RMI 4292 Exam 2

Insurer Goals: Comply with Legal Requirements

-Some states require insurers to provide a minimum level of risk control service to commercial insurers. -Most often applies to worker compensation insurance -to be apart of the regulatory body of insurance you must have adequate premium auditing practices

Types of Loss Exposures Insured

-The risk control services an insurer provides depend to some degree on the types of loss exposures the insurer is willing to cover. -An insurer that covers large and complex industrial firms needs skilled personnel and sophisticated equipment to meet the risk control requirement of such firms

Risk control Info: Underwriting

-Underwriting looks at these inspection reports to see what rate to charge -Provides info to underwriters that enables them to make better underwriting decisions -Info consists primarily of field inspection reports and operations of new applicants and existing insureds renewing policies

SAP Valuations

-Valuation of Surplus (accounting method least likely to overstate assets and understate liabilities) -Valuation of Net Income/Earnings (accting method least likely to overstate revenues and understate expenses) understates assets, overstates liabilities, understates revenues, and overstates expenses to be the most conservative view of the company's financial health

Importance of Premium Accuracy for insurer: Goodwill

-When insureds are informed of errors in the premium audit, the insurer's image suffers. - Insureds could lose confidence in the insurer's competence and might consider switching to another insurer

Rates must be

-adequate -not excessive -not unfairly discriminatory

SAP Liabilities

1. Major Liabilities -reserves for losses (the reserves is a huge number for firms who write professional liability/medical malpractice) -loss adjustment expenses 2. Statutory Reserving -auto liability -products liability -medical malpractice -workers comp

Rate components

1. Prospective loss costs - amnt needed to pay future claims and loss adjustment expenses 2. Expense provision - amnt needed to pay future expenses, such as acquisition expenses, overhead and premium taxes. 3. Profit and contingencies factor- amnt for profit and contingencies

Prepaid Expenses

1. SAP -prepaid expenses are recognized as expenses in the period in which they are incurred -there is no prepaid expense account on the balance sheet since the recognition of the expenses is not deferred 2. GAAP -prepaid expenses appear as an asset and are amortized over the period during which the revenues are earned

Treatment of Admitted vs. Non-admitted Assets

1. SAP recognizes as assets only those resources that are: -Liquid (easily convertible to cash) -Market Value (certainty of value) 2. GAAP recognizes as assets any resources that have measurable value and are expected to benefit future periods.

Actuary Services

1. price tag on risk 2. evaluate financial consequences of future events 3. use mathematical models and statistical techniques to develop rates

Types of admitted assets

1. Invested assets (yield a return) -cash and equivalents -stocks/bonds -mortgages/real estate 2. Nonearning Assets (dont yield a return) -agents balances/uncollected premiums -funds with/owed by reinsurers - federal taxes recoverable

Claims Contributions

-Claims info can be valuable to premium auditing in the verification of employment classifications -Provides an even more valuable contribution by verifying or correcting the classification codes assigned to an insured's claims

Risk Control Services: safety management

-Development of safety management programs is often coordinated by senior risk control staff, who generally have the advanced technical and communication skills needed for more in depth consultation work -weekly surveys to make sure the property and vehicles of the company are safe and adequate

Insurer Goals

-Earn a profit -Meet customer needs -comply w legal requirements -fulfill duty to society

Risk Control Contribution

-Has an interest in the premium auditor's observations -Can contribute info about unsafe procedures or working conditions, observations of insured's vehicles, and any hazards that provide opportunities for further risk control investigation and recommendations.

