Reference Book : 1. M.N.Mishra, “Insurance-Principles and Practice”, S. Chand & Co. 2. Dr. G. Kotreshwar, “Risk Management – Insurance and Derivatives, Himalaya Publishing House Understanding Risk (Nature and Type of Risk) Definitions - Risk is a condition in which there is a possibility that something unpleasant or dangerous might happen. - Exposure to adverse situations or chances of happening of unhappening things. - Dispersion or deviations from the expectations. - Chances or possibility of loss or uncertain situations.
Major Elements of Risks - Outcome is uncertain - At least two possible outcomes - One is unfavourable Loss and Chances of Loss Loss: Portion of the expired cost Chances of Loss (in Insurance) : Probability of Loss The whole game of Insurance Business is based on probability of loss. If insurer estimates correctly, he wins else close the business. Probability of loss is based on 2 elements - Perils: Immediate causes of loss (Ex: Losses by fire) - Hazards : Conditions that increase the severity of loss (Ex: stocking of crackers) Hazards has two types – Physical Hazard – like parking of vehicle without lock etc. – Intangible Hazard – it is attitude and culture and more is psychological It has again three types: - Moral Hazard –Fraud – putting fire in loss making unit - Indifference Hazard – carelessness - Societal Hazard – Legal problems like construction of shop or flats at parking area.
Types of Risks
1. Financial and Non Financial Risks 2. Individual and Group Risks 3. Pure and Speculative Risks 4. Static and Dynamic Risks 5. Quantifiable and Non Quantifiable Risks
1. Financial Risks : Exposed to the financial losses from the occurrence of the events Non Financial Risks: When financial loss does not exists, the situation can be referred to a non financial risk 2. Group Risks - affects the economy, macro basis, impersonal in origin - Affect social segment or entire population Risk factors: Socio economic, Political, Natural Calamities. Ex: Earthquakes, Floods, Wars, Unemployment, 11th September event etc. Social insurance Prg. May be undertaken by the govt. to handle fundamental risk. Individual Risks These risk are confined to individual identities or small group Ex: Theft, Robbery, Fire etc. Some of these are insurable Fire insurance may be bought by an individual to prevent against the adverse consequences of fire. 3. Pure Risk There is a possibility of loss or no loss. There is n o gain to individual or organisition. These risks are insurable. It has inherent advantages to the economy or socity.
Speculative Risk There is a possibility of gain or loss. These are not insurable. Highly damaging in nature. Ex: invest in a stock market or loss. 4. Dynamic Risk: Resulting from the changes in the economy or environment. Risk Factor: Macro Economic, inflation, technology, income level.
Difficult to quantify and these are not insurable. Static Risk: More or less predictable and not affected by economic conditions. Ex: Possibility of loss in business, unemployment due to non professional qualification. 5. Quantifiable Risks: Which can be measured in financial terms. Non Quantifiable Risks: Can’t be measured in financial terms like tension, loss of peace etc.
Risk Management Concept It is the common function of general management It is the process of planning, organizing, directing, and controlling the resources and activities of an organisation in order to minimize the ad verse effects of potential losses at the least possible cost.
Risk Management Objectives: - Survival - Peace of mind - Minimise the cost of risk & Higher profit - No interruption of operations - Continued growth - Satisfaction and social responsibility for a good image
Risk Management Process: Consist of certain logical steps: 1. Risk Identifications
- Key process, identify all the resources like human, financial, material, environmental. - Potential exposure to loss. - Risk manager has to develop intelligence network (meeting with employee, analysis of financial data, previous losses etc. - identify whether it is pure risk or financial risk. 2. Risk Measurements and Evaluations - In order to project the frequency and severity of future losses. - Property loss or liability loss - Useful tools: Probability and standard deviation - Some other greek tools: Beta, Theta, Gamma, Delta - Value at risk (VAR) - Computer base data and tools are required. 3. Risk Control - Third step - Through elimination or reduction - Ex: not to build a plant in a earthquake zone. - Risk that can’t be eliminate, can be reduce through loss prevention programes. - Ex: Fire exposures can be limited by making no smoking zones and smoking zones, guards and watch man, spot light, alarm systems. - Operations of machines: wear hard hats, goggles, gloves etc. - Financial risk are non insurable but can be minimize by hedge using derivatives instruments such as futures, options, and SWAP etc. - Loss control prg. May be seem to be expensive but less costly than the losses that might occur.
4. Risk Finance. - Crucial step in risk management. - How much of pure risk should the company retained and how much should it transfer to an insurer. - Risk finance depending on 1. Nature of risk, 2. need of organisation, 3. Availability of funds. 4. Financial conditions.
