Back to the Future – Financial Underwriting – A step back in history.
A Corporate Valuation Actuary (a very bright young colleague and a leader within the Swiss Re business and our wider industry), recently challenged me on the financial underwriting process of a risk that was now a claim. The claimant who is receiving an I.P monthly benefit in excess of $30,000 will also highly likely be receiving a TPD Own Occupation lump sum amount of $5million in the very near future.
Each of my colleague’s questions was balanced and fair. They were intrigued at the level of benefit the claimant would be receiving, (noting the I.P benefit had approximately 20 years yet to run). They also questioned whether the overall sums insured were justified and provided sufficient incentive for the individual to want to return to work, even in a different occupation, possibly outside their current industry.
This took me back to an article I wrote in 1999, published in the Academy of Life Underwriting’s “On The Risk” titled “DI Natured Cover-: Once Bitten Twice Shy – or Not?”.1 The article focused on the Australian Group DI market at the time and the eroding of prudent risk controls that I had observed via:
Product changes i.e. softening of member eligibility rules, increasing maximum benefit levels, a decrease in the minimum number of members required for usual group concessions, higher Income Replacement Ratios for large income earners, and relaxing of income definitions; and
Underwriting shift i.e. less stringent mandatory medical and financial requirements, loosening of financial underwriting standards with some insurers claiming that Group business did not require any financial underwriting consideration.
My then observations of our Australian Group DI market was made with a late 1980s, early 1990s U.S DI mindset where so called “product innovation” and loosening of underwriting standards had resulted in widely unprofitable DI portfolios and many U.S insurers withdrawing from the market.
This is a snapshot of my written response to my colleague. I reflect on a number of rather prudent risk selection controls and tools that were historically used to try and better manage the exact exposure correctly highlighted by my colleague’s balanced questions. Fair questions for all of us as risk technicians as we wrestle fulfilling the roles of “portfolio protection and business enablers“.
The Australian and New Zealand market used to have various product and underwriting mechanisms in play, to at least try and decrease exposure from similar scenarios such as:
- Multiples of Income applied to determine maximum TPD levels of cover of around 10X an applicant’s Personal Exertion earnings.
Today it is common for multiples of up to 25X to be used and some insurers may apply 30X at young ages reflecting years until retirement.
- Where TPD of a set figure or greater was in force (as low as $500,000) or written in combination with larger I.P cover, underwriters would offset their respective financial underwriting I.P monthly benefit calculation. This approach varied by company and reinsurer but essentially the outcome was to either: 2
- Offset the I.P M.B calculation by an assumed interest return of 5% that was deemed could be earned from the investment of the TPD Lump Sum payment to the applicant.
- Offset the I.P M.B by an amount equal to the TPD Lump Sum cover figure as if it were being paid as a monthly benefit over a 5-year period.
- Offset the I.P M.B calculation by an amount equating to 1% of either the total TPD benefit or 1% of a set percentage of the total TPD benefit.
I’m not sure that these approaches, if applied today, would be well received. In fact, one would be laughed at trying to impose this philosophy. Even if we pitched the TPD trigger at the point this occurs to say AUD3 million to AUD3.5 million, this would significantly impact on I.P availability, which seems overly harsh.
- The question of an applicants’ passive (investment) income levels and overall net asset position was once, more heavily scrutinised at the point of underwriting and adverse underwriting action taken to reduce levels of cover offered at inception – with cover often even declined.
Today well, all of you who are underwriters will know that these factors are simply ignored unless the investment income level exceeds AUD250,000 p.a. OR Net Assets (excluding family home and superannuation) exceed AUD5 million (yes no typo, that’s AUD250,000 and AUD5 million respectively).
- When large amounts of I.P cover for a business owner were considered by an underwriter, another serious consideration for the financial underwriting calculation piece, was a conservative valuation of the applicant’s business. Where this conservative value exceeded a set figure, the potential sale of the business and the proceeds to the applicant, were considered and factored into financial underwriting calculations, particularly the applicant’s overall net asset position and the level of I.P monthly benefit allowed.
This approach is very rarely used today and arriving at a business valuation number is a challenge in itself and can be very subjective and influenced by many factors – especially during a period of disability.
- Some I.P products had the feature that once a TPD benefit was paid to a disabled claimant, the I.P cover would automatically cease – though this was probably more common in the Group market rather than Retail.
- Own Occupation definitions for TPD were not a feature in years gone by, and interestingly when first introduced, the premium loading was as high as 100% for this feature.
Today, the premium Retail differential (loading for Own Occupation definition) is somewhere in the vicinity of 35-45% vs E.T.E Occupational definitions. 3
Raising the above points with my colleague resulted in further robust business discussion. This exchange reminded me that there are many insurance professionals in our market across multiple disciplines (underwriting, claims, product development and actuarial) who may not be aware of this history. Younger insurance technicians perhaps perplexed with the repetitive message of product unprofitability (losses) who maybe even questioning what can be done to “turn the tide” and return us to a sustainable industry setting. Appropriate questions and observations in an industry where we must continue to provide the ultimate support to our customers in their absolute time of need.
These historically used underwriting tools are not necessarily “fool-proof”. In fact, some of them arguably contain flaws. That said they were used in an attempt to alleviate possible risk exposure. Perhaps one, two or a tweaked combination of a few might be worth exploring.
Food-for-thought, ongoing discussion and consideration.
- DI Natured Cover: Once bitten, Twice shy – Or Not? Shane Burdack, On The Risk Vol.15 n.4 (1999).
- Lock Martin, Senior Underwriting Consultant Swiss Re, ANZ L&H Glenys O’Leary, G & T Risk Management Pty Ltd
Shane Burdack is a Senior Underwriting Consultant with Swiss Re Australia / New Zealand with a focus on cross functional stakeholder risk advice on underwriting philosophy, automation, innovation and product development. His career spans 25+ years across the reinsurance / insurance markets. He has been a member of local senior management executive teams via his Chief Underwriter and Claims Manager roles during his career.
He is an active participant and risk advocate in key industry bodies and represented the Life Ins industry on the Federal Government’s Human Genetics Advisory Committee (HGAC) from 2009 – 2012. Shane has been published in numerous national and international industry journals.
He presented at the 2015 FSC Annual Life Conference, facilitated the genetics plenary session at the 2017 FSC Life Insurance Conference and has delivered presentations at major ALUCA bi-annual and mini-conferences, retail insurer national risk conferences and key broker / distribution seminars. He is a Fellow- ALUCA, Senior Associate- ANZIIF, Associate- Academy Life Underwriting (with distinction) and also holds a Diploma in Health Counselling.