Risk and loss, quiz 1, and overview

Agent's report

Includes information about the client that would be useful to the underwriter: written from the agent's perspective.

Moral hazards.

Moral hazards are an individual's traits or habits that increase the chance of a loss. Alcoholism, smoking, and drug addiction are examples of moral hazards. A willingness to defraud insurers is considered a moral hazard for which insurers remain alert.

beneficiary

The person or persons designated to receive benefits from an insurance policy or annuity.

Peril and Hazard

The related terms hazard and peril are sometimes used interchangeably, but they are not the same

Risk Transfer

an individual or business transfers the risk of loss to an insurance company in return for a premium. -transferring the loss to a third party—is the basis for most forms of insurance today. Through risk transfer an individual or business transfers the risk of loss to an insurance company in exchange for the payment of a premium. For a nominal premium the insurance company promises peace of mind: Should a covered loss occur, the insurer will compensate the insured for the value of the covered loss.

Exposure (called loss exposure)

the state of being subject to a possible loss. --The extent of loss exposure facing an insurer has a direct bearing on the premium it charges. - For example, a coal miner is generally exposed to a greater risk of death than an accountant. Thus, life and health insurers would charge a higher premium to provide insurance protection to a coal miner than an accountant. -Premium: The charge to the policy owner for the risk insurance contract covers. The greater the risk, the higher the premium.

Ways to Manage Risk

- Transfer (insurance) Risk -Avoid Risk -Retain Risk (do nothing) -reduce risk -share risk with a group of people

Next: Risk and Loss

-Risk: The chance of loss. -Loss: An unwelcome and unplanned reduction in economic value.

Risk

-The chance of loss. -Two types --Pure risk --Speculative risk

Risk Management techniques

-avoiding the risk; -reducing the risk; -retaining the risk; -sharing the risk; and -transferring the risk.

Peril

A condition that involves danger or risk and is cause of a loss- immediate cause of loss. -Examples: --death, disability, accidental injuries and sickness. Every insurance policy defines, and is defined by, its covered peril(s).

Risk Managment

How we deal with risk- The chance of loss. -Several Important factors that are key to understanding insurance: --risk --loss --exposure --peril --hazard

Risk Reduction

If entirely avoiding a particular risk is impractical, it may be possible to reduce it. Taking measures to reduce a certain risk; reducing a risk doesn't remove the possibility of suffering a financial loss. -- Exercising regularly, avoiding poor health habits, and keeping a balanced diet can reduce the risk of many illnesses, including heart disease and cancer.

Overview:

Life is uncertain. Unexpected property damage or loss, illness, or death can easily result in serious financial hardships -Key Point: --Through insurance, an individual or group transfers the financial risk associated with potential loss to an insurance company.

Morale hazards.

Morale hazards are also individual tendencies, but they arise from a state of mind, attitude, or indifference to loss. Driving recklessly is an example of a morale hazard. In fact, doing anything recklessly because "I have insurance for that" demonstrates a morale hazard.

Risk Sharing

One of the oldest ways to manage risks; similar to buying insurance in that a part of the risk is transferred to others. -people who share a common risk band together and promise to "chip in" and compensate a member of the group who suffers a covered loss. The custom of risk sharing made sense for small groups facing relatively modest losses, but it is difficult to achieve in larger groups.

Risk Avoidance

One way to manage a risk is to avoid it. Though it would be impractical to try and avoid all of life's risks. Good for dangerous (avoidable) risks. -For example, refusing to operate a vehicle after drinking alcoholic beverages or taking drugs is a practical way to avoid injury, death, and property damage that may result from driving while under the influence of alcohol or narcotics.

Physical hazards

Physical hazards are individual physical characteristics that increase the chance of loss. They exist due to a person's physical condition as opposed to arising from his or her character. High cholesterol is an example of a physical hazard. As a means of identifying physical hazards, an insurer may require that a life insurance applicant submit to basic medical laboratory tests as part of the application process

Pure Risk

involves only the chance of a loss, and no gain, to the person assuming the risk. Pure risk includes: -untimely death -serious illness or disability of a person Only pure risk is insurable (though not every pure risk is insurable).

Speculative Risk

which is uninsurable, can result in loss or gain. -Examples of speculative risk include gambling and investing in the stock market.

Insurance

-was created as a practical means to reduce the financial impact of an unexpected loss. - Through insurance, an individual or group transfers the financial risk associated with potential loss to an insurance company. The insurance company, in turn, agrees to pay out a stated amount if specified losses occur.

Hazard

- a condition that increases the number of or the severity of losses. or is a condition that raises the chance of encountering a peril or increases the severity of a loss. --For example, insufficient light in a high-crime commercial area is a hazard. Potholes along a busy highway are considered road hazards. Similarly, cigarette smoking, poor diet, and excessive alcohol consumption are health hazards that increase the likelihood of illness or early death.

Law of Large Numbers

-A method of predicting future losses with great accuracy. It's based on the principle that the greater the number of incidents of a random process, the more the expected number of incidents and the actual numbers of incidents tend to become the same. It is the mathematical principle on which insurance rests. --Insurance is largely based on statistics, probabilities, odds, and averages.

Underwriting

The process that determines if the risk proposed for insurance should be accepted or rejected. seeks to determine if the applicant represents an insurable risk. -Underwriters use the application, agent's report, and other data to determine if an applicant is insurable.

Annuities

-A cash contract between a person (the annuity owner) and a life insurance company (the annuity issuer. The annuity is set up to accumulate and/or distribute a sum of money. --annuities are important products that provide a guaranteed stream of lifetime income, thus making them popular retirement planning products.

Property and casualty insurance

-covers damage to or loss of property, such as a home or automobile, by compensating the insured for the amount of the loss or by providing a specific sum of money according to the terms of the insurance policy.

