Insurance and annuities

Chapter 1
1. Insurance is risk protection in economical terms. Purpose is to hedge risk by compensating in the event of financial loss, not to provide an opportunity for financial gain.

2. Risk is uncertainty about the future.

3. Risk Management 4. Types of Risk Covered
 * Two types: speculative and pure
 * Speculative involves three outcomes:
 * Loss
 * Gain
 * No change
 * Pure involves no possibility of gain.
 * Either a loss or no loss.
 * Possibility of economic loss without the possibility of gain is pure risk
 * Only Pure risks can be insured.
 * Involves identifying risk, assessing risk and dealing with risk
 * In order to do eliminate or reduce expose to financial risk four things can be done:
 * Avoiding risk
 * Controlling risk – prevention or reduction of losses i.e. installing fire and smoke detectors
 * Accepting risk
 * Self-insurance – risk-management technique which accepts financial responsibility for loss
 * Transferring risk – shifting risk to another party in exchange for fee such as insurance
 * Insurance policy is document that contains terms of agreement between insurance company and owner of the policy
 * Policy benefit or policy proceeds provide that insurer receives a specific amount of money called a premium for accepting transfer of risk.
 * Property damage risk covers property damage due to such things as accident, theft, fire etc.
 * Liability risk includes economic losses from being held responsible for harming others or their property.
 * Personal risk includes risks of economic loss associated with death, poor health and outliving one’s savings.

Insurers for property and liability are called property-casualty or property-liability insurance companies. Property insurance covers insured property while liability insurance covers a party who is legally responsible for unintentionally harming others or their property.

Insurers for policies that provide financial security from personal risk are life and health insurance companies. These companies assume or accept the transferred risk from the insured.

Risk pooling – pools together individuals who may suffer a certain loss. The costs are then spread out among those individuals.

“If the economic losses that actually result from a given peril, such as disability, can be shared by large numbers of people who are all subject to such losses and the probability of loss is relatively small for each person, then the cost to each person will be relatively small.”

Insurability of Risks
Terms:


 * Applicant: applies for policy; either person(s) or business.
 * Policyowner: owns the policy; typically applicant
 * Insured: person whose life or health is insured
 * Third-part policy: insurance policy that on person purchase on life of another
 * Beneficiary: receives policy benefit if event insured against occurs

Insurable interest requirement: only pure risks are insurable. Insurance not intended for financial opportunity for gain. Must have an insurable interest in the likelihood that policyowner or beneficiary will suffer loss or detriment if event insured against occurs.

Insurable interest in health insurance – typically only for themselves and dependents.

Assessing Degree of Risk

 * Antiselection: tendency of individuals who believe they have a greater-than average likelihood of loss to seek greater insurance than those who do not.
 * Underwriting: process of identifying and assessing risks. Two stages:
 * identifying risks that proposed insured represents
 * classifying the degree of risk that a proposed insured represents

Identifying Risks

 * Physical hazard is a characteristic (e.g. history of heart disease) that increase likelihood of loss.
 * Moral hazard is chance that person involved in insurance transaction will act dishonestly.

Classifying risks enables insurers to categorize risks in order to determine equitable premium rate for coverage. Generally, four categories of proposed insureds:
 * Standard risk: normal chance of risk
 * Substandard risk: significantly greater risk. Has higher than standard premium.
 * Declined risk: risk too great to insure.
 * Preferred risk: significantly less risk. May have less than standard premium.

Characteristics of Insurable Risks
In order for a risk to be insurable it much have certain characteristics.


 * 1) The loss must occur by chance.
 * 2) The loss must be definite.
 * 3) Loss must be definite in terms of time and amount.
 * 4) Insurer must be able to determine when and how much.
 * 5) The loss must be significant
 * 6) The loss rate must be predictable.
 * 7) Must be able to predict probable rate of loss.
 * 8) Loss rate is prediction of number and timing of covered losses.
 * 9) This determines proper premium.
 * 10) Loss rates are based not upon individuals but a given large group.
 * 11) Probability and the law of large numbers
 * 12) In terms of death, probability and LLN is used to make mortality tables display the rates of mortality by age in a given group of people.
 * 13) Rates of morbidity (morbidity tables) are rates of sickness and accident by age in a given group of people.
 * 14) The loss must not be catastrophic to the insurer.
 * 15) Can not cause catastrophic financial damage to insurer.
 * 16) To prevent catastrophic financial damage, insurers spread risks
 * 17) Can also transfer risk to another insurer via reinsurance.
 * 18) A ceding company is the original insurer
 * 19) To cede is to obtain reinsurance by transferring all or part of risk to reinsurer.
 * 20) Retention limit is maximum amount of insurance that insurer is willing to carry at own risk on any one life. Reinsuring distributes those risks among many insurance companies.
 * 21) Retrocession is reinsurer ceding risk to another reinsurer. Reinsurer of reinsurer is called retrocessionaire.

