Personal Lines Contracts and Underwriting - …...A.D. Banker&Company© Conditional In addition, the...

Personal Lines: Contracts and Underwriting

A.D.Banker&Company

By: James C. Lullie

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Chapter 1 Insurance Contracts and Understanding the Policy ......................................1Elements of a Contract; How is Insurance Sold?; Understanding the Insurance Policy; Loss Payment; Chapter Questions

Chapter 2 Underwriting: Laying the Groundwork .........................................................16An Overview; Profitability; The Application; The Interview; Information Gathering; Chapter Questions

Chapter 3 The Process of Underwriting ..........................................................................27Subjective versus Objective Underwriting; Renewal Underwriting; Markets; Tiers, Pricing, & Insurance Credit Scoring; Chapter Questions

Chapter 4 Underwriting: Risk Selection ..........................................................................32Retention; Automobile Risk Selection; Homeowners Risk Selection; Proactive Agency Underwriting; Chapter Questions

Conclusion ...........................................................................................................................45

Chapter Answers and Rationales .......................................................................................46

Personal Lines Contracts and Underwriting

Table of Contents

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Copyright 2013© A.D. Banker & Company®, L.L.C.

This course, seminar, or publication provides general information regarding the subject matter covered. It is sold with the understanding that the publisher is not engaged in rendering legal, accounting, or other professional service. If legal advice or other expert assistance is required, the services of a competent professional person should be sought. The publisher hereby expressly excludes all warranties.

Florida Unauthorized Entities

An entity that is required to be licensed or registered with the Florida Office of Insurance Regulation but is operating without the proper authorization is identified as an unauthorized insurer. All persons have the responsibility of conducting reasonable research to ensure they are not writing policies or placing business with an unauthorized insurer. Any person who, directly or indirectly, aid or represent an unauthorized insurer can lose their licenses or face other disciplinary sanctions.

Please see section 626.901, Florida Statutes, to read the laws. Lack of careful screening can result in significant financial loss to Florida consumers due to unpaid claims and/or theft of premiums. Under Florida law, a person can be charged with a third-degree felony and also held liable for any unpaid claims and refund of premiums when representing an unauthorized insurer. It is the person’s responsibility to give fair and accurate information regarding the companies they represent.

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Chapter 1

Insurance Contracts & Understanding the Policy

Elements of a ContractIt is safe to say that most insurance consumers do not realize that an insurance policy is a legal contract, as enforceable and as binding as any other contract in the eyes of the law. An insurance contract is unique in several regards so to better understand what makes it distinct; a basic understanding of contracts themselves is necessary.

The Basic Elements of a ContractThere are certain basic elements that together form the framework of any legal contract. More specifically, an insurance contract requires four elements to be legally binding: agreement, competence, purpose and consideration.

The AgreementFirst, there must be an agreement - an offer by one party and an acceptance by the other party. In personal lines, the offer is normally made by the buyer of insurance. Once an insurer/agent accepts the offer, coverage is in force on the effective date of the application. Because in most cases, the agent has the authority to bind the insurer to the policy; this offer and acceptance can take place just about anywhere: in the agent’s office, online, or over the phone.

Competent PartiesThe second requirement for an insurance contract to be valid is that it must be entered into by competent parties. For instance, entering into a contract with a minor or someone with documented mental competence issues can create problems later. One problem an insurer might have in this regard would be making sure the insurance company has lawfully obtained the authorization to conduct business in a given jurisdiction. Additionally, consider that a minor can disavow a contract with an insurer at the minor’s discretion, but an insurer must honor the contract unless it is disaffirmed by the minor. Obviously, an individual declared mentally incompetent cannot enter into a valid insurance contract or any other contract for that matter. On the other hand, the insurer must also have the legal authority to offer insurance policies, which is usually achieved through its articles of incorporation and its charter.

Legal PurposeLegal purpose is another characteristic of all contracts. For example, no court will enforce a contract with regards to illegal activity. There is no insurance available to protect against the arrest of someone committing a criminal act. Nor will a court enforce a contract made between two drug dealers if one fails to pay for the drugs. However, insurance coverage is

2 PersONAL LINes CONTrACTs AND uNDerwrITINg

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still enforceable on the contents of an establishment where illegal activity is found to be taking place, assuming the loss is not a result of the illegal activity.

