Solutions by Sharon Taylor

Transcription

1 Financial Planning in Australia 4ed by Taylor, Juchau, Houterman Chapter 15 Solutions by Sharon Taylor 2011 Reed International Books Australia Pty Limited trading as LexisNexis. Permission to download and make copies for classroom use is granted. Reproducing or distributing any material from this website for any other purpose requires written permission from the Publisher. INCOME PROTECTION, HEALTH AND GENERAL INSURANCE Solutions to Questions Question 1: What is the difference between the definition of total disablement in a life and TPD policy and the same term in an income replacement policy? TPD in a life policy and TPD policy requires that the insured be totally and permanently disabled. In other words, the insured s condition is such that they are never able to work. The income replacement policy envisages a situation where the insured is totally incapacitated, but it may not be forever. The policy will pay so long as the insured is totally disabled. Some insurers offer cover for partial disablement as well at an increased premium. This means that when the insured is starting to recover and is able to do some work, the policy will pay a reduced benefit. Question 2: An insured suffers a disability and is able to return to work on partial duties. The waiting period has been satisfied. The pre-disability income is $10,000. The policy benefit is 6000 and the post-disability income is $4000. What is the benefit payable under the policy? A B x C The formula is: A In this case: $ 10,000 $4,000 $10,000 x $6,000 = $3,600 Question 3: The business overheads policy goes into quite an amount of detail as to how benefit is calculated. The cover is often included as a separate section of an income protection policy. Why does the insurer not just provide a policy that covers the gross income of the business? The gross income of a business can be divided into two principal areas: fixed costs and variable costs. The variable costs are those that will only be incurred where a product is sold or a service is rendered. A doctor uses medicines, bandages etc only when there are patients. If the doctor is incapacitated then those expenses will not be incurred. In addition, the doctor s own income take from the business is protected by the income replacement section of the business. If gross income was used then the amount payable would exceed the amount the insured is out of pocket for, and to 2011 LexisNexis Australia 1

2 become incapacitated would be profitable. Thus, the need for the extensive definitions. Question 4: Discuss the difference between indemnity value and replacement value. An indemnity (market) value policy only provides the value of the property at the time of the loss. A replacement pays for the cost to replace the property in as new condition. The total loss of a 10-year-old refrigerator under a replacement policy would see it replaced with a new refrigerator, but under an indemnity policy 10 years depreciation would be taken into account. Question 5: Why is it important to establish a detailed record of your contents when seeking to arrive at a sum insured under a house and contents policy? In the event of a loss, the insured needs to be able to substantiate the loss. The only satisfactory way to do this is to keep a detailed record of property. In the event of theft, serial numbers will be needed. The record would have these. Many insurers suggest that photos or videos of contents be taken. They are best kept at another location so the video or photos don t get stolen also. Question 6: Under a contents policy, which of the following items would fall within the definition of contents: surfboard; spare tyre for the car; indoor plant? Policies differ, but using the definition given in this chapter under What is Covered Building and Contents policies Contents, the definition given would include a surfboard. (Note: Watercraft is an exclusion in the policy, but the policy makes it clear that a surfboard is not regarded as a watercraft.) Therefore, the surfboard is covered. The spare tyre is part of a car, therefore it is excluded. Also excluded are the indoor plants along with trees shrubs etc. Question 7: In relation to an unspecified personal property policy, where (geographically) does the policy apply? The policy provides cover for accidental loss or damage to personal effects anywhere in Australia. Some covers will provide cover for a limited period (say, 30 days) whilst the property is anywhere in the world. Question 8: What is the difference between the specified and unspecified personal property insurance cover? The specified policy lists the items covered and gives a separate sum insured for each. The unspecified policy does not specify the items but provides a blanket cover. The latter policy usually has a higher premium. Question 9: Briefly describe the three different types of liability cover that can be provided with a house and contents policy. The three types of legal liability cover are: Liability: arising from the ownership or occupation of the property; 2011 LexisNexis Australia 2

