Risk Management & Terminology Flashcards
(111 cards)
1
Q
Risk
A
Represents possibility of a loss - or a negative deviation from a desired outcome (ex. possible loss to house)
2
Q
Peril
A
Cause of that loss (ex. fire in home)
3
Q
Hazard
A
Increases potential for loss (ex. oily shop rags piled in corner)
4
Q
Static Risk
A
- Result from factors other than changes in economy (ex. earthquakes and floods)
- tend to occur with regularity and can be insured
5
Q
Dynamic Risk
A
- Result of changes in the economy (ex. changes in business cycle or inflation)
- Insurers typically do not cover
6
Q
Fundamental Risks
A
Affect large group of people (ex. recession & earthquakes)
7
Q
Particular risks
A
affect individuals or small groups of people
8
Q
Pure Risk
A
- Involves only chance of loss or no loss. Otherwise, there is no chance of gain (ex. possibility of house burning is pure risk because no gain).
- Pure risks are insurable
9
Q
Speculative risk
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Involves both chance of loss and gain (ex. gambling)
10
Q
Risk Management Strategies (Risk Control & Risk Financing)
A
11
Q
Risk Control
A
Seeks to minimize risk of loss, and includes risk avoid and reduction.
12
Q
Risk Financing
A
Pays costs of losses incurred. Includes risk retention and risk transfer
13
Q
Risk retention
A
situation where potential loss is small and could be covered out of pocket. It is also possible that cost of transferring is high, so no reasonable alternative.
14
Q
Risk transfer
A
Primarily insurance but can also be accomplished through waivers or subcontracting. With insurance, risk of loss is transferred to an insurance company in exchange for relatively small cost (premium)
15
Q
Risk Management Matrix
A
16
Q
Advantages & Disadvantages of Risk Avoidance and Reduction
A
- advantages are savings in premiums and potential liability claims
- disadvantages are that it is not always possible to avoid a risk and sometimes the lifestyle choices a client would have to make (ex. not driving) is challenging
17
Q
Risk Retention
A
- how much risk clients decide to retain could influence size of emergency fund, cash flow planning, life and disability coverage, and investment model
- sometimes clients may be unable to transfer risk to insurance company
18
Q
Self-Insurance
A
- used to define business use of risk retention. Large businesses use risk retention
- Method of risk retention
- Has several requirements: 1) organization should have enough homogeneous exposure units to make losses somewhat predictable 2) adequate funds must be accumulated to cover plan losses 3) self-insurer must be able to administer insurance functions, such as analysis of potential claims, disbursement of payments to providers, objective determination of claim validity, as efficiently as insurance company would 4) self-insurer must be able to competently manage investment of self-insurance fund
19
Q
Pricing analysis
A
Anticipated losses are one of most important pricing factors. Two critical assumptions are used in evaluating these loss statistics: elements of an insurable risk have been met and adverse selection can be controlled
20
Q
Elements of Insurable Risk
A
- must be sufficiently large number of homogenous exposure units to make losses reasonably predictable (law of large numbers)
- loss resulting from risk must be definite and measurable
- loss must be fortuitous or accidental
- loss must not be catastrophic to company
21
Q
Law of large numbers
A
Must be a large number of similar potential losses so that insurer can reasonably apportion expected financial loss.
Insured people and/or property must also be widely distributed geographically. Otherwise, single peril may cause a catastrophic loss.
22
Q
Liability of Insurer - 7 factors that insurance companies use to limit insurer’s liability covering losses
A
- insurable interest
- actual cash value of loss
- policy limits or face value
- other insurance
- coinsurance
- deductible
- subrogation
23
Q
Insurable interest
A
Exists when interested party will suffer financial loss if insured loss occurs. For property and casualty insurance (e.g., home and auto), insurable interest must exist both at the time the policy was issued and at the time of the loss. For life insurance, insurable interest must be present at the time the policy was issued, and does not need to be present at the time of a claim.
24
Q
Actual Cash Value (ACV)
A
Used with property losses. It’s the replacement cost minus depreciation
25
Policy limits or face value
Max amount that will be paid when insured loss occurs.
26
Other Insurance
when loss occurs, and there is more than one insurance policy covering the same loss, the insured will not profit from the loss. Either one policy is considered primary with the other paying for any uncovered loss, or the policies pay prorated shares of the loss.