Side note: Every insurance policy either a contract of indemnity or a valued contract. Contract of indemnity: amount of the policy benefit payable for a covered loss is based on the actual amount of financial loss that results from loss. Insured receives either amount of financial loss or maximum state in policy, which ever is less. Valued contract: specifies the amount of the benefit that will be payable when a covered loss occurs regardless of actual loss. This is the death benefit or face amount/value.

quiz
{Insurance is primarily for: + Compensating in the event of financial loss - Providing an opportunity for financial gain - Investing in stocks - Saving for retirement
 * type="[]"}
 * Correct! Insurance is meant to hedge risk by compensating in the event of financial loss.
 * Incorrect. Insurance is not meant to provide an opportunity for financial gain.
 * Incorrect. Insurance is not primarily for investing in stocks.
 * Incorrect. While some insurance products can have savings components, the primary purpose of insurance is risk protection.

{Risk is: + Uncertainty about the future - Always leading to financial gain - A guaranteed loss - Only about financial matters
 * type="[]"}
 * Correct! Risk is the uncertainty about the future.
 * Incorrect. Risk can lead to loss, gain, or no change.
 * Incorrect. Risk is not a guaranteed loss.
 * Incorrect. Risk can be about various aspects, not just financial.

{Which type of risk involves no possibility of gain? + Pure - Speculative - Financial - Operational
 * type="[]"}
 * Correct! Pure risk involves no possibility of gain.
 * Incorrect. Speculative risk can lead to loss, gain, or no change.
 * Incorrect. Financial is not a type of risk in this context.
 * Incorrect. Operational is not a type of risk in this context.

{Which of the following is NOT a method of risk management? - Installing fire and smoke detectors - Accepting risk + Investing in stocks - Transferring risk
 * type="[]"}
 * Incorrect. Installing fire and smoke detectors is a method of controlling risk.
 * Incorrect. Accepting risk is a method of risk management.
 * Correct! Investing in stocks is not a method of risk management in this context.
 * Incorrect. Transferring risk is a method of risk management.

{Which type of insurance company provides financial security from personal risks? + Life and health insurance companies - Property-casualty insurance companies - Auto insurance companies - Travel insurance companies
 * type="[]"}
 * Correct! Life and health insurance companies provide financial security from personal risks.
 * Incorrect. Property-casualty insurance companies cover property and liability risks.
 * Incorrect. Auto insurance is a subset of property-casualty insurance.
 * Incorrect. Travel insurance is a specific type of insurance and not primarily for personal risks.

{Which hazard increases the likelihood of loss due to a characteristic, such as a history of heart disease? + Physical hazard - Moral hazard - Financial hazard - Operational hazard
 * type="[]"}
 * Correct! A physical hazard is a characteristic that increases the likelihood of loss.
 * Incorrect. Moral hazard is the chance that a person involved in an insurance transaction will act dishonestly.
 * Incorrect. Financial hazard is not mentioned in the provided material.
 * Incorrect. Operational hazard is not mentioned in the provided material.

{For a risk to be insurable, which of the following is NOT a required characteristic? - The loss must occur by chance - The loss rate must be predictable + The loss must always be catastrophic - The loss must be significant
 * type="[]"}
 * Incorrect. This is a required characteristic for a risk to be insurable.
 * Incorrect. This is a required characteristic for a risk to be insurable.
 * Correct! The loss must NOT be catastrophic to the insurer.
 * Incorrect. This is a required characteristic for a risk to be insurable.

{What is the term for the original insurer that transfers all or part of a risk to a reinsurer? + Ceding company - Retrocessionaire - Policyowner - Beneficiary
 * type="[]"}
 * Correct! The original insurer that transfers risk to a reinsurer is called a ceding company.
 * Incorrect. A retrocessionaire is a reinsurer of a reinsurer.
 * Incorrect. The policyowner is the one who owns the insurance policy.
 * Incorrect. The beneficiary is the one who receives the policy benefit if the insured event occurs.

