As a result of underwriting, an insurance company may
In addition to the above, there are techniques used by underwriters to be able to insured substandard risks, but using exclusionary riders and limitations on policy benefits.
An exclusionary endorsement is simply an endorsement attached to the policy that excludes from the coverage of the policy, any loss arising from a stipulated (named) disease or physical impairment. Generally, after these exclusions have been stipulated as such, the regular and full coverage can be offered at standard rates.
The exclusion endorsement is typically considerably broader than the disease or impairment itself. For instance, a herniated disc repaired by surgery would exclude any diseases or impairments arising from or any condition involving the spinal column, etc. Evidence of kidney stones could create an exclusion of all diseases of the kidneys or genitourinary tract. The broadening of these exclusions helps to avoid problems if a claim is filed on a slightly different manifestation of the same condition.
Many (if not most) persons object to such exclusions but the alternative is uninsurability. It should be considered that just the fact that there is or was an impairment can have an affect on disability at a later date. With disability insurance, some conditions, (hernias and appendicitis come to mind) can be accepted with a long elimination period.
Most insurance companies offer coverage to impaired risks by requiring an extra premium. Typically, insurers will void the preexisting condition clause in the policy in respect to any impairment on which an extra premium is charged. However, it should be understood by the insured when this type of situation arises, that the preexisting condition is waived only on the specific condition creating the extra premium.
Modification of coverage is usually used for those borderline cases where a definite underwriting decision is not possible. The underwriters will offer a different type of coverage, usually more limited in some fashion. For disability insurance, it can be for a lower amount, shorter benefit period, or a longer elimination period – such as hernias, etc., as mentioned above.
This is generally used in those situations where the medical history involves only Short-term disability.
In those situations where the policy is renewable at the option of the company, at time of renewal the underwriter is concerned with changes, such as in occupation, habits, health, residence, etc. As discussed earlier, even if the company is allowed to underwrite at renewal, many companies do not do so unless the loss ratio of that specific group of policies becomes so high that re-underwriting is necessary.
Re-underwriting and/or cancellation of insurance seem “unfair” to most policyholders, and Insurance Departments look upon these practices with a jaundiced eye. Therefore, most Disability Income insurance policies are guaranteed renewable, even though the premium is higher for guaranteed renewable products.
Insurance has always been under the public and political microscope, and Disability Income insurance is no exception. This stems from the fact that insurers necessarily require considerable confidential material in order to make their underwriting judgements and the public is and has always been concerned about how the industry handles this highly-sensitive information.
The FCRA was one of the earliest laws affecting the gathering of information, particularly for life insurance companies. Among its requirements is that the users of investigative consumer reports (and inspection reports) must notify the consumer that a report will be or has been requested. The insurer must also notify the consumer that the consumer has the right to request the disclosure of the information discovered.
These reports are obtained from Consumer Reporting Agencies (CRA), which include insurance inspection companies, and when the consumer requests it, the CRA must disclose all information in their file, along with the source of the information. Any source of information that is used exclusively to prepare an investigative consumer report does not need to be disclosed.
Other requirements are that the CRA must identify all persons who obtained or requested a consumer report during the previous year, and the CRA is to provide consumer with a written summary of the consumer’s rights under the FCRA. In actual practice, this summary is given to the individual at time of application.
If the insurer makes an adverse underwriting decision based on information in a consumer report, the insurer must immediately notify the consumer of the underwriting decision and that the information in the consumer report affected this decision, including the name, address and telephone number of the CRA that provided the inspection report. The insurer must also notify the consumer that they have a right to get a free copy of the report from the CRA, and further, they have the right to dispute the accuracy of any information contained in the report.
If a consumer does dispute the accuracy or completeness of the report, the CRA must reinvestigate within 30 days of the request and record the new information, at no cost to the consumer. If the information previously obtained is shown to be inaccurate or if it cannot be substantiated, the data under question must be corrected or deleted. However, if the information does not resolve the situation, then the consumer has the right to file a report to be filed with the consumer report, up to 100 words, presenting the consumer’s side of the matter.
This act has been adopted in about 15 states and is long, detailed and complicated. It states, for example, an investigator may not pretend to be something that he is not in order to obtain information, excepting certain claim situations. It sets forth situations in which the insurer’s information must be given to the insured and mandates minimum standard format for disclosure authorization forms used by insurance companies and agents.