ConsiderationConsideration is the other element of a legal contract. Consideration is defined as the value or obligation someone offers another for the performance of the contract terms. In the case of insurance, the insured pays the policy premium and the insurer promises to pay in the event of a covered loss.

Characteristics of Insurance ContractsInsurance contracts have certain features that are not found in other types of contracts. what follows is a brief discussion of these unique features.

Contracts of AdhesionInsurance contracts are not negotiated and are thus known as contracts of adhesion. An insurance contract is usually drawn up by attorneys or other legal representatives of insurers or even by a state regulatory body. As such, they are offered to consumers on a “take it or leave it” basis. A consumer cannot change part of the contract, its terms, or its conditions. That being said, insureds can have changes/amendments made to the contract through “endorsements” approved by the insurer. But the policy “form” itself consists of standardized wording provided by the insurer, as do the endorsements that may be attached to the policy. Contracts of adhesion work to the advantage of the consumer, however, if any ambiguity exists within the contract, courts usually rule in the favor of the consumer. This is because the insurer drew up the contract and is therefore responsible for any lack of clarity. wherever clarity has been found lacking, an endorsement or exclusion has been the result. The controversy over mold coverage is an excellent example of how insurance policy exclusions “evolve” over time. Prior to the mid-90s, mold was covered under the typical homeowners policy, because it was not “excluded”. As more and more consumers were diagnosed with illnesses related to mold, insurance claims for coverage began to explode around the country. Insurance companies began seeking approval for exclusion of coverage and eventually offered a “buyback” option. To obtain mold coverage today is a very expensive option and some companies even limit the total amount of coverage available.

Commutative versus AleatoryAnother characteristic of all contracts, including insurance, is the concept of Commutative or Aleatory. Most contracts are commutative, assuming that both parties to the agreement give up something of equal value. Insurance contracts, on the other hand, are aleatory and are written with the understanding that both parties are exchanging dollar amounts that are not equal. A loss may result in an amount paid to the insured that is much greater than premiums paid. Likewise, if no losses ever occur then there is no payment at all to the insured. This unique feature of an insurance contract does not mean the insured is paying more (or less) than the insurance policy is worth, but rather is paying a fixed price for coverage of covered losses and the insurer is receiving an amount necessary to pay claims and expenses.

Unilateral versus BilateralContracts are either unilateral or bilateral. The former is the exchange of an act for a promise and the latter is an exchange of a promise for a promise. Insurance contracts are generally considered to be unilateral; that is after the insured has paid the premium, the insurer is obligated to an enforceable promise.

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ConditionalIn addition, the insurance contract is conditional and requires that the insured meet certain conditions before collecting on losses. These conditions however, are not legally enforceable, but a breached condition will make the insurance uncollectible. As an example, a fire insurance policy requires the insured to file proof of loss in order to collect on the policy - a condition. The insured is not legally required to provide these proofs, but failure to do so relieves the insurer from the obligation to make payment.

Utmost Good Faithutmost good faith is the primary principle that the insurance contract is based upon. Ordinary contracts are based on the principle of bona fide or good faith contracts. Utmost good faith requires the highest degree of good faith, as the insurer relies on the information provided by the consumer in deciding whether to issue the policy (underwriting) and how much of a premium to charge. If the information provided is false or incomplete, the insurer may consider voiding the contract on one of three grounds: misrepresentation, concealment, or warranty violation.

Conditions that May Void an Insurance ContractRepresentationsrepresentations, although not part of the contract, are statements made by an applicant for insurance in the process of obtaining a policy. They may be oral or written on an application. In order to void a contract on this premise, an insurer must establish that the representation is material and had the company known the truth, the policy would not have been issued. Material misrepresentations are very difficult to prove, as the insurer must establish that it was the intent of the applicant to misrepresent facts from the onset of the application.

Warrantieswarranties stipulate that a particular statement in a policy related to the insurance policy is true. For example, if an insured states their dwelling is protected by a central station alarm system; that promise is a warranty. Failure to affect a stated warranty or falsely making a warranty provides grounds for the insurer to void the policy. In addition, warranties are assumed to be material, so the insurer really only has to establish that a warranty has been breached in order to void the contract.

