Principal of Insurance Flashcards
insurance
used as a protection against financial loss
used to protect against “pure risks”
involves the transfer of loss and the sharing of losses with others
Pure risk
simply create either a financial loss or no loss
house fires, auto accidents, personal illness
the only insurable risk
speculative risk
there is a chance of profit, loss, or no loss
generally undertaken by entrepreneurs
generally voluntary risk and not insurable
subjective risk
differs based upon an individuals perception of risk
buying a radar detector because the police in the area issue speeding tickets
Objective Risk
does not depend on an individuals perception but is measurable and quantifiable
measures the variation of an actual loss from expected loss
Severity
actual dollar amount of the loss
more important than the probability of the loss
Law of Large #s
when more units are exposed to a similar loss, the predictability of such a loss to the entire pool increases
helps reduce objective risk
The more exposures, the more likely that the results will equal true results and thus will be predictive of future results
Perils
the actual cause of a loss
fire, wind, tornado, earthquake, burglary, collision
Hazard
a condition that increases the likelihood of a loss occurring
3 types: moral, morale and physical hazard
Moral Hazard
a character flaw
a character flaw would lead to a false claim
morale hazard
the indifference created because a person is insured
not concerned about a situation because a person knowingly has insurance in place
physical hazard
a tangible condition that increases the probability of a peril occurring
icy/wet roads, poor lighting, defective equip
Adverse selection
the tendency of people with higher than average risks to purchase or renew insurance policies
managed through underwriting, denying insurance on the front end, and raising premiums on the back end
This is the underwriters greatest challenge
Requisite for an insurable risk
a large # of similar exposure units
losses must be accidental form insureds POV
losses must be measurable and determinable so that the insurer can accurately forecast actual losses
losses must not pose a catastrophic risk for the insurer
premiums must be affordable
an insurer cannot provide coverage that would cause it to become financially insolvent
cannot insure moral hazards bc premiums would skyrocket
Elements of a valid contract
1 party must make an offer and the other party must accept that offer (signing of insurance app & first premium pmt)
must by legal competency of all parties involved in a contract (18 or older)
must be legal consideration (money, services, ppty)
contract must pertain to a lawful purpose
Principle of Indemnity
- an insured is only entitled to compensation to the extent of the insured’s financial loss
- an insured cannot make a profit from an insurance contract
to make whole again
Subrogation Clause
- cannot be compensated twice for the same injury by 2 different parties
- The insured cannot receive compensation form both the insurer and a 3rd party for the same claim
- if the insured collects compensation from their insurance company, they lose the right to collect compensation from the 3rd party
- the insurer “steps into the shoes” of the insured to recoup any restitution from the 3rd party or the 3rd partys insurer
Principle of Insurable Interest
- an insured must have an emotional/financial hardship resulting from damage, loss or destruction
- property and Liability insurance - the insured must have insurable interest at time of policy inception and at time of loss
- life insurance - the insured only needs an insurable interest at the time of policy inception
- life insurance policies are considered LT investments
Void Contract
was never valid and thus never came into existence.
