2 - Life insurance products (2)

Question 1

What is a whole life assurance?

Answer 1

A contract to pay a benefit on the death of the life insured whenever that might occur.

A surrender value may also be available, though not common in South Africa.

Question 2

What is the purpose of whole life assurance for consumers?

Answer 2

To provide for funeral expenses or meet liabilities such as inheritance tax upon the death of the life insured.

It serves as a means of long-term protection for dependants.

Question 3

What are the two main types of whole life assurance contracts?

Answer 3

• Without-profits contracts
• With-profits contracts

Unit-linked versions are considered separately.

Question 4

What is a key risk associated with whole life assurance?

Answer 4

Mortality risk and selective withdrawals.

Selective withdrawal occurs when healthier policyholders withdraw, leaving a sub-standard group.

Question 5

What is selective withdrawal in insurance?

Answer 5

A form of anti-selection where healthier policyholders withdraw, adversely affecting the financial condition of the insurance company.

This can lead to increased premiums for remaining policyholders.

Question 6

What is a term assurance?

Answer 6

A contract to pay a benefit on the death of the life insured within the term of the contract.

Typically, no benefit is available on surrender.

Question 7

What is the typical term for a term assurance contract?

Answer 7

From one year to twenty-five years or more.

The lump sum usually remains fixed throughout the policy term.

Question 8

What is decreasing term assurance used for?

Answer 8

• Repaying the balance of a repayment loan
• Providing income for a family until children can provide for themselves

It is also known as family income benefit policies.

Question 9

What is the main risk for the company with term assurance contracts?

Answer 9

Mortality risk.

There is also significant anti-selection risk, especially with individual contracts.

Question 10

What is the lapse and re-entry problem in term assurance?

Answer 10

A financial incentive for policyholders to withdraw and take out a new level term assurance for the same premium, potentially leading to losses for the insurer.

This occurs as the sum assured reduces over time.

Question 11

What is the expense risk in term assurance contracts?

Answer 11

The actual marginal costs of administering the contract need to be met, which can be substantial if the policy term is long.

Premiums may be relatively small and fixed throughout the term.

Question 12

What are the intrinsic capital requirements of term assurance contracts?

Answer 12

Relatively small, but can be significant due to initial expenses and solvency margin requirements in some jurisdictions.

High initial commissions and underwriting lead to capital strain.

Question 13

True or False: There is usually a payment if the policyholder survives to the end of a term assurance contract.

Answer 13

False.

Generally, there is no payment if the policyholder survives.

Question 14

Fill in the blank: A whole life assurance is particularly useful for protecting the expected transfer of wealth that a parent would be aiming to make to their _______.

Answer 14

children

Question 15

What is renewable term assurance?

Answer 15

A term assurance with the option to renew at the end of the original contract without further medical underwriting.

In some regions, such as South Africa, an AIDS test may be required at renewal.

Question 16

What is a key benefit of renewable term assurance?

Answer 16

The renewal can be made without further medical underwriting.

Question 17

What guarantee is typically expected with a renewable term assurance?

Answer 17

Guarantee concerning the premium rates for the renewal contract to be the same as those for new business at the time the option is taken up.

Question 18

What does convertible term assurance allow a policyholder to do?

Answer 18

Convert the term assurance into another type of contract, such as whole life or endowment assurance.

Question 19

When can conversion be allowed in a convertible term assurance?

Answer 19

On only one date, on any of several dates, or at any time during the original term assurance contract.

Question 20

What are the attractions of renewable and convertible term assurance for individuals?

Answer 20

Low-cost death cover and certainty of converting to a permanent contract or renewing the original contract without health evidence.

Question 21

Why are premiums for endowment or whole life contracts considerably higher than for term assurance?

Answer 21

For a given sum assured, premiums for endowment or whole life contracts are more expensive.

Question 22

What options may a particular contract offer?

Answer 22

Only the renewal option, only the conversion option, or both.

Question 23

What is a continuation option in the context of group contracts?

Answer 23

Allows employees leaving an employer to take out an individual policy without medical underwriting.

Question 24

What type of policies are typically issued under a continuation option?