Introduction to Insurance The term insurance can be defined in both Financial and Legal terms. Financial Term: Insurance is a social device in which a group of individual (Insured) transfer risk to another party (Insurer) in order to combine loss experience, which permits statistical prediction of losses and provides for payment of loss from funds contributed by all members who transferred risk. Focus on arrangement of funds and redistribution on forms of loss payment. (Sources and uses of funds) Legal Term: Insurance is a contract by which one party in consideration of the price paid to him proportionate to the risk provides security to the other party that he shall not suffer any loss by the happening of certain events. Focus on legal rights, contractual arrangement, one part agrees to compensate another party for loss. Terminologies related to insurance Insurer, Insured or Beneficiary, Benefit (Sum of money), Premium, Policy Benefits of Insurance 1. Reimbursement of Losses 2. Reduction in Tension and Fear 3. Avenue for Investments (Life Insurance investments offers attractive returns) 4. Prevention of loss
5. Credit Multiplication 6. Costs of Insurance to Socity
Elements of an Insurable Risk - Large no. of Exposure units - Define and Measurable (Calculable ) Loss - Determinable Probability Distribution - Random loss - Premium should be Economically Feasible Principles of Insurance - Indemnity (reimbursement of loss) - Utmost Good Faith - Subrogation (To substitute) - Contribution - Insurable Interest
Kind of Insurance Life Insurance - Term Insurance – (Pure risk coverage plans) - Endowment – Sum assured amount will be payable on maturity or Death, which ever is earlier) - Moneyback – Money will be back in various installments - Pension – Cover risk of old age - Ulip – Unit link plans and investments in stock market
Non Life Insurance - Property Insurance – Risk against fire, marine, theft and byrglary Types of Insurance – Home Insurance, Domestic cover, Business Insurance, Commercial Insurance - Liability Insurance – Protects the insured against damage and claims made by a third
part. Types of Insurance – Automobile insurance, Workers compensation, Aviation insurance, Liability insurance - Health Insurance – It covers the person( insured) medical expenses incurred. Types of Insurance –Medi claim policy, Personal accident, Group accident etc.
Annuities Annuities are periodical payments against some exchange of money or premium payments for remain life of a person for a specified period. - Receiver is call annuitant - Insurer undertakes to pay certain level sums periodically up to death or expiry of the term. - In early death insurer does not suffer much loss. No. medical examination is necessary, however evidence of age is essential at the time of proposal. Difference between Annuities and Life Insurance 1. The annuity contract liquidates gradually the accumulated funds whereas the life insurance contract provides gradual accumulation of funds. 2. The annuity contract is taken for one’s own benefits but life assurance is generally for benefits of the dependents. 3. In annuity contract generally the payments stops at death whereas in life insurance the payment is usually given at death. 4. The premium in annuity contract is calculated on the basis of longevity but the premium of life insurance is based on mortality. 5. Annuity is protection against living too long whereas the life insurance contract is protection against too short. Classification of annuity according to commencement of income - Immediate Annuity - Deferred Annuity Classification of annuity according to number of lives - Single Life Annuity - Multiple Life Annuity Classification of annuity according to Mode of Premium
- Level Premium Annuities - Single Premium Annuities
Classification of annuity according to the disposition of proceeds - Life Annuities - Guaranteed Minimum Annuities - Temporary Life Annuity - Retirement Annuity Policy
Selection of Risk Purpose of Selection - Proposal should be accepted or not - Rate of premium (Amt. of risk) - Classification of Risk and Determination of Premium - Avoid adverse selections. Factors Affecting Risk - Age (Minimum and maximum) - Build ( Heights, Weight, Chest, etc.) - Physical condition – Medical examination - Personal History – health record, habits, occupations etc. - Family History - Occupation- Drivers job, chemical industry, income, etc. - Residence – good climate - Present Habits - Gender - Economical Status - Defence Services - Nationality Sources of Risk Information - The proposal form - Medical examination - Agent’s report - The Inspection report – Independent agency - Private friends report - Family Physician Report - Neighbors and Business Associates Measurement of Risk
Purpose: Fixation of premium - VALUE OF SERVICE (Utility of insurance to each can’t be determined, Higher premium will not attract business. - COST OF SERVICE - Expenses of business + small profit (No loss, no gain) - Cost of claim - Cost of Administration (Fixed and recurring) Cost of Claim - Forecasting of death is very important - experience of medical science - Experience of past record Can we calculate the time of death on the basis of experience of past death record? Ans: Death of one life can not be forecasted but no. of death from a group of persons of the same age can be forecasted on the basis of 1. Theory of probability 2. Law of large numbers. Theory of probability - Certainty – occurrence of death is 100% ( occurrence of any event) - Simple Probability – Mutually exclusive event k nown as simple probability Ex: At the age of 40 years, 2 persons die out of 10,000 persons Probability of death of a person who is of 40 years can be expressed as 2/10,000 = .02% or .0002 of units. - Compound Probability – Multiplication is applied when the probability of the combined happening of two or more independent events.
