Chapter 15-Insurance of Substandard Risks

Question 1

What are some characteristics of substandard life insurance risks?

Answer 1

• The group is expected to produce higher mortality than a group of normal lives
• The is no predictability to the longevity of one person’s life in a substandard group
• The insurer must collect extra premium from people in a group that have extra risk
• If extra mortality occurs early, there will be greater financial burden for the insurer
• A group with extra mortality later in life pays a smaller extra premium than a group whose extra mortality occurs earlier in life

(no refund or dividend is paid to those who survive beyond the normal life expectancy of the group)

Question 2

What are the broad groups of substandard risk?

Answer 2

• Constant hazards (occupational)
• Increasing risks (high blood pressure)
• Decreasing risks (surgical procedure)

Question 3

What are some characteristics of the rated-up-age method treatment of substandard risk policies?

Answer 3

• The insured is assumed to be years older than their current age
• The policy provides surrender and loan values of the higher age
• Most Insurers like the method because of its simplicity
• Only for substandard risks where the extra mortality increases with age

Question 4

Why is it that gross premiums that are derived from using extra percentage tables do not increase in proportion to the degree of extra mortality?

Answer 4

-The extra percentage tables are calculated on the basis of actual mortality (not tabular) but gross premiums for standard risks are calculated on the basis of CSO table (which overstated mortality for younger and middle ages) so extra mortality added to standard mortality is not that great

(when gross rates are prepared, the amount of the loading not increase in recognition of the greater hazard except for commissions and premium taxes)

Question 5

What are some characteristics of using extra percentage tables when underwriting substandard risks for life policies?

Answer 5

• Mostly used for insured who represent an increasing hazard
• Extra mortality is relatively small at younger ages
• As death rates increase at high ages, the margin for extra mortality increases substantially
• Method is used for all types of health impairments expected to worsen over time (not just those that increase at an inordinately high rate)
• Policy reserves require the same mortality assumptions as those used for the extra percentage method to determine the premium
• Surrender values could use extra percentage mortality tables or standard risk (company practice and state law would impact the method used)

(many companies do not offer extended term insurance non forfeiture option under their extra percentage table policies, companies that do compute the length of the term period using the higher mortality rate even if the normal surrender value is provided)

Question 6

What are some characteristics of using flat extra premium for underwriting substandard life policies?

Answer 6

• Method often used for cases where the extra mortality is expected to be constant
• A regular policy is issued and treated as standard for dividends and nonforfeiture values
• Some companies charge a reduced extra premium for high cash value policies than for term
• Since the policy’s cash value increases with duration, the amount at risk declines

(method is more appropriate for an increasing extra risk than a constant extra risk)

Question 7

What are some characteristics of removing a substandard rating from the insured?

Answer 7

• At policy issue, the insurer knows that some people’s health will deteriorate while others will improve
• Theoretically, if the extra premium is reduced for some then it should be increased for others (but increases are not allowed so rates remain the same for everyone to cover costs)
• Theoretically, removal should be prohibited unless the hazard was temporary in nature and has now been terminated, the result of a person’s occupation, or foreign residence

(aware that the insurer must remove the substandard rating or lose the insured’s business, some companies charge a substantial premium for the original group that is adequate even when the improved lives are granted a premium reduction)

Question 8

What is the most important social significance of substandard life policies?

Answer 8

Life insurance is available to thousands of American families that otherwise would be without the protective benefits of the coverage

(6-7% of new policies are issued on a substandard basis)
(extensive research is continuing regarding rate of mortality in substandard groups)
(life insurance has important living values and is no longer though of as a death benefit)

Question 9

What are the methods insurers use to treat substandard?

Answer 9

• Increase in age method
• Extra percentage tables
• Flat extra premium
• Lien method (extra mortality for substandard risks are factored in by placing a lien against the death proceeds for a number of years depending on the health of the insured)

(Another method is a special class for substandard insureds for dividend purposes that adjust annually for mortality experiences)
(Another method is limiting policies to high cash value options that reduce risk in later years by having cash built up the method is best used when the extra mortality is postponed to advanced middle age or old age such as overweight)

Question 10

What are the disadvantages of the lien method?

Answer 10

• A large charge is required from the death proceed to compensate for a small degree of extra mortality
• The lien is imposed in the early years when breadwinners need the protection most
• If the beneficiary does not know, they may resent the insured when the reduced death benefit is paid
• Some states have “no lesser amount laws” (prohibits insurers from settling a death claim by paying less than the face amount)