AFC Risk Management and Insurance 2 — Questions and Answers
Question 1: A client's auto insurance has a $1,000 deductible. They file a $1,500 hail damage claim. How much will the insurer pay?
- $1,500
- $1,000
- $500 (Correct answer)
- $0 because hail is not covered
Correct answer: $500
The insurer pays claim minus deductible: $1,500 - $1,000 = $500. Comprehensive coverage covers hail damage.
The policyholder pays the first $1,000 and the insurer pays $500. Hail is covered under comprehensive (not collision). Higher deductibles lower premiums but increase out-of-pocket costs. Counselors should ensure clients have emergency funds to cover their chosen deductible.
Question 2: Which risk management strategy involves choosing not to insure a particular risk because the potential loss is financially manageable?
- Risk avoidance
- Risk transfer
- Risk retention (Correct answer)
- Risk reduction
Correct answer: Risk retention
Risk retention is the deliberate decision to self-insure against a risk because the potential impact can be absorbed.
The four strategies are: avoidance (eliminate the activity), reduction (decrease likelihood/severity), transfer (shift to insurer), and retention (accept the risk). Retention is appropriate when potential loss is small relative to resources, probability is low, or insurance is disproportionately expensive. Examples include not insuring an old car for collision or accepting a higher deductible.
Question 3: A client has employer life insurance at 2x salary ($160,000 on $80,000 income) with a non-working spouse and three children. Is this adequate?
- Yes, employer coverage is always sufficient
- No, the recommendation is 10-12 times income for this family situation (Correct answer)
- Yes, with Social Security survivor benefits
- No, they need at least 20 times income
Correct answer: No, the recommendation is 10-12 times income for this family situation
With $160,000 against a recommended $800,000-$960,000, there is a significant $640,000-$800,000 coverage gap.
The needs analysis method would consider 18+ years of income replacement, mortgage payoff, education funding, and emergency fund, offset by existing assets and survivor benefits. Additional concerns: employer coverage is not portable (lost upon job change), benefits may be taxable if premiums are employer-paid. Supplemental individual term insurance is recommended.
Question 4: What type of insurance protects a homeowner if a guest slips on their icy walkway and breaks a leg?
- Property damage coverage
- Liability coverage within the homeowner's policy (Correct answer)
- Medical payments coverage only
- Comprehensive coverage
Correct answer: Liability coverage within the homeowner's policy
Liability coverage protects against claims when someone is injured on the property due to the homeowner's negligence.
Liability coverage (Coverage E) pays for medical expenses, lost wages, pain and suffering, and legal defense. Standard policies include $100,000-$300,000 in liability. Medical payments coverage (Coverage F) is separate and smaller ($1,000-$5,000), paying without requiring fault or a lawsuit. Counselors should ensure at least $300,000 in liability coverage.
Question 5: A 60-year-old is evaluating long-term care insurance. What factor most significantly impacts premium cost?
- Gender
- Age at time of purchase (Correct answer)
- Insurance company reputation
- State of residence
Correct answer: Age at time of purchase
Age at purchase is the most significant premium factor, with costs increasing substantially each year due to increased likelihood of needing care.
Premiums roughly double every 10 years of age. Other factors include benefit amount, benefit period, elimination period, inflation protection, gender (women pay more), and health status. At 60, the client is nearing the edge of the optimal window - at 65, premiums may be 30-40% higher and health conditions more likely to cause denial.
Question 6: What is the purpose of an elimination period in a disability insurance policy?
- Period after which the insurer can cancel
- The waiting period between disability onset and when benefits begin, serving as a time-based deductible (Correct answer)
- The initial enrollment period
- The time to process a claim
Correct answer: The waiting period between disability onset and when benefits begin, serving as a time-based deductible
The elimination period is a time-based deductible - the days after becoming disabled before payments begin. Longer periods mean lower premiums.
Common elimination periods are 30, 60, 90, or 180 days. A 90-day period with $5,000/month benefit means absorbing approximately $15,000 in lost income. A 90-day period costs 30-40% less than a 30-day period. The elimination period should align with the client's emergency savings and any employer short-term disability coverage.
AFC Risk Management and Insurance 2
A client's auto insurance has a $1,000 deductible.
They file a $1,500 hail damage claim.
How much will the insurer pay?