Chapter 2 – The Life and Health Insurance Industry
Insurance companies must be corporations to provide stability and security. •	Are either stock insurance companies or mutual insurance companies. •	Mutual insurance companies are owned by policyowners and policy dividends may be distributed. •	Stock insurance companies may convert to mutuals through mutualziation and mutual insurance company may convert to stocks insurance companies via demutualization.

Organizational operations •	Home office is generally located in state of incorporation and houses executive officers •	Regional office offers same functions and operations as home but is located geographically closer to market it serves. •	Field office is local sales office and receives support from home and regional.

Insurance company as financial institution •	Financial institutions accept savings and give loans •	Financial services industry is made of financial institutions and help save, borrow, invest and manage money.

Individual vs. group insurance.

Term, permanent and endowment life insurance. Some have annuity options.

Health insurance – two types: 1.	Medical expense coverage 2.	Disability income coverage

Fraternal benefit societies provide social and insurance benefits to members. Often share common ethnic, religious or vocational background.

quiz
{Insurance companies must be ________ to provide stability and security. + corporations - partnerships - sole proprietorships - associations
 * type="[]"}
 * Correct! Insurance companies must be corporations to ensure stability and security.
 * Incorrect. Partnerships do not provide the same level of stability and security as corporations.
 * Incorrect. Sole proprietorships do not provide the same level of stability and security as corporations.
 * Incorrect. Associations are not the primary structure for insurance companies.

{Stock insurance companies can convert to mutuals through ________. + mutualization - demutualization - incorporation - diversification
 * type="[]"}
 * Correct! This is the process by which stock insurance companies convert to mutuals.
 * Incorrect. Demutualization is the process by which mutual insurance companies convert to stock insurance companies.
 * Incorrect. Incorporation is the process of forming a corporation.
 * Incorrect. Diversification is not related to the conversion of insurance companies.

{The ________ office is generally located in the state of incorporation and houses executive officers. + Home - Regional - Field - Branch
 * type="[]"}
 * Correct! The home office is where the executive officers are typically located.
 * Incorrect. The regional office offers functions similar to the home office but is geographically closer to its market.
 * Incorrect. The field office is a local sales office.
 * Incorrect. This option is not mentioned in the material.

{Financial institutions accept ________ and give ________. + savings | loans - loans | savings - investments | dividends - deposits | interest
 * type="[]"}
 * Correct! Financial institutions accept savings and provide loans.
 * Incorrect. This is the opposite of the correct answer.
 * Incorrect. This is not the primary function of financial institutions.
 * Incorrect. While related, this does not capture the primary functions mentioned.

{Which type of insurance is NOT mentioned in the material? - auto insurance + term life insurance + permanent life insurance + health insurance
 * type="[]"}
 * Correct! Auto insurance is not mentioned in the material.
 * Incorrect. Term life insurance is mentioned.
 * Incorrect. Permanent life insurance is mentioned.
 * Incorrect. Health insurance is mentioned.

{Fraternal benefit societies often share a common ________. + ethnic, religious or vocational background - financial goal - geographic location - age group
 * type="[]"}
 * Correct! These societies are often formed based on shared backgrounds.
 * Incorrect. Financial goals are not the primary basis for forming these societies.
 * Incorrect. Geographic location is not the primary basis for forming these societies.
 * Incorrect. Age is not the primary basis for forming these societies.

Chapter 3 – Meeting Needs for Life and Health Insurance
Reasons for individual life insurance •	Final expenses and estate planning •	Dependent support •	Education costs •	Retirement Income •	Investment Income •	Tax deductible benefits from charitable donations

Reasons for business owners to purchase life insurance and/or annuity products •	Provides funds to ensure business continues in event of death of owner, partner or key person •	Purchase for life insurance and annuity products for employees

Business continuation insurance Business continuation insurance plan (BCIP) allows businesses to continue operation following death of owner or key person. Important to closely held business such as sole proprietorship, partnership. Ways BCIPs can fund the purchase of a deceased owner’s or partner’s share in business: Buy-sell agreements provides that (1) first party agrees to purchase the financial interest in a second party following second parties death, and (2) second party agrees to direct estate to sell business interest to first party. Sole proprietorship buy-sell agreements generally sale to employee. However employee may not have assets to purchase. Life insurance policy on sole proprietor paid for by employee could provide assets. Partnership buy-sell agreements establishes terms on which a deceased partner’s share would be purchased by surviving partners. Two ways: Cross-purchase method provides that surviving partner(s) purchase predetermined proportionate shares of deceased partner’s interest. Could be funded by purchasing insurance on life of other partners. Entity method provides that the partnership purchases deceased partners shares and distributes shares among surviving partners. Again, life insurance purchased by partnership could be used to fund this. Closely held corporation buy-sell agreements often resemble partnership buy-sell agreements and utilize the cross-purchase or entity method of purchase. Key person (or employee) life insurance is insurance that business purchases on life of a person whose contributions are needed for business to continue.

