Life Insurance Test: Is It Really That Hard?

The difficulty of a life insurance test depends on a range of factors, including your current knowledge, previous work experience, and how well you prepare. The test covers a lot of information, and while it can be challenging, it is not impossible to pass. The overarching topics covered on the exam, as well as the passing scores, are similar for all states. The passing score for all exams is 70%. It is recommended that you spend around 35 to 40 hours studying and that you take practice exams to prepare.

The 7 core concepts of life insurance

The life insurance test is not easy, but with good preparation, you can pass with flying colours. The test covers a lot of information, and the requirements vary across states. However, the overarching topics are similar across the board. Here are the seven core concepts, or principles, of life insurance that you should know:

• Utmost Good Faith: This is a primary principle of insurance. It requires you to disclose all information related to the risk to the insurance company truthfully. You must not hide any facts that can affect the policy. The insurer, in turn, must disclose all the features of the policy.
• Insurable Interest: This principle states that you must have an insurable interest in the insured life, meaning you will suffer financially if the insured person dies. You cannot buy a policy for someone in whom you have no insurable interest.
• Proximate Cause: This principle is vital in all types of insurance except life insurance. It states that when calculating a claim for a loss, the cause closest and most responsible for that loss should be considered.
• Subrogation: This principle comes into play when a loss is caused by a third party and not the insured. In such cases, the insurance company has the legal right to pursue that party for recovery.
• Indemnity: The principle of indemnity states that the insurance will only cover the financial loss that has occurred. The insurer will inspect and calculate the losses to put the insured person back in the same financial position they were in before the loss. This principle does not apply to life insurance or critical health policies.
• Contribution: If the insured has taken insurance from more than one insurer, this principle states that both insurers will share the loss in proportion to their respective coverage. If one insurer has paid in full, they can approach the other insurers to receive a proportionate amount.
• Loss Minimisation: This principle requires the insured to take all necessary steps to limit or prevent a loss. Even after purchasing insurance, the insured must take precautions to minimise potential losses.

Types of life insurance policies

There are five main types of life insurance: term life insurance, whole life insurance, universal life insurance, variable life insurance, and final expense life insurance. Each type of life insurance is designed to meet specific coverage needs.

Term Life Insurance

Term life insurance is a temporary type of policy that provides coverage for a set term or a specific amount of time. It is generally more affordable than permanent life insurance. It provides coverage for a set number of years, paying out as long as the policy hasn't expired and premiums have been paid.

Whole Life Insurance

Whole life insurance is a type of permanent life insurance that provides coverage for your entire lifetime. It is more expensive upfront, but the benefits are more secure in the long run. It also includes a savings component that a portion of your premium will pay into. The savings component has a fixed interest rate that builds cash value over time.

Universal Life Insurance

Universal life insurance is another type of permanent life insurance option. It is sometimes called adjustable life insurance because it offers more flexibility than a whole life policy. It allows you to increase or decrease your death benefit and even adjust or skip your monthly premium (within certain limits). It also has a savings component that grows in a tax-deferred account at a stable rate.

Variable Life Insurance

Variable life insurance is a riskier type of permanent life insurance. It has a face value death benefit and a variable cash value that rises and falls based on your payments and the performance of your selected investments. The greater range of investment options means it could provide a greater benefit in the long run, but it also opens you up to much higher risk, fees, and costs.

Final Expense Life Insurance

Final expense life insurance, also known as funeral or burial insurance, is a type of whole life insurance that offers a smaller and more affordable death benefit to cover end-of-life expenses. It is easier for older or less healthy individuals to qualify for this type of policy. The cash value operates the same as a whole life policy, building value at a fixed rate over time.

