Chapter 2 - Life Insurance Products 2 - Whole Life and Term Flashcards
Describe a whole life assurance contract
- Pays benefit on death of life insured whenever it occurs
- Long-term protection
cover funteral expenses
wealth transfer between generations
protection for dependants
meeting any liability to taxes arising on death
can be tax effecicient, depending on legislation - Typically surrender value payable
Usually increases with increasing duration in force
Less common in RSA
Product design decision - Can have paid-up benefit too
Administration costs > premiums
Premiums paid > Sum assured - No group version
employer wouldn’t want to give cover after employment
Discuss the risks to an insurance company that arise from whole life assurances
- Investment risk
depending on contract design
also depends on age at entry and duration in force - Mortality risk
depends on age at entry into product and duration in force
from selective withdrawals (policyholders in good health most likely to withdraw, leaving substandard lives), influenced by - Withdrawal/persistency risk
depending on withdrawal value compared to asset share
healthy lives leaving…depend on premiums charged, withdrawal terms
cannot completely eliminate this - Expense risk
inflation
long term duration=> administering contract for longer and thus cost of administering > premium collected
Describe a term assurance contract
- Pays benefit on death of life insured within term of contract chosen at outset
- Protection contract
at low cost compared to endowment/whole life for same level of benefit
for dependants to protect against financial loss from death of life assured - Decreasing term assurance also gives protection
repay loan balance
income for children until older to look after themselves - Typically, no surrender value, or value at end of term
losses on early withdrawals/negative asset share
would encourage selective withdrawals
relatively small asset shares
asset share likely to be volatile, due to impact of mortality - Usually no paid up value (similar reasons as no surrender val)
- Group version
death benefit to employees
protection for credit card company (pay outstanding balances) - May offer with conversion option
State key risks to an insurance company that arise from term assurances
No investment risk (usually, term too short to recoupt investment return)
1. Mortality risk
2. Anti-selection risk is significantly more for individual than for group
Withdrawal/persistency risk
when asset share is negative
especially as policyholders have a sense of their health as the policy terms evolves
3. Expense risk
4. Financial risk
lapse-and-re-entry
Selective withdrawal
usually with Option
State 2 consumer needs that can be met by a decreasing term assurance
Repay balance oustanding on repayment loan
Provide income for family with children until children become independant adults
Describe a convertible/renewable term assurance
- Operates as a term assurance, with the option to
renew at the end of the original contract,
convert to some form of LT insurance e.g. whole life
usually withouth requiring further medical underwriting, except AIDS test - Needs met
convert from term assurance to whole-of-life
low cost death cover
conversion certainty to permanent form when it can be afforded
renewing without evidence (unless benefit is increased)
Other features
premium guarantee on renewal - same as new business premium rates as at time of conversion
different conversion dates (specific date, on several dates, or at any date during term) - Usually no surrender value before conversion (same reasons as term assurance)
- Group version exists
continuation option on employment cessation
e.g. leave employer (hence group contract), purcahse individual policy without medical underwriting
Describe the risks that exist for renewable/convertible term assurances
- Same as for term assurance. But, in addition, there’s significant anti-selection risk because of option to renew/convert
- Mortality risk
- Withdrawal/persistency risk
when asset share is negative
especially as policyholders have a sense of their health as the policy terms evolves - Expense risk
- Financial risk
negative asset share
lapse-and-re-entry
To avoid lapse and re-entry problem
limiting the term over which premiums are paid (which of course increases the regular premium payable). This also reduces the period over which the asset share is negative, and would be designed to produce positive asset shares (and hence profits) at a much earlier point in the policy term. Hence this one product design feature
reduces two aspects of the withdrawal risk: it reduces the amount of loss on withdrawal (by increasing the asset share), and it reduces the incidence of withdrawal (by removing the financial incentive).
Capital Requirement
most supervisory authorities require that additional assets in excess of
reserves be held as an extra ‘cushion’ against adverse experience. Thus a minimum amount of
solvency capital is required. There is a great variety of approaches by the supervisory authorities
of different countries. Generally, relatively low levels of prudence in the reserving bases are (or at
least should be) balanced by relatively higher solvency capital requirements.
Mort risk- Now aged sixty, policies written thirty years ago
The mortality risk is likely to be low, despite the fact that the policy was underwritten many years ago and the portfolio will include a mix of healthy and unhealthy lives. The reason is because the policy will have accumulated a large reserve by this point.
Mort risk - Aged sixty, policies just taken out
As the policyholders have been recently underwritten, the probability of claiming is lower than in
(a). However, the risk of making losses from higher than expected mortality remains high,
because the sum assured is very large relative to the size of the reserve.
Convert or Renew is higher risk
For example, a policyholder who converts to an endowment or a whole of life contract will immediately start to pay a much higher premium for the same level of cover, which will quickly serve to reduce the death strain at risk and hence the mortality risk in total. Such policyholders are unlikely to be in poor health anyway, because if they were they would choose the cheapest
way of maximising their death benefit in the short term. This would be achieved either by not converting the original term assurance policy in the first place or, if the end of the term has been reached, by renewing into another term assurance. Hence, the renewal option imposes (by far)the higher anti-selection risk.
Why convertible?
The couple might be looking to effect a savings policy at some time in the future, when their disposable income has increased.
However, they might be worried about the possibility of not meeting the conditions for standard terms. This might be because they’re worried about becoming ill or about underwriting standards becoming more stringent in the future
Opting for a convertible policy gives them the ability to take out a savings policy at some future date without having any further medical underwriting.
It might also be possible to take out further term assurances at set dates in the future, giving further flexibility to meet changing needs and the option to mitigate the effect of inflation.