Life insurance and annuity products as employee benefits come in both group and individual plans and are either whole paid for by the company or costs are split. Split-dollar life insurance plan are policies provided for select employees such as owners, officers etc. The employer and employee agree to share costs and is a form of permanent insurance. Employer receives what it paid in premiums and employee’s beneficiary will receive rest. Deferred compensation plans provide income benefits to an employee at a later date. Is funded by a portion of employees salary.

Health insurance includes both medical expense insurance and disability income insurance and can be purchased in both individual and group plans. Used as benefit for employee or to protect business from financial loss caused by employee’s illness injury or disability (typically sole proprietorship or partnership).

quiz
{One of the reasons for individual life insurance is to cover ________.
 * type="[]"}

+ Final expenses and estate planning - Provides funds to ensure business continues in event of death of owner, partner or key person - Business continuation insurance plan (BCIP) - Split-dollar life insurance plan
 * Correct! This is one of the reasons for individual life insurance.
 * Incorrect. This is a reason for business owners to purchase life insurance.
 * Incorrect. BCIP is a plan for businesses, not an individual reason.
 * Incorrect. This is a type of life insurance plan for select employees.

{Business continuation insurance plan (BCIP) is important for ________.
 * type="[]"}

+ closely held business such as sole proprietorship, partnership - individual life insurance - group plans of life insurance - medical expense insurance
 * Correct! BCIP is crucial for these types of businesses.
 * Incorrect. BCIP is for businesses, not individuals.
 * Incorrect. BCIP is specific to certain types of businesses.
 * Incorrect. Medical expense insurance is a type of health insurance.

{In a sole proprietorship buy-sell agreement, the sale is generally to ________.
 * type="[]"}

+ an employee - a partner - the company - a third-party business
 * Correct! Sole proprietorship buy-sell agreements generally involve a sale to an employee.
 * Incorrect. Partnerships have different buy-sell agreements.
 * Incorrect. This is not typical for a sole proprietorship.
 * Incorrect. The general sale is to an employee in this context.

{In partnership buy-sell agreements, one way to fund the purchase of a deceased partner’s share is through ________.
 * type="[]"}

+ purchasing insurance on the life of other partners - deferred compensation plans - split-dollar life insurance plan - medical expense insurance
 * Correct! This is the Cross-purchase method.
 * Incorrect. This is a way to provide income benefits to an employee at a later date.
 * Incorrect. This is a type of life insurance plan for select employees.
 * Incorrect. This is a type of health insurance.

{Split-dollar life insurance plans are policies provided for ________.
 * type="[]"}

+ select employees such as owners, officers etc. - all employees in a company - sole proprietors only - partners in a partnership
 * Correct! These plans are for specific employees.
 * Incorrect. It's not for all employees, but select ones.
 * Incorrect. It's not exclusive to sole proprietors.
 * Incorrect. It's not exclusive to partners.

{Deferred compensation plans are funded by ________.
 * type="[]"}

+ a portion of an employee's salary - the company's profits - life insurance policies - medical expense insurance
 * Correct! These plans use a part of the employee's salary.
 * Incorrect. It's not typically funded by company profits.
 * Incorrect. These are different financial instruments.
 * Incorrect. This is a type of health insurance.

{Health insurance can be used to protect a business from financial loss caused by an employee’s ________.
 * type="[]"}

+ illness, injury, or disability - resignation or retirement - lack of skill or incompetence - legal disputes or lawsuits
 * Correct! Health insurance can cover these events.
 * Incorrect. Health insurance doesn't cover these scenarios.
 * Incorrect. Health insurance doesn't cover performance issues.
 * Incorrect. This would require a different type of insurance.

Chapter 4 – Regulation of the Insurance Industry
Primary goals of insurance industry regulation are ensure companies remain solvent and conduct business fairly and ethically.

In US, state governments have primary authority to regulate insurance industry.