West Virginia State Life Insurance Practice Exam

What concept underlies the use of level premiums in life insurance policies?

1. The early years are charged more than what is needed

2. The premium amount decreases over time

3. Premiums remain constant throughout the policy term

4. Premiums are based on the insured's risk profile

The correct answer is: The early years are charged more than what is needed

The concept underlying the use of level premiums in life insurance policies is that premiums remain constant throughout the policy term. This means that the insured pays the same amount for their coverage, regardless of their age or the duration of the policy. Level premiums work on the principle of risk pooling and the expectation that the insured will be paying more initially than their insurance cost in the early years when their likelihood of claim is lower. As the insured ages, the actual cost of providing the insurance increases, but the premium does not change. This allows individuals to budget for a consistent payment, simplifying the financial planning associated with maintaining the policy over its life. Life insurance companies set these premiums based on the expected future costs of claims, ensuring they have sufficient funds to cover claims as they come due, especially as the insured ages. As a result, the premium often reflects an average cost of insurance over the lifetime of the policy.