3 arising from the ownership or occupation of the buildings; anywhere in Australia. The first two are similar, with the former applying to liability arising from any part of the property, but the other is restricted to liability arising out of the building only. The third cover is the preferred, as it provides cover anywhere in Australia. Question 10: What does a compulsory third party policy protect against and how does the cover differ by state? Compulsory third party insurance protects the owner and the driver against legal liability for bodily injury to others arising out of the use of the motor vehicle. The cover varies by state, with Victoria, Tasmania and the Northern Territory providing no fault cover and the other states using a negligence-based system. Question 11: How does the comprehensive policy of motor vehicle insurance differ from the third party fire and theft policy? The comprehensive policy provides cover for all damage to the vehicle as well as third party property damage cover; whereas, the third party fire and theft policy, in relation to the insured s vehicle, only provides cover for fire and theft and not other damage. Question 12: What losses are generally excluded from motor vehicle policies? The following areas are usually excluded from the motor policy: vehicle being driven by an unlicensed driver, driver under the influence of alcohol or drugs; overloaded vehicle or unsafe vehicle or a vehicle used for hire or reward, motor sports, or in the motor trade. Also excluded is any loss, damage or liability where the damage arises from: any deliberate or criminal act; war, hostilities or the like; nuclear damage or contamination. Excluded also is: Loss of use of the vehicle. If the vehicle is damaged or stolen, the policy will not pay for any associated loss of use of the vehicle. Depreciation or wear and tear, mechanical or electrical breakdown. Damage to tyres unless they were damaged in an accident. Question 13: Why is flood insurance a problem for insurers? Floods generally produce large amounts of damage. The principal problem is that only a small portion of the population seek cover (are affected). The result is that the cost when spread over that small number becomes prohibitive. If everyone insured against flood there would not be a problem. This can be seen with bushfires which 2011 LexisNexis Australia 3

4 insurers provide cover for. As everyone needs cover for fire, all insure for the peril. Some insurers are starting to include the cover in their policies as a standard peril. Question 14: What is the purpose of the General Insurance Code of Practice? The purpose of the General Insurance Code of Practice is to ensure a minimum standard of practice and service in the general insurance industry. Solutions to Problems Problem 1 The premium on an income protection policy can be lowered in three areas: (a) The monthly benefit insured. The lower the benefit amount, the lower the premium. The insured needs to insure for an amount that will provide an adequate sum in the event of a loss being suffered. (b) The length of the benefit period. By selecting a short benefit period the premium would be reduced. The benefit period should be to age 65. The whole purpose of the policy is to protect in the event of long-term incapacity. Most who are incapacitated for five years will still be incapacitated at age 65. To this end it would be prudent to take the longest benefit period. (c) The longer the waiting period, the lower the premium. If a waiting period of 30 days or longer can be coped with by the insured, this offers the best means of reducing the premium. Problem 2 (a) The maximum benefit that could be taken would be $105,000 (75% of $140,000). As the expenses are $50,000, a lower benefit could be taken. Keeping in mind that the benefit is treated as income for tax purposes, a benefit of $90,000 could be taken which would leave sufficient for the expenses after the tax is paid. (b) The benefit period should be to age 65. See 1(b) above. (c) The length of the waiting period will depend on the individual s circumstance. See 1(c) above. (d) The advantage of the level premium is that it will stay at the same amount from year to year. The disadvantage is that, if the policy does not stay in force for a reasonable period of time, the benefit of the averaged premium will not be received and a higher premium will be paid LexisNexis Australia 4

5 Problem 3 The table shows how the expenses are handled by the policy: Problem 4 Month Expense Surplus September $5,000 $0 October $3,750 $1250 November $4,000 $1000 December $3,700 $1300 The following factors also need to be considered: As Thelma is over 30, the premium is increased at the rate of 2% per annum for each year over 30 before cover is effected. In this case a loading of 20% would apply. A government rebate of 30% applies to the premium. If the cover were not taken and Thelma s income was over $70,000 ($140,000 if married) then an additional 1% of taxable income would be payable. This would be a minimum of $700. Problem 5 (a) The major difference between Medicare and private health insurance is that Medicare does not apply in private hospitals. With Medicare, cover is provided for a public ward in a hospital and no choice of doctor. This can be significant with large waiting lists for elective surgery in public hospitals. (b) In addition, with private health insurance there is provision for ancillary benefits such as physiotherapy, optical and dental treatment, speech pathology and podiatry and other similar services. Exclude certain condition(s). For example, cover could be purchased that excludes cover for maternity. A front-end deductible or excess. This would require the contributor to pay the first (say) $200 or whatever amount was selected of any claim. A co-payment. With this approach the contributor agrees to pay part of the hospital cost. For example, they may agree to pay the first $50 of each day s accommodation. Public hospital cover. This policy provides cover for treatment as a private patient in a public hospital. Problem 6 The amount payable is as follows: Replacement Value Indemnity Value VCR $350 $100 CD $200 Nil DVD $955 $ LexisNexis Australia 5

