Study 1-9: Narrative Practice Questions

Question 1

The line guide specifies the criteria that an underwriter must consider when accepting or rejecting a risk. List FIVE (5) of the areas the underwriter should consider when making a decision.

Answer 1

• Licensing: The underwriter must confirm that the insurer is licensed to accept business in a certain area.
• Types of business: The underwriter should know what kinds of business the insurer is in the market for.
• Lines of insurance: Underwriters must ensure they are offering only the lines of insurance that meet the insurer’s licensing and types of business criteria.
• Territory: The underwriter must be aware of the areas that the insurer is willing to accept business from and have knowledge about the territory they are responsible for.
• Capacity: Underwriters must know how much capacity the insurer has and how much capital they are willing to commit to the best-in-class risks. The amount of insurance the underwriter can offer depends on criteria such as occupancy of the risk, level of public fire protection, and the type of construction.
• Reinsurance: The underwriter should know their insurer’s processes related to purchasing reinsurance and what their authority is as an underwriter.
• Pricing: Underwriters must try to ensure that the premium the insurer receives for a risk is sufficient for the insurer to make a profit .

Question 2

When assessing a risk, which general areas will an underwriter ask about before making their decision?

Answer 2

• Length of time in business: Underwriters will want to know details about the business itself, including who the applicant is, how long the business has been in operation, financial stability, and how it is managed and maintained.
• Type of loss: Underwriters will want to know about the kinds of losses the applicant may incur (for example, first-party loss or third-party loss), loss history, and if any risk control measures have been put in place.
• Perils: Underwriters will want to know what perils the risk may face that may lead to either a first-party or third-party loss.
• Physical hazards: Underwriters will want to ask more questions about the physical hazards that may lead to a loss and if there is a way to reduce or eliminate these hazards.
• Moral hazard: Underwriters will want to look into any potential moral hazards such as poor financial condition or an applicant’s carelessness that may lead to a loss.
• Required information: Underwriters will want to ensure they have all the information they need to make a decision or request more information, if necessary (for example, a financial report or inspection).

Question 3

Briefly explain the difference between pure risk and speculative risk. List the THREE (3) general types of insurable risks.

Answer 3

• Pure risk is a risk that entails a chance of loss but no chance of profit
• Speculative risk is a risk where there is a chance of loss and a chance of profit
• Three general types of insurable risks are personal, property, and liability. Personal risks arise from an individual’s own bodily injury, loss of life, or loss of income (for example, death, physical disability, old age, unemployment). Property risks come from the destruction or damage to property. Liability risks arise from an individual’s legal obligation to pay for damages to property or for the injuries or death of another due to their negligence.

Question 4

What are the FIVE (5) elements of a contract?

Answer 4

• Agreement (offer and acceptance): The offer and acceptance are clearly defined and both parties agree.
• Capacities of the parties to contract: Both parties entering into the contract are adults of sound mind who are not under the influence of any drugs or alcohol at the time of the agreement.
• Consideration: The value received in exchange for the promise given.
• Genuine intention (meeting of the minds): An understanding between both parties of their intention in this agreement.
• Legality of the object: The object of the contract must be a thing or an act that is legal.

Question 5

What are the FIVE (5) main sections commonly found in insurance policies?

Answer 5

• Coverage summary (or declarations): Includes the following information: parties involved in the contract (insurer and insured), policy effective and expiry date, premium and rate, and amount of insurance.
• Insuring agreements: States the property being insured, the perils insured against, exclusions and conditions under which the insured may receive the insurance payment.
• Statutory conditions / Quebec general conditions: Conditions that are applicable to automobile, accident and sickness, and fire insurance policies.
• Policy conditions: The rights and duties of the insured or the insurer.
• Signature clause: Signature of the insurer.

Question 6

What are the FIVE (5) components of the underwriter’s toolkit?

Answer 6

• Environment: Underwriters must have a thorough understanding of a risk’s political, social, and economic environment.
• Legal system: Underwriters should be knowledgeable of the legal systems that govern the insurance contract
• Business: Underwriters need to understand both the insurance industry and the industry in which the risk competes.
• Product: Underwriters should have a good understanding of the different types of policies and how the coverage would be interpreted if there was a loss.
• Risk: Underwriters need to know as much as possible about the risk they are assessing/underwriting, including information on the applicant, the perils, and the hazards that may lead to a loss.

