Ch 5: Income protection insurance

Question 1

Provide an overview for IP products

7

Answer 1

• Aim is to replace part of income that the insured would have earned if they became unable to work due to accident/disability/illness. (incapacity)
• IP=PHI Sanlam
• Benefit is regular income during period of incapacity after the deferred period ==> Temp annuity until recover/death
• Can be a lump sum in terminal cases.
• Policy wording definitions are NB for conditions benefits are payable and when it will cease
• Excl unemployment,early/retirement,reluctance to work
• No benefits on surrender or maturity.=> SA large compared to premium so AS small after expenses and claims

Question 2

Discuss the customer needs met by income protection products

Main needs (3,2)

Perceived needs (4)

Other needs (3)

Other general needs (5)

Answer 2

• Main needs
  
  • Income replacement (protection)
    
    • protection against loss of income stream while unable to earn
    • ST: employer continues to pay employee’s income in deferred period
    • LT: if state,personal resources,insurance is income insufficient
  • Income adj to match needs:
    
    • protection against inability to meet debt repayments
    • required by lender waiver of mortgage insurance.
• Percieved needs
  
  • protect ill-health uncertainty disability and sickness is unpredictable
  • minimise financial risk of incapacity esp if dependents
  • Need for IP is often underest as only concerned about risks aware off.
  • value financial comfort, psych benefit
• Other needs
  
  • Income to fund other insurance products
  • WOP benefit can free up funds as rider
  • IP on professionals in practice locum protection insurance pays employment costs
• Other general needs
  
  • clear purpose
    
    • in risks covered/benefits payable
    • easily understood, with unclear interpretations in clear favour of claimant
  • appropriate charging structure e.g. addition of options/guarantees
  • reasonable premiums

Question 3

What are some key requirements regarding policy conditions on IP contracts?

(5)

Answer 3

• Wording needs to cover procedures for claim,lapse,recovery,death,retirement,partial recovery
• Clear and understandable
• Must reflect true intentions of product
• Some cushion over events for which insurer has no control eg war exclusion
• Simple and unambiguous
  
  • ensures important risks transferred to insurer
  • clear what info required
  • accurate and fast underwriting
  • ensure low claim rejections
  • reduce non qualifying claims

Question 4

What kind of benefit definitions (amount) might exist for IP contracts?

(4 points, 7,3,2.4)

1 other important overall point

Answer 4

• Replacement ratio
  
  • ratio of post-claim income to pre-claim income, net of taxes in both cases
  • tax impacts ratio (some regions do/don’t tax benefits)
  • indicator of claim experience
    
    • higher/lower => might dissentivise/incentivise return to work
    • 1%+ RR ==> 1%+ claims
  • limits on RR are defined
    
    • ensure individuals have incentive to return to work
  • Reduce cost of claims by encouraging rehab back to work.
• Maximum benefit specified
  
  • in terms of salary at claim time
  • in terms of state benefits
  • Benefits expressed as cash amount (requires annual review to check needs met)
• Benefits in form of premium waivers
  
  • waived when benefits are payable
  • charged for by a small percentage addition to premium rate
• Proportionate/rehabilitation benefits
  
  • for those returning to work on part time basis/less strenuous/lower paid role
  • benefits both insured/insurer
  • recuperation needs covered (attractive to policyholders, doesn’t add sig cost)
  • benefit reduced so overall income level is compensated.
• Benefit definitions mustn’t disentivise insured returning to work

Acronym here

Question 5

What is the benefit definition (amount) for Escalating Benefits and Premiums

(6,2)

Answer 5

• Benefit Escalation:
• May be subject to a cap high escalation rates make ALM difficult
• Level benefits are uncommon
• Index or fixed esc rate more common
  
  • escalation rate < earnings inflation ==>RR low, incentive
• Escalation rates:
  
  • Can + at same rates in and out of claim
  • Can + at different rates in and out of claim (can lead to complex product design)
  • • in claim and 0% out of claim
  • • Benefits out of claim see prems
• Premiums Escalation
  
  • same rate as benefit out of claim (premium assumptions)
  • required for additional cover at given age (protect against advers exper)

Question 6

What is the benefit definition (amount) for Over Insurance?

1,4,5,1,1

Answer 6

• Higher than appro RR
• Can arise from :
  
  • Over insurance at outset
  • Subseq Over insurance due to increasing benefits and salary
  • Decreased tax on benefits
  • Multiple policies or non-disclosed income
• Design should avoid over insurance by:
  
  • appropriate maximum benefit formula @ inception
    
    • max replacement ratio
    • stringent limitations for salaries in excess of limits
    • overall max benefit level
    • deductions for other benefits recieved eg state benefits
  • Review benefit levels regularly
  • clear policy conditions @ claim stage for overinsurance
  • Training of staff to identify overinsurance
  • Financial underwriting
• Manage expectations of PH at claim stage and robust design to avoid reduction of benefits or return of ‘extra’ premiums paid.
• Self-employed ==> salary fluctuatuons==> complex design

Question 7

What are the benefit definitions relating to timing?

WP 3 DP 3,4

Answer 7

• Watiing period
  
  • specified period after policy start during which benefits won’t be paid
  • may also apply to additional cover sought
  • reduce potential for anti-selection PH knows they are sick
• Deffered period
  
  • period of incapacity/sickness during which insurer won’t pay benefits
  • split deferred period: eg pay half over for certain amount of weeks, full amount after
  • early notification (even before deferred period end so insurer can help with rehabilitation)
• Deferred period advantages
  
  • integrate with employer-supplied benefits in the ST (regulation)
  • reduce claim cost => reduce premiums
  • reduce administration cost ==> reduce premiums
  • reduce number of trivial claims eg claim for few days off for flu!