6 Problem 7 (a) To establish the amount of the claim, the cost to rebuild the house needs to be established. To this should be added an amount for any sheds or outbuildings or other property covered by the policy, such as fences. In addition, an allowance needs to be made for the clearing of the site (removal of debris) ready for reconstruction, and architect fees. This latter item will depend on the extent of the architect s involvement; that is, plan preparation or construction supervision as well. (b) Because of the limits in the policy, the following amounts are the maximum payable in relation to the listed items. Indoor plants $3,000 Nil Painting $10,000 2,500 Necklace $3,500 1,000 Video camera $1,000 2,500 Child s bike $ 750 $18,250 0 $6,000 The amount of $50,000 would be reduced by the difference between the value of the items shown and the amount payable. $50,000 12,250 = $37,750. Problem 8 The policy will need to be specifically extended to cover these extra costs. The standard policy will not provide cover for them. The extra cost reinstatement cover is provided on commercial policies and is provided by some insurers on commercial contracts. The need for this cover would be limited, as few houses would be in a situation where such costs arise. Problem 9 (a) Household policies include a liability cover. The cover provided can be one of three: arising from the ownership or occupation of the property; arising from the ownership or occupation of the buildings; anywhere in Australia. (b) Only the third of these covers would cover the situation outlined. The most common cover would be the second of the two listed. Problem 10 In all states in Australia there is a compulsory third party motorist scheme that provides that, in the event of a person sustaining bodily injury arising out of the use of a motor vehicle, they will be compensated in certain circumstances. (a) In New South Wales the scheme applies only where there is negligence on the part of the motorist. In the example given, there was no negligence on the motorist s part so no compensation would be payable LexisNexis Australia 6

7 (b). In Victoria the scheme is a no fault one. In other words, it is not necessary to establish negligence on the part of the motorist, so compensation would be paid to the injured party. Problem 11 (a) Under a third party fire and theft cover, there is an uninsured motorist extension. Under this extension, so long as the conditions are met, the damage to the insured s vehicle would be met up to the policy limit. It is usually $3000. (b) The conditions to be met require that the damage to the insured s vehicle must be caused to the vehicle: by an uninsured motorist; and the insured did not contribute to the loss at all; and the insured can provide the name and address of the person responsible for the accident. Suggested solution to Case Study 15.1 In order to answer this question, the case needs to be broken down into two parts, the business and their personal situation. Business: Assuming that the company earns $500,000 pa, Tom takes out $100,000, so that it takes $400,000 (assuming that no profit is left in the company) to run the business. Should Tom be unable to work, $300,000 of revenue would be lost. Since 60% of that money relates to job specific variable costs, and $100,000 is associated with Tom s salary, only $100,000 of this work goes towards overheads and would need replacing should Tom become sick or have an accident. Should Meg be unable to work, Tom would probably have to hire a replacement for the period that Meg is disabled. This would be $60,000 pa. Therefore, there would need to be cover for the business of $100,000 pa should Tom be unable to work for a period of time and $60,000 pa should Meg be unable to work for a time, or for the time it would take to find a permanent replacement. While Tom is not required to take out workers compensation insurance for himself, he is legally obliged to cover Meg and the rest of his employees. Personal: Both Tom and Jasmine need to consider personal insurance. Tom s salary of $100,000 would mean income protection cover of $6250 per month. While they have $18,000 in a savings account, depending on this money for more than two or three months for Tom would totally deplete this account. Tom has no leave entitlements. A waiting period of one month for Tom would be a reasonable recommendation. Neither Tom nor Jasmine has built up much superannuation savings. This means that they need to consider a longer benefit period and, possibly, with an increased premium, having their policy cover payments into superannuation LexisNexis Australia 7

8 Tom will need to be careful about how his work is rated. If he is seen as a professional (i.e, marketer), his premiums may be lower. They do not have private health care insurance, so they will be reliant on the public hospital system and Medicare payments. With a young family they should seriously consider taking out private hospital insurance. They will be entitled to the 30% rebate and they will face only a small increase in their premiums due to lifetime cover indexation. Solution to Case Study 15.2 The Hamiltons should have the following insurance covers for the amounts indicated below. House The cover on the house should be for replacement value and is calculated as follows: 200 sq mtrs x $1000 psm = $200,000 To this amount needs to be added a sum for removal of debris to allow the new building to be built and an allowance for architect s fees (say 10%), which rounded out gives $220,000 plus $15,000 for the garage and fencing. The plants and shrubs cannot be insured. Contents The amount arrived at by the Hamiltons for replacement value is $50,000. There are some adjustments that need to be made to the cover. These are: Because there is a $1000 limit on jewellery, the ring ($3000) and necklace ($5000) need to be separately mentioned in the policy. Paintings have a limit of $2000, so the $20,000 painting needs to be separately mentioned. Video cameras have a limit of $1000, so the video ($2000) needs to be separately mentioned. Antique chair must be separately insured. As the Hamiltons travel quite a bit, the policy should include a personal property cover so the items they take with them are covered away from the residence. Motor vehicles The motor vehicles need to be insured (in addition to for bodily injury only) the Suzuki for comprehensive cover, and the Commodore for the compulsory third party cover (which is for third party fire and theft) LexisNexis Australia 8