Costs, insurability, and underwriting
The insurer (the life insurance company) calculates the policy prices with an intent to recover claims to be paid and administrative costs, and to make a profit. The cost of insurance is determined using mortality tables calculated by actuaries. Actuaries are professionals who employ actuarial science, which is based in mathematics (primarily probability and statistics). Mortality tables are statistically-based tables showing average life expectancies. The three main variables in a mortality table are age, gender, and use of tobacco. The mortality tables provide a baseline for the cost of insurance. In practice, these mortality tables are used in conjunction with the health and family history of the individual applying for a policy in order to determine premiums and insurability. There are two mortality tables currently being used by life insurance companies in the United States. One was developed in the 1980's and the other is based on calculations made in 2001.[citation needed]
The 1980's mortality table assumes that roughly 2 in 1,000 people aged 25 will die during the term of coverage.[citation needed] This number rises roughly quadratically to about 25 in 1,000 people for those aged 65.[citation needed] Consequently, in a group of one thousand 25 year old males with a $100,000 policy, all of average health, a life insurance company would have to, collect approximately $200 a year from each of the thousand people to cover the expected claims. (2 expected deaths x $100,000 payout per death / 1,000 policies = $200 per policy)
The insurance company receives the premiums from the policy owner and invests them to create a pool of money from which it can pay claims and finance the insurance company's operations. Contrary to popular belief, the majority of the money that insurance companies make comes directly from premiums paid, as money gained through investment of premiums can never, in even the most ideal market conditions, vest enough money per year to pay out claims.[citation needed] Rates charged for life insurance increase with the insured's age because, statistically, people are more likely to die as they get older.
Given that adverse selection can have a negative impact on the insurer's financial situation, the insurer investigates each proposed insured individual unless the policy is below a company-established minimum amount, beginning with the application process. Group Insurance policies are an exception.
This investigation and resulting evaluation of the risk is termed underwriting. Health and lifestyle questions are asked. Certain responses or information received may merit further investigation. Life insurance companies in the United States support the Medical Information Bureau[citation needed], which is a clearinghouse of medical information on all persons who have ever applied for life insurance. As part of the application, the insurer receives permission to obtain information from the proposed insured's physicians.[citation needed]
Life insurance companies are never required by law to underwrite or to provide coverage to anyone, with the exception of Civil Rights Act compliance requirements. Insurance companies alone determine insurability, and some people, for their own health or lifestyle reasons, are deemed uninsurable. The policy can be declined (turned down) or rated.[citation needed] Rating increases the premiums to provide for additional risks relative to the particular insured.[citation needed]
Many companies use four general health categories for those evaluated for a life insurance policy. These categories are Preferred Best, Preferred, Standard, and Tobacco.[citation needed] Preferred Best is reserved only for the healthiest individuals in the general population. This means, for instance, that the proposed insured has no adverse medical history, is not under medication for any condition, and his family (immediate and extended) have no history of early cancer, diabetes, or other conditions.[citation needed] Preferred means that the proposed insured is currently under medication for a medical condition and has a family history of particular illnesses.[citation needed] Most people are in the Standard category.[citation needed] Profession, travel, and lifestyle factor into whether the proposed insured will be granted a policy, and which category the insured falls. For example, a person who would otherwise be classified as Preferred Best may be denied a policy if he or she travels to a high risk country.[citation needed] Underwriting practices can vary from insurer to insurer which provide for more competitive offers in certain circumstances.
Life insurance contracts are written on the basis of utmost good faith. That is, the proposer and the insurer both accept that the other is acting in good faith. This means that the proposer can assume the contract offers what it represents without having to fine comb the small print and the insurer assumes the proposer is being honest when providing details to underwriter.[citation needed]
The 1980's mortality table assumes that roughly 2 in 1,000 people aged 25 will die during the term of coverage.[citation needed] This number rises roughly quadratically to about 25 in 1,000 people for those aged 65.[citation needed] Consequently, in a group of one thousand 25 year old males with a $100,000 policy, all of average health, a life insurance company would have to, collect approximately $200 a year from each of the thousand people to cover the expected claims. (2 expected deaths x $100,000 payout per death / 1,000 policies = $200 per policy)
The insurance company receives the premiums from the policy owner and invests them to create a pool of money from which it can pay claims and finance the insurance company's operations. Contrary to popular belief, the majority of the money that insurance companies make comes directly from premiums paid, as money gained through investment of premiums can never, in even the most ideal market conditions, vest enough money per year to pay out claims.[citation needed] Rates charged for life insurance increase with the insured's age because, statistically, people are more likely to die as they get older.
Given that adverse selection can have a negative impact on the insurer's financial situation, the insurer investigates each proposed insured individual unless the policy is below a company-established minimum amount, beginning with the application process. Group Insurance policies are an exception.
This investigation and resulting evaluation of the risk is termed underwriting. Health and lifestyle questions are asked. Certain responses or information received may merit further investigation. Life insurance companies in the United States support the Medical Information Bureau[citation needed], which is a clearinghouse of medical information on all persons who have ever applied for life insurance. As part of the application, the insurer receives permission to obtain information from the proposed insured's physicians.[citation needed]
Life insurance companies are never required by law to underwrite or to provide coverage to anyone, with the exception of Civil Rights Act compliance requirements. Insurance companies alone determine insurability, and some people, for their own health or lifestyle reasons, are deemed uninsurable. The policy can be declined (turned down) or rated.[citation needed] Rating increases the premiums to provide for additional risks relative to the particular insured.[citation needed]
Many companies use four general health categories for those evaluated for a life insurance policy. These categories are Preferred Best, Preferred, Standard, and Tobacco.[citation needed] Preferred Best is reserved only for the healthiest individuals in the general population. This means, for instance, that the proposed insured has no adverse medical history, is not under medication for any condition, and his family (immediate and extended) have no history of early cancer, diabetes, or other conditions.[citation needed] Preferred means that the proposed insured is currently under medication for a medical condition and has a family history of particular illnesses.[citation needed] Most people are in the Standard category.[citation needed] Profession, travel, and lifestyle factor into whether the proposed insured will be granted a policy, and which category the insured falls. For example, a person who would otherwise be classified as Preferred Best may be denied a policy if he or she travels to a high risk country.[citation needed] Underwriting practices can vary from insurer to insurer which provide for more competitive offers in certain circumstances.
Life insurance contracts are written on the basis of utmost good faith. That is, the proposer and the insurer both accept that the other is acting in good faith. This means that the proposer can assume the contract offers what it represents without having to fine comb the small print and the insurer assumes the proposer is being honest when providing details to underwriter.[citation needed]
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