Life Insurance Basics
Premium and ownership
Net premium reflects mortality and interest; gross premium adds expenses (loading). Premium mode matters: annual is cheapest, and monthly modes are most expensive because of lost interest and added expense. The owner controls the policy - beneficiary designation, loans, surrender, assignment - even when the owner is not the insured.
Underwriting and delivery
Field underwriting (the application and producer's report) drives the offer. With a conditional receipt, coverage begins when the application and full first premium are submitted, provided the proposed insured proves insurable under the insurer's rules; a binding receipt covers immediately. Coverage takes effect on delivery and payment of the first premium, or as the temporary insurance agreement states.
Beneficiaries
Primary, contingent, and irrevocable designations matter. Per stirpes divides a deceased beneficiary's share among that beneficiary's heirs; per capita splits only among living named beneficiaries. A minor beneficiary needs a guardian or trust, and a facility-of-payment clause lets the insurer pay limited amounts without a guardian.
Tax traps
Death proceeds are generally income-tax free, and cash value grows tax-deferred. A modified endowment contract (MEC) - a policy that fails the 7-pay test - loses favorable treatment: loans and withdrawals are taxed LIFO with a 10% penalty before age 59½. A transfer for value makes death proceeds taxable unless an exception applies (transfer to the insured, a partner, or a corporation where the insured is a key person).
Worked example
A 40-year-old pays a $10,000 single premium for $100,000 of coverage. If the contract fails the 7-pay test it is a MEC, and a $3,000 loan is taxable to the extent of gain and may trigger the 10% penalty. Rule of thumb: the contribution test, not intent, decides MEC status.