The act contains other stipulations regarding the insurer-agent-consumer relationship in regards to information provided to an insurance company by a consumer, and takes several steps in excess of those required by the FCRA. One particular item of interest is that an insurer may not base an adverse underwriting decision derived from an insurance support organization whose principal source of information is from the insurance industry, such as the Medical Information Bureau (MIB). This merely reinforces a long-standing practice of insurers not making underwriting decisions based solely on MIB (or similar organization) information, which all insurers agree to when they become members of the MIB.
Every state has anti-discriminatory laws which prohibit insurers from discriminating among those persons applying for insurance in areas such as premiums charged, policy terms, benefits provided among persons of same class, etc.
There is a multitude of laws regarding discrimination because of sex; the first important one was a U.S. Supreme Court decision in the 1983 Norris case, which prohibits the consideration of a person’s sex in determining employment-related retirement benefits. The Supreme Court found that the provisions of the Civil Rights Act supercede any actuarial considerations. However, for individual insurance this does not apply and presently only the state of Montana does not allow sex-distinct rating in this type of insurance.
The NAIC Model Regulation to Eliminate Unfair Sex Discrimination been adopted by a majority of states, which does not prohibit pricing of insurance based on sex, but it prohibits the denial of insurance coverage or benefits on the basis of sex or marital status. That seems to keep most everyone happy.
The NAIC Model Regulation on Unfair Discrimination in Life and Health Insurance on the Basis of Physical or Mental Impairment (talk about a “descriptive title!) prohibits any declination of coverage, or limitation of coverage, or difference in rates, that are based exclusively on physical or mental impairment unless the refusal, etc., is based upon “ sound actuarial principals” or is related to actual or reasonably expected experience. This is saying, in effect, that if it can be shown by actuarial means that there is a relationship between the physical or mental impairment and the classification assessed by the company, then the impairment may be used as a factor.
A similar Model Act, NAIC Model Regulation on Unfair Discrimination on the Basis of Blindness or Partial Blindness has also been widely adopted. This regulation protects the interests of those who are blind or partial blind by making it illegal to refuse coverage, to continue to insure, or placing a limit on benefits, amounts, or kind of coverage, or to charge a different rate, solely because of blindness or partial blindness. The cause of the blindness, however, may be considered as an underwriting factor.
During the 1980s there was a lot of political opposition to insurance companies using tests to determine the presence of AIDs antibodies in applicants for insurance, and in some areas, these tests could not be used for life or health insurance. Since that time, however, these laws have been found to be overly broad and repealed, or modified to include only medical expense insurance.
Some insurance companies had taken into consideration the sexual preferences of the applicant on the basis that the greatest majority of those persons who contracted AIDs were homosexual. The NAIC developed a bulletin on the subject which has been universally accepted, entitled Medical/Lifestyle Questions and Underwriting Guidelines which prohibit insurers from making inquiries into a person’s sexual orientation, or even making any such inquiries, in respect to life and health insurance underwriting.
This 1996 act is typically referred to as the “Portability Act” as its primary purpose was to increase access and portability of health care insurance. This act prohibits discrimination of insureds and dependents due to health conditions, places limitations on definitions of preexisting conditions and it guarantees the availability and renewability for certain specified employers in the small-group area.
HIPAA provides that preexisting conditions be reduced by length of time of previous coverage which includes coverage under a group or individual health plan, Medicare or Medicaid, and other government-type coverages. It also requires that those companies that offer insurance in the small (2 to 50 employees) group market accept every small employer group in the state (of the group that had applied for coverage).
There are other considerations too detailed to go into here, but as it affects Disability Income insurance, the Act makes no differential provisions between “health insurance” and Disability Income insurance, and since Disability Income insurance is, in effect, health insurance, the provisions of HIPAA affect Disability Income insurance.
Reinsurance is actually a subject onto itself, but for purposes of this text, it is considered as part of the underwriting process as it is the sharing of the risk between companies. It is defined as a form of insurance that insurance companies purchase for their own protection. The insurer (the reinsurer) reduces its possible maximum loss of either an individual risk (called Facultative reinsurance) or on a large number of risks (called Automatic reinsurance) by sending (ceding) a portion of its liability to another insurance company (the reinsurer).
Reinsurance enables an insurance company to
Nearly all, if not all, life insurance companies rely on reinsurance, both in the United States and world wide as reinsurance is truly the most international of all lines of insurance. It may be written either by professional insurers whose only business is reinsurance, or by the reinsurance department of large insurance companies.