27
Coinsurance
May be splitting of costs, or may refer to a minimum percentage of insurance that is required to avoid being penalized for inadequate property insurance when there are partial losses.
28
Deductibles
Retained risk. Portion of insured losses that insured is expected to pay before insurance company pays anything.
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Subrogation
Right of an insurance company that has paid for a loss to recover its payments if it is determined that a different insurance company or person is responsible & required to pay.
30
Risk management plan - 3 components
1) social insurance
2) public insurance
3) private insurance
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Social insurance
Mandatory insurance administered by gov't, with benefits mandated by law. Purpose is to protect people form large fundamental risks. (ex. social security, medicare, worker's comp)
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Public Insurance
Designed to enhance public trust in financial institutions. Mandatory and administered by government or quasi-governmental institutions (ex. FDIC, PBGC, SIPC)
33
Private Insurance
Marketed by private insurance companies (disability, health, LTC, etc.)
34
Insurance Producers
Individuals tht provide insurance company's products and services. Major types include: independent agents, captive agents, career agents, producing general agents, brokers, surplus-line or excess-line brokers or agents, and solicitors
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Independent Agents
Generally represent several insurance companies doing business under American or independent agency insurance system.
- decide where they will place business, dividing policies they sell among various companies they represent while (ideally) basing that on needs of client & suitability
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Captive Agents
Sell P&C insurance for companies known as direct writers. Represent only one company most often (some may allow agents to place business w/ other companies only after they've declined the business)
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Career Agents
Usually life insurance agents in general agency or company owned office. Career agents often choose this form of operation because of the support provided by the agency and the company. Career agents have production requirements in order to maintain their career agent contracts.
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Producing general Agents (PGAs) are also called personal producing general agents. Such agents:
- generally produce majority of income by selling insurance personally
- do not have specified territories
- have authority to hire agents to work for them if they wish
- PGA contracts usually contain no prohibition against representing other insurers, although the insurer often does require a minimum dollar amount of new business premium production in order for the PGA to keep the contract. PGAs are often found in the life insurance field with companies that do not have their own agencies.
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Brokers
Indviduals who are licenses with and represent many insurance. Broker is agent of insurance buyer.
Companies that do not maintain extensive field forces of their own may sell their
products using agents of other companies through what are called “brokerage contracts.” This may be their primary or even sole distribution system. Many companies that do maintain their own field forces look at brokerage business as a way to increase the amount of insurance they sell without having to increase their overhead for training and provide support services to additional agents. Clients benefit from this practice because brokers have the products of a large number of companies available to them instead of the products of a single company.
40
Surplus-Line, Excess-Line Broker or Agents
Surplus-and excess-line brokers and agents handle any type of insurance that cannot be purchased using normal distribution channels within a given state. An individual may not be able to obtain coverage from an admitted (in-state) insurer. A surplus-line agent has the authority to go outside the state and place the business with a surplus-line (nonadmitted) insurer if the necessary coverage cannot be obtained from an insurer admitted in the state. These are found almost exclusively in the property and casualty field.
41
Broker
represents a prospective insured and generally cannot bind the prospective insured to an insurance contract. The knowledge, actions, and assertions of the broker are between the broker and the client. The insurer is neither bound by them nor deemed to have any notice of them. Therefore, while the broker can bind herself, the broker cannot bind the insurer. Because of this, the insurer would not have legal liability arising from actions between the broker and the prospective insured
42
Agent
It is important to understand that an agency relationship is established in situations in which one person acts on another’s behalf. Acts of an insurance agent within the scope of express, implied, or apparent authority are considered acts of the insurer. Therefore, the insurer is legally liable for the acts of its agents performing their duties, even if agents make fraudulent statements unknown to or unauthorized by the insurer. Under the doctrine of apparent authority, the courts have ruled that agents have powers that the public expects them to have.
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Express Authority
Specifically conferred on agent. Is stated in agent's contract with insurer. The insurer may specify the types of policies, the types of coverage, and the amount of insurance that the agent may write.
