Insurance Basic Terms
- Loss Runs – Information used to compare insurance rates and premiums. Provided by insurer to insured.
- Risk - (Uncertainty or chance of loss)
o Pure - No way for gain – Can be insured (Fire, Wind, and Hail)
o Speculative – May result in gain (Gambling) -Can not be insured
- Peril – Specific Cause of a loss
- Hazard – make loss more likely to occur
- Moral – Active action (Arson)
- Morale – Passive/ Indifferent (Leaving candle lit when leaving)
- Physical hazard – physical condition that increases the likelihood of loss.
Types of Insurance companies/ Methods of Handling Risk:
- Transfer – Purchasing insurance to cover losses
- Avoidance – Don’t participate in activities that may result in a loss
- Reduction – Helmet while biking
- Retention – (Corporation or LLC) Maintain responsibility for loss (pay for losses) also known as deductibles – Saving a ton of money to cover losses
- Loss Control – Reduce likelihood of risk
- Syndicates (Lloyds of London)- group of companies or underwriters who join together to insure very high-valued property or high-hazard liability exposures.
Ideally Insurable:
- Similar units – so we can compare rates
- Losses must be calculable
- The premium must be affordable
- The loss must be measurable
- The loss must cause financial hardship
- NO Catastrophic Perils – War, terrorism, Nuclear.
Law of large numbers – The larger the number the more accurate an insurer can predict losses. Increase in predictability of the loss when the number of similar units of risk increase. Does not predict individual losses
Adverse selection – People who are more likely to file claims seek out insurance (insurers charge more for these people)
Reinsurance – Insurers buying insurance on their risks
Treaty reinsurance – Treaty reinsurance is a type of insurance agreement between an insurance company and a reinsurer, where the reinsurer agrees to take on some of the ceding company's risks in exchange for a premium.
Facultative reinsurance - Facultative reinsurance is a type of reinsurance agreement where an insurer, also known as the ceding company, purchases coverage for a single risk or a group of risks from a reinsurer. Stuff like famous Athletes, movie Stars, huge events, etc.
Residual Markets – Markets where “last resort” companies cover when most companies won’t (very expensive)
TYPES OF INSURERS
- Stock Insurance Company – Owned by stockholders
- Mutual Insurance Company – Owned by policy holders
- Fraternal Insurers – Primarily social organizations offering insurance (lodge, order, society, etc)
- Reciprocal Insurance Company – Is an unincorporated company. A large number of persons pooling resources to share in a loss / Risk distribution / Managed by attorney-in-fact
- Subscribers assume part of the risk
- Indemnify each other’s risks
- Pro Rata sharing of risks
- If funds are insufficient Subscribers have to kick in
- Managed by an attorney in fact
- Risk Retention Group – Corporation or limited liability group managed by an Attorney, assume and spread liability exposures of its group members. Limited to risks with similar liability exposures, such as theme parks, go-kart tracks, or water slides. Group and assumes risk. May not join or contribute to any insolvency guarantee fund (LLRA – limited liability risk retention act)
- Risk purchasing Group – does not assume liability (they buy insurance to cover risks)
- Self-Funding groups – Assume all liability
- Reinsurance – Insurance against Catastrophic loss
INSURER DOMICILE:
- Domestic – Organized under California Law
- Foreign – Not organized under California Law
- Alien – Organized/ Incorporated under the laws of any jurisdiction outside the united states
- Admitted Insurer (Principle) – Insurer authorized to transact business in a particular state by that state’s department or division of insurance. An insurer who has a certificate of authority to transact business is an admitted insurer
- Insurer Admittance – Authorized in California through California Department of Insurance (CDI)
- Excess and Surplus Insurance – when no one in your market will insure you then you can access these outside markets
Management and Operating Divisions:
- Sales
- Actuarial Department – Provides data/Gathers and interprets statistical information used to determine rates used by the insurer. Determines the probability of loss and sets the premium rates accordingly.
- Claims
- Underwriting – Select which insureds they want to provide coverage for
o Protect insurer against adverse selection
o Determines acceptable risks
- Insurer underwriting and Rate Making
o Underwriter selects risks
- Underwriting Factors:
o Nature of the risk
o What hazards are present
o Claim history
o Factors that may affect risk
o All other contributors to the possible risks of writing the policy
- Rate – is the dollar amount charged for a particular unit of insurance, is used to determine the total cost of insurance, known as the premium. Loss reserve is an estimate of an amount an insurer will pay for a claim.
