Dr John F Fitzgerald Jr CLU CPCU CIC The Business of Insurance Business of Insurance 1 Concern 28 of Small Business Satisfied Consumers Structure Types Life Health PropertyLiability ID: 319170
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Slide1
The Business of Insurance, Reinsurance, Regulation of Insurance, Risk Management and Public Policy
Dr. John F. Fitzgerald,
Jr
CLU, CPCU, CICSlide2
The Business of InsuranceSlide3
Business of Insurance
#1 Concern- 28% of Small Business
Satisfied ConsumersSlide4
Structure Types
Life
Health
Property-LiabilitySlide5
Forms & Insurers
Form
Stock
Mutual
Insurers
Life-Health 1200
Property- Liability 2700Slide6
Distribution System
Independent Agents
Agent, broker, solicitor, surplus lines
Exclusive Agents
Direct Writers
Direct Response
Web
Internet
MailSlide7
Market Share
Personal Lines
Agencies 30%
Direct 70%
Commercial Lines
Agency 70%
Direct 30%Slide8
Investments
P/C
L/H
Bonds
70
75
Common Stock
18
5
Other
12
10Slide9
Liabilities
Unearned premium reserves (UPR)
Loss reserves (2/3 of liabilities)
Reserve for accidents or events that have already occurred
Three types of loss reserves:
Settled but not yet paid
Reported but not yet settled
Incurred but not yet reported (IBNR)Slide10
Statutory Accounting Principles (SAP) (Insurance Accounting)
GAAP v. SAP
Going concern v. liquidation
Expenses recognized immediately while revenues must be accrued
Admitted v. non-admitted assets
Conservative securities valuation
Assets – Liabilities = Net worthSlide11
Functional Areas
Sales and marketing
Underwriting- selection of risks
Claims- paying and reserving for losses
Product development
Ratemaking (actuarial) – pricing of policies
Investments
Risk management services- loss control, data management, etc.
Accounting, Legal, ITSlide12
ReinsuranceSlide13
What is Reinsurance?
Defined:
Insurance for insurance companies
Retrocession
Insurance for reinsurersSlide14
Why is Reinsurance Purchased?
Several “Needs” May
E
xist
Capacity
Stability
Catastrophe Protection
Premium Growth
Enter/Exit Classes of InsuranceSlide15
Reinsurance and Its Function
Basic terms and concepts
Reinsurance functions:
Increase large-line capacity
Provide catastrophe protection
Stabilize loss experience
Provide surplus relief
Facilitate withdrawal from a market segment
Provide underwriting guidanceSlide16
Capacity
Unusual risk or “large line”
Regulations affecting insurers
The 10% rule
Management of line size (limits) within insurance portfolioSlide17
Stability
Desire to limit the fluctuation in results due to random variation in losses
Predictability in loss ratio
Need to comfort shareholders, policyholders, regulators, and investorsSlide18
Catastrophe Protection
Protect against adverse affects of a catastrophic event natural or man-made
Multiple policies involved in single loss or eventSlide19
Premium Capacity
Also referred to as “Surplus Relief”
Arises from conservative nature of insurance accounting principles (SAP)
New/Growing insurers need to “finance” the premiums they write
Measure = Leverage Ratio
Net Premiums Written: Policyholders’ SurplusSlide20
Other Functions
Entry into new classes/ territories
Exit from classes/ territories
Underwriting expertise
Protect insurer against punitive or “bad faith” damagesSlide21
In/Reinsurance Distribution
Direct
Market
Broker
MarketSlide22
Reinsurance Sources
Professional reinsurers
Reinsurance departments of primary insurers
Reinsurance pools, syndicates, and associations
Reinsurance professional and trade associations
Intermediaries and Reinsurance Underwriters Association (IRU)
Brokers & Reinsurance Markets Association (BRMA)
Reinsurance Association of America (RAA)Slide23
Types of Reinsurance
Facultative
Treaty
Other (Hybrid/Financial)Slide24
Facultative Reinsurance
Individual risk review/underwriting
Certificate issuance
Treaty protection/Hazardous risks
Hybrid agreements
Advantages/DisadvantagesSlide25
Treaty Reinsurance
Groups of policies, class/line of business, or entire portfolio
Obligatory reinsurer acceptance
Pooling effect
One agreementSlide26
Forms of Reinsurance Agreements
Proportional (Pro Rata)
Principal of sharing- premium, limits, and losses
Reinsurance applications:
Quota Share- Fixed percentage sharing
Surplus Share- Fixed dollar amount retained, yielding variable percentages
VariationsSlide27
Proportional Reinsurance
Sharing Concept- QS (%) & SS($)
Primary
Insurer
Retention
Reinsurance
Cession
Percentage of premiums & losses shared
100% or ($)
0% or ($)
$1M