Concealmentwhen an applicant for insurance fails to disclose known facts when required to do so, it is known as concealment. since insurance is a contract of utmost good faith, the insured must state to the insurer every material fact. The act of deceiving the insurer must be the motive for not disclosing the facts. Again, the insurer must prove that the act of concealment by the insured was intentional in an attempt to defraud.

Personal ContractThe insurance contract is considered a personal contract, in so much as both the insured and the insurer, are relying on utmost good faith in its execution. Moreover, it should be noted that the contract covers the “insured”, not the property of the insured. If a home is sold, for example, the insurance does not transfer to the new owner without the approval of the insurer.

Principle of IndemnityThe topic of contracts would not be complete without a discussion of the principle of indemnity. Both property and liability insurance are contracts of indemnity, which in its basic form means that they provide compensation for a loss for only the amount of the loss or damage. It is not the

ChApter 1: InsUrAnCe COntrACts & UnderstAndIng the pOlICy



intent of an insurance policy to provide for a profit or a loss from a claim and that balance is often difficult to determine. some states use “value policy laws,” defeating the purpose of the indemnity principle; paying a set amount regardless of its actual cash value at the time of the loss. Valued policies are often written to cover objects of art or jewelry. In some cases, the “value” can be much higher than the actual loss.

Insurable Interest and Subrogationthere are two important factors that are part of the discussion of indemnity: insurable interest and subrogation. without the principle of insurable interest, the entire insurance mechanism could never exist. Insurance exists because there is a chance of financial loss and this is what creates an insurable interest. without an insurable interest principle, you could buy insurance on your neighbor’s house, burn it down and then collect the insurance proceeds.

examples of insurable interest exist in other financial arrangements as well. For example, a mortgagee has an insurable interest in a home on the unpaid balance of the loan and a television repairman has an insurable interest in the TV until you pay the repair bill. Legally an insurable interest only needs to exist at the time of the loss. The amount of an insurable interest can normally be measured and is the maximum someone can collect as the result of a loss. It may be possible to insure a dwelling for an amount above the insurable interest, but in the event of a total loss one cannot collect more than their insurable interest.

subrogation allows the insurance company to require an insured to assign their rights of recovery against a legally liable party, for the amount the insurer paid the insured for the loss. This principle does not apply, of course, if the insured caused the loss due to his/her own negligence. without subrogation, the insured could collect for a loss from the insurance company and from the party responsible for the loss.

let’s look at an example of how subrogation works in a claim situation. Mr. Green is sitting at a stoplight minding his own business when John Doe slams into the back of his car. Mr. Green has both comprehensive and collision coverage on his vehicle. Total damages are $3,000 and John Doe is obviously liable for the damages. Mr. Green reports the loss to his insurance company and John Doe does the same to his company. Mr. Green’s company will pay for his damages under the collision coverage of his policy of $3,000, less his deductible. By doing so, his rights to collect from John Doe are now surrendered to the insurance company and they will collect the $3,000 from John Doe’s insurance carrier.

let’s look at a homeowner’s example. If your neighbor chops down a tree that falls the wrong way and destroys your garage, he is legally liable for the damage. Your insurance company will pay for a new garage under the property coverage of your policy and will then “subrogate” your neighbor’s insurance company for the amount paid under his liability coverage for damage to the property of others. This process of one insurance company paying a claim and then collecting from another insurance company happens all the time.

How is Insurance Sold?Although most major insurance companies that sell personal lines insurance have a website and now sell insurance policies online, the traditional method of selling has always been through either an independent or captive agent or an insurance broker as a face-to-face transaction. An agent is authorized by an insurance company to sell, change, or cancel an insurance contract. An independent agent is a self-employed business owner who may represent a few or many insurance companies and is the owner of the customers to whom he sells insurance. A captive agent is employed by an insurance company and can only sell that one company’s products to the public. the customers of a captive

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agent belong to the company and not the agent. An insurance broker seeks coverage for an insured by soliciting an insurer and acts as an agent of the insured.

