Term, Whole Life, and a Single Premium She Plans to Borrow From
Priya, 34, earns $95,000 as an engineer; her husband Dev, 36, earns $60,000. They have children ages 2 and 6 and a $310,000 mortgage. Priya's employer provides group term life equal to two times salary - currently $190,000 - at no cost to her. She is choosing between a $750,000 20-year level term policy at $46 a month, guaranteed convertible to any permanent policy the insurer sells until age 65, and a $750,000 whole life policy at $610 a month. She is in good health, but her father died of a heart attack at 52. Separately, Priya wants to put a $120,000 inheritance into a single-premium life policy with a $150,000 death benefit, and plans to borrow against it in about five years.
1. Should Priya treat the $190,000 group term certificate as part of her life insurance foundation? Build the case for how much personal coverage she should own.
Read the worked answer
No - the group certificate is a supplement, not a foundation. Reasons that matter in a needs analysis:
- It exists only while she is employed there. At termination she gets a conversion/portability window (often just 31 days) at sharply higher attained-age rates, and portability is expensive.
- The amount is formula-driven (2× salary) and can be reduced unilaterally by the employer.
- Coverage above $50,000 produces imputed income (Table I rates) reported on her W-2, so it is not truly 'free'.
- It cannot be counted on to be there in the years the need is largest.
Sizing: the personal policy should be built on the needs that survive a job change - the $310,000 mortgage, roughly 10 years of income replacement for a household losing her $95,000, education funding, and final expenses. $750,000 of personal term plus the group certificate is reasonable; counting the group certificate as the core would leave a hole of nearly $200,000 the day she changes employers.
Term vs. whole life: her need is largely temporary (children, mortgage), and $610 a month is more than thirteen times the term premium. Buying the $750,000 convertible term and investing the $564 monthly difference at 5% for 20 years accumulates roughly $230,000. Whole life would be defensible only if she needs permanent coverage (estate liquidity, a disabled child) or wants guaranteed cash value - neither is in evidence here.
2. Priya's father died of a heart attack at 52. How should that fact change the way she evaluates the conversion privilege, and how does it compare with the group plan's conversion right?
Read the worked answer
The conversion privilege is the most valuable feature of this term policy, and the family history is exactly why. A convertible term policy lets her exchange some or all of the term coverage for the insurer's permanent policy without evidence of insurability, provided she applies before the earlier of the stated deadline (age 65 here) or the end of the term. If she develops coronary disease in her forties - a realistic possibility given her father's history - the conversion is the only way she will ever obtain permanent coverage at standard rates.
The traps to explain:
- Premiums on the converted policy are usually based on her attained age at conversion, not her age when the term was issued (unless the contract offers an original-age conversion). At 55, whole life will be far more expensive than it looks today; the guarantee is of insurability, not affordability.
- The conversion option must be exercised before the window closes - an advisor calendar reminder, not a client memory, should drive this.
- The group certificate's conversion right is much narrower: usually 31 days after termination, often only to a whole life policy at attained-age rates, and it disappears if she simply lets the coverage end.
Recommendation: keep the convertible term, confirm in writing the last date she can convert and whether partial conversions are allowed, and revisit the conversion decision annually as her income rises and the risk of uninsurability changes.
3. Priya wants a single $120,000 premium into a life policy and intends to borrow against it in five years. What should the agent tell her?
Read the worked answer
A single-premium life policy is a modified endowment contract (MEC) by definition - it fails the seven-pay test because the contract is funded faster than seven level annual premiums.
What MEC status does to her plan:
- Lifetime distributions - withdrawals, partial surrenders, and policy loans - are taxed income first (LIFO) rather than as a return of basis.
- Those taxable amounts are also hit with a 10% additional tax before age 59½. Priya is 34; her planned borrowing at 39 falls squarely inside the penalty window.
- Loans are treated as distributions even if never repaid.
- The death benefit remains income-tax-free under IRC §101(a), and MEC status is permanent - a 1035 exchange carries it to the new policy.
So the structure defeats her stated goal. Borrowing tax-free against a policy requires a non-MEC contract funded within the seven-pay limits, where loans are generally tax-free while the policy stays in force and is not a MEC. Options to present:
- Fund a flexible-premium universal life policy within the seven-pay limit (smaller death benefit per dollar of premium).
- Accept a MEC but treat it as pure death benefit with no lifetime access.
- Use a different vehicle entirely (a deferred annuity or taxable account) if liquidity is the real objective.
The agent should document the discussion: a single-premium MEC sold to someone who intends to borrow in five years is a suitability problem, not just a tax problem.