Ex. Rate calculated as $1 per $100 of exposed property. If there is $1000 of exposed property then the rate will be $10.
RATING METHODS:
Judgement methods – Based on underwriter’s judgement and experience, on an individual basis.
Manual Rating – rates contained in a rating manual published by the insurer or in rating manuals. Based on how the applicant fits into a certain class of insureds who have similar exposures.
Merit rating – Uses a manual rating system’s base rate for different classes of insured, then factors in applicant-specific information not included in the base rate.
Loss Cost Rating – Used on risks for which the insurer may not have enough data to provide a rate (Will use a rate provided by a rating organization and factor in the expense and profit projections, which they are able to calculate).
Tabular Method - The tabular value reserve method is a life insurance reserving method that uses a mortality table or expected disability to indicate the reserve that applies to the rating of specific insureds
RATE APPROVAL:
File and Use – Must be submitted to the govt
Use and File – Can be changed immediately but must be filed in a specific amount of time
Prior approval – Requires approval from Dept of insurance (If an insurer submits rate change and no disapproval is issued within 60 days the rate is approved)
Open Competition – rates not regulated by the state and no filing required
California uses a Prior Approval
Financial Ratios: Tools used to measure an insurance company’s profitability.
Loss ratio – Profitability Regarding paid claims. Takes the sum of the paid claims and loss adjustment expenses (verifying claims/ investigations) and divide that number by the total of the premiums
Expense ratios – Operating expenses
Combined Ratio – Measurement of how much money the insurance company loses and indicates how well the policies are underwritten
RESERVES:
Loss reserves – estimation of possible payments owed in future claims
Statutory reserves – money required to hold to guarantee insurer has adequate liquidity to pay all claims made by policy holders
INSURER MARKETING AND DISTRIBUTION
Marketing and Distribution Models:
Independent – On their own and owns book
Exclusive – Farmers, State Farm, etc (Agent leaves book)
Broker – Intermediary and earns commission on “purchasers” behalf, not the agent. Must have Broker Service Contract to receive any compensation or fees for services to be provided.
Direct Response – No agent (direct mail, newpaper, internet, etc)
Online Direct –
INSURANCE AGENTS AND PRODUCERS
Law of agency – Defines the relationship between principal (insurance company) and agent(producer)
Fiduciary Duty – Any person who is responsible for the funds in a trust capacity (Funds received by client that must be maintained in a trust account, at a bank or depository in any state in the united states)
Premium Offsets – If insured is due a refund that amount must either offset future premiums or be paid to insured.
AGENT’S AUTHORITY
Express – Written into the contract
Implied – Not specifically stated in the contract (incidental duties), but is reasonable
Apparent – When an insurer does not act to stop an agent from exceeding contractual authority
Agents responsibility – Have responsibility to serve the best interest of the insurer and applicant
Suspense/Diary system – Agent must keep up with applicants responsibility (ie premiums)
Lost policy release – form releases insurer from all liability
Insurance broker responsibility – owe the most responsibility to applicants/consumers
TYPES OF LICENSES
Insurance broker Agent – Agent representing Insurer
Surplus and Special Lines Agent – Agent for non-admitted insurer
Insurance Solicitor – Works for only one agent and sells property and casualty insurance BUT NOT life, disability, and health
Personal lines licensee - Sell automobile, residential, inland marine, Umbrella, or liability insurance
Limited line agent – sells auto insurance
Insurance adjuster – Investigates claims and works for Insurance Company
Public Adjuster – negotiates or obtains claims for loss or damage under any real or personal claim. Work for the insurance policyholder and are paid a percentage of the insurance settlement amount, usually between 2% and 25%.
Transacting Insurance –
Solicitation
Negotiations
Execution
Insurance regulation – Regulated on the state level and prevents over regulation (McCarran-Ferguson Act of 1945)
NAIC (National Association of Insurance Commissioners) – The National Association of Insurance Commissioners is the U.S. standard-setting and regulatory support organization created and governed by the chief insurance regulators from the 50 states No legal authority
ISO (Insurance Services Office) – provides data , information, and tools for Insurers
ACORD (Association for Cooperative Operations Research and Development) – develops standards for data acquisition use, and develops reusable insurance industry documents like certificates of insurance