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Implied Authority
authority not expressly granted, but that which the agent is assumed to have in order to transact the insurer’s business. In other words, an agent has authority to perform all incidental acts that are necessary to fulfill her duties. For example, even if the agent’s contract does not expressly state that the agent has the authority to collect premiums, that authority is implied and collecting premiums is allowed (in fact, it is required to do the agent’s job). Implied authority is sometimes confused with apparent authority, and the terms may even be used synonymously (but incorrectly) by some. Implied authority is derived between the relationship of the insurer (i.e., principal) and the agent. For example, if an agent repeatedly exceeds her binding authority, and the insurer does not take any action, then they have essentially given implied authority to that conduct.
45
Apparent authority
Appearance of, or assumption of, authority based on the actions, words, or deeds of the agent/insurer. Apparent authority is derived from the relationship between the client and the agent. If a third party (e.g., the client) is led to believe that the agent is acting within the scope of reasonable and appropriate authority, the insurer can be liable for the acts of the agent.
Ex. An agent who is terminated from employment with the insurer but still is allowed to possess policy illustration software, business cards, and application forms can be presumed to be acting on behalf of the insurer. Therefore, any acts by the agent would bind the insurer unless the insurer notifies the clients that the agent’s employment has been terminated.
The previous example encompasses both implied and apparent authority. From the perspective of the client, he presumed the agent had the authority, which is apparent authority. The failure of the insurer to take action against the agent creates implied authority.
46
Ratification
Agent-principal relationship may be created or modified by ratification.
For example, an insurer may stipulate that its agents must not write insurance on a certain class of applicant (thus putting such an action outside the scope of the agents’ authority). If an agent then writes coverage on an applicant in the prohibited class and the insurer, with full knowledge of the prohibited action, accepts the premium, then the insurer has ratified the agent’s act, and modified the agent’s powers. From then on, the insurer is bound by that act of the agent. Thus, the agent’s act and the insurer’s ratification of that act have modified the agency agreement.
47
State Regulation of Insurance Companies
Involves all three areas of government: legislative, executive/administrative, and judicial.
A state legislature passes laws that govern conduct of the insurance business in the state. These laws cover the requirements involved in organizing an insurance company, standards of solvency, regulation of rates and investments, and licensing of agents.
The state insurance department (executive/administrative), headed by the state insurance Commissioner, sets regulations implementing legislation and administers compliance.
State courts (judiciary) interpret and apply the laws and regulations applicable to insurers and interpret policy provisions. They also provide insurers with recourse for a review of the actions of regulators and the constitutionality of laws passed by the legislature.
48
National Association of Insurance Commissioners (NAIC)
- composed of state insurance Commissioners from all 50 states
- NAIC began introducing series of model laws that, if enacted by state, would give state accreditation by NAIC
- The purpose of the NAIC in establishing the accreditation program is to increase the reliability of the oversight of insurance companies by various states. When an accredited state certifies that a given insurance company meets the NAIC requirements for solvency, the goal is that other states will accept that certification rather than undertake their own investigations.
49
Aleatory Contract
- One in which outcome is controlled by chance, and the $'s that change hands are often of substantially unequal amounts
50
Contract of Adhesion
One prepared by one party and either accepted or rejected by the other. No negotiation in the process.
51
Conditional Contracts
Insurance contracts are conditional in that insurance company pays on conditional that a covered loss occurs.
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Indemnity
Insureds are restored to financial position they were in before they suffered their losses.
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Collateral source rule (circumstance in which concept of indemnity may not apply)
This rule states that if others cause you to suffer a loss, they are obligated to pay you for your loss, and they do not have their liability reduced just because you had insurance to cover such a loss.
54
Personal Contract
Insurance contracts are personal contracts because the nature of the risk is related to the individual who owns the contract. Generally, personal contracts are not transferable without the written permission of the other party, because the nature of the risk may change as a result of the transfer. While the contract usually cannot be transferred without permission, the benefits can be, and often are, transferred. With property that has had a lien placed against it, the lienholder often receives an assignment of the insurance to make sure that the debt is paid if a loss occurs.
55
Unilateral Contract
When either party to the contract can enforce the contract in a court of law, the contract is bilateral. If only one party can enforce the contract, it is unilateral. A policyowner can enforce the terms of the contract, but the insurance company may not force the policyowner to pay the premium. Therefore, as previously mentioned, insurance contracts are unilateral. It is also true that an insurance contract is conditional. This means that if the insured does not abide by relevant contract conditions, the insurance company may not have to pay a claim in the event of a loss.