Marketing and Sales Contributions

-Important that premium audits be conducted in a timely manner -A delay of return premium due to an insured could adversely affect the insurer's future marketing efforts

Importance of Premium Accuracy for insurer: Efficiency

-In addition to the extra work required to replace lost business, incorrect or incomplete audits can cause extra work for several insurer departments -Redoing the audit drains the resources of the premium audit department

Premium Auditing Reasons: Deter and detect fraud

-Insureds are less likely to submit false or misleading info to an insurer when they know the info might be checked and independently verified by a premium auditor

Insurer Goals: Fulfill duty to Society

-Insurers benefit society by providing financial resources to help individuals and businesses recover from accidental loss -society benefits from risk control because the if the frequency and severity of losses go down the world in general is safer

Potential Legal Liability

-Making recommendations to existing insureds is an important risk management tool for insurers -The threat of being named in a lawsuit for negligence in providing risk control services may lead some insurers to choose not to offer risk control services

Premium Auditing Reasons: Reinforce confidence of insureds

-Most insureds want to deal fairly with insurers and to be dealt with fairly by insurers -Competent premium audits can contribute to insureds' confidence that they are receiving fair treatment

Premium Auditing Process: Reporting the Findings

-No premium audit is complete until the results are submitted -The premium related data should be recorded and the billing info clearly summarized so that the audit can be process and billed immediately -In addition, premium auditors must show in their reports how they obtained the data to enable others to retrace their audit steps

Premium Auditing Reasons: Obtain additional info

-Premium audit might generate additional underwriting info about the insured, such as an incorrect classification or a new loss exposure that the underwriter had not previously identified. -Also identify named insureds on the policy to make sure all exposures from additional entities are included in the exposure

Underwriting Contributions

-Premium auditing contributes most directly to underwriting -Reports constitute a valuable source of info for underwriters, and effective cooperation between underwriters and premium auditors is essential to ensuring that existing accounts remain profitable

Premium Auditing Process: Finding/Evaluating books & records

-Premium auditors can examine all books or records of the insured related to insurance premiums -Auditors must decide, however, which records provide the necessary info most efficiently and reliably -Must evaluate the accounting system to determine record accuracy and to identify any alternative sources to confirm data

Insurer Goals: Meet Customer Needs

-Risk control makes sure the client is safer, and premium auditing makes sure they pay the correct premium -risk control keeps the customer safer and can qualify customer for lower prices

Risk Control Services: risk analysis and improvements

-analyze the customer's loss history (risk analysis) and submit written recommendations (improvements) to the business owner or manager about how to reduce hazards that have led to previous losses -makes sure certain practices for the business are up to safety standards and if not then the company will not quote them

Ideal characteristics of rates

-be stable -be responsive -provide for contingencies -promote risk control -reflect differences in risk exposure *Very difficult to do, sometimes conflict w eachother

Reasons for Premium Auditing

-determine correct premiums, -collect ratemaking data, -meet regulatory requirements, -deter and detect fraud, -reinforce confidence of insureds, and -obtain additional information

Risk Control Services: physical surveys/inspections

-inspectors go out and measure the risk on site and they make recommendations to make the premises safer -Inspections can be pre or post inception day; insurance company will go out and inspect the business and see if they how they are doing and determine if they need to give them more coverage or not

A property casualty insurer performs two distinct operations

-insurance operations and investment operations

Factors Affecting Services Levels (factors of determining how much risk control servicing is needed on an account)

-line/type of insurance - Commercial insured's size -types of loss exposures insured, and -how much legal liability is involved

Services provided by insurers

-physical surveys/inspections -risk analysis and improvement -safety management programs

Premium Auditing Process

-planning, -reviewing operations, -determining employment relationships, -finding/evaluating records and books -actual audit -analyzing this information, and -reporting

What is an actuary

-professionals that evaluate the financial consequences of future events -use mathematical methods to analyze loss data and develop insurance rates -make sure rates are stable, responsive, etc. -when you submit SAP statement they have to be signed by them

Insurance Regulation

-protect against insolvency -ensure fair and adequate rates -promote fairness and equity in markets -meet other non-financial goals -SAP is conservative accounting

