Building net worth over a lifetime requires prudent planning and the implementation of sound strategies. The planning process should include each of the following steps:

• the establishment and analysis of goals,
• a review of the various options including an insurance needs analysis directed to attain the goals, and
• involvement of a qualified professional to provide tax, investment and estate planning expertise.

Insurance may be defined as a contract in which one person pays money, which is called a premium, to a second party, known as the insurer, who promises to reimburse the individual for specified losses, should these losses occur. Insurance is a way to distribute losses and eliminate uncertainty. Insurance can be thought of as the reverse of gambling.

One of the basic principles of insurance is that of indemnity. Indemnification simply comprises compensation to an insured, such that he or she is in the same financial position after a loss, as they enjoyed before the loss occurred. Note that it is not intended for insured individuals to profit from an insurance settlement.

The concept of insurance is relatively simple. People who face potential losses band together to establish a fund with which to compensate those who actually experience disaster. The principle of risk sharing is applied when large numbers of people pay a regular fee, which is known and therefore certain, in exchange for protection against a hazard that is uncertain.

The premium paid by individuals is composed of the pure cost of insurance plus a loading charge, with the loading charge representing the insurer's costs including a profit.

The pure cost of insurance is dependent upon three factors:

• the probability of the event occurring,
• the cost of the compensation, and
• the number of individuals sharing the risk.

Insurance planning is essentially a risk management activity. Risk management can be defined as the assessment of the size of a potential loss and the probability of its occurrence.

The five steps in the risk management process include:

There are a number of methods of handling or managing risk. The most common methods include:

Risk avoidance.

Risk avoidance simply means that an individual can evade certain risks merely by staying away from the risk that one chooses not to incur. For example, an individual will not die in a plane crash if the individual chooses not to fly. An individual will not be arrested for drunk driving, if the individual does not drink and drive.

Risk reduction.

The reduction of risk involves some positive action that is taken. Common examples of risk reduction would include the installation of dead bolt locks, or the use of smoke detectors in a home.

Risk retention.

The retention of risk means that an individual chooses to self-fund any losses that may be incurred. For example, an individual may chose a deductible of $1,000 on their automobile insurance coverage. This indicates that the individual is prepared to personally pay the first $1,000 of damage incurred in an auto accident.

Risk transfer.

The transfer of risk simply means that individuals who are unable, or unwilling, to bear a particular loss may transfer this uncertainty to a third party, usually an insurance company, who is prepared to accept the risk. Risk transfer is the most common method of managing large risks and this is the topic of the current chapter.

Not all risks are insurable and insurance companies only deal with those that are. The factors determining an insurable risk include:

• the loss must be definable and quantifiable,
• the loss must be accidental, or occur as a result of chance events,
• the loss must be large enough to cause financial hardship, and
• the cost of insuring must be economically feasible.

Additionally, an insurable interest must exist. Insurable interest is a person's real financial interest in an object or in another person.

There are many reasons why an individual would have life insurance, including the desire to:

• create an estate for the heirs before one has the opportunity to accumulate an estate,
• supplement the existing estate,
• payoff outstanding debts,
• pay estate settlement costs such as legal or probate fees,
• protect an individual's business interests or investments, and to
• create a charitable donation.

Life insurance for many people tends to be a very confusing subject. This confusion arises because a few basic types of policies have been expanded upon and elaborated with special features with a bewildering variety of names, which vary among each of the many life insurance companies licensed to do business in Canada.

Life insurance can be either term insurance or permanent insurance. All other forms of life insurance are variations of either term or permanent.

Life insurance policies are based on mortality tables. Mortality tables are used, by actuaries, to calculate life expectancy's or the probability of dying. A mortality table is based on an original hypothetical cohort of 100,000 individuals and for each year after birth, a calculation of how many of the 100,000 in the original cohort are still alive. Mortality tables exist for males and females. Since the probability of any individual dying increases every year, the pure cost of life insurance coverage increases with age.