Answer 24

Whole life or endowment assurance.

Question 25

What is the typical status of surrender values in renewable or convertible term assurances?

Answer 25

Surrender values would not normally be paid pre-conversion.

Question 26

What additional risk is associated with renewable and convertible term assurances at the date of exercise?

Answer 26

Significant additional anti-selection risk.

Question 27

How do capital requirements for renewable and convertible term assurances compare to basic term assurance?

Answer 27

Capital requirements may be higher depending on any additional reserve required.

Question 28

Is a whole life contract primarily a savings or protection contract?

Answer 28

Protection contract

Whole life contracts pay out on death and not at a fixed time, making them primarily a protection mechanism.

Question 29

What are the mortality and investment risks for a portfolio of regular premium without-profits whole life contracts taken out thirty years ago by men then aged thirty?

Answer 29

Low mortality risk, potential investment risk due to large reserves

The policy will have accumulated a significant reserve, mitigating mortality risk.

Question 30

What are the mortality and investment risks for a portfolio of regular premium without-profits whole life contracts taken out in the last year by men aged sixty?

Answer 30

Higher mortality risk, low investment risk

Recently underwritten policies have a lower probability of claiming, but the sum assured is large relative to the reserve.

Question 31

What is the anti-selection risk?

Answer 31

Risk that those who take out the policy expect to have heavier than average mortality

This leads to earlier claims and lower profits for the insurance company.

Question 32

What are the five main factors affecting capital requirements?

Answer 32

• Contract design
• Premium payment frequency
• Relationship between pricing and supervisory reserving bases
• Additional solvency capital requirements
• Level of initial expenses

These factors determine the capital needed to support insurance contracts.

Question 33

Why do policyholders accept that term assurances don’t usually pay benefits on withdrawal?

Answer 33

They visualize premiums as payment for death benefits

Policyholders understand that their premiums contribute to the death benefit, not to withdrawal compensation.

Question 34

Why does the company not pay out asset shares for term assurances upon withdrawal at later durations?

Answer 34

• Company may have incurred losses on early withdrawals
• Selective withdrawal effect increases costs for remaining insured lives
• Asset shares are usually small and volatile
• Not all asset shares are positive

These reasons justify the company’s decision against paying out asset shares.

Question 35

Why do term assurances cost less?

Answer 35

Claims are expected only on a small proportion of policies written

Unlike whole life and endowment contracts, term assurances do not have maturity payments.

Question 36

What is a major advantage of one-year grouped term assurances for employers?

Answer 36

Greater suitability for a mobile workforce

This approach adapts well to changes in employee salary and positions.

Question 37

What is a major advantage of longer-term assurances for employers?

Answer 37

Known cost of cover for current employees

This can simplify administration and budgeting.

Question 38

Why is anti-selection risk particularly important for term assurance contracts?

Answer 38

Large sums assured for small premiums increase risk for the insurer

Group contracts reduce this risk due to compulsory membership and cover restrictions.

Question 39

Why is there no mention of investment risk for term assurances?

Answer 39

Funds are small compared to the sum assured, making investment returns insignificant

The small funds do not impact the overall risk significantly.

Question 40

Are the capital requirements high or low for a term assurance?

Answer 40

It depends on the supervisory regime

Capital requirements can be low for single premium term assurances but large for regular premium policies with solvency margins.

Question 41

Does allowing policyholders to renew term assurance policies at normal premium rates pose a risk to the life insurance company?

Answer 41

No, it can charge for expected loss through premium adjustments

Renewal may also have lower expenses than new business.

Question 42

Which option poses greater risk to the insurance company: converting or renewing policies?

Answer 42

Renewing poses greater risk due to anti-selection incentives

Renewed policies attract less healthy individuals, increasing mortality risk.

Question 43

Why might an additional reserve be required at the start of a contract?

Answer 43

To cover risks and uncertainty related to future costs

Options create additional guarantees that necessitate higher reserves.

Question 44

Why might an additional reserve be required towards the end of a contract?

Answer 44

To cover higher future mortality costs for renewing policyholders

Premium loadings from original policies should fund these reserves.