An agency contract creates a binding relationship between an agent and an insurance company. The authority of an insurance agent is granted by a written contract with the insurance company, permitting the agent to bind the company to contracts of insurance. Actually, agents have three types of authority, which will be briefly covered, as it is very important to understand the breadth of the relationship between a customer, their insurance agent and the insurance company.

Expressed AuthorityOne type of authority is expressed that is granted in the agency contract with the insurer. The company determines the types of customers, amount of insurance that can be written, and the types of coverage permitted.

Implied AuthorityAnother type of authority is implied authority. Briefly stated, agents possess the power that the public believes them to have. As a qualifier, the public belief does have to be “reasonable.” For example, if an insured believes it is reasonable to make an installment payment on his auto policy directly to his insurance agent, then the agent has the power to accept that payment on behalf of the insurance company. In one case, the court decided it was reasonable for a customer to drop their payment into the agent’s mail slot on a Friday evening when the payment was due the next day and therefore coverage was in force when the insured had an accident on saturday morning. And when a dispute arises as to the definition of “reasonable”, it is the courts that make that decision.

Apparent AuthorityIn some cases, court decisions have held that if an agent leads a consumer into believing they have the power to bind an insurer, a condition of apparent authority exists. However, when these cases have been decided, they require two conditions be present: the insurer makes no effort to prevent the agent from exercising their authority; and the buyer does not know the agent has overstepped his or her authority. The following example will illustrate how this could happen.

An insurer, ABC Insurance, Inc., told an agent, sharon, she could not exceed the company’s homeowner binding authority limit of $500,000 on a dwelling value. when ABC Insurance, Inc., accepted the premium sharon submitted for a new policy written for $600,000, the insurer in effect agreed to the binding violation without the buyer knowing there was a violation in the first place. The acceptance of the premium constituted apparent authority in this situation.

There are many reasons why the actions of an agent can cause the agent and the insurer considerable legal difficulty. For example, as long as an insurance agent is acting within the scope of his or her authority, the agent’s actions are legally considered acts of the insurer. likewise, insurers are legally liable for actions of their agents while engaged in authorized duties, even if an agent makes fraudulent assertions that may be unknown to the insurer. Courts consider knowledge of the agent to be knowledge of the insurer and any information regarding a risk that is known by the agent is considered to be known by the insurer as well. If an agent knows, for example, that a client has an alcohol problem and binds him to an auto policy anyway, it is assumed that the insurer also knows of the drinking problem whether the agent advised the insurer or not. Furthermore, if the insurer issues the policy in this example, it cannot then claim that alcoholism is grounds for terminating the contract. some companies have attempted to dilute this tenet of agency law by claiming that only those statements made in the application for insurance are considered knowledge of the insurer. The courts, however, take a rather dim view of this defense and there continues to be much controversy surrounding this argument.

Insurance brokers act as agents of the insured and not the company and as such, they cannot bind insurers to contracts. some states pass laws covering the acts allowed by brokers, and in




some states, brokers are treated as agents of the insurer. It is best for an agent to check with the insurance department that issued his or her license to determine what laws apply to brokers.

Understanding the Insurance PolicyIf possible, follow along with an actual personal insurance policy in hand as you proceed through this chapter of the course.

The insurance contract is broken down into several “sections” and over the years has been rewritten in a much simpler, everyday language with much less legalese to confuse the policyholder. It is speculated in insurance circles that an insurance policy is the least read of any document ever produced, which is probably a fair statement because after all it’s not exactly exciting reading. And, what is presented here is not intended to be an all-inclusive discussion of the insurance policy as entire books have been written on this subject. we will attempt to highlight the features of a policy and limit our discussion to areas of significance for the insurance agent to understand.

The Parts of an Insurance PolicyAll personal insurance policies have the same parts: declarations, insuring agreement, exclusions and conditions. these are standardized “forms” that are provided by the Insurance services Office or IsO. IsO is a company that provides a number of valuable resources to the insurance industry, not the least of which is policy forms and contract language. In addition, they also make the necessary state filings for changes to insurance policy contracts on behalf of member companies.

Usually attached to all policies as well are state specific mandatory endorsements that may, for example, change the time-frame of cancellation or non-renewal notices to comply with state laws. These are sometimes called “amendatory endorsements.”

