R05 Calculation of premiums: free practice questions

1. Question 1 of 5

   Why is it easier to predict the number of claims under life assurance than under motor insurance?

   Option A: Life assurance sums assured are fixed by regulationOption B: Life insurers only accept applicants in perfect healthOption C: Mortality tables show the likely rate of death at each ageOption D: Life assurance claims are always paid in instalments

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   The answer is C: Mortality tables show the likely rate of death at each age

   Mortality tables, built from long-term study of deaths, let actuaries estimate how many claims to expect from lives of a given age. Motor claims are far harder to predict.

   Why the other options are wrong

   A

   Sums assured aren't fixed by regulation; the client chooses them.

   B

   Life insurers accept people with health conditions, often on special terms.

   D

   Life claims aren't always paid in instalments; predictability comes from mortality tables.

2. Question 2 of 5

   How is the pure (net) natural premium for one year of cover calculated?

   Option A: Average claim cost multiplied by the insurer's expense ratioOption B: Sum assured divided by the expected termOption C: Sum assured multiplied by the frequency loadingOption D: Mortality rate for that age multiplied by the sum assured

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   The answer is D: Mortality rate for that age multiplied by the sum assured

   The pure natural premium is the mortality rate at the relevant age multiplied by the sum assured. It is just enough to meet that year's expected claims, so it rises each year as the lives age.

   Why the other options are wrong

   A

   Expense ratios are added later as loadings; the pure premium is based on mortality.

   B

   Dividing the sum assured by the term ignores the chance of death.

   C

   Frequency loadings relate to payment frequency, not the pure risk premium.

3. Question 3 of 5

   Under the level premium system, what happens to the excess premium collected in the early years of a policy?

   Option A: It builds a reserve to meet the heavier claims of later yearsOption B: It is used to reduce the sum assured in later yearsOption C: It is returned to the policyholder as an annual cash bonusOption D: It is paid to the adviser as renewal commission

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   The answer is A: It builds a reserve to meet the heavier claims of later years

   Early-year premiums are more than current claims require. The surplus forms a reserve, which is invested and drawn on when claims exceed premiums in later years.

   Why the other options are wrong

   B

   The sum assured isn't reduced; the reserve meets higher later claims.

   C

   The excess isn't returned as a cash bonus; it's needed for later claims.

   D

   It isn't paid out as commission; it builds the reserve.

4. Question 4 of 5

   Which of the following would NOT normally be covered by the expense loading added to a net life assurance premium?

   Option A: The inheritance tax payable on the policyholder's estateOption B: Administration costs and the insurer's regulatory feesOption C: Medical fees incurred during underwritingOption D: Commission paid to the advisers and sellers of policies

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   The answer is A: The inheritance tax payable on the policyholder's estate

   Expense loadings cover the life office's own costs, such as salaries, commission, premises, systems, regulation and medical fees. Tax on a policyholder's estate is not an insurer expense.

   Why the other options are wrong

   B

   Administration and regulatory costs are insurer expenses covered by the loading.

   C

   Medical fees for underwriting are an insurer expense and are covered by the loading.

   D

   Commission is an insurer expense and is covered by the loading.

5. Question 5 of 5

   Besides expenses, which additional margins does the actuary build into the final premium?

   Option A: A commission rebate for the adviser and a tax credit for the clientOption B: A deflation adjustment and a charge for early surrenderOption C: An inheritance tax provision and a trust set-up chargeOption D: A safety margin against adverse mortality and a profit margin

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   The answer is D: A safety margin against adverse mortality and a profit margin

   As well as expenses, premiums include a safety margin in case mortality is worse than expected, and a profit margin.

   Why the other options are wrong

   A

   Commission rebates and tax credits aren't margins built into the premium.

   B

   Deflation adjustments and surrender charges aren't the margins described.

   C

   IHT provisions and trust charges aren't part of the premium basis.

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