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Utmost Good Faith
The concept of utmost good faith is critical to insurance contracts. If applicants for
insurance had to prove every fact on the application, or if the insurance company researched every fact, the additional cost of writing insurance would be excessive. The insurance company can make the following three claims if it believes that utmost good faith was not maintained:
Misrepresentation
Warranties
Concealment
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Misrepresentation
Occurs when false statement is made that at least partially induces company to issue contract. For misrepresentation to void a contract, it must be material, or significant.
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Warranty
Statement by applicant that all info on application is absolutely true. Under strict application of the warranty doctrine, any mistake, however insignificant, would permit the company to void or rescind the contract. With very limited exceptions, however, the courts will not permit such an extreme application of the doctrine to insurance contracts.
59
Concealment
Intentional withholding of material information, violates the requirement of utmost good faith even if no specific question arises about that info.
60
Contract for services
A contract for services is based on the substance of the agreement, as opposed to the form, and is therefore considered an informal contract (also known as a simple or parol contract). Most contracts that you will deal with as a planner will fall under this heading.
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Elements that need to be in place for contract to be legally enforceable
- offer and acceptance
- consideration
- legal object
- competent parties
- legal form
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Offer and acceptance
When one party states that he will do something if the other agrees to do something or pay for it, he has made an offer. If the second party agrees, there is acceptance.
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Consideration
Act or payment for the act. Each party must give the other something of value. Insured pays initial premium, and insurer binds coverage.
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Legal object
Purpose of contract; must be legal.
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Competent parties
Must be capable of legally entering into contract. Minors are capable of entering into legal contract. However, such contract may be voidable by the minor.
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Legal Form
Certain contracts must be in a form prescribed by law. State law requires that real property have a title, and transfer of that title generally must be in writing. For other purposes, an oral contract may be acceptable; if it can be proven that the agreement existed, an oral contract is fully enforceable. In most cases, a written document avoids misunderstanding between the parties.
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Void Contract
Not enforceable and lacks one or more of the requirements of an enforceable contract.
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Voidable Contract
a contract where one party has the option of voiding the contract, but the other party is bound. For example, where a contract is made with a minor, the contract is voidable by the minor; until the minor reaches the age of majority, he can void the contract, but if not voided it remains a legal contract. If one of the two people making the contract is legally incompetent, the incompetent person cannot be forced to hold up his end of the contract. The incompetent person may, however, force the other person to live up to his part of the contract. When one of the parties to a contract is legally incompetent because of age, illness, inebriation, or some other reason, the contract most likely is valid but may be voided by the incompetent person (i.e., such a contract is not void, but it is voidable by the incompetent individual).
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4 basic sections of insurance policies
a contract where one party has the option of voiding the contract, but the other party is bound. For example, where a contract is made with a minor, the contract is voidable by the minor; until the minor reaches the age of majority, he can void the contract, but if not voided it remains a legal contract. If one of the two people making the contract is legally incompetent, the incompetent person cannot be forced to hold up his end of the contract. The incompetent person may, however, force the other person to live up to his part of the contract. When one of the parties to a contract is legally incompetent because of age, illness, inebriation, or some other reason, the contract most likely is valid but may be voided by the incompetent person (i.e., such a contract is not void, but it is voidable by the incompetent individual).
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Contract Disputes
First, the court has to determine what the parties intended. Then, it has to seek an equitable way of implementing these intentions.
The parol evidence rule is not a remedy, rather, a rule of substantive law. Under this rule, when the parties put their agreement into a final, complete, written form (in the absence of fraud, mutual mistake, duress, or the like), evidence of prior understandings—whether oral or written—will not be admitted to contradict the writing. Note, however, that the parol evidence rule does not apply to subsequent modifications; evidence of oral modifications made after the agreement is in written form is admissible to clarify the parties’ intent.
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Doctrine of Waiver
A party, by her own actions (or actions of agent) has voluntarily relinquished or surrendered a known right. Assumes parties, will full knowledge of material facts do, or fail to do, something that is inconsistent with their rights under the contract or inconsistent with an intention to rely on such rights. No action is required of the other party.