Limits of insuranceSlide28
Comparing: QS & SS
Quota
Share
Surplus Share
A fixed percentage
amount is retained by the insurer and ceded to the reinsurer
A
fixed dollar amount of retention is selected by the insurer resulting in variable percentages of retention and cession
All policies included in the agreement are reinsured according to the specified percentages
Policies with limits less than the retention are retained
100% by the reinsured company
Used
in property and casualty classes of insurance
Used most frequently in property insuranceSlide29
Types of Reinsurance
Pro Rata Reinsurance
Quota share reinsurance
Surplus share reinsurance
Excess of Loss Reinsurance
Per risk excess of loss
Catastrophe excess of loss
Per policy excess of loss
Per occurrence excess of loss
Aggregate excess of lossSlide30
Forms of Reinsurance Agreements
Non-Proportional (Excess of loss – XOL)
Principal of indemnification
Reinsurance applies:
Per risk/Per occurrence/Per claim
Per policy
Catastrophe- Property
Clash- Casualty
Aggregate or Stop LossSlide31
“Excess of Loss” Non-Proportional Reinsurance
Indemnification Concept
Remember- reinsurance “attachment” may apply on one of many bases
$1M
Limits of insurance
Attachment Point
Reinsurance reimbursement for the amount of loss in “excess of” the retention
Primary Reinsurance Amount
Reinsurance indemnifies for a loss in excess of the primary retentionSlide32
Example: Excess of Loss (XOL)
Dr.
A
, an orthopedic surgeon, failed to properly treat a fracture of the left femur. The patient was a high school athlete and suffered permanent injury to his leg.
Dr.
A
had a $1,000,000 policy limit (claims-made) at the time of the medical incident and the insurer was able to settle the case for $1,000,000.
The insurer had an Excess of Loss Reinsurance agreement in place for $750,000 “excess of” $250,000 per claim.
Reinsurer pays (indemnifies) $750,000 of the settlement “in excess of”
$1,000,000 Policy Limit
$250,000 Retained by the insurerSlide33
Example: Clash Coverage
Dr.
A
was involved in another case with two of his associates that was settled for a total of $3,000,000, with fault apportioned equally among the three doctors ($1M each).
Each doctor was covered under a $1,000,000 policy limit at the time of the medical incident.
The insurer had in place a Per Occurrence Clash reinsurance agreement for $5,000,000 “excess of” $500,000 per medical incident.
Limits
Dr. A
Dr. B
Dr. C
Total Recovery
Loss
$1,000,000
$1,000,000
$1,000,000
Reinsurance Limit $5,000,000 “in excess of”
Paid loss:
$833,333
Paid loss:
$833,333
Paid loss:
$833,333
$2,500,000
Retention
$500,000
Retained by InsurerSlide34
Alternative to Traditional Reinsurance
Finite risk reinsurance
Capital market alternatives to traditional and non-traditional reinsuranceSlide35
Reinsurance Program Design
Factors affecting reinsurance needs
Growth plans
Types of insurance sold
Geographic spread of loss exposures
Insurer size
Insurer structure
Insurer financial strength
Senior management’s risk toleranceSlide36
Factors Affecting Retention Selection
Maximum amount the primary insurer can retain
Maximum amount the primary insurer wants to retain
Minimum retention sought by the reinsurer
Co-participation provisionSlide37
Factors Affecting Reinsurance Limit Selection
Maximum policy limit
Extra-contractual obligations
Loss adjustment expenses
Clash cover
Catastrophe exposureSlide38
Many More Reinsurance Issues
Basis of “Attaching” Coverage
Contract Wording/Documentation
Pricing Issues (Primary & Reinsurance)
Trends and Emerging Issues
And much more…Slide39
Reinsurance Regulation
Contract certainty
Credit for reinsurance transactionsSlide40
Finally: What do Reinsurance Underwriters Really Do?Slide41
Regulation of InsuranceSlide42
Federal Regulation
Advantages of Federal Regulation
Uniformity of laws
Greater efficiency
More competent regulationSlide43
State Regulation
Advantages of State Regulation
Greater responsiveness to local needs
Uniformity of laws by the NAIC
Greater opportunity for innovation
Unknown consequences of federal regulation
Decentralization of political powerSlide44
Evolution of Insurance Regulation
Paul v. Virginia
Sherman Antitrust Act
South-Eastern Underwriters Association Decision
McCarran-Ferguson Act
ISO and the Attorneys General Lawsuit
Gramm-Leach-Bliley ActSlide45
Reasons for Insurance Regulation I
Maintain Insurer Solvency
Nature of the insurance promise
Ripple effect of insolvencies
Protect Consumers/Inadequate Consumer Knowledge