The Declarationthe declarations section of the policy identifies insured persons, effective and expiration date, limits of various coverages, and the premium for the term. In homeowners insurance, the declarations would include the address of the insured property, coverage limit on the home, contents, additional living expense, and the liability and medical payments limit. similarly, for an auto insurance policy the declarations would include the year, make, and model of the insured vehicles. It may also include the purchase price, how the vehicle(s) is used, distance driven to work, area where the vehicle is driven, and the garage location.

The Insuring Agreementthe insuring agreement defines a broad statement of coverages in a policy and makes a promise to pay to or on behalf of the insured. In addition, definitions of policy terms may also be included, such as the definition of an insured auto, and a covered person in an auto policy.

ExclusionsPolicy exclusions limit the broad coverages extended in the insuring agreements. A simple way to understand the structure of an insurance policy is to always keep in mind that the policy provides coverages that may be very broad and then excludes certain coverages because they may duplicate other policy coverages, and/or to eliminate moral or uninsurable exposures.

Endorsementsendorsements change policy conditions and/or coverages, and, as mentioned, may be required to meet state insurance laws regarding cancellation and/or non-renewal of policies. Other endorsements may provide additional coverage or take away coverage on some perils that are uninsurable. On the other hand, some endorsements allow insureds to “buy back” a coverage that is excluded. Two good examples of these buy back endorsements are coverage for mold and buy back for earthquake coverage.

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Determining Coveragewhen attempting to determine the protection afforded by an insurance contract it is important to answer several relevant questions:

• who is covered?• what perils are covered?• what property is covered?• what type of losses are covered?• what location is covered?• what is the time period of coverage?• what are the exclusions to coverage?

One must read the policy carefully to answer these questions. It may at first appear that coverage is afforded, only to find an exclusion that takes coverage away. Moreover, it may again be reinstated in another part of the policy. It is not unusual in fact to find an “exclusion to an exclusion” in the policy.

there are four additional questions that need to be considered in understanding a policy:

• what are my duties after a loss?• What is the company’s time limit for paying a claim?• What are the company’s options for settling a claim?• Can an insured file a lawsuit against the insurer?

Named Perils or All-RiskDetermining coverage for a particular loss will require knowledge of the type of contract in force; “named perils” or “all-risk.” The latter is really a misnomer as it implies that every peril is covered and that is not the case at all. In reality, only perils not excluded are covered and there are many excluded perils.

A named perils contract lists only those perils that are covered while an all-risk contract lists those perils that are excluded. typical of the basic personal insurance perils are fire, wind and hail, lightning, explosion, theft, negligence, collision, and accident. where necessary, the policy will define terms used in the contract that may differ from the dictionary definition.

Fire, which causes a greater dollar loss than all other perils combined, for example, has been defined by court decisions over the years, as either friendly or unfriendly. A friendly fire is determined to be one that is burning where intended, i.e. in a fireplace or wood stove. An unfriendly fire is one burning where unintended, i.e. anywhere else! there is no coverage for a friendly fire; the logs burning, for example, cannot be insured, but if the fire jumps from the fireplace onto the carpet, there is coverage as that is not where fire is intended to burn. It is important to keep in mind that the typical personal insurance policy excludes any loss where the insured fails to protect property that is threatened by a covered peril. Boarding up windows when a hurricane is approaching is an example of protecting property.

Proximate CauseAn important principle with reference to loss is proximate cause, which is generally defined as the cause that was responsible for the loss through an unbroken chain of events. A loss is considered a covered loss when the peril causing the loss is the proximate cause. For example, the water and smoke damage from a covered fire is usually also covered since the fire, which is a covered peril, is the proximate cause of the loss.

property covered under a home or auto policy is usually defined and does not include All property. your pets, for example, are not covered under a typical homeowners policy. real




property, for example your home, must be specified and identified to be covered, but household and home contents that are usual to the occupancy of the dwelling are covered as part of the homeowners policy.