Ex. ABC Insurance Company receives an application that does not meet its underwriting criteria but issues a policy anyway. If a subsequent claim is filed, ABC is barred from denying the claim because it waived its right to deny the claim by issuing the policy.
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Doctrine of Estoppel
Prevents a party from asserting a right to which he would otherwise be entitled where, because of party's own actions or behavior, he misled someone (even though unintentionally) who relied on this understanding to own detriment. It is based on the idea that where one of two innocent persons must suffer, the one who caused the loss must bear it. In the previous example, the insurer would be “estopped” (stopped) from asserting its contractual right to deny the claim, because the underwriter previously waived the company’s right to do so.
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Equitable remedies - two types
Rescission and reformation
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Rescission
Equitable remedy by which original contract is deemed null from its beginning. Party seeking relief must show fraud, impossibility, misrepresentation of materials fact, concealment in the application, or mutual mistake as to a material fact. Rescission generally is sought by an insurer rather than by an insured because, when a contract is rescinded, the insurer is required only to return premiums, as opposed to paying the larger benefits under the original contract.
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Reformation
Equitable remedy by which the written instrument between the parties is changed to express the original intentions of the parties. Before a contract can be reformed, it must be shown that there was a mutual mistake (or a unilateral mistake coupled with actual fraud by the other party), duress, or related misconduct. The purpose of reformation is to make the contract language conform to what was originally intended
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Waiver Provisions
In handling disputes concerning insurance contracts, the court may have to consider waiver provisions, which are inserted in insurance contracts to protect the insurer. Occasionally, an agent may either intentionally or negligently promise coverage not contemplated by the contract, or waive conditions important to the insurer. To prevent liability from such acts, insurers generally have a waiver provision in the contract that provides that “only the president, a vice president, or the secretary of the company has authority to alter this contract or to waive any of its provisions.” However, insurance companies have not always benefited from this clause because some courts have held that the agent had the ability to waive this clause as well.
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Difference between waiver provision vs. doctrine of waiver
It is important to note that, although the names are similar, the waiver
provision mentioned in the preceding paragraph and the doctrine of waiver discussed previously are two different concepts. A waiver provision has effect because it is placed in the contract. It is intended to prevent a company’s agents from intentionally or unintentionally waiving a privilege or benefit the company would otherwise have. The doctrine of waiver, on the other hand, is based on equity, applies without being explicitly mentioned in the contract, allows waiver of a known right, and has far broader application than a waiver provision.
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Torts
When someone causes physical, emotional, or financial harm to another. Person who commits such a wrong is called a tortfeasor. May be intentional or unintentional and are of a civil, versus criminal.
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Unintentional torts
Generally involve negligence of which there are 4 elements: 1) duty is owed (ex. individuals should drive vehicle in safe manner) 2) duty was breached (rear-ended another car) 3) actual damages (other car's taillights broken) 4) proximate cause, which is an uninterrupted sequence of events that brought about the (ex. individual was texting when it happened)
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Attractive nuisance
refers to something about a property (ex. swimming pool) that is likely to attract and possibly injure children.
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Negligence per se
Where duty of care owed by the defendant in a lawsuit is determined by reference to a statute. This can happen where there is a statute that was enacted to protect the class of people to which the plaintiff belongs against the type of harm that occurred. Other elements of a tort must still be proved.
EXAMPLE: Negligence per se
Bella is speeding in a school zone and hits a child. In this case, she is guilty of negligence per se. Had she hit a parent, Bella would be guilty of negligence, but not negligence per se. The difference? The law in this case was specifically written to protect schoolchildren, not their parents.
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Absolute Liability (also known as strict liability)
Standard imposed when a person or org is held responsible for any damages, even when there has been no negligence. This generally is a case in which people cause extra-hazardous situations through (ex. keeping wild animals).
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Vicarious liability
when someone is held liable for acts of another (ex. person's child, employee, or agent). Typically w/
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Legal defenses to liability
- assumption of risk
- contributory negligence
- comparative negligence
- last clear chance
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Assumption of risk
If party recognizing/understands riskk and still chooses to engage in it, then cannot hold another responsible.