not an enforceable contract since it lacks one of the 4 elements of COALL
ex: contract to sell heroin
Voidable contract
- a valid contract that allows cancellation by one of the parties however the other party is bound by the agreement
- selling a car to a minor
warranty
a promise made by the insured to the insurer
a breach of warranty is grounds for avoidance
Representation
statements made by the insured to the insurer during the application process
must be a material “misrepresentation” to void an insurance contract
misrepresenting age on a life insurance app is not a material misrepresentation and the insurer will simply adjust your death benefit up or down based on your actual age
Concealment
when the insured is silent about a fact that is material to the risk
Characteristics of insurance contracts
- adhesion
- aleatory
- unilateral
- conditional
adhesion
take it or leave it
no negotiations over terms and conditions
any ambiguities in an insurance contract are found in favor of the insured
aleatory
money exchanged my be unequal
small premium with possible large benefit
unilateral
one promise is made by the insurer which is to pay in the event of a loss
insured is not obligated to pay the premiums
if premiums are not paid, then there’s no promise by the insurer
conditional
the insured must abide by the terms and conditions of the insurance contract
if the terms and conditions are not followed, then the insurer may not pay a claim
waiver
occurs when a party relinquishes a known right
estoppel
when a party is denied assertion of a right to which they are otherwise entitled
waiver provisions
an insurer may seek to avoid liability associated with a loss due to their agents offering policy changes not authorized by the company
Parol Evidence Rule
Once the contract is placed in written form all previous/prior understandings may not contradict the written contract
stipulates that the contract reflects the complete understanding of both parties
Reformation
contractual remedy in which the contract is revised to express the original intent of all parties
rescission
deems a contract void from inception
general agent
represents 1 insurer, such as AllState
Independent Agent
represents multiple, unrelated insurers
Broker
actually represents the policy owner, not the insurance company
Express Authority
given through agency or written agreement
insurer is responsible for acts of an agent based on express authority
Implied Authority
the public perceives, and a valid agency agreement exists
actual delivering of an insurance contract and accepting a premium
insurer is still responsible even if a client is misled
Apparent Authority
when the insured believes that the agent has authority to act on behalf of the insurer when in fact, no authority actually exists
NO expressed Authority granted
the rep should not have the marketing pieces
could be inferred based on business cards or a sign on the wall, but the agency agreement actually expired
if an agent represents that insured can pay the premium late, but is wrong, then the insurer is still responsible.
Regulation of the insurance industry
done at the STATE level, not the federal level
legislative branch
- “L”aw
- provides for licensing of agents and enacts laws and requirements for doing business in a particular state
Judicial Branch
- “Judge”
- rules on constitutionality of laws passed by the legislative branch
- render decisions and interpretations regarding policy terms
Executive or State Insurance Commissioner
- administers, interprets, and enforces insurance laws
Goals of State Insurance Regulation
- protect the insured
- maintain and promote the competition
- maintain solvency of insurers
Replacement Cost
current cost of replacing property with new materials of like kind
Actual Cash Value (ACV)
= replacement cost - depreciation (of replacement cost value)
can impose serious financial burden on the insured
almost all auto policies are ACV
Copayment
in addition to deductibles
insured pays a portion of the losses incurred
80/20
Coinsurance
if coverage meets/exceeds the coinsurance reqs (usually 80%) then the insurer pays the lesser of: face value of the policy, replacement cost, or actual expenditures
if coverage is < the coinsurance req, then the insurer pays the > of ACV or:
= (face val / coinsurance) * Loss - deductible
Coinsurance = 80% * Replacement Cost
AM Best’s Ratings
Highest: A++ to A/A-
Lowest: C/C- to D
Moodys Ratings
Highest: Aaa to Aa1/Aa2
Lowest: B1/B2/B3 to Caa
S&Ps Ratings
Highest: AAA to BBB
Lowest: BB to CC
NAIC
has no regulatory power over the insurance industry
regulation occurs @ state level
6 Steps of Risk Management
Determine the objectives of the risk management program
identify the risks to which the client is exposed
Evaluate the identified risks as to probability of occurence and potential loss
Determine alternatives for managing risks, and select the most appropriate alternative for each
implement the program
evaluate, monitor, and review
DIE DIE Dont Insure Everything (squared)
Risk Transfer
using insurance where the financial risk is severe but frequency is low
Insurance Issued Underwriting Policy Ratings
preferred
standard
rated
decline
