Types of Policies and Features (Life and Annuities) — practice questions

17.5% of the exam ≈15 real questions 21 free questions here

Whole life, universal and variable life, term, annuities, and joint and survivorship plans: 15 of the 85 scored questions on the 2-14 exam. Most describe a client's need or a policy's behavior and ask which product it is.

Where people lose points

• Variable universal life sits in a separate account with no guaranteed floor; interest-sensitive whole life sits in the general account with one.
• A shrinking mortgage balance calls for decreasing term, not level term.
• The accumulation period of a deferred annuity comes before the annuity (payout) period, never the other way round.
• Joint life pays at the first death; survivorship life pays at the second.

Questions and answers, explained

All 10 questions above, with the correct answer and why it is correct. Everything here is on types of policies and features (life and annuities).

1. A universal life policy uses death benefit Option A (level). As the policy's cash value grows over time, what happens to the net amount at risk?

   • AIt increases, because the total death benefit rises right along with the cash value.
   • BIt decreases, because the exposure is the specified amount minus the cash value.Correct
   • CIt stays constant, because the net amount at risk is fixed at policy issue.
   • DIt becomes zero once the cash value exceeds half of the specified amount.

   Why: Under death benefit Option A the total death benefit stays level, so the insurer's pure insurance exposure (specified amount minus cash value) shrinks as the cash value builds, and the monthly cost of insurance is charged against that shrinking net amount at risk. Choice A is the closest distractor: a death benefit that rises with the cash value describes death benefit Option B, but even under Option B the net amount at risk stays level at the specified amount rather than increasing. Choice C states the Option B result, not the Option A result. (Outline I.B.)

   Reference FL 2-15 Outline I.B (Universal life death benefit options)

2. In a universal life policy, the target premium is best described as the premium that:

   • ACovers only the current month’s mortality and expense charges on the contract.
   • BThe insurer calculates as enough to carry the policy to maturity; commission is based on it.Correct
   • CIs the largest amount the contract may accept before it becomes a modified endowment contract.
   • DMust be paid on each due date or the policy immediately lapses without value.

   Why: The target premium is the insurer's suggested funding level, designed so that, under current interest and mortality assumptions, the policy will stay in force for life; it is also the usual base for first-year commission. Option A describes the minimum premium, the closest distractor, which funds only the current period's deductions. Option C describes the seven-pay or guideline premium limits. (Outline I.B.)

   Reference FL 2-15 Outline I.B (Universal life premium structure)

3. Why does federal tax law require a universal life policy to maintain a "corridor" between its cash value and its death benefit?

   • ATo keep enough pure insurance in the contract that it qualifies as life insurance.Correct
   • BTo guarantee that the policy can never lapse for insufficient account value.
   • CTo cap the amount the insurer may charge for the monthly cost of insurance.
   • DTo force the insurer to credit at least the guaranteed minimum interest rate each year.

   Why: IRC section 7702 defines what counts as life insurance, and under its guideline premium and corridor test the death benefit must stay a stated multiple of the cash value — 250% for insureds age 40 and under, declining at higher ages — so a heavily funded contract cannot become a tax-sheltered investment wrapper. Option B is the closest distractor but confuses a tax-qualification rule with a policy guarantee; a universal life policy can still lapse if the accumulated value cannot cover its deductions. Cost of insurance ceilings and guaranteed interest floors are contractual terms, not corridor rules. (Outline I.B.)

   Reference FL 2-15 Outline I.B (Universal life); IRC s. 7702

4. Nadia takes a $15,000 partial withdrawal (partial surrender) from her Option A universal life policy. How does this differ from taking a $15,000 policy loan?

   • AA withdrawal permanently reduces the death benefit; a loan reduces it only if outstanding at death.Correct
   • BA withdrawal accrues interest charges each year, while a policy loan accrues no interest at all.
   • CA withdrawal must be repaid within five years, while a policy loan never has to be repaid during life.
   • DNeither transaction affects the death benefit in any way at any point during the contract.

   Why: A partial withdrawal is a permanent surrender of value: it cannot be repaid, it may incur a surrender charge, and under Option A it reduces the specified amount dollar for dollar. Choice B inverts the facts — loans accrue interest, withdrawals do not — and a loan only reduces the proceeds if it is unpaid when the insured dies. Withdrawals are also taxed on a FIFO basis in a non-MEC contract, while loans are generally not taxable. (Outline I.B.)

   Reference FL 2-15 Outline I.B (Universal life withdrawals and loans)

5. Which statement about the cash value of a variable universal life policy is correct?

   • AThe insurer guarantees a minimum cash value at least equal to the premiums paid.
   • BCash value is credited at the insurer’s declared rate, subject to a 3% floor.
   • CThere is no guaranteed minimum; poor subaccount performance can cause a lapse.Correct
   • DCash value is held in the general account and is protected from market losses.

