices Policy Loans 86 180 Policy Loans Provision 56 Prohibited LTC Provisions 136 Policyowner 19 Proof of Claim 174 A.D.Banker&Company® KEY WORD INDEX Proof of Loss 142 Prospective Review 147 Provisions of the PPACA 161 Pure Loss of Income (Income Replacement) Policy 108 Residual Disability 109 Responsibilities to the Applicant/Insured 8 Restricted License 190 Retirement Income 70 Retrospective Review 147 Q Return of Premium 47 Return of Premium Term 45 Qualified Long-Term Care Revocable Beneficiaries 58 Insurance 138 Rider 36 Qualified Retirement Plans 90 Riders Affecting the Death Qualified vs. Nonqualified Benefit Amount 47 Annuities 69 Qualifying for Disability Benefits Riders Covering Additional Insureds 46 108 Right of Rescission 54 R Right to Appeal 122 Right to Examine (Free Look) Rated-Up Age 27 145 Rating Applicants 26 Risk 12 Rebating 175 Recordkeeping and Examination Risk Management 12 of Records by the S Commissioner 170 Section 1035 Exchanges 88 Recordkeeping Requirements Self-Funded Plans 101 190 Separate Account (NonRecurrent Disability 109 guaranteed Values) 42 Reduced Paid-Up 60 Service Area 100 Regulation of Admitted and Service Plan 101 Non-admitted insurers Sexual Orientation and 171 Underwriting 179 Rehabilitation Benefits 112 Short-Term Disability 111 Reinstatement 56, 142 Silver Plan 162 Reinsurance Companies 4 Single Premium 40, 45, 65 Relationship of Earnings to Single Premium Deferred Insurance 144 Annuity (SPDA) 65 Relationship with Medicare Single Premium Immediate 152 Annuity (SPIA) 65 Replacement 29 Skilled Nursing 133 Replacement of Group Health Skilled Nursing Facility 101 Insurance 154 Replacement of Long-Term Care Small Group Health Insurance 155 Policies 137 Social Insurance Supplement Replacing insurer 30 (SIS) Rider 113 Reporting of Administrative Social Security Disability Actions and Criminal Income Limitation 114 Convictions 192 Social Security Disability Required Disclosures 50 Insurance (SSDI) 114 Required Signatures 22 Social Security System 83 Resident Agent 181 A.D.Banker&Company® Social vs. Private Insurance 84 Solicitation 20 Solicitors 182 Specialist Physician 103 Specialized Plans 80 Specialized Policies (Life) 43 Special Needs Plans (SNPs) 123 Speculative Risk 12 Spendthrift Trust Clause 59 Split-Dollar Plans 82 Spouse (Other Insured) Rider 46 Staff Model 103 Standard HMO Modes 103 Group Model 103 Independent Practice Association (IPA) Model 103 Staff Model 103 Standardized Medicare Supplement Coverage Requirements 125 Standard Provisions-Individual Policies Only 52 Standard Risks 26 Standards for Prompt, Fair, and Equitable Settlements 177 Statement of Good Health 29 Statutory Definitions 169 Stock Insurance Company 4 Stop-Loss Provision 104 Straight Life 39 Stranger Originated Life Insurance (STOLI) 32 Subscriber 100 Substandard Risks (Higher Risk Exposure) 26 Suicide 55 Suicide Clause 53 Suitability and Taxation 73 Summary Seizure 172 Surgicenter 101 Surplus Lines Broker 9 Surrender Charges 66 Surrenders 57 Survivor Benefits 84 Survivor Protection 31 Suspension or Revocation 189 199 KEY WORD INDEX T Table of Guaranteed Values 61 Tabular Rate 27 Take-Over Benefits Coinsurance and Deductible Carryover 152 Taxation 87 Taxation of Annuities 89 Taxation of Group Life Insurance 87 Taxation of Personal Life Insurance 85 Tax-Deferred Growth 65 Tax Penalty 66 Temporary Authority 190 Temporary Disability 109 Termination of License 186 Term Insurance 37 Term Life Insurance 34 Term Policy Special Features 38 Types of Licenses 8 Insurance Broker 8 Insurance Solicitor 9 Surplus Line Broker 9 W Waiting Period (5 “full” months) 114 Waiver of Cost of Insurance 46 Types of Social Security Benefits Waiver of Premium 46, 145 84 Waiver Of Premium Rider 112 U War Clause 55 Workers’ Compensation 114 Underwriting 5, 14, 18 Underwriting Group Disability Plans 110 Unearned Premium 100 Unfair Claim Settlement Practices 176 Unfair Discrimination 175 Unfair Practices 174 Uniform Simultaneous Death Act 59 Unilateral Contract 16 Unique Aspects of Individual Disability Underwriting 110 Convertible 39 Universal Life (Flexible Premium Renewable 38 Adjustable Life Insurance) Tertiary Beneficiary 57 40 Third Party Administrators 183 Unpaid Premiums 144 Third-Party Administrator (TPA) Urgent Care Center 101 154 Uses of Term 38 Third-Party Ownership 19, 83 Usual, Customary, Reasonable Time Limit on Certain Defenses (UCR) 101 (Incontestable) 141 Utilization Review 147 Time of Payment of Claims 142 Utmost Good Faith 16 Tortfeasor 15 V Tort Law 15 Total Disability 109 Variable Annuity 68 Traditional Whole Life 39 Variable Life 42 Transacting Insurance 9 Variable Universal Life (VUL) Transacting Without a License 42 184 Viatical Settlements 49 Transplant Donor Benefit 109 Violation and Penalties 31 Trust 59 Violent Crime Control and Law Twisting 174 Enforcement Act of 1994 Types of Beneficiaries 58 11 Types of Group Plan Sponsors 78 Types of Insurers 4 200 A.D.Banker&Company®