Question 7

List FIVE (5) features of an insurance application that an underwriter can examine to locate information on the applicant.

Answer 7

• The applicant’s name: Assists the underwriter in determining the named insured and if further investigation is required into the named parties.
• The broker or agent: Underwriters can ask the broker or agent questions to learn more about the applicant and risk.
• The desired effective and expiry date: Underwriters must confirm that the requested effective date is in the future, and they are not issuing a back-dated policy.
• The applicant’s occupation: The employment status of an applicant can provide insight into any potential moral hazards (for example, an unemployed applicant may not be able to pay the premium).
• The applicant’s loss experience: Underwriters can use the information and details of an applicant’s past losses to help them determine the types of losses the applicant may suffer in the future.
• Whether the applicant has been cancelled by any previous insurers: Underwriters will want to investigate past cancellations by other insurers to determine if the cancellation was due to the insurer’s change in underwriting guidelines or if the cancellation was due to a moral hazard of the applicant.

Question 8

The broker or agent can be a source of information and provide insight on the applicant and the risk. When consulting with the broker or agent on a risk, what insight can be gained by the underwriter?

Answer 8

• Source and proximity to broker: The source of the business and the proximity of the broker to the risk in question.
• Broker’s contact with risk: How the broker made contact with this risk
• Broker’s relationship to the risk: What the broker’s relationship is to the risk (ex. its principals or executives)
• Possibility of conflict of interest: Whether the broker’s relationship to the risk creates any conflict of interest
• Number of brokers:The number of brokers who have handled the risk before the current broker submitted the application to the insurer for the applicant
• Details on the applications: The extent of the applications
• Part of risk being submitted: Whether the broker is submitting the entire risk for the underwriter’s consideration or just the less attractive, more difficult-to-insure aspects of the risk.

Question 9

Briefly explain why it is important for an underwriter to know about an applicant’s loss experience

Answer 9

• Assessment of likelihood of future loss: The underwriter’s decision is an assessment of the likelihood that the insurer will suffer a loss if the underwriter accepts the risk
• Indicators of future losses: Past losses are important indicators of losses the applicant might incur in the future
• Object of insurance: Past losses also provide a clearer picture of the object of insurance.
• Applicant’s attitude: Past losses also reveal information about the applicant, such as their attitude regarding safety that may have allowed the loss to occur
• Preventative measures: It may reveal the likelihood of similar losses occurring in the future if preventive measures are not taken

Question 10

What is the acronym for the factors to be assessed in any physical risk? What does the acronym stand for?

Answer 10

The acronym is COPE

• Construction: The materials used for the building walls and roof
• Occupancy: Who occupies the property and how it is used
• Protection: The fire protection in place (public versus private)
• Exposure: Nearby risks that could lead to a loss for the applicant

Question 11

In a single-family dwelling, why is it important to know whether or not the structure is under renovation or construction?

Answer 11

• Risk of fire or other insured loss: The risk of a fire or other insured loss is greater for a dwelling under construction or undergoing renovations than for one that is not
• Electrical and/or heating arrangement during construction: Construction or renovation work on a dwelling often entails makeshift arrangements for electrical systems or heating. Workers carry out hazardous processes such as welding or cutting with torches; combusitble materials may be used in building or changing property. All these activities or aspects of construction or renovation work increase the possibility of loss.
• Coverage depends on the nature and extent of work: Most homeowners policies exclude loss arising out of such work. The underwriter may agree to the applicant’s request for permission to carry out such work, depending on the nature and extent of the work.
• Additional premium: The underwriter may also want to charge additional premium for coverage while the work proceeds.
• Separate construction policy: If an extensive renovation is being undertaken, the addition of a construction policy may be required.
• Inspection once complete: Upon completion, the underwriter may request an inspection of the renovated home
• Increase to property value: The work may also increase the value of the property, so the underwriter should ensure that any such increase in value is reflected in an inreased amount of insurance and possibly an increase in premium.

Question 12

How could the owner of a rental property prevent a tenant from establishing an illegal grow op in the rental property? If an illegal grow op has been established, how does that affect the owner’s property risk and the owner’s insurance policy?