Direct or Indirect Losslosses are usually defined as direct or indirect. direct loss refers to physical damage to or loss of property while indirect loss refers to loss of use of damaged property.

persons insured are defined in the policy and usually include the property or auto owner(s) and also included are the home mortgage holder and the auto lien holder(s) if they hold liens on the property. Auto policies also include household members as insureds as well under the policy, but they do not have the same priority as a “named insured.” Household members are also covered under the homeowners policy as long as they are resident relatives. Mortgagees and lien holders have an insurable interest in the property/autos and therefore are entitled to have their interest (the balance of a loan or mortgage) insured. Often, an auto lien holder will “force place” coverage on an auto if they receive a notice of cancellation on the covered auto(s), as is their right.

As persons are identified in the policy, so too are locations listed on the policy. some personal lines policies will list several properties while others may only list one location. Multiple location properties include secondary locations used for personal use or in some instances, a rental property may also be listed. Of course, the advantage of listing multiple properties together is the convenience of only one policy and one billing statement offered by many companies.

Most homeowners and fire policies are written for one year, but some auto policies are written with six-month terms even though the coverage is for one year. In addition, most state insurance departments will not allow a rate increase to be effective in the middle of a policy term. Coverage traditionally begins at 12:01 a.m., on the effective date and expires at 12:01 a.m., on the expiration date. The time zone for both effective date and expiration date is governed by the location of the property. This can cause some losses to not be covered if they occur in a different time zone.

Right to CancelMost personal insurance policies provide both the insurer and the insured the right to cancel the policy with written notice prior to its expiration date. The insured can cancel the policy at anytime, but the insurer may only cancel the policy after giving a certain number of days notice based on state insurance laws. One reason why the insurer is required to give advanced notice of cancellation is to allow time for the insured to secure other insurance without a lapse in coverage.

Policy CancellationCancellation of a policy is allowed in most states prior to the 60th day of coverage in order to give insurers ample time to underwrite the account and gather the necessary information they need to either approve or terminate the account. Normally the personal lines account cannot be cancelled after the initial 60-day underwriting period except for a few reasons many of which are dictated by state insurance laws governing policy cancellation. One of those reasons is non-payment of premium, but another is “substantial change in the risk originally assumed.” In some states, the revocation of a driver’s license is a valid and legal reason an insurance company can cancel an auto insurance policy. Other states pass insurance regulations severely limiting the cancellation of auto policies except for the revocation of a driver’s license.

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Exclusionsthe insurance policy also specifies situations where coverage is excluded when certain conditions exist. For example, the typical fire and homeowner policy contains a “vacancy clause” restricting coverage when there is an increase in the hazard or when the dwelling is vacant or unoccupied for a specified time period, usually 60 days. Furthermore, there is no coverage under the fire policy for a loss in a situation where the hazard is increased with the knowledge and/or control of the insured. the final determination of what constitutes an “increase in the hazard” lies with the courts who usually only include “major” increases in hazard. A few hazards, however, are specifically excluded under personal lines contracts, for example, the use of an auto for livery purposes and the nuclear hazard.

Insured’s Duties after a Losspersonal insurance policies always include the insured’s duties after a loss. these duties include:

• Protection of insured property• Providing proof of loss• Providing an inventory• Prompt notice of loss; and most importantly• the insured’s cooperation during the claims process

The protection of property duty is essential to prevent further loss from occurring and requires the insurer to bear the expenses associated with doing so. This provision works to the advantage of the company to avoid what would be additional loss dollars had the property not been protected. If the property is knowingly left unprotected, courts have found that the insurer is not liable for any further damage that may have occurred.

The proof of loss requirement is usually spelled out in the policy and may require that the insured sign a sworn statement within 60 days outlining the facts of the loss thus allowing the insurer to equitably settle the claim. A fraudulent statement usually voids the policy and may result in criminal prosecution on behalf of the insurer and the state insurance department. The proof of loss clause may vary as to the time limit for notice to be filed and the information required, but insureds should become familiar with the requirements of their policy.

Cooperation from the policyholder is especially important in liability contracts in order to defend lawsuits because they may be witnesses to an act of negligence. It is difficult for the insurer to provide an effective defense without the insured’s cooperation and it may jeopardize the handling of the case. As such, the insurer will usually compensate the insured for out of pocket expenses related to attending hearings or other matters material to the defense. Companies will normally make a “good will” payment on a medical payments claim for first aid in the event of a trip and fall on premises, for example.