Question 8

What are the benefit definitions relating to timing?

LCP 2 ET 3

Answer 8

• Linked claims period
  
  • waive deferred period if same sickness recurs within certain amoutn e.g. 26, or 52 weeks
  • encourage work return
• Expiry age/term
  
  • age at which benefits cease; often same as normal retirement age
  • Policies written for exact duration usually 5+ years
  • Premium paying period is defined

Question 9

What kind of claims definitions do we have for IP contracts?
Occupational

1,1,4,4,1,1,1,1,1

Answer 9

• Definition of incapacity needs to balance MCN and controllable insurance risk
• Most definition are occupational
• Occupational based
  
  • Effect of occupation on the price charged:
    
    • IP rates depend on Occupation
    • Divide occupations into classes. Least risky have the cheapest rates
    • Based on claim exp and recovery time
    • Classes vary between insurers
  • Effect of occupation on the claim payment:
    
    • inability to perform own occupation (very expensive/greatest level of cover)
    • inability to perform own/reasonable occupation by education, status, training
    • Inability to perform own occupation initially period of claim thereafter any occupation
    • inability to perform any occupation
• Cover on own occupation basis is prohibitive. Bad for insurer
• Cover on any occupation is unfair. bad for PH
• Hazardous Occupations usually offered cover on any occupation definition as it is less comprehensive and cheaper
• Exp claim cost highest for own occupation def and lowest for any occupation (less margin for disput @ claim stage)
• Claims paid on more generous basis than pricing monitored.

Question 10

What kind of claims definitions do we have for IP contracts? Alternative Incapacity

1,2,3,1

Answer 10

• Alternative incapacity criteria
• Occupational definition not suitable for those not in paid employment
• Claim events are defined in terms of inability to perform tasks
  
  • activities of daily living ADL’s
    
    • feeding, dressing, washing, toileting, mobility, transfer
    • mental capacity (overides tests of physical incapacity
  • functional assessment tests
  • activities of daily working
  • personal capability assessment
• more strict than occupational definition eg 3/6 no benefit.

Question 11

Other IP policy conditions

2,3

Answer 11

• Occupational Changes
  
  • Inform insurer of change in occupation
  • Subjective and open to dispute if unable to carry out current occupation but can carry out a previous one
• Residence and location
  
  • No allowance made for location of PH in country
  • Risk does vary with location but insurer aims to balance risk . Concentrations incl in pricing.
  • Availability of medical services.

Question 12

What kind of product variations are possible on IP contracts in terms of guarantees/reviewability of premiums 4 ?

3 6 1 1 2

Answer 12

• Guaranteed/renewable premium rates
  
  • full guarantee for full term of policy,
    
    • level/ fixed increase/index
    • requires substantial loadings (very long contracts, maybe high standard error for claims experience)
    • higher reserves=> claims,exp inflation
  • Reviewable
    
    • annual review @ review date
    • premiums can be adjusted due to bad experience/ unforseen risks
    • difficult to + prem initially mkt pressures=>lapses. restrict amt of + or cap it
    • risk changes over time
      * sickness that would’ve caused death, can now impair lives, leading to claims
      * terminal illnesses no longer terminal
      
      • market pressures may limit premium increases
      • selective lapsing, leading to portfolio with only poor lives left
      • PRE: careful not to create expectations of no increases
  • Guarantee Term
    
    • e.g guaranteed for first five years, with complete freedom review after
• Guaranteed insurability and options
  
  • • SA when life event occurs w/o U/w
• No claims discount
  
  • • Prem if no IP claims
  • method of rating policy with limited U/w

Question 13

Briefly discuss group IP contracts

Benefits (3)

Continuation option (3)

Answer 13

• Benefits
  
  • level = % gross salary - other benefits
  • Additional benefits: pension contributions, state welfare
    
    • Allowed to increase in period of claim.
• Continuation option
  
  • allows employee to continue w/ individual policy without u/w when leave
  • Limited benfits on group schemes
  • Ill-health option take up is selective.

Question 14

What are the key risks to the insurer arising from selling IP contracts?

8

Answer 14

• Main risk is underest of rates
  
  • claim inception rate (age, gender, smoking habits)
  • claim termination rate (age, duration, gender, smoking habits)
• Loose incapacity definition increase risk
• Data
  
  • standard tables
    
    • advance in medicine
    • changes over time in opion
    • changes in nature of work
  • industry experience
    
    • mix of business
    • levels of benefits
    • terms and conditions
    • claims definitions
    • initial underwriting strength
    • claims underwriting
    • claims management
• Anti-selection (significant for individual, reduced for group)
• Withdrawals (selective withdrawals, negative asset share)
• Moral hazard (robust policy condition/wording)
• Lesser risks
  
  • mortality, expenses, investment

Question 15

What are the capital requirements typically found with IP contracts?

5 factors

Answer 15

• Lower than for other contracts
• Frequency of premium
  
  • could be significant for single premium contracts
  • more uncertain about what future experience will do
• Initial expenses (aquisition/commision costs)
• Solvency capital reqiurement (due to difficulty prdicting future morbidity)
• Contract design
  
  • endowment/whole life, becuase there’s chance benefit never paid
• Reserving basis
  
  • prudence may need to be greater because difficult to predict sickness experience