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Contributory Negligence
If any negligence on part of injured party contributes to injury, it absolves the other party of liability. This is strictest approach and has been replaced with contributory negligence.
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Comparative Negligence
Reduces defendant's liability in some proportion based on injured party's contribution to total negligence causing injury.
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Last Clear Chance
Modification of contributory negligence. Here, contributory negligence on the part of the injured party will not bar recovery if other party, immediately prior to accident, had a last clear chance to prevent the accident but failed to seize the chance.
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Underwriters
Have the job of determining whether a risk is reasonable, and the degree to which the insurer is willing to accept it.
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Moral Hazard
Result of client being unethical or misrepresenting himself in order to obtain insurance or to induce payment of a claim. (ex. client advises you she has not been issued traffic tickets but she had a couple of DUIs; another ex. is someone has a building insured & is behind on mortgage payments, and considers burning the burning building)
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Morale Hazard
indifference - might leave car unlocked in bad part of town because they feel its okay because they're insured
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Adverse selection
Occurs when people with higher risk more likely to purchase insurance
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Mortality
Refers to incidence of death. Life insurance premiums are based on three factors: mortality rates, investment income, and expenses.
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Morbidity
refers to incidence of losing one's health through illness or injury. Morbidity rates are measure of rate of disability.
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Loss adjustment process
series of steps that are taken when insured property loss occurs.
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Indemnification
When suffer a financial loss, generally expect their insurance company to make them whole. It involves the loss adjustment process.
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Adjuster
Responsible for investigating insurance claims and determining amount of payment to be made.
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Insured duties
- notice of loss: insured is required to give notice of a loss to allow the insurer to investigate.
- protection of property: provision that requires insured to protect the damaged property after loss
- inventory: itemized report that must contain quantity, description, either actual cash value (ACV) or replacement cost, and amount of loss of the damaged property (note - ACV is replacement cost less depreciation)
- evidence: show damaged property to insurer
- proof of loss: document proof of loss forms
- assistance and cooperation
- appraisal: necessary to avoid litigation when the insured and insurer cannot agree on ACV or amount of loss
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Adjuster's Duties
- investigation: all relevant info is evaluated
- proof of loss: may require helping insured complete forms
- payment or denial of claim: Based on adjuster's findings, claim may be paid (in whole or part) or denied
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Replacement
Insurer may repair or replace damaged property with that of like kind and quality rather than pay the ACV or replacement cost of the loss
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Abandonment
Involves surrendering ownership of damaged property to the insurance company so that a total loss can be claimed.
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Salvage
Takes place when insurer takes ownership of the property and sells it to reduce its loss.
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Abandonment and Salvage
Generally, abandonment and salvage rights are found in insurance contracts. An insured, however, does not have the right to choose to abandon property to an insurer in order to claim a total loss. The insured does have the right to keep the damaged property and accept a lower payment from the insurer (i.e., the insured “buys back” the damaged item at its salvage value).
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Pair or Set Option
Gives insurer the right to repair or replace any part, to restore a pair (ex. earrings) or set (ex. silverware) to its value before the loss, or to pay the difference between the ACV of the property before and after the loss.
For example, this clause stipulates that a loss of one earring is not a total loss of the set. The insurer, in this case, does not have to replace both earrings, but it will try to reach an equitable settlement with the insured.
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AM Best
Oldest of rating services. Based on comprehensive analysis of company's financial records as well as interviews with key employees.
Different from other rating agencies because it's the only that specializes in doing so.
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Demotech
Provides financial stability ratings for property and casualty companies and title insurers.
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Fitch Rtings
Provides ratings on over 800 insurance entities, along w/ fixed income security ratings
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Standard & Poor's
Publishes two separate ratings. First, "claims-paying ability rating" is done by using public as well as nonpublic financial information. Also publish "qualified solvency ratings." These are done with public records only and at no charge to companies being rated.
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TheStreet.com Ratings
Published "safety ratings" - all it uses is public information.
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Primary forms of ownership of insurance companies
1) mutual companies: owned by policy owners. Benefits are that profits are paid to policy owners and assumption is that get a better product at lower net cost.
2) stock companies: owned by stockholders. Idea is that it has outsiders keeping an eye on its operations, which may lead to better overall management.
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