Claims Settlement the insurance company normally has three options for settling claims: replacement; abandonment and salvage; and pair and set.

ReplacementThe replacement option allows insurers to either repair or replace damaged property with like kind and quality instead of paying the actual cash value of the item destroyed.

Right to AbandonmentThe insurer only has the right to abandonment and keeping the salvage after a loss. used in this sense, abandonment means the insured is giving up ownership of the property to




the insurer so a total loss may be declared. salvage occurs when the insurer takes over the property to reduce the amount of its loss. In general, when an insurer pays a total loss they maintain the salvage rights, but insureds cannot abandon property to an insurer and claim a total loss.

Pair and SetThe pair and set method of loss settlement simply states that the loss of one item in a pair or set is not a loss to both items. The insurer retains the option of repairing or replacing the lost or damaged item to its value before the loss, or of paying the difference between the actual cash value of the item before and after the loss. A lost earring, for instance, is not a total loss of the set because the insurer will attempt to reach a fair settlement with the insured based on this clause.

Loss PaymentsFinally, insurance policies identify time limits for paying claims but they can vary among policies. A typical homeowners policy states that loss payments must be made within 30 days after agreement is reached or a judgment has been made. some state insurance laws require specific time frames for payment of claims and the insurance policy time frame is subject to state laws where they differ.

IndemnityIn spite of the amount of coverage on a policy, and with the exception of a value policy state, an insured cannot receive more than their insurable interest in a loss. Doing so would be a violation of the principle of indemnity. This principle states that an insured should not be in a better or worse financial position after a claim than he/she was prior to the claim. In effect, it means to “make one whole again.” A home with a mortgage is a simple example of this principle. If your home is insured for $200,000, but your mortgage’s balance is $125,000, your insurable interest is only $75,000 while the mortgagee’s interest is $125,000. In the event of a total loss, you would be paid $75,000, the amount of your loss.

Actual Cash ValueOne key concept of understanding how losses are paid is actual cash value at the time of loss. Actual cash value is defined as replacement cost less depreciation and many insurance contracts settle claims on this basis. Both ACV and depreciation are sometimes not easy to determine and often result in disputes between insurers and insureds and can result in lawsuits to settle differences.

Can an insured ever receive more than the actual cash value of a claim? The answer is yes. Over the years, insurers and some states have introduced policy enhancements that accomplish this violation of the indemnity principle.

some states have value policy laws that require insurance companies to pay the face value of the policy in the event of a total loss. If insurers do not appraise homes in these states, they can promote over insurance. But since few losses are total losses, some insurers decide not to spend the money to appraise every dwelling and will occasionally wind up paying an excessive claim.

Replacement Cost CoverageAnother violation of the principle of indemnity is called replacement cost coverage. several years ago this was an enhancement to the homeowners policy as an option with a premium charge and was a great marketing tool for insurers. Today the coverage is often part of the policy with no additional premium. simply stated, replacement cost coverage pays for repair or replacement without deduction for depreciation.

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Policy LimitsThere are several types of policy limits contained within an insurance policy and an insurer does not automatically pay policy limits for every total loss with the exception of the previously mentioned valued policy. An auto insurance policy usually pays ACV for the loss of an automobile under the physical damage coverage, although some companies will insure an auto for its full replacement value and displays this limit on the declarations page.

Blanket Coveragesome policies contain divided coverages where a face amount is stated for each while some companies issue a policy with “blanket coverage” on all property coverages. A homeowners policy contains face limits for the home, other structures, contents, additional living expenses and liability and medical payments. The typical homeowners policy also provides “sublimits” for certain named types of property; $500 for loss by theft of jewelry, watches, furs, precious and semi-precious stones; $100 on money, bank notes bullion, gold other than goldware, silver other than silverware, platinum, coins and medals and a few other similar classes.

some policies also provide for additional amounts of insurance beyond the basic limits. An auto policy provides an additional amount per day when a vehicle is stolen, up to a maximum limit. And these amounts are in addition to the coverage on the vehicle.