Life insurance contracts

The first step to understanding life insurance contracts is to familiarise yourself with the seven core principles of life insurance:

• Principle of Utmost Good Faith: The policyholder and the insurer should act in "good faith," with honesty and positive intentions.
• Principle of Insurable Interest: The item or property listed in a contract, such as a car, has monetary value, so the insurer or policyholder would face financial loss if it was damaged.
• Principle of Indemnity: A promise to repay the policyholder for any losses they suffer from an injury or accident.
• Principle of Contribution: Each insurance company a policyholder has a contract with will cover the amount of losses they originally agreed to pay for.
• Principle of Subrogation: The policyholder has the ability to substitute one insurance company for another.
• Principle of Loss Minimization: It is the policyholder's responsibility to avoid injuries or accidents as much as possible.
• Principle of Causa Proxima (Nearest Cause): Not all losses are likely to be covered by one type of insurance contract.

When preparing for a life insurance exam, it's important to study these core concepts and understand how they apply to life insurance policies. Additionally, it's crucial to review the types of life insurance policies available, such as term life insurance, whole life insurance, and variable life insurance.

Understanding the underwriting process is also essential. Underwriting is how insurance providers calculate the risk of insuring an individual by considering their medical history, driving record, and other factors. This information is then used to determine a life insurance quote.

Finally, it's important to be aware of tax issues related to life insurance policies. Policyholders may face various tax laws that can impact their contracts, and it's the agent's role to explain these implications.

The underwriting process

For older applicants or those seeking a high amount of life insurance, additional tests may be required, such as an electrocardiogram (EKG) to assess heart health. In some cases, an X-ray or treadmill stress test may also be requested, which would need to be done at a doctor's office or clinic. The underwriting process may also involve reviewing the applicant's medical records, prescription history, and other personal information, such as motor vehicle reports and public records.

The results of the underwriting process determine the applicant's risk classification or rate class. Those in the preferred or standard rate classes generally have the lowest insurance rates and meet specific criteria, such as being in good health, having a clean driving record, and no history of drug or alcohol treatment. On the other hand, applicants with more severe health conditions may be placed in a substandard category and face higher insurance premiums.

While most life insurance companies require a medical exam as part of the underwriting process, there are also options for no-exam life insurance policies. These include accelerated underwriting, simplified issue life insurance, and guaranteed issue life insurance. However, these policies may have higher rates, limited coverage, or be tailored to specific demographics, such as older adults with limited financial resources.

Tax issues related to life insurance

Life insurance premiums are generally not tax-deductible for federal and state income tax purposes. This rule applies regardless of who owns the policy, whether it is owned for personal or business purposes, or whether it is an individual or group policy. However, there are some tax implications to consider when it comes to life insurance.

Firstly, it's important to understand the difference between term life insurance and permanent (or whole) life insurance. Term life insurance provides coverage for a specific period, whereas permanent life insurance offers lifelong coverage and also accumulates a cash value over time. This cash value can be accessed through withdrawals or loans and is generally tax-deferred. However, if you withdraw more than the policy basis (the sum of premiums paid minus dividends received), the excess amount may be subject to income tax.

In the case of permanent life insurance, there are guidelines for premium contributions to build up cash value. Excess contributions could result in the policy being classified as a modified endowment contract (MEC), leading to the taxation of excess premium contributions.

When it comes to employer-sponsored life insurance, an employer can typically pay a portion of an employee's life insurance premium of up to $50,000 without tax consequences. However, if the employer-paid premiums exceed this coverage amount, the excess will be added to the employee's taxable income and will appear on their W-2 statement.

Life insurance proceeds paid to beneficiaries due to the policy owner's death are generally excluded from the beneficiary's gross income for federal and state income tax purposes. However, if the beneficiary chooses to receive the payout in installments, the interest accumulated on the death benefit may be subject to income tax. Additionally, if the policy owner's estate is worth more than the federal estate tax exemption limit (which was $13.61 million for individuals in 2024), the payout could be subject to estate taxes.

Life insurance policy dividends are typically treated as a non-taxable return of premiums, as the premiums were paid with after-tax dollars.

It's important to note that the tax laws and regulations mentioned may change over time, and it is always advisable to consult with a tax professional or financial advisor for the most up-to-date information and personalized advice.

Frequently asked questions