The pure cost of life insurance coverage for any specific age can be closely approximated by calculating the insurance policy death benefit times the annual mortality rate. For example, assuming a mortality rate of 0.28% for a 45-year-old male requiring an insurance policy of $500,000, the premium is equal to $500,000 times 0.0028 = $1,400. The premium for the following year, assuming a mortality rate that rises to 0.30% for a 46 your old male, would amount to $1,500. Moreover, by age 50, at which time the mortality rate has grown to 0.45%, the annual pure cost of insurance would increase to $2,250.

Term insurance.

Term insurance is also known as pure insurance. Term insurance has no cash or savings value included within the policy and is the simplest type of life insurance to understand for most people. As the name suggests, term insurance protects for a limited and specified time i.e. the term. The term can vary from one year to age 100. There are many variations of term insurance available to Canadians.

The most basic type of term insurance is known as annual guaranteed renewable term (ART). ART is typically found in a group insurance policy provided by many employers to their employees. An annual guaranteed renewable term policy would rise in price each year (at renewal) as the insured ages. Guaranteed renewable means that coverage will continue in effect, until the end of the term, without having to undergo further medical underwriting qualification, as long as the insured agrees to pay the increased premium. An annual renewable term policy is the most cost-effective method of purchasing life insurance coverage for a short period, since the pure cost of insurance is recalculated and increases each year. A disadvantage of ART is that it becomes prohibitively expensive for an older individual.

At the opposite end of the spectrum from ART with its annually increasing premiums, is level premium term insurance. Level premium term insurance, as the name suggests, carries a premium which is unchanging. By necessity, level premium term insurance must charge premiums that are higher in the early years than ART, and lower than the premiums charged for ART at later ages. It is possible to purchase level premium term insurance for terms to age 65, age 75, or to age 100.

In between these two extremes, term insurance policies are often described as step terms. Step term policies are the most common type of term insurance policies that are encountered in the Canadian term insurance marketplace. Step term policies typically have a premium which is level for some specified time. The most common, are policies with premiums that are level for five or ten years. If the policyholder decides to keep the policy (renew it), then premiums are adjusted upward and remain level for another five or ten years at which point the premiums rise again and are fixed for another five or ten-year period. An individual can purchase five-year term to age 65. The policy expires when the insured reaches age 65 i.e. coverage ends. Also commonly available are ten-year renewal step term policies to age 75.

Decreasing term insurance requires the payment of a premium; however, under this type of term insurance the death benefits reduce over time. An example of decreasing term insurance is called mortgage insurance. As a mortgage is repaid, over time the outstanding principal declines, as does the death benefit. It is important to note that a policy with a decreasing death benefit combined with a level premium means that the pure cost of coverage per $1,000 of death benefit must be rising.

Most term insurance policies offered in the Canadian marketplace are guaranteed renewable; however, a review of the policy declaration sheet can quickly confirm this. The declaration sheet will also delineate the maximum premiums that are required to be paid at each renewal. Insurance companies cannot charge more than this maximum premium but for example, due to favorable mortality experience, the insurer may charge less than this amount.

Additionally, most term insurance policies contain a convertibility feature. Convertibility allows the insured to convert a term insurance policy, without having to medically re-qualify for coverage, into another policy that is usually a type of permanent insurance offered by the same insurance company. The convertibility feature will usually contain restrictions such that the conversion feature must be exercised before some specified date, such as age 60.

Conversion of an existing term policy might be advantageous to an individual who requires permanent life insurance coverage but who can no longer qualify for a new policy due to poor health.

Permanent insurance usually contains a savings component in addition to the life insurance death benefit.