   Why: In a VUL the owner directs the money into separate-account subaccounts and bears all the investment risk, so the cash value has no floor and can fall far enough that policy deductions exhaust it and the contract lapses. Option D is the closest distractor and describes the general-account backing of fixed products such as interest-sensitive whole life. Some variable contracts guarantee a minimum death benefit, but that guarantee does not extend to the cash value. (Outline I.B.)

   Reference FL 2-15 Outline I.B (Variable universal life)

6. After a strong market year, Alejandra moves $40,000 of her variable universal life cash value from an equity subaccount into a bond subaccount. What is the immediate federal income tax consequence?

   • AThe gain is taxed as a long-term capital gain in the year of the transfer.
   • BA 10% penalty applies because the transfer occurred before age 59 1/2.
   • CThe transferred amount is taxed as ordinary income under LIFO rules.
   • DThere is no current tax; transfers among subaccounts inside the policy are not taxable events.Correct

   Why: Cash value inside a life insurance contract grows tax-deferred, and reallocating among subaccounts is an internal transfer, not a distribution, so nothing is realized or reported. Option A is the closest distractor and treats the subaccounts like a taxable brokerage account, the most common misunderstanding. Taxation arises only when money leaves the contract through a withdrawal, surrender, or a loan from a modified endowment contract. (Outline I.B.)

   Reference FL 2-15 Outline I.B (Variable universal life taxation)

7. An indexed annuity credits interest using a 100% participation rate, a 2.5% spread (margin) and a 0% floor. The index gains 9% for the crediting term. What rate is credited?

   • A9%
   • B6.5%Correct
   • C2.5%
   • D0%

   Why: A spread, margin or asset-fee method subtracts a stated percentage from the index gain before crediting: 9% minus 2.5% equals 6.5%. Option A is the closest distractor and simply ignores the spread. A spread limits the credit differently from a cap — instead of stopping the credit at a ceiling, it takes a fixed slice off whatever the index produces, and if the index gain were less than the spread the floor would limit the credit to 0%. (Outline I.D.)

   Reference FL 2-15 Outline I.D (Indexed annuity crediting methods)

8. All of the following are true of an indexed universal life policy EXCEPT:

   • AThe insurer credits interest based on the movement of an external index.
   • BThe floor protects credited interest from a negative index year.
   • CThe policyowner receives the dividends paid by the stocks that make up the index.Correct
   • DCaps, participation rates and spreads limit how much of the index gain is actually credited.

   Why: Indexed universal life premiums go into the insurer's general account, and the insurer buys options to support the index-linked credit, so the policyowner never owns the underlying stocks and receives no dividends from them — one reason credited returns trail the index's total return. The other three statements accurately describe the product: an external index drives the credit, the floor prevents a negative credit, and caps, participation rates and spreads limit the upside. (Outline I.B.)

   Reference FL 2-15 Outline I.B (Indexed life)

9. An indeterminate premium whole life policy is best described as a policy in which:

   • AThe death benefit varies directly with the insurer’s investment results in the separate account each year.
   • BThe premium is set each year by the Florida Department of Financial Services.
   • CPremiums are paid only in those years the policyowner chooses to pay them.
   • DThe insurer charges a lower current premium that may later change, but never above a guaranteed maximum.Correct

   Why: An indeterminate premium contract quotes a lower current premium based on favorable current assumptions, with a contractually guaranteed maximum the insurer can never exceed. Option C describes universal life's flexible premium, the closest distractor, which is a different design; the indeterminate premium is still due on schedule. Premiums for individual life products are filed by insurers and reviewed by regulators, not set annually by the Department. (Outline I.B.)

   Reference FL 2-15 Outline I.B (Indeterminate premium whole life)

10. How does an endowment contract differ from an ordinary whole life policy?

    • AAn endowment pays the face amount to the owner if the insured is living on a stated maturity date.Correct
    • BAn endowment provides no death benefit at all before it reaches its stated maturity date.
    • CAn endowment accumulates no cash value during the years the premiums are being paid.
    • DAn endowment always requires a single premium payment made at the time the contract is first issued.

    Why: An endowment pays the face amount at the insured's death OR to the owner as a living benefit if the insured survives the endowment date — for example, a 20-year endowment issued at 45 matures at 65. Option B is the closest distractor and misses the death protection that runs throughout the endowment period. Because cash value must reach the face amount so quickly, short endowments generally fail the federal definition of life insurance and are taxed unfavorably, which is why they are rarely sold today. (Outline I.A.)

    Reference FL 2-15 Outline I.A (Endowment contracts)

Drill other domains

• Policy Riders, Provisions, Options and Exclusions (17.5%)
• Application, Underwriting and Policy Delivery (14%)
• Retirement and Other Insurance Concepts (9%)
• Florida Statutes and Rules Common to All Lines (24%)
• Florida Statutes — Life and Annuity (incl. Variable Products) (18%)

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