Preferred Insurance Rating
lowest policy premiums
exceed reqs for a standard rating
above average ratings in underwriting factors
Standard Insurance Rating
reflects an average risk for the insurance company
Rated Insurance Rating
scale for rated policies
scale represents health issues
Decline Insurance Rating
insurance company will not accept the risk of issuing a policy
Factors Effecting Premiums
Health Fam health history risk factors (sky diving, scuba) credit rating driving record
Needs Approach
- evaluate the income replacement and lump-sum needs of survivors in the event of an income producers untimely death
Most Common Needs in Needs Approach
- lump sum cash needs
- final expenses
- debt repayment
- education expense needs
- emergency expense needs
income needs
readjustment period needs
dependency period needs
spousal life income needs
Human Life Value Approach
- uses projected future earnings less self-maintenance costs as the basis for measuring the life insurance needs
Term Life Insurance
- pure insurance protection which pays a predetermined sum if the insured dies during specific period
- ceases at end of term or death or unless renewed
- premium may be level or increasing or decreasing
- no cash value
- very inexpensive at young ages- can be renewable, convertible and has a waiver of premium
Term Life Policies
- Annual Renewable Term (ARM)
- Level Term
- Decreasing Term
Annual Renewable Term
- premiums increase annually
- every year the policy become more expensive
- no cash value
DB is fixed - inexpensive pure death protection
- can be converted to a permanent policy without providing insurability
- can be too costly at older ages
Level Term
- level premiums for a period of time such that the insured prepays some of the later, more expensive premiums earlier in the policy
- no cash value
DB is fixed at face amount - level premiums help with budgeting
- can be converted to a permanent policy
- overpays premiums annually
Decreasing Term
premiums are level
no cash value
DB decreases over term of the policy
Whole Life Insurance
- provide lifetime protection if premiums are paid as agreed
- pre-fund future higher mortality costs using PV analysis
- premium patterns vary
- have savings or investment componen
- CVs may be used for loans
- provide tax-deferred growth of cash value
- permanent protection until 120
Types of Whole Life Insurance
- Ordinary Life
- Limited Pay Life
- Variable Life
- Current Assumption Whole Life (CAWL)
Current Assumption Whole Life (CAWL)
- insurer uses new money rates and new mortality rates to establish premiums
- the insurer reserves the right to adjust the premium once usually at a 5 yr mark
- Lo CAWL: low premium assuming higher interest rate for crediting
- Hi CAWL: assumes lower interest rate resulting in higher premium
- interest rate sensitive insurance (Lo CAWL) is designed to create demand due to lower premiums
Individual Life Insurance Policies
- 1st to die
- 2nd to die
1st to die
- individual life insurance policy
2nd to die
- individual life insurance policy
dividend options
- Nonparticipating
- Participating
Non-Participating Div Option
- does “N”ot pay dividends
Participating Dividend Option
-“P”ays dividends
Types of Participating Dividend Options
- Cash
- Reduced Premiums
- Accumulate @ Interest
- Paid-up additions
- One year Term
CRAPO
Settlement Options for Life Insurance- lump sum payment
- lump sum payment
- interest only
- annuity payments from life insurance
Types of annuity payments from life insurance
- fixed amount
- life income
- fixed period
Terminally ill
24 months or less to live
Chronically ill
unable to perform 2 ADLS
- eating, toileting, transferring, bathing, dressing, continence
dynamic risk
- the core of risk resides in the change in the environment caused by the changing human condition
pure risk
- when a circumstance exists where there is an uncertain possibility of loss and no chance of gain
blackout period
- occurs after the youngest child leaves home
dependency period
the amount of money that would be calculated before the kid turning 18 if 1 adult member of a family with kids were to die today
AKA the critical period
Cancelable Disability Insurance
- NOT renewable
Non-Cancelable Disability Insurance
- renewable
modified any occupation
insures an individual when “the insured is unable to perform the duties pertaining to any gainful occupation for which they are suited by education, experience, or training
if group coverage for disability income insurance has been canceled
coverage is still continued
adjuster
assists the insured in the prep of the proof of loss statement
determine whether there was a loss covered by the policy
indirect federal government involvement
IRC: Internal Revenue Codes.
SEC: Securities Exchange Commission.
ERISA: Employees Retirement Income Security Act.
duties of insurance commissioners
To conduct financial investigations of insurers operating in the state
To determine if an insurer meets the requirements to obtain a license
The National Association of Insurance Commissioners (NAIC) regulates insurance industry by:
Indirectly by providing for the exchange of information and preparation of recommendation.
