Brief Explanation Of The Basic Principles Of Underwriting

1a Briefly Explain The Basic Principles Of Underwritingb Identify

1. a. Briefly explain the basic principles of underwriting. b. Identify the major sources of information available to underwriters

2. The regulation of the insurance industry is structured differently from the regulation of many industries. a. Explain three key reasons why the insurance industry is regulated. b. Discuss the most significant need for insurance regulation. c. 3. Discuss and summarize the main outcome of each of the following cases or laws with respect to insurance regulation: a. Paul v. Virginia b. South-Eastern Underwriters Association Case c. McCarran-Ferguson Act d. Financial Modernization Act of . Delta Insurance is a property insurer that entered into a surplus-share reinsurance treaty with Eversafe Re. Delta has a retention limit of $200,000 on any single building, and up to nine lines of insurance may be ceded to Eversafe Re. a building valued at $1,600,00 is insured with Delta. Shortly after the policy was issued, a severe windstorm caused $800,000 loss to the building. a. How much of the loss will Delta pay? b. How much of the loss will Eversafe Re pay? a. What is the maximum amount of insurance that Delta can write on a single building under the reinsurance agreement? Explain your answer.

5. For each of the following situations, indicate the type of reinsurance plan or arrangement that the ceding insurer should use, and explain the reasons for your answer. a. Company A is an established insurer and is primarily interested in having protection against a catastrophic loss arising out of a single occurrence. b. Company B is a rapidly growing new company and desires a plan of reinsurance that will reduce the drain on its surplus because of the expense of writing a large volume of new business. c. Company C has received an application to write a $50 million life insurance policy on the life of the chief executive officer of a major corporation. Before the policy is issued, the underwriter wants to make certain that adequate reinsurance is available. d. Company D would like to increase its underwriting capacity to underwrite new business.

6. Explain the difference between rebating and twisting as they relate to the insurance industry.

Paper For Above instruction

The principles of underwriting serve as a fundamental framework that guides insurers in assessing risks and determining the terms of coverage. At its core, underwriting involves evaluating the insurability of potential clients, estimating the likelihood of claims, and establishing appropriate premiums to ensure profitability and sustainability of the insurance enterprise (Harrington & Niehaus, 2004). A critical principle is risk selection, which dictates that insurers should accept only those risks that align with their underwriting criteria, thus balancing the portfolio's risk profile. Another essential principle is underwriting profit, emphasizing the importance of premiums exceeding claims and expenses, thereby contributing to the insurer’s financial health (Woo & Chen, 2011). Equally vital is the consideration of moral hazard and adverse selection, where underwriters assess the behavior and characteristics of applicants to mitigate risks that could lead to higher-than-expected losses.

Underwriters rely on a variety of sources to inform their decision-making process. These include applications filled out by prospective policyholders, medical examinations, credit reports, and loss history data. For property insurance, external sources like property inspections, prior claim reports, and geological surveys provide valuable insights. In health and life insurance, medical records, physician reports, and health questionnaires are crucial. Data analytics and actuarial tables further assist in underwriting decisions by providing statistical likelihoods of claims based on demographic and behavioral factors (Albrecht & Chiu, 2018). This comprehensive approach ensures that underwriters can accurately assess the risk profile of each applicant and tailor policies accordingly.

The regulation of the insurance industry is uniquely structured due to several reasons. Firstly, insurance involves the transfer of large financial risks, which, if left unregulated, could lead to insolvency and compromise economic stability (Cummins & Phillips, 2005). Secondly, the industry plays a vital role in providing social stability and economic security, warranting oversight to protect policyholders. Thirdly, insurance regulation ensures a level playing field, prohibiting unfair trade practices and emphasizing solvency and fair handling of claims (Dickson, 2015). The most significant need for regulation stems from the asymmetry of information between insurers and policyholders, coupled with the potential for systemic risk, which could affect broader economic health.

Legal precedents and statutes have profoundly shaped insurance regulation. In Paul v. Virginia (1868), the U.S. Supreme Court held that states, not the federal government, had the authority to regulate insurance, establishing the state's primary jurisdiction over insurance activities. The South-Eastern Underwriters Association Case (1944) challenged this by suggesting that insurance could be interstate commerce, but the ruling was later curtailed. The McCarran-Ferguson Act (1945) reaffirmed the authority of states to regulate insurance, emphasizing that federal regulation would only apply when states failed to do so effectively. The Financial Modernization Act (Gramm-Leach-Bliley Act, 1999) modernized financial services regulation, allowing affiliation among banks, securities firms, and insurance companies, thus increasing competition and innovation but emphasizing the importance of robust oversight (Richard & Taylor, 2010).

Delta Insurance, operating as a property insurer, enters into a surplus-share reinsurance treaty with Eversafe Re. Under this arrangement, Delta retains $200,000 per risk and cedes excess layers, up to nine layers, to Eversafe Re. For a building valued at $1,600,000 that suffers an $800,000 loss, Delta would pay its retention limit of $200,000, covering the initial layer of loss. The remaining $600,000 would then be ceded to Eversafe Re, which is responsible for the excess. Thus, Delta pays $200,000, and Eversafe Re pays $600,000. The maximum amount Delta can write on a single building under this reinsurance treaty is $2,000,000, corresponding to ten layers of $200,000 each; however, the actual maximum is dependent on the agreed number of ceded layers.

Reinsurance plans tailored to specific needs vary based on the insurer's objectives. Company A, which seeks protection against catastrophic single-incident losses, would benefit from catastrophe reinsurance or excess of loss reinsurance, focusing on limiting the financial impact of large events. Company B, aiming to mitigate the impact of rapid growth, might opt for quota share reinsurance, which distributes premiums and losses proportionally and provides surplus relief. For Company C, seeking to secure reinsurance before issuing a substantial life policy, facultative reinsurance is appropriate, offering tailored coverage for individual risks. Company D, which wants to expand underwriting capacity, might pursue proportional reinsurance arrangements like quota share or surplus share reinsurance, allowing the firm to underwrite more risks by sharing premiums and losses (Lamm, 2013).

Rebating involves returning part of the premium to the policyholder as an inducement for purchasing or renewing coverage, which may be considered unethical or illegal in some jurisdictions if not disclosed properly. Twisting refers to the practice of misrepresenting policy features to induce policyholders to surrender or replace existing policies, often for the benefit of the agent or insurer at the expense of the policyholder. Both practices undermine the integrity of the insurance market, with rebating potentially leading to unfair competition and twisting compromising policyholder rights. Strict regulations prohibit such practices to ensure fair treatment and transparency (Ingram & Owens, 2004).

References

• Albrecht, C. C., & Chiu, J. (2018). Risk Management and Insurance. McGraw-Hill Education.
• Cummins, J. D., & Phillips, R. D. (2005). The Role of State Insurance Regulation—Economic and Public Policy Issues. The Journal of Risk and Insurance, 72(2), 189–210.
• Dickson, D. (2015). The Nature and Management of Insurance. Routledge.
• Harrington, S. E., & Niehaus, G. R. (2004). Risk Management and Insurance. McGraw-Hill.
• Lamm, R. (2013). Insurance Company Operations and Reinsurance Strategies. Insurance Journal.
• Richard, G., & Taylor, L. (2010). Regulation of Financial Services: An Overview. Journal of Financial Regulation and Compliance, 18(3), 290–308.
• Woo, C., & Chen, K. (2011). Principles of Risk Management and Insurance. Wiley.