Risk Retention

is simply the acceptance of risk and dealing with it through the use of personal funds should a loss occur. If the financial loss is small and the risk is remote, risk retention makes sense. However, if the potential loss is great or the risk is high, risk retention may lead to financial disaster. Do nothing. The use of deductibles in health and property insurance is a risk retention device. Through the deductible people retain the financial consequence of small losses, leaving the insurance to cover the larger ones. --Deductible- A stated sum of money that the insured must pay before any major medical policy benefits are paid.

Keypoints: Risks and loses

-Risk means the "chance of loss." -Only pure risk is insurable. -A loss is an unplanned reduction in economic value. -A peril is the event that insurance protects against. -A hazard is a condition that raises the chance of encountering a peril or increases the severity of a loss. -The use of deductibles in health and property insurance is a risk retention device. -Risk transfer—transferring the loss to a third party—is the basis for most forms of insurance today. -Through the underwriting process, insurance company underwriters determine if the risk proposed for insurance should be accepted or rejected. -The law of large numbers is the mathematical principle of probability that insurance is based on. -Mortality tables are used in determining life insurance premiums, while -morbidity tables are the basis of health insurance premiums

Insurable Risk

-an applicant is an insurable risk to the insurer if he or she meets certain criteria for insurability; if these criteria are met, then the applicant is insurable. Need to be a pure risk (they strictly relate to financial loss) but not all pure risk are insured. -risk must meet this criteria: -- is definable (define time, place, and location) --Is measurable (the financial setback of the loss; value of loss must be definite) -- results from a peril, out of the insured's control or accidental (Only losses that are due to chance are insurable. Even though it is inevitable, death is an insurable risk because of the uncertainty as to when it occurs) --is part of a large group of similar (or homogeneous) risks (ins. company can use to predict future loss.) --cannot be catastrophic (Insurance companies do not cover war or associated perils that might stem from disagreements between countries.) --cannot be one of stated exclusions by insurer

Health insurance

-lessens the financial impact of an insured's illness or disability by transferring the financial risk to a health insurance company. --The health insurance company agrees to provide the insured with specified benefits, such as reimbursing medical expenses for an illness or replacing lost income due to a disability.

Life insurance

-transfers to a life insurance company the risk of financial loss resulting from the death of an insured person. -- The life insurance company guarantees to pay a specified amount of money to a beneficiary when the insured dies. Most courses of study, including this, include annuities in its general discussion of life insurance. There is a practical reason for this: Most states include annuities in their life insurance license (and life insurance exam).

Actuaries

Insurance company mathematicians (use law of large numbers and risk data) who determine the likelihood of death (morality) or serious illness (morbidity) for males and females at any given age. The mortality and morbidity tables they create are then used by insurance company underwriters to determine premium rates for each policy applicant. Mortality tables are used in determining life insurance premiums, while morbidity tables are the basis of health insurance premiums. Morality= the rate of death in the target population: it is a significant factor in calculating life insurance premiums. Morbidity= Used by insurers in pricing health insurance policies. Morbidity rates indicate the average number of persons at various ages who can be expected to become disabled because of sickness or accident. Morbidity rates also include how long a disability is expected to last.

Insurance Regulation

Insurance is regulated primarily at the state level. Every state has an agency generally called the *insurance department* that is responsible for regulating insurance companies domiciled in that state as well as all producers licensed in the state and all insurance transactions occurring in the state. The state's insurance head is generally known as the *insurance commissioner* (also called the *insurance director* in some states). While it is primarily regulated at the state level, the insurance industry is also influenced by federal regulations. Federal laws that have a direct bearing on insurance include the following (which are discussed elsewhere in this course): -Fair Credit Reporting Act (FCRA) -Employee Retirement Income Security Act (ERISA) -Consolidated Budget Reconciliation Act (COBRA) -Health Insurance Portability and Accountability Act (HIPAA) -Patient Protection and Affordable Care Act (PPACA)

Exposure Units

Insurers assign values to risks of all types through the use of exposure units. In turn, exposure units are the basis for each applicant's premium. --For example, a life insurer will assign more exposure units to an applicant who is a coal miner than one who is an accountant. This translates into a higher premium for the coal miner.

Adverse Selection

The tendency of person to buy and keep insurance if they perceive themselves to be at greater risk of loss is called adverse selection

Regulatory Associations

With every state regulating the insurance business within its borders, it's easy to see how complicated it could be for insurance companies (and producers) doing business in multiple states. Fortunately, there are several regulatory associations that work to promote uniformity among the states. Most notable are: -The National Association of Insurance Commissioners (NAIC), represents the insurance department of every state, the District of Columbia, and several U.S. territories. The NAIC meets regularly to review developing insurance issues and to promote uniformity by developing model insurance regulations. While the individual states are not required to adopt NAIC model regulations, most do adopt them in some form. -The National Conference of Insurance Legislators (NCOIL) is comprised of state legislators from every state. The NCOIL works to help state legislators make informed decisions on insurance issues that affect their constituents. NCOIL works in tandem with the NAIC to help state legislators understand the importance of NAIC model regulations. It is also important to note that variable life insurance and variable annuities are regulated primarily by the *Financial Industry Regulatory Authority (FINRA)*, which is a private corporation that acts as a self-regulatory organization (SRO) overseeing the business of securities brokerage firms (including those selling variable insurance products) and exchange markets.

Loss

an unwunplanned reduction in economic value. -An insurable loss can be either direct or indirect. --A direct loss is an immediate result of an event involving an insured peril. --An indirect loss is more remote but may still be considered an insured loss. -For example, the death of a family breadwinner is a direct loss under a life insurance policy. The loss of the decedent's income is an indirect loss resulting from the direct loss of the insured's life.