Actuary Functions

-ratemaking -estimation of unpaid liabilities and adequacy of loss reserves

Financial Performance: GAAP

-return on equity -net income/owners equity average

Financial Performance: SAP

-return on net worth -net income/policyholder surplus average

Risk Control Info: Premium Auditing

-to double check that every charge is adequate for the risk thus they need the inspection information -Premium auditors often visit the insured after the point at which record keeping deficiency resulting from the insured's lack of knowledge or misunderstanding can be corrected

Cooperation between risk control and other functions

-underwriting -marketing and sales -premium auditing -claims -producers/agents

Premium auditing: Contributions

-underwriting -marketing and sales -claims -risk control

Risk control Info: Marketing and sales

-uses this information to show how safe we are compared to our competitors -Evaluating an applicant's premises and operations, interviewing management staff, and evaluating the nature of historical losses, risk control reps can help determine if an applicants current risk controls are acceptable or if there are ways to improve

Non-earning Asset Valuation

1. Agents Balances/uncollected premiums - amnt due (if less than 90 days overdue) 2. Funds Deposited w/ Reinsurers - amnt deposited 3. Reinsurance recoverable - amnt due (if solvent) 4. Federal Taxes Recoverable - amnt due

Asset Valuation

1. Cash - face value 2. Stocks- current market price (not their acquisition price) 3. Bonds- amortized cost (price paid adj to current value) 4. Mortgages- amnt of unpaid loan balance 5. Real Estate- Cost less depreciation (aka book value) *prepaid expresses cannot be amortized to future years, have to be paid up front

2 Accounting Systems

1. GAAP -Generally Accepted Accounting Principles -standard accounting -ongoing value 2. SAP -Statutory Accounting principles -accounting for insurance regulations -liquidated value

Going Concern vs. Liquidation Accounting

1. Going concern is what the company is worth during healthy operation -operating and on-going -generation of cash flow -focus on operating results not value 2. liquidation value is the value of assets if the company was under a forced sale and is worried about the financial position of the company -regulatory concerns -focus on measuring financial condition

Morale Hazard

A condition of carelessness or indifference that influences the condition or severity of the loss

Moral Hazard

A condition that increases the likelihood that a person will intentionally cause or exagerate loss

Premium Pay

A payroll system that increases the regular hourly wage rte for the night shift or other special conditions

Importance of Premium Accuracy for insurer: Financial Position

A prompt and accurate premium audit can benefit the insurer's financial position in three ways: -Accurate classification of loss exposures is important to ensure equitable and accurate insurance rates -Timely premium audits directly affect an insurer's cash flow management -Premium that has been developed by audit is fully earned and has immediate effect on profit and policyholder's surplus

Experience Modification

A rate multiplier derived from the experience rating computaion

Premium Auditing Process: Determining Employment Relationships

After analyzing the insureds' operations, premium auditors must determine those employees covered by the types of insurance for which premiums are based on payroll

Premium Auditing Reasons: Meet regulatory requirements

Although requirements vary by state, premium audits are often required to meet workers compensation insurance regulations

Test Audit

An audit conducted by an inurance advisory organization or bureau to check the accuracy of insurers premium audits

Line of insurance

An insurer that writes only personal insurance is unlikely to provide extensive risk control services

Stock holder's equity

Assets - Liabilities on the GAAP Balance Sheet

Policy holder surplus

Assets - Liabilities on the SAP Balance sheet

Premium Auditing Process: Planning

Because insurers cannot afford the expense of auditing ever auditable policy every year, they must plan and decide which policies to audit

Premium Auditing Process: Review Operations

Before they look at the books, skilled premium auditors determine the nature of the operations insured; observe the nature of the operation and compare it to similar businesses, looking for classifications that might not be shown on the policy; assess management quality and cooperation to determine how to proceed with the audit; and report any significant info to the underwriting department

Importance of Premium Accuracy for insurer: Collections

Insureds are less likely to pay premium bills they suspect to be incorrect

Importance of Premium Accuracy for Insured

If audit errors slip past insurers and insureds undetected, insureds may end up paying the wrong premium for their insurance

Premium Auditing Reasons: Collect Ratemaking data

Insurance advisory organizations collect rate making data and, in most cases, project the costs of future losses, or loss costs

Unallocated loss adjustment expense

Loss adjustment expense that cannot be readily associated with a specific claim.