Answer 12

• Owner visits: The more often an owner visits, the more likely the owner is to notice any behaviour of the tenants or problems with the building itself that could give rise to loss.
• Fire hazard: The increased electricity consumption and often dangerous rewiring create a serious fire hazard.
• Damage to walls and electrical wiring: Setting up the operation often does significant damage to the walls of the house and its electrical wiring.
• Rotting and mold: Over time, the high humidity required for the plants causes rotting and mold throughout the house.
• Possible coverage under vandalism or malicious mischief coverages: It has been a matter of some legal dispute whether the dwelling owner’s insurance should respond to losses by fire or mould should they arise out of an illegal operation, such as a grow op. But some courts have ruled that, in the absence of a specific exclusion of loss arising from grow ops, such loss may be considered vandalism or malicious michief and, therefore, covered under the policy.
• Restrictions to exclude grow ops: It has become quite common for a restriction to be placed on the policy to exclude losses pertaining to grow ops.

Question 13

Angela applies for insurance. She lives on a 200-acre farm and rents the land to a cattle farmer. The applicant and her husband own two automobiles, a cottage, and a motorboat. They also own three single-family rental properties. State FIVE (5) reasons why the applicant should purchase an umbrella policy.

Answer 13

• Protects insured and provides excess insurance: The limit of liability of a personal liability insurance policy is not generally more than $1 million or $2 million. An umbrella policy is a special form of liability policy designed to protect the insured for certain unknown contingencies over and above coverages and to provide excess insurance.
• Litigious society: In an increasingly litigious society, there is both a greater propensity to sue and a rising trend in the amounts of damages awarded against someone who is found legally liable for harm to another. As a landlord of rental properties, the insured is likely to be sued for a large amount of money.
• Suitability: With the assets that the applicant has-farm, automobiles, cottage, motorboat, three rental dwellings, and the fact that she rents her farmland-the coverage that an umbrella policy will offer would be the most beneficial to the applicant.
• Expands the insured’s liability coverage: The personal umbrella policy may expand the insured’s liability coverage by dropping down to provide coverage that would not otherwise be available to the insured under just an ordinary personal liability policy.
• Broader coverage: The broader coverage might include broader premises liability coverage, excess automobile liability coverage, and coverage for liability arising out of the use of watercraft.

Question 14

How is governmental power in Canada divided? What are the responsibilities assigned to each level of government?

Answer 14

Divided by the Constitution Act
Between the federal, provincial and territorial, and municipal governments

• Federal government’s responsibilities: Military affairs, foreign relations, the national currency, the postal service, financial regulation of banks and insurance companies, etc.
• Provincial and territorial governments’ responsibilities: Property rights, education, health care, regulation of the insurance industry, etc.
• Municipal governments’ responsibilities: Police, fire, water, and other services that municipalities are authorized by provincial or territorial governments to provide or perform within their boundaries

Question 15

What is the primary intention of the commercial general liability (CGL) policy? Which elements must be present in a lawsuit for the insurer to pay a liability claim?

Answer 15

• Protect the insured: Primarily intended to protect the insured from legal liability for bodily injury or property damage unintentionally caused to other people
• Duty of care: The defendant (insured) owed the plaintiff (third party) a duty of care.
• Broken duty of care: The defendant broke that duty of care by his or her actions.
• Injury: The defendant’s actions caused injury to the plaintiff.

Question 16

Mitra and Shankar are insured drivers on the same insurance policy. They each own a vehicle and have been insured with the same company for more than 10 years. Their twin daughters have just finished high school and Mitra and Shankar are buying them a vehicle they can share. The vehicle will be owned outright and requires only basic coverage. What questions should the underwriter ask to assess the added risk posed by this family’s purchase of a third car?

Answer 16

• Who will be the primary driver and who will be the occasional driver?
• Will anyone else have regular access to the vehicle?
• What licences do the drivers have?
• How long have they been licensed to drive?
• What convictions and/or accidents do the drivers have?
• Did the drivers take driver training programs?
• How will the vehicle be used?
• What type of car is being insured?
• Where will it be driven (the location of the primary driver’s home)?
• Will the primary driver plan to use the car to commute to school or work? What is the distance travelled if there is a commute?