The premiums payable on a whole life policy are usually level for the lifetime of the insured. The level premium means that the insured is over paying the pure cost of coverage in the early years and conversely, under paying the pure cost of life insurance coverage in later years. This overpayment of the premium is retained and invested by the insurance company and forms the policy reserves. The reserves ensure that the insurance company is able to continue coverage in the later years due to an underpayment of premium as the life insured ages. The reserve is owned and controlled by the insurance company. If an insured individual cancels this type of policy, they will receive the cash surrender value (CSV) of the policy, which is usually some percentage of the reserve. The CSV of the policy is guaranteed under the terms of the contract and is found in the declaration sheet of all whole life policies.

Universal life insurance (UL) was originally introduced into the Canadian marketplace in the early 1980s. UL is a contract that allows the policyholder flexibility. Universal life insurance combines term insurance, in case of the insured's premature death, with a tax-deferred savings component. Cash values may be creditor protected. Additionally, cash values plus the face value of the term policy can be paid tax-free to the beneficiaries as a death benefit. Cash accumulating life insurance policies would not usually be set up as holdings within an RRSP or RRIF.

Universal life policies are purchased for the death benefits. An equity-based UL policy may provide a gain due to capital appreciation. Investors anticipating high inflation and rising interest rates would not choose a UL policy whose investment component is based upon fixed income bonds but might instead select one that is based upon equity markets, or one that is money-market oriented. Most UL policies permit switching between stock, bond, and money-market indices to provide for maximum flexibility.

Premiums vary widely with the type of underlying term insurance policy and with such factors as the age, sex, and health status of the life insured. Premiums include the pure cost of insurance, sales commissions, and insurance company operating profits. Some policies have penalties for cancellation before specified dates.

Policies can be fully paid up for life in as few as seven years, depending upon the contract purchased. UL policies may provide some inflation protection through their adjustable death benefits. Policies can also be cancelled and cash values claimed at any time. Accumulated premiums plus investment income performance determine the policy's cash value. However, the actual payments of cash values may require several weeks of processing time. It is strongly recommended that new insurance policies be in place before existing policies are cancelled.

Income earned on the cash value of the policy accumulates and compounds on a tax-deferred basis. Death benefits paid to beneficiaries are normally not subject to income taxes. With all cash accumulating life insurance policies, the cash values may be protected from creditors.

Life insurance policies do not trade on a secondary market.

In addition to the WebSite of the Canadian Life and Health Insurance Association (CLHIA), many of the Canadian insurance companies maintain their own WebSite's. A great deal of information is available and may be obtained by visiting these WebSites.

Insurance companies are regulated by the Office the Superintendent Financial Institutions (OSFI) federally, and by the provincial Superintendents of Insurance.

Risks faced by policyholders include:

• Policies that provide for market returns on cash value investments also carry market risk.
• A UL policy invested in a bond fund would lose cash value if interest rates rose, while one invested in stocks would lose in an equity market downturn. Policies that invest cash value in fixed income instruments, for example, are less subject to fluctuating income and reinvestment risk than a policy invested in money-market instruments.
• The Canada Deposit Insurance Corporation (CDIC) does not insure life insurance cash values. The Compensation Corporation (CompCorp) covers life insurance companies in Canada. Canadian life insurance companies are rated by services such as TRAC, DBRS, Standard & Poor's, and Moody's.

All types of insurance contracts tend to follow a similar template.

• The preamble or declaration sheet. Here information such as who is covered, the effective dates, the premiums to be paid, and the risks to be covered are outlined.
• The insuring agreement. In this section, details are provided as to the property to be covered and the perils against which coverage is provided. Important paragraphs in this section include the policy's exclusions and limitations. Is important that these limitations and exclusions be fully understood.
• The statutory conditions. These paragraphs are required by law (see below).
• The policy conditions. This section indicates what an insured must do in order to have coverage continue. The policy conditions state what the insured must do in case of loss and how the insured may recover after suffering a loss.
• The signature clauses. Insurance policies are signed and witnessed in this area.
• Riders or endorsements. These are modifications or amendments to the contract. Riders or endorsements are always appended to the contract and form part of the contract.