The purpose of reinsurance is for a company to avoid having too large of a risk or concentration or risks, within the company. Reinsurers provide other services, such as underwriting assistance on difficult cases, providing a receptacle for the transfer of a block of business (standard or sub-standard), and other such services. Reinsurance is very important for agents as it allows the direct-writing insurance companies to provide competitive facilities and products through reinsurance, and it needs reinsurance in order to allow acceptance of the cases written by its agents, regardless of the size of the policy.
Health insurance relies heavily on reinsurers as reinsurers not only provide capacity for newly developed plans, but they also help insurers design and price these products. Disability Income insurance, in particularly, requires substantial liability and reinsurance is used to avoid financial difficulties caused by fluctuation in loss experience and in the company’s overall operating results.
Reinsurance is also used frequently for experimental coverages or for writing unusual lines when the company does not have a spread of risk necessary to validate actuarial projections.
There are two traditional plans of reinsurance on individual risks. proportional and nonproportional reinsurance arrangements.
Under proportional reinsurance, the insurer and the reinsurer both share the premiums and the claims on a given risk in a specified proportion, i.e., the reinsurer shares losses in the same proportion as it shares premium and policy amounts. It can be further divided into Facultative reinsurance and Automatic reinsurance.
CONSUMER APPLICATION
Acme Insurance Company wants to introduce a new Disability Income insurance policy that allows better coverage for those in the computer field at competitive rates. This plan is experimental inasmuch as no one else has such a specialized policy. Since it will be some time before they can write enough of this plan to meet actuarial loss projections, they enter into a reinsurance agreement with Ajax Reinsurance whereby 50% of each policy of this form that is written by Acme is reinsured by (ceded to) Ajax. Ajax will pay 50% of each claim and will receive 50% of the premium received by Acme, with allowances for first year commissions and administration expenses that Ajax will not have to pay.
This is a proportional (or quota share – see below)reinsurance agreement on a coinsurance basis.
Proportional reinsurance can be either quota share or surplus share reinsurance.
In this type of reinsurance, the insurer and the reinsurer share in a proportion of every risk underwritten in a specified category. The Consumer Application above is a quota-share reinsurance agreement, which in this case is also called a “coinsurance” agreement. This type of reinsurance can apply to a company’s entire block of health insurance, to a specific plan, or to specific benefits under one or more plans – it is quite flexible. If the plan is experimental, the insurer may want the reinsurer to participate in a larger amount of the risk.
In this type of reinsurance, the reinsurer assumes liability in excess of a predetermined amount (called “retention”). After the insurer keeps its share of the risk, the remainder is ceded to the reinsurer, so the reinsurer shares proportionately in the risk.
CONSUMER APPLICATION
Jerry takes out a Disability Income insurance policy for $4,000 a month from Mutual Health. Mutual Health has a retention on this Disability Income policy of $2,000 – i.e., they keep the first $2,000 of liability. Jerry becomes disabled, Mutual pays Jerry $4,000 per month and the reinsurer pays Mutual $2,000 as their reinsured share. On effect, this is a 50% surplus-share agreement.
Henry takes out the same Disability Income insurance policy with Mutual, but for $8,000 per month. Mutual keeps its retention of $2,000 and reinsures $6,000. In case of claim, Mutual would pay Henry $8,000 and the reinsurer would pay Mutual $6,000, or 75%.
NOTE: In these Consumer Applications it should be noted that the reinsurer pays its share of the loss directly to the insurance company.
F Legally, there is no relationship between an insured and a reinsurer. The agreement is only between the insurance company and the reinsurer.
A relatively small part of the health business of an insurer is reinsured, particularly Disability Income insurance, and the part that is reinsured consists mostly of large risks that are potentially less desirable for insurance. In these cases that involve greater adverse selection and/or moral hazard, the underwriters exercise greater care because the insurance company shares in each individual risk so in case of a claim, the insurance company would pay the maximum amount it “can afford.”
Nonproportional reinsurance is an arrangement in which a reinsurer makes payments to an insurer whose aggregate losses exceed a predetermined retention level. Excess of Loss Ratio reinsurance is a prime example of this type of reinsurance coverage.