Question 17

What useful information might an underwriter determine from a credit report or survey for a commercial automobile insurance application?

Answer 17

• Payment of premium: The applicant’s ability to pay the insurance premium
• Hiring responsible drivers: The applicant’s ability to hire and retain suitable, responsible drivers
• Maintenance of vehicle: The applicant’s ability to properly maintain its automobiles
• Length of time in operation: The number of years the applicant has been in operation
• Management experience: Experience of the applicant’s current management

Question 18

Sarah is applying for insurance for a new vehicle. She tells her insurance broker that she has made some modifications to the car. The broker advises the underwriter but doesn’t provide any information on what modifications have been made. Briefly explain why an underwriter requires information about a car’s modifications.

Answer 18

• Incorrect rating and classification: A modified vehicle may be more valuable than a factory vehicle, so the rating and classification may not be appropriate.
• Increased exposure to loss: Some aftermarket modifications can affect a vehicle’s exposure to loss, making the vehicle more expensive to repair or more likely to be stolen, or perhaps both.
• Increased comprehensive claims and repairs: Modifications to the physical appearance of a vehicle increase the risk of a comprehensive claim or cost of repair.
• Increased probability of accident: Some modifications, such as changes to the suspension, may increase the risk of the vehicle being involved in an accident.
• Incorrect coverage and premium: Each modification changes the worth of the vehicle and its exposure to loss, which is reflected in the coverage and premium.

Question 19

What are the steps in the general ratemaking process that actuaries use to ensure rate adequacy?

Answer 19

• Classifying risk: Determine what objects of insurance coverage will be offered (for example, property, liability, automobile, among others) and what exposures to loss that object could face.
• Determining rating classes: The rating class should be large enough that data can be collected for it and also have a reasonable level of discrimination among the different insureds.
• Selecting proper measure of exposure: Determine the exposure base, which will be an indicator of the frequency and severity of loss that the risk experiences.
• Gathering loss statistics: Gather the loss statistics that are in line with the rating class and exposure base.
• Predicting future losses based on past losses: Review previously collected loss information in order to predict future loss experience. This is an application of the law of large numbers: the larger the sample size, the more reliable the probability.
• Calculating pure premium, total premium, and the premium rate: Using the amount required to pay claims (pure premium), add on additional costs to account for business operations to determine the total premium. Divide the total premium by the exposure unit to determine the premium rate.

Question 20

When is class rating used?

Answer 20

• Gathering a large number of risks: When statistics can be gathered on a large number of risks that share common characteristics (for example, the same basic risk factors are either present or absent for most automobile insurance risks). The same is true for homeowners and small business insurance.
• Measuring claims experience: This makes it possible to statistically measure the claims experience for each risk factor, which is not possible for more complex risks.
• Dividing past losses into categories: The record of losses for the period under review can be subdivided into categories such as territory, type of unit insured, and value of the unit insured.
• Determining the average class cost per unit insured: When the total losses in dollars are calculated and divided by the number of units to be insured, the result will be an average class cost per unit insured.
• Reducing judgement in rating process: Class rating virtually eliminates the element of judgment in rating and streamlines the policy-issuing process, thus reducing production costs.

Question 21

Why is schedule rating used in some instances by underwriters?

Answer 21

• Not enough statistical data: Some classes of business are individually rated because of their complexity and the need for underwriting judgment-schedule rating is used when the body of statistical data is too fragmented to permit class rating.
• Using previously determined characteristics to determine rate: Rates are based on a schedule or manual that lists a multitude of characteristics identified by underwriters over a period of many decades as important factors in measuring the degree of risk.
• Determining the base rate for a simple risk that is similar: The process of schedule rating involves the fixing of a base rate or key rate.
• Considering the location of risk and the public fire protection: Base rate is used as the initial charge to apply to the particular community in which the object of the insurance is located and takes into consideration the degree of public fire protection.
• Making adjustments to base rate based on specific details of the risk: After these rates are determined, debits and credits are applied based on factors that make the risk either better or worse than the average risk of its type.

Question 22

What are the benefits of an underwriter establishing good relationships with other insurance professionals?