Premium Auditing Process: Analyzing and evaluating

Once premium auditors have obtained the necessary data for calculating the premium, they must decide whether the data are reasonable

Importance of premium audits for insurnace rates

Premium audits affect the equity and accuracy of rates in two ways: -Consistency and accuracy of classification determinations -Measurement of the exposure unit base

Risk Control Info: Producers/Agents

Producers encouraged the insured's risk control activities and coordinated the efforts of the insurer's risk control representatives with the insured

Premium Auditing Reasons: Determine Correct Premiums

The insurer bears a responsibility to determine the premium correctly

Commercial Insured Sized

The large premiums generated by commercial insureds and the increased values at risk often make it economically feasible to provide such insureds with risk control services

Deposit Premium

The amount the primary insurer pays the reinsurer pending the determination of the actual reinsurance premium owed

Actual Audit

The auditor's job involves not only counting the loss exposures but also classifying them correctly

Pure premium

The average amount of money an insurer must charge per exposure unit in order to be able to cover the total anticipated losses for that line of business

Loss adjustment expense

The expense that an insurer incurs to investigate, defend, and settle claims according to the terms specified in the insurance policy

Premium

The price of the insurance coverage provided for a specified period -once rate is calculated, its multiplied by # of exposure units to produce this

Rate

The price per exposure unit for insurance coverage -basis for the premium charged by an insurer

Ratemaking

The process insurers use to calculate insurance rates which are a premium component

Number one ratemaking goal

be competitive while earning a profit

Risk Control Info: Claims

The risk control department needs claim experience information to direct risk control resources and efforts to crucial areas

Exposure unit

The unit of measure used to determine an insurance policy premium. (For example, area, gross, receipts, payroll)

Importance of Premium Accuracy for insurer: Customer Retention

Undetected premium audit errors can cause some insureds that are over charged to switch to another insurer to obtain coverage at a lower premium

earned exposure unit

the exposure unit for which the insurer has provided a full period of coverage. measured in years typically

expense provision

amount added to the pure premium required to pay expenses, sometimes known as underwriting expenses

Rates mainly change

annually

Allocated loss adjustment expense

expense an insurer incurs to investigate, defend, and settle claims that ate associated with a specific claim.

Actuaries look at

future cash flows stress tests- due to financial collapse, investment banks use models- what if scenarios

Investment income is

ignored in ratemaking

Characteristics of SAP accounting

measures the liquidated value and shows the most conservative representation of the company's assets (what we use for insurance)

Characteristics of GAAP accounting

measures the ongoing value of the business and is a less conservative way of accounting for assets

The higher the policy holder surplus the

more financially stable the company is

SAP Understatements

non admitted assets that are not allowed to be included such as a corporate jet, uncollected premium over 90 days, furniture, supplies, and automobiles Acquisition costs: at inception

What is being applied to ratemaking, underwriting and claims analytics

predictive modeling

Data Mining

process of extracting hidden patterns from data that is used in a wide range of applications for research and fraud detection

Conservative accounting helps

protect oneself against insolvency because it makes you aware of how much money you have spent and how much you have left

Experience rating

rate making based on exceeding or going under the average for the type of risk covered.

Insurer Goals: Earn a Profit

risk controls make the company more profit because it decreases the frequency and severity of losses

Importance of Premium Accuracy for insurer

to make sure the insurer keeps their financial position, to keep customers happy, to contribute to their goodwill, efficiency, and to have correct collections -financial position -customer retention -goodwill -efficiency -collections

Exposure base

variable that approximates the loss potential of a type of insurance.

Insurance operations

write policies, collect premiums, and pay losses, result is called an underwriting profit

policy holder surplus is

your loss reserves