Complex contracts
Difficult to compare and determine monetary value
Important to maintain consumer impact and competitive incentiveSlide46
Reasons for Insurance Regulation II
Prevent Destructive Competition
Insure Reasonable Rates
Adequate, not excessive, not unfairly discriminatory
Make Insurance Available
Essential coverages (auto)
Government insurance programs (unemployment)Slide47
Financial Regulation
Minimum capital and surplus requirements
Admitted assets- those that state law allows an insurer to who on its statutory balance sheet in determining its financial condition
Reserves- liabilities (state prescribes methods for calculating)
Surplus- difference between assets & liabilities (determines amount of business allowed)Slide48
Rate Regulation I
All states (except Illinois) have laws requiring rates to be adequate, reasonable (not excessive), not unfairly discriminatory
Types of rating laws (Property/Casualty):
State-made rates- state determines and all insurers in state must use (Texas and Massachusetts for auto rates)
Mandatory bureau rates- rating bureau determines and all insurers must use some deviations (North Carolina)Slide49
Insurance Regulatory Activities: Regulating Insurance Rates
Insurance rate regulation goals
Adequate
Not excessive
Not unfairly discriminatory
Types of rating lawsSlide50
Rate Regulation II
Types of rating laws:
Prior approval- rates must be filed and approved by the state insurance department before they can be used (majority use, but problem of delays)
File-and-use- companies are required only to file the rates with state officials (who may later disapprove) & and use immediately
Open competition- no filing laws though may have to furnish schedules and supporting data to state officials
Flex rating laws- prior approval only required if rate change exceeds a predetermined range—e.g., 5%Slide51
Insurance Regulators
State Insurance Departments
The Insurance Commissioner
State Regulation Funding
The National Association of Insurance Commissioners (NAIC)
Model Laws and Regulations
Accreditation Program
Federal RegulationSlide52
Insurance Regulatory Activity: Licensing Insurers and Insurance Personnel
Licensing Insurers
Domestic insurers
Foreign insurers
Alien insurers
Nonadmitted
insurers
Risk retention groups
Licensing Insurance Personnel
Producers
Claims representatives
Insurance consultantsSlide53
Insurance Regulatory Activities: Monitoring Insurer Solvency
Methods to maintain solvency
Liquidation of insolvent insurers
State guaranty funds
Reasons for insolvencySlide54
Insurance Regulatory Activities: Regulating Insurance Policies
Legislation
Policy rules, regulations, and guidelines
CourtsSlide55
Insurance Regulatory Activities: Market Conduct and Consumer Protection
Monitoring market conduct
Producer practices
Underwriting practices
Claim practices
Market analysis
Ensuring consumer protectionSlide56
Unofficial Regulators in Insurance
Financial rating organizations
Insurance advisory organizations
Insurance industry professional and trade associations
Consumer groupsSlide57
Regulatory Philosophy I
Financial solidity
Fair equitable treatment
Competitive market
National leader
Enforcement
Regulatory cooperationSlide58
Regulatory Philosophy II
Improve and sustain
Encourage freedom
Self regulation
Loss prevention
Inform public
Timely response
to change
Evaluate strategySlide59
Regulatory Philosophy III
Vision and mission
Recognize and monitor change
Innovation
Arbitration
Strengthen regional economySlide60
P/C Insurer Impairments
Year
Number of Impairments
1995
15
1996
12
1997
31
1998
18
1999
19
2000
49
2001
50
2002
49
2003
35
2004
18
2005
13
2006
15
2007
4Slide61
Number of Life/Health Insurer Insolvencies
Year
Number of Insolvencies
1995
2
1996
4
1997
5
1998
6
1999
11
2000
10
2001
3
2002
2
2003
4
2004
6
2005
1
2006
0
2007
1Slide62
Reasons for P/C Insurer ImpairmentsSlide63
Relevant Issues in Regulation
Convergence in financial services
Natural catastrophe issues (coverage, response, etc.)
Growth of the Internet
Insolvencies
Quality of regulation
Deregulation of commercial lines
Speed to market
Agent/broker compensation
Underwriting information (CLUE, insurance scores)Slide64
Risk Management and Public PolicySlide65
Managing Risk through Legislation
Fire protection
Zoning laws
Building codes
Public safety
Highway safety
Motor vehicle standards
Licensing (occupation)
Workplace safety
Product safety
Sanitation
Pollution
Hazardous materials
Employment conditions
Education
Criminal law