Accrediting state insurance regulatory offices.
Universal policies
provide for unbundled premiums
unbundled
= universal
Probation period in a disability income policy
- period of time the insured must wait before specified illnesses or injuries are covered
Group long-term care plans
- cannot be included in a cafeteria plan
Commercial General Liability Contract
- Coverage A: Bodily injury and property damage liability
- Coverage B: personal and advertising liability
- Coverage C: medical payments
Social Security Survivor Benefits
- available to a surviving spouse beginning at age 60, divorced or not
- benefits available to former spouse if the marriage lasted at least 10 years and surviving spouse has not remarried
policy values and benefits of a split-dollar life insurance policy
subject to the claims of company general creditors
Medicare Advantage
acts like and HMO, PPO or POS plan
It will cover vision, dental and hearing that are not covered under part A or B
modified no-fault coverage
the plan where injured parties do not give up the right to sue, but simply refrain from such action until either a dollar threshold or a verbal threshold is reached
Skilled nursing care
the highest level of care provision which calls for services where residents are seen regularly by physicians is known as
cross purchase buy-sell agreement
should be selected if the surviving partners expect to sell their interests during their lifetimes
entity buy-sell agreement
may solve the affordability problem if one partner is significantly older than the other
becomes more desirable as the number of partners included in the agreement increases
if the owner of a LI policy is not the insured, and the insured dies
A taxable gift of the life insurance proceeds has been made from the owner to the beneficiary
Amount insurance company will pay for damage
= (face val / coinsurance) * loss - deductible
= (insurance I have / what i should have) * loss - deductible
Contributory negligence
if both parties are to blame in a given accident, each is guilty and may not collect against the other even if the defendant was 90% to blame and the plaintiff only 10% to blame
Errors and Omissions
- provides coverage for negligence related issues
qualified LTC benefit
- completely non taxable
inland marine insurance
a category of insurance that protects against property losses to goods in transit
“E”xecutive level of government
- “e”nforces the law
Guaranteed Renewable
- not level premiums
non-cancelable
- level premiums
Personal Auto Policy
- Part A: Laurel - Liability coverage
- Part B: May - Medical Payments
- Part C: Un - Uninsured Motorists
- Part D: Cover - Coverage for Damage to Auto
- Part E: Doug - Duties after accident or loss
- Part F: Gard - General Provisions
waiver of premium
- if the insured becomes totally disabled, premiums are waived during period of disability
the effects on the disability coverage if an insured under a disability income insurance policy moves to a more hazardous job and receives an increase in compensation
the change of occupation provision will allow the insurer to reduce benefits payable
one characteristic of a comprehensive personal liability (CPL) policy
- it may be part of a standard ISO homeowners policy or a stand-alone policy
Comprehensive Personal Liability CPL Policy
- never used to cover E&O
- not used to cover biz pursuits
Discontinuation of COBRA
- ER terminated health plan
- ER went out of biz
- EE terminated for gross misconduct
leasehold insurance
- covers favorable terms in a lease agreement should a fire render a building uninhabitable
Contingent Extra Expense Insurance
- covers expenses caused by the occurence of a loss to a covered peril which the insured does not own
Business Interruption Insurance
- covers indemnity for businesses during the period where they are rebuilding and restoring after covered losses have forced a halt of business as usual
Extra Expense Insurance
- covers any extra expenses incurred to continued operation
Direct Recognition Programs used with Life Insurance Ploicies
- any amount of cash that is removed from the policy is reflected in a decrease in the amount of divs and interest paid on that policy
Participating Non-taxable Dividends
- dividends that are less than the amount of premiums paid are considered a return of that excess premium to the payor
Participating Taxable dividends
- divs paid to the premium payor above the amount of premium paid are fully taxable as income when earned
Misstatement of age DB payout
= (premium paid / premium should have paid) * DB
the most restrictive definition of disability
- the inability of an EE to engage in any occupation for compensation
Qualified LT Care Policy
- benefit received is nontaxable