Ex. Age 40 - probability .0002 Age 42 - probability .0003 .0002 x .0003 = .0000006
Law of Large Numbers - Accuracy of data - The large no. of units
Claim Management - Claim mgt is related to efficiency of the organisation - Speed, courtesy, fairness, level of service are related to claim management - It affects the customer satisfaction - Goodwill of the organisation - result in cash outflow - Correctly assume the claim files a. Claim with fraud attitude b. Claims filed due to incorrect interpretations of clauses in the policy documents. - Motor insurance claims have become major threat to the survival of the co. - Most of insurance companies have separate claim department in which they have - Claim administration - Hierarchical structure in form of authority (in monetary limit) Claim Settlement procedures in general insurance
1. Loss or damage should be reported to insurer immediately 2. Complete claim form along with an estimate of the loss has to be submitted 3. Inspection to the damaged items to assess the loss 4. specialist licensed surveyor will deputed in case of major loss (loss more than Rs. 20,000 under section 64 UM of insurance act) 5. Investigation that loss or damage has occurred or not due to an insured peril.
Fire Insurance Claim - Copies of the Policy complete with terms, conditions and warranties. - Claim form duly completed by the insured. - Survey report should include - Indication of the cause of loss - Establishment of liability - Assessment of loss - Confirmation of compliance of policy terms, conditions and warranties. - Admissibility of the claim - Photographs - Police reports - Fire Brigade report Motor Insurance Claims - Claim form - Registration certificate - Driving License - Load challan - Fitness certificate - Report to police - Survey report - In Damage claim, estimate of repairs.
Mediclaim (Hospitalization) - Duly completed claim form - Bills, receipts, and discharge card - Cash memos from hospital - Bills from chemist - Receipts and pathological test reports - Surgeon bill and receipt. Claim Management in Life Insurance
Life insurance claim can be categorized as 1. Maturity claims 2. Death Claim Certain features are common to life insurance claim- Policy must be in force at the time of claim - Insured must be covered by the policy - Nothing was outstanding to the insurer at the time of claim - The claim is covered by the policy - A scrutiny from legal angle. Maturity Claims - Endowment polices including money back policies. - Payable sum assured and bonuses - Document required – Policy document, Age proof, Deed of assignment, Discharge form. Death Claims If the insured dies before the expiry of the term of the policy, it is called as death claim. The death of the life assured has to be intimated in writing to the insurer. In case of claims by death, after receipt of intimation of death, the following documents are required. - Policy document - Deed of assignment / reassignment - Proof of age, if age is not already admitted - Certificate of death - Legal evidence of title if policy is not assign to nominated - Form of discharge executed and property witnessed. If the claim has occurred with 3 years. Statement from the last medical attendant, from hospital, from the person who has attended the funeral, from employer.
Insurance Underwriting Insurance underwriters evaluate the risk and exposures o f potential clients. They decide how much coverage the client should receive, how much they should pay for it, or whether even to accept the risk and insure them. Underwriting involves measuring risk exposure and determining the premium that needs to be charged to insure that risk. The function of the underwriter is to acquire or to "write" business that will make the insurance company money, and to protect the company's book of business from risks that they feel will make a loss. In simple terms, it is the process of issuing insurance policies.
Classification of risks - Physical Hazard (Age, Sex, Build, Physical Conditions, Personal History, Family History) - Occupational Hazard (Nature of Job) - Moral hazard (Intentions of the proposer) Data for underwriting - Proposal form - Medical Examination - Agent or officer report Decision may be one the following - Accept as proposed - Accept with extra premium - Accept with modify terms - Accept with specific clause - Postpone for specific period - Decline (risk is too heavy to be covered) Recent Trends (Constantly under review) - Person who would not have been insured some forty years ago are now insurable - Collect the information of habit - Lower premium rate for working women.
Surrenders and loans
Surrender is a voluntary termination of the contract, by the policyholder. A policyholder can surrender the life insurance policy at any time before it becomes a claim. The amount payable on surrender is called the surrender value or cash value. The surrender value is usually a percentage of the premium paid. In most of the life insurance policies, insurers provide the facility of loans. Loans are normally up to 80 to 90 % of the surrender value. Foreclosure
Foreclosure means closure or writing off the policy before its actual maturity. The principal loan and accumulated interest could become more than the surrender value at some time. In that case, foreclosure become necessary.