Some of the more common life insurance policy provisions that are required by provincial statutes typically include:

• Accidental death. Provides extra coverage, typically equal to the death benefit of the original policy hence the name double indemnity. Benefits are paid if death is by accidental means.
• Disability waiver of premiums. This rider states that after a qualifying period specified in the contract, a totally disabled policy owner will not be required to pay premiums in order to have the life insurance remain in force.
• Guaranteed insurability. This rider allows the policyholder to increase permanent insurance coverage, at pre-specified future times, without having to supply further evidence of insurability.
• Term rider. This rider allows the addition of a term insurance policy to a permanent insurance policy.

The most valuable asset that the vast majority of the adult population owns is their ability to wake-up each morning, and to go to work in order to create net worth and to earn the current income required to provide for a reasonable lifestyle. Without this ability, a great many Canadians would be in dire straits. There is a great deal of information which is readily available regarding life insurance and the choices that are available, and even more opinions and information regarding the appropriate choice of life insurance coverage in a given situation. More importantly however, research studies show that the probability of a significant period of disability is much higher than the probability of death at any given age up to normal retirement at age 65. Studies also point out that more than half of all disabilities exceed one year in duration. In fact, disability insurance and the continuing ability or inability to go to work in order to pay the bills is of far greater consequence than life insurance considerations for most working Canadians.

The enforcement of disability claims is a matter of interpreting the disability insurance contract clauses. It is therefore particularly important when considering or evaluating disability insurance coverage that individuals understand the major terms and conditions of the disability insurance policy contract, which affect the premiums paid.

Statistics show that Canadians are surviving critical illnesses such as cancer more frequently now than in prior years. Improvements in medicine and medical treatments have resulted in promising prognosis' for many illnesses. However, the occurrence of critical illnesses is on the increase, and the facts indicate that approximately one out of every two Canadian men and one of every three Canadian women will encounter a critical illness during their lifetime.

Maintaining a similar quality of life after the diagnosis of a critical illness and dealing with financial commitments can cause hardship for individuals and their families. Critical illness insurance can protect a family's future. Generally, critical illness insurance will help to the pay off a debt, for example a mortgage, or to help provide funds that can be used for medical treatment in the event that one falls victim to specific illnesses including stroke, cancer, or heart attack.

The majority of Canadians will be affected by personal property, home, and auto insurance policy decisions at some point during their lifetime.

Property insurance

Property insurance includes insurance coverage for the risk of damage to personal property resulting from flood, fire, or vandalism. The most important personal assets for most Canadians that require property insurance coverage are their homes and automobiles. However, property insurance can be purchased to insure furnishings, clothing, appliances, boats, or collectibles. It is usually recommended that personal property, furnishings and collectibles be listed and described separately, and that any master list including photographs be stored outside of the insured property, in a safety deposit box for example.

Typically, property insurance coverage is either "specified perils" or "all risks". "Specified perils" provides protection only against those perils named specifically in the contract. An "all risks" policy is not limited to perils that are specifically named in the policy. The "all risks" policy, because of its wider coverage, is more expensive than the rather limited coverage provided by "specified perils" policies.

A home is one of the largest purchases most people make during their lifetime. Therefore, homeowners insurance protection is prudent and strongly recommended. Usually, a homeowners policy covers damage to the home, out buildings (e.g. garage), contents, and injuries to a third party suffered on the property.

1) Valuation of property.

Home insurance can be purchased for replacement value or depreciated actual value coverage. Replacement value can be described as the replacement of property with a new or comparable item and for this coverage, a higher insurance premium will be charged. Depreciated property coverage on the other hand, compensates the insured for the actual value of the property, considering its age and condition.

2) Policy deductibles.

The deductible is the portion that must be paid by the insured party before the insurance company will make any payment. Higher deductibles will usually mean lower insurance premiums because:

1. The insured shares in part of the loss,

2. The insured is encouraged to settle their own small losses, and

3. The deductible is an incentive for the insured to avoid situations that may result in loss or damage.

3) Third party liability insurance.

