Group Life Insurance and Annuities
Group life insurance covers many people under a single master contract, usually issued to an employer or association, while annuities sit on the opposite side of the risk pyramid from life insurance: instead of protecting against dying too soon, an annuity protects against living too long and outliving your savings. This chapter walks through how group plans are set up, how participants gain certificates of insurance and rights to convert, how Section 79 taxes employer-paid coverage, how the major federal labor law (ERISA) frames employer-sponsored plans, and then turns to the full mechanics of annuities: the parties involved, the fixed versus variable versus indexed product families, the funding methods and phases, the immediate-versus-deferred distinction, and the catalog of settlement options that determine who receives payments and for how long. Expect about one in every ten exam questions to come from this material, so the vocabulary and the numbers in this chapter need to be in long-term memory.
How a Group Life Contract Works
Group life insurance is built around a single master contract issued to a sponsoring organization, most often an employer, an association, a labor union, or a creditor that lends to a defined class of debtors. The sponsor is the policyowner; the insured employees or members are not parties to the policy itself. Each covered person receives a certificate of insurance, a short document that summarizes the amount of coverage, the beneficiary, conversion rights, and how to file a claim. Because risk is spread across the whole group, insurers usually waive medical underwriting for a new group and use a simplified or guarantee-issue approach for individuals as they join; only later additions or unusually high benefit amounts may trigger evidence of insurability. Coverage amounts are normally set by an objective formula such as a multiple of salary or a flat amount tied to job class, so the employer cannot single out any one employee for a larger or smaller benefit.
Conversion to an Individual Policy
Group life coverage is tied to membership in the group, so when an employee leaves the job, retires, or the master contract terminates, the group certificate ordinarily ends as well. Every group life certificate, however, carries a statutory conversion privilege: the departing employee has 31 days from the date group coverage ends to convert the certificate into an individual permanent policy, without having to provide any proof of insurability. The conversion policy is issued at the insured's then-current age and at standard rates, and any form of permanent insurance the insurer regularly sells in that amount may be chosen. If the employee dies during this 31-day window, the group amount is paid as if conversion had already taken place. Conversion is a one-time right, and missing the 31-day deadline forfeits it permanently.
Section 79 and the $50,000 Tax-Free Limit
Federal tax law gives a meaningful incentive for employer-paid group term life insurance. Under Internal Revenue Code Section 79, the cost of the first $50,000 of employer-paid group term coverage on an employee is excluded from that employee's taxable income. Coverage above $50,000 is not forbidden, but the cost of the excess, calculated from an IRS table (Table I) based on the employee's age, is added to the employee's W-2 wages as imputed income. Employee-paid contributions and any coverage on a spouse or dependent (above small de minimis amounts) are treated separately. The point for the exam is the threshold and the tax mechanics: $50,000 employer-paid group term is tax-free, anything above that is imputed income, and Section 79 applies to group term, not to permanent life.
ERISA: The Federal Framework for Employee Benefit Plans
The Employee Retirement Income Security Act of 1974 (ERISA) is the federal law that sets minimum standards for most employer-sponsored welfare and pension plans, including group life, group health, and qualified retirement plans. ERISA does not require an employer to offer benefits, but if benefits are offered, the plan must follow ERISA rules on plan documents, summary plan descriptions for participants, fiduciary duties for those who manage plan assets, claims procedures, and reporting and disclosure. Enforcement is primarily through the U.S. Department of Labor (DOL), with the Internal Revenue Service handling tax qualification of pension plans and the Pension Benefit Guaranty Corporation insuring certain defined-benefit pensions. Church plans and governmental plans are generally exempt. For the California life-only exam the key points are that ERISA is federal, is administered by the DOL, governs employer-sponsored group plans, and imposes fiduciary duties on plan managers.
Annuities: Insurance Against Outliving Your Money
An annuity is the structural mirror image of a life insurance policy. Life insurance pays a benefit because the insured died too soon; an annuity pays a stream of income because the annuitant lived too long and might otherwise outlive savings. Three roles appear on every contract. The owner buys the contract, controls it, names the beneficiary, and pays the premium. The annuitant is the natural person whose life the payout calculations depend on; in many contracts owner and annuitant are the same person, but they need not be. The beneficiary receives any remaining value if the owner dies before payouts begin. Annuities are issued only by life insurance companies because the income guarantee is fundamentally a mortality calculation, and only a life insurer has the actuarial and reserving rules to back that promise.
Fixed, Variable, and Indexed Annuities
Annuities come in three product families that differ in who carries the investment risk and how interest is credited. A fixed annuity credits a current declared interest rate that the insurer announces periodically, never less than a guaranteed minimum stated in the contract; the insurer bears all investment risk, and the owner accepts a relatively conservative return in exchange for safety of principal. A variable annuity puts the owner's premiums into subaccounts that work like mutual funds, with values that fluctuate daily; the owner takes the investment risk and can lose principal, but in return has the upside of market performance. Because subaccounts are securities, a producer selling a variable annuity must hold a securities license (FINRA Series 6 or Series 7) in addition to a California life license. An indexed annuity, sometimes called an equity-indexed or fixed indexed annuity, is a hybrid: interest credited to the contract is linked to an outside index such as the S&P 500, but with a floor (often 0%) that prevents loss in a down year and a cap or participation rate that limits the gain in an up year. The owner's principal is not invested in the market, so an indexed annuity is regulated as an insurance product, not as a security.
Funding, Phases, and Immediate vs Deferred
Two design choices shape every annuity. The first is funding: a single-premium annuity is bought with one lump-sum payment, while a flexible-premium annuity allows the owner to make additional contributions over time, within the limits of the contract. The second is timing, expressed through the contract's two phases. During the accumulation phase, the contract value grows on a tax-deferred basis, meaning interest, dividends, and gains are not currently taxed; they are taxed only when withdrawn. During the annuitization phase, the accumulated value is converted into a stream of periodic income payments. From the timing choice flows the immediate-versus-deferred distinction. An immediate annuity, often a Single Premium Immediate Annuity (SPIA), begins making payouts within one year of purchase and is bought with a single premium. A deferred annuity is designed to grow first and pay out later, often years away at retirement, and may be funded with either a single premium or flexible premiums.
Settlement Options, Surrender Charges, 1035 Exchanges, and the 59½ Penalty
When an annuity owner is ready to begin income, the contract offers a menu of settlement options. Straight life pays the highest amount for as long as the annuitant lives and stops at death, with no death benefit to a survivor. Life with period certain (commonly 5, 10, or 20 years) pays for life but guarantees a minimum number of years; if the annuitant dies early, the remaining period payments go to the beneficiary. Life with refund (cash or installment) guarantees that at least the premium paid is returned. Joint and survivor, the most common choice for couples, pays for as long as either annuitant lives, with the survivor option set at 100%, 75%, or 50% of the original payment. Fixed period and fixed amount options have no life contingency: they simply pay out the account over a chosen period or in a chosen amount until the money is gone. Withdrawing money early carries two costs. The contract usually imposes a surrender charge on the declining schedule (for example 7% in year one, 6% in year two, and so on down to zero), and the IRS imposes a 10% penalty on the taxable portion of a withdrawal taken before age 59½, in addition to ordinary income tax. Owners can swap one annuity for another, or convert a life insurance policy into an annuity, on a tax-free basis under Internal Revenue Code Section 1035; the exchange may go life-to-life, life-to-annuity, or annuity-to-annuity, but a 1035 exchange cannot go from an annuity to a life insurance policy.
Last updated: May 2026