Stop Loss reinsurance is a form of nonproportional reinsurance that protects the ceding company against an aggregate amount of claims over a period of time, in excess of a specified percentage of the earned premium income, and it does not cover individual claims. The reinsurer’s liability is limited to a stipulated percentage of the loss and/or a maximum dollar amount.
CONSUMER APPLICATION
Acme Insurance Company wants to introduce a new Disability Income insurance policy that allows better coverage for those in the computer field at competitive rates. This plan is experimental inasmuch as no one else has such a specialized policy. Since it will be some time before they can write enough of this plan to meet actuarial loss projections, they enter into a reinsurance agreement with Ajax Reinsurance. Ajax’s actuaries have determined that they can manage losses and expenses under this policy, provided that the claims on this block of business do not exceed $3 million. Therefore, the reinsurance agreement covers any claim losses on this particular plan in excess of $3 million. The agreement (called reinsurance “treaty”) calls for Acme to participate in the agreement by paying a specified number of months of disability before the reinsurance kicks in.
Extended elimination reinsurance is where the extended wait period extends beyond the elimination period found in the policy. The extended-wait can be 1,2,3,5 or 10 years (infrequent) before the reinsurer becomes liable for payment to the insurer. After the elimination period, the percentage of the claim can be any agreed-upon amount, usually in the 70 to 80 percent ranges. This reinsurance covers total disability benefits only and does not cover any other benefit of the policy (such as partial disability). It is common practice to combine the extended elimination reinsurance with surplus-share reinsurance.
STUDY QUESTIONS
1. As a result of underwriting, which of the following actions does an insurance company not perform?
A. reject an application and return the premium.
B. accept the application at standard rates and on a standard policy form.
C. accept the application on a higher premium policy form.
D. refuse to issue and return only part of the premium.
2. If an applicant for Disability Income insurance has recently had an inguinal hernia repaired, and that is the only health history, what will the underwriter usually do.
A. Reject the application.
B. Issue a similar policy at much higher premiums.
C. Accept the application but impose a longer elimination period.
D. Issue the application as filed but reinsure the entire policy.
3. The Fair Credit Reporting Act affects
A. the wording of Disability Income insurance policies.
B. the distribution of annual statements of an insurance company.
C. the issuance of credit cards to insureds.
D. the gathering of information on applicants for insurance.
4. The NAIC Model Privacy Act would
A. stop an insurance investigator from representing something that he is not in all information gathering situations.
B. stop an investigator from representing something that he is not, except in claims situations.
C. would allow a credit or insurance reporting agency to refuse to reveal its sources of information.
D. force insurance agents to reveal their commissions to insurance applicants.
5. Anti-discrimination laws do NOT address
A. unfair sexual discrimination.
B. unaffordable premiums.
C. physical or mental impairments.
D. AIDS or sexual preference.
6. The Health Insurance Portability and Accountability Act (HIPAA) does NOT
A. dictate maximum commissions to be paid on health insurance policies.
B. increase access and portability of health care insurance.
C. places limitations on definitions of preexisting conditions.
D. prohibits discrimination of insureds.
7. Reinsurance is important to an insurance company, but it does NOT
A. allow an insurance company to expand its capacity.
B. stabilize its underwriting results.
C. deal directly with the insured at time of claim.
D. secure catastrophic protection against shock losses.
8. The NAIC Model Regulation on “Unfair Discrimination on the Basis of Blindness or Partial Blindness” does NOT
A. make it illegal to refuse coverage solely on the basis of blindness of the applicant.
B. allow the cause of blindness to be used as an underwriting factor.
C. allow the placing of a limit on benefits, amounts of kind of coverage because of blindness of the applicant.
D. make it illegal to charge another rate solely because of blindness or partial blindness.
9. The NAIC Medical/Lifestyle Questions and Underwriting Guidelines prohibits insurers
A. from making inquiries into a person’s sexual orientation.
B. from ordering inspection reports on applicants.
C. from limiting coverage or declining coverage on Alzheimer’s patients.
D. from increasing premiums on substandard applications.
10. Health insurance relies heavily upon the services of a reinsurer because not only does the reinsurer provide capacity for newly developed plans,
A. they also perform all claims functions directly with the insured.
B. but if a company is reinsured, they do not have to get their policies approved by the state insurance departments.
C. they also help the insurers design and price these new products.
D. the insured will automatically get their premiums reduced.
ANSWERS TO STUDY QUESTIONS
1D 2C 3D 4B 5B 6A 7C 8B 9A 10C