This coverage protects homeowners, up to a specified limit, should a third party be injured while on the property.

Some of the factors to consider when purchasing this insurance include:

• the state of repair of the property,
• whether the homeowner has pets on the premises,
• the types of activities carried on at the home,
• the appropriate amount of coverage to cover losses. Generally, the minimum third party liability coverage recommended is $1 million.

4) Types of homeowners insurance policies.

1. Fire insurance. Protects in case of fire, lightning, smoke damage, and other similar and specifically listed perils.

2. Tenant's or Renter's policies. These policies are purchased by renters, should their personal property such as furniture be damaged or lost. Typically, the renters policy also covers third party liability. It does not cover the building structure, since that is the landlord's property.

3. Comprehensive. This is the most common type of homeowners policy, and typically covers the building, contents, and third party liability. Comprehensive policies can be tailored to meet individual circumstances.

Vehicle insurance has various elements including property damage coverage, liability coverage including the death or injury of a third party, collision coverage, and comprehensive coverage. The various provincial legislatures require that the registered owners of an automobile or vehicle carry certain minimum insurance coverage's.

1) Liability coverage.

Liability insurance coverage includes the injury, death, or damages to the property of another party. In general, the owner's policy covers the immediate family and any other driver who has permission to use the vehicle. The limit of liability that is shown in the policy is the maximum limit for all of damages that may result from any one accident, regardless of the number of vehicles or people involved in the accident.

2) Medical payments.

This covers medical costs for the driver and passengers, if the driver is at fault. Generally, this coverage is mandatory in Canada.

3) Collision coverage.

The importance of physical damage coverage to a vehicle is directly proportional to the value of the vehicle, and to the owner's ability to replace or repair the damage. Collision coverage pays for damage sustained in an accident for which the vehicle owner is at fault. Any damage suffered in a collision for which the other driver is at fault is covered by the other driver's automobile policy, under the property damage coverage.

4) Comprehensive coverage.

Comprehensive coverage is a form of "all risks" automobile physical damage coverage. Comprehensive policies pay for damage, resulting from non-accident causes such as a theft, fire, and vandalism. In order to be covered the damage must be from accidental rather than intentional means. For example, if someone locks their keys in the car and then breaks the window in order to retrieve the key's, this is considered intentional and is not covered.

5) Uninsured or under insured motorists coverage.

This is mandatory coverage. This provision covers bodily injury caused by another driver who is uninsured or under insured. This provision also protects against injuries suffered in a hit and run accident.

• Is the policy permanent or term coverage?
• Is the beneficiary designation current?
• What is the credit rating of the issuing insurance company?
• What is the purpose of the policy?
• When was the last time an insurance needs analysis was performed?
• What are the settlement options provided by the policy?
• What are the non-forfeiture options?
• What interest rate is charged on policy loans?
• What riders are included with the policy?
• Are the chosen riders still relevant?
• Which dividend option has been chosen?
• Which investment option has been chosen for a UL policy?

• Is the policy noncancellable and guaranteed renewable?
• Is the definition of disability appropriate for the individual?
• How long is the elimination period?
• What is the insurers credit rating?
• For how long are benefits payable?
• What is the amount of the benefits payable?
• Is a partial disability covered?
• Does the policy cover residual disabilities?
• Are there any riders included with the policy?

• Is the policy based on actual cost or replacement value?
• Is the amount of coverage appropriate?
• Is there personal property that needs to be listed and insured separately?
• Are covered buildings insured for at least 80% of the replacement value?
• Is the amount of liability coverage appropriate?
• Is the policy "specified perils" or "all risks"?

• How much are the deductibles?
• Is collision coverage required on an older vehicle?
• Is there coverage for uninsured motorists?
• Is the amount of liability coverage adequate?