Answer 22

• Sharing information: The dissemination of information they make possible
• Assist in underwriting process: Make underwriters’ jobs easier by giving them access to information that can be valuable or even necessary to properly underwrite
• Perspective on other insurance professionals: Help give underwriters perspective by understanding the roles of other insurance professionals, which can help them proactively prepare for a conversation
• Build trust: Help build trust between underwriters and the insurance professionals they deal with
• Profitable business: Trust leads to attracting and retaining profitable business

Question 23

List the groups with whom underwriters should nurture good relationships.

Answer 23

• Other underwriters
• Reinsurers
• Brokers
• Agents
• Risk managers
• The claims department
• The actuarial department
• The loss control department
• The legal department

Question 24

What are some of the exposures that require underwriters to obtain facultative reinsurance?

Answer 24

• Hazardous occupancies: For example, chemical manufacturing or furniture-making
• Unprotected areas: Risks located in areas unprotected by municipal water supplies or fire departments
• Increased chance of catastrophic loss: Risks with the potential to suffer catastrophic loss, such as a large schedule of properties in the earthquake-prone lower mainland of British Columbia
• Products sold in the US: Risks that sell their products in the United States, where many insurers fear the loss potential posed by a more litigious culture
• Long-tail liability: Liability risks with the potential for “long-tail” liability losses, such as pharmaceutical production
• High value: Risks with high values

Question 25

What is the effect of mergers and acquisitions among insurance companies on underwriters?

Answer 25

• Effect of mergers and acquisitions on the corporate cultures depends on if the companies involved have a similar corporate culture.
• To assess if the companies involved are similar in culture, consider if they are similar in the classes of business pursued; if they are aggressive or conservative in pursuing and accepting risk; if they are similarly centralized or decentralized in their underwriting; how they differ in their approach to business, such as having a hard market versus soft market cycle; and if they have different marketing strategies.
• Where the companies are similar in corporate culture, the merger may pose relatively few obstacles beyond the purely logistical task of eliminating and combining branch offices and reallocating staff.
• Where the corporate culture of the companies is quite different, the merger may well produce a pronounced clash of corporate cultures. Underwriters may be much less clear about the underwriting rules they are to follow or the expectations they are to meet.
• Underwriters must be flexible in their thinking and adapt to the new directions their company is heading.

Question 26

Briefly discuss the impact of technology on the underwriting function.

Answer 26

• Increased access: Underwriters now have increased and often instantaneous access to information.
• Overwhelming volume of information: Incredible volume of information has created an information overload (feeling confronted with more information than one can absorb) and the stress of feeling overwhelmed.
• Not enough time to go through all information thoroughly: The volume of information may be too much to be properly digested in the timeframe an underwriter needs to make a decision. This may lead the underwriter to skim or hurry through information selectively and base the decision on a superficial, perhaps misleading, understanding of the exposures presented by a risk.
• Shortened turnaround time: Rate of technology has led to more pressure being put on those who make decisions to make them faster and more effectively. The turnaround time for submissions has been drastically reduced.
• More knowledgeable insurance consumer: Flow of information has opened the door to the insurance consumer, who is savvier and will likely ask questions directly of the insurer.

Question 27

What are the privacy concerns that have arisen in the wake of the use of technology when paying for insurance?

Answer 27

• Past data breaches: There are concerns around the safety, security, and improper sharing of personal information. These concerns are evidenced by massive data breaches that have left the personal and private information of hundreds of millions of users at risk.
• Increased use of electronic payment: Another cause for concern in insurance is around the increasing use of electronic means for payment at a point of sale, such as credit cards, electronic funds transfer (EFTs), and other means of payment, such as mobile wallets and biometric payments.
• Insurers may need to obtain legal authorization from insureds: The payment options may require insurers to obtain legal authorization from insureds to debit their bank accounts or obtain credit information about them.
• Increase payment options also means less privacy: Part of the price insureds pay for the increased payment flexibility is a loss of some privacy.
• Misuse and improper handling of personal information: There is an increased risk that access to personal information could be misused. Concerns regarding the violation, misuse, or improper handling of these data have led to several major lawsuits, which are a major concern for the underwriter whose employer may insure those parties.