CHAPTER 16 LIFE INSURANCE AND LONG-TERM CARE PLANNING
SOLUTIONS TO END OF CHAPTER APPLICATION PROBLEMS
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1. Life Expectancy
a. Using Exhibit 16-1, at 60 years old, there will be .8787 x 100 = 87 men alive and .9063 x 100 = 90 women alive for the reunion.
b. At 70 years old, .7335 x 100 = 74 men and .7974 x 100 = 80 women alive.
c. At 80 years old, there will be .4571 x 100 = 45 men alive and .5860 x 100 – 58 women alive for a total of 45 + 58 = 103. Since there are currently 87 + 90 alive at age sixty, this implies that That means that 177 – 103 = 74 will die over the next twenty years.
2. Life Expectancy
a. If Cathy has an average life expectancy, she will live to be 50 + 32.7 = 82.7 years old.
b. If Mary has an average life expectancy, she will live to be 80 + 9.9 = 89.9 years old.
c. Mary will live to the oldest age based on life expectancy, even though her daughter is younger. This may be a surprise, but it is because Mary has already proven herself to have greater tendency to longevity by living to be 80. The longer you live, the greater your probability of living longer than average.
3. Life Insurance Needs Analysis
Based on this rule of thumb, you should have $200,000 in life insurance and your wife should have $140,000.
4. Life Insurance Needs Analysis
a. The income multiple approach would imply that Kate should carry a face amount of life insurance equal to 5 to 10 times her salary, or $200,000 to $400,000. The low end of this estimate would not be enough money, given her needs. The children’s upkeep at $15,000 per year would be $120,000. Their college costs will be at least $20,000 per year per child, for a total of $160,000. In present value, that amount is about $126,000 (discounting at 3%).
b. Assuming that the only upkeep costs for the children are the $15,000 per year, she will need a minimum of $120,000 + $126,000 + $10,000 = $256,000.
c. In that case, the upkeep cost would be only $5,000 per year, so that would reduce her insurance needs by $80,000.
5. Life Insurance Policy Terms
a. Decreasing term will not change the initial premium.
b. Guaranteed renewability will increase the initial premium.
c. Increasing term will not change the initial premium.
d. Convertibility will probably increase the initial premium.
6. Life Insurance Policy Terms
a. Limited payment will required a larger payment than a traditional whole life policy.
b. A variable life insurance policy will require a lower payment since the higher investment returns on the policy help to reduce the present value.
c. A policy with an increasing premium over time usually requires a lower payment in the early years.
d. A policy with decreasing face value over time will require a lower payment as compared to a traditional face value policy.
7. Comparing Life Insurance
a. If you pay the $120 term premium instead of the $1,120 permanent premium, you can have the same level of coverage and an extra $1,000 per year to invest. Every year after the first, however, your term premium will probably increase (since term is age related), so you will have less to invest each year.
b. If you invest the $1,000 difference each year, at the end of five years, you would have $5,637 in your investment account (N=5; I=6; PMT=$1,000; solve for FV = $5,637).
c. To do this calculation accurately, you would need to have a schedule of expected term premiums for the period over which you expect to need coverage. As your investment account increases in value, you can gradually decrease the amount of term coverage. For example, after 5 years, you may only need $95,000 in coverage since the investment account would bring the total to the required $100,000. The permanent coverage is likely to be a level premium, so that amount can be expected to remain constant for the policy period. You would also want to know whether the term insurance is guaranteed renewable. In the event that you became uninsurable, your insurer could otherwise choose to not renew your policy.
8. Nursing Home Costs
a. Most people are surprised by the range of costs from state to state. The differences are likely driven by the costs of medical care (hospitals, caregivers, drugs) and the supply and demand for long-term care (number of facilities close by, percentage of the population over age 75, affluence of the population).
b. The cost in Georgia is currently $43,200. If costs rise at 6 percent per year, in five years it will cost $43,200 x (1.06)5 = $57,808
c. The cost in Colorado is currently $52,500. If costs rise at 6 percent per year, in three years it will cost $52,500 x (1.06)3 = $62,528.
9. Nursing Home Costs
a. Annual difference in facility cost +$5,000
Cost of visiting Arizona - 3,000
Total annual differene $ 2,000
b. Five years at $2,000 is $10,000 annual cost savings
Less one-time cost of move $7,000
Net savings = $10,000 - $7,000 = $2,000 so Arizona is better.
If she only stays in the home for three years, it would be cheaper to leave her in Illinois. $2,000 x 3 = $6,000 savings is less than the $7,000 cost of the move.
10. Costs of Household Maintenance
a. Assuming 20% decline in expenses:
Decreased after-tax income $50,000
Less:
Reduction in family expenses
60,000 x 20% 12,000
Annual social security benefit
From Exhibit 16.3 28,956
Net Income Shortfall $9,044
b. Assuming 25% decline in expenses:
Decreased after-tax income $50,000
Less:
Reduction in family expenses
60,000 x 25% 15,000
Annual social security benefit
From Exhibit 16.3 28,956
Net Income Shortfall $6,044
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