Auto insurance can have two limits for bodily injury coverage; one per person and one per accident, and one limit for property damage. let’s say that you have an auto policy with liability limits of $10,000 per person and $20,000 per accident with $10,000 on property damage. If you cause an accident by your negligence, the most the insurer will pay is $20,000 (with a maximum of $10,000 per person) regardless of the number of people injured in the accident and a maximum of $10,000 for property damage claims. some insurers offer a “single limit” of liability for both bodily injury and property damage and that is the total amount available regardless of the number of people injured and damage to property.

CoinsuranceAnother important concept to understand with regards to the personal insurance policy is coinsurance. This principle basically states that if an insured does not insure the property to a certain percentage of its actual cash value, loss recovery is limited for partial losses. And, in return for insuring to the minimum percentage, the premium is reduced correspondingly. For example, a fire policy written with an 80% coinsurance clause might cost 70% less than with no coinsurance clause. some companies require 90% coinsurance while most homeowners policies today require 100% insurance to value. the reason for the coinsurance clause results from the fact that most fire losses are partial and many result in damage to under 10% of the property’s value. thus an insurance buyer would only have to buy 10% of insurance to value but yet collect for the full amount of damage from a loss. The coinsurance clause is a method of preventing this inequity from occurring.

If the minimum percentage of insurance is not purchased, the insured becomes a “coinsurer” of the risk. An easy formula to determine the amount of a recovery is: did/should X loss=Amount of recovery. let’s look at an example. Assume you own a building with an actual cash value of $800,000 at the time of the loss and you have a policy with an 80% coinsurance clause. you insure the building for $600,000. that’s a $40,000 deficiency (80% of $800,000 is $640,000). If the building burns and the damage amounts to $300,000, you can apply the formula as follows; the amount of insurance you did carry was $600,000 but the amount you should have carried was $640,000. so $600,000 divided by $640,000 is 93.7% and that’s the percentage of the claim the insurer would pay of $100,000 or $281,100. you would be responsible for $18,900.




Policy DeductiblesNo discussion of the personal insurance policy would be complete without a discussion of the policy deductible. Insurers use deductibles as a means of eliminating small nuisance claims that can be costly to handle. And the use of deductibles help to keep premiums low and also encourage insureds to not be claims conscious as they are forced to pay for a part of every loss. The most common deductible is the straight deductible and in homeowners insurance usually begins at $250 but some insurers offer deductibles of $10,000. And, some companies offer deductibles as a percentage of the home coverage amount instead of straight dollar amounts. In some wind-prone states, a percentage deductible is applied toward losses due to wind only. earthquake deductibles are often percentage deductibles separate from the property policy deductible.

In conclusion, the best way to learn your way around the insurance policy is to just jump in and begin reading. Make notes of questions you may have and call your underwriter to help clear up confusing coverages or exclusions. Obviously the better you understand the contract, the better you can advise your customers and answer their questions about the best way to help them to protect their assets.

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Chapter Questions

1. An insurance contract:a) Is a legal contract but is not enforceable in a court of lawb) Is a legal contract and is enforceable in a court of law c) Is not a legal contract in the eyes of the lawd) Is sometimes considered a legal contract in the eyes of the law

2. which of the following is NOT one of the elements of a contract?a) Competenceb) Agreementc) Considerationd) signatures of all parties

3. which of the following is not a legal purpose for a contract?a) A real estate agreement for the purpose of buying landb) A business agreement to purchase inventoryc) A debt owed to a bookied) A bank loan for the purchase of a new car

4. which of the following best describes a “unilateral” contract?a) An exchange of a promise for a promiseb) An exchange of an act for a promise c) An exchange of a condition for an ideald) An exchange of a need for a promise

5. According to the principle of Indemnity:a) Insurance contracts provide for payment of any claim regardless of coverageb) Compensation for losses is only in the amount of the loss or damage sustained c) This principle does not apply to insurance claimsd) Compensation for losses is for two times the amount of any loss sustained

6. why is “insurable interest” an important principle of insurance?a) without it anyone could insure anything and collect after a loss b) several people can insure your property and then you can collect from themc) It defines who is not covered under an insurance policyd) It allows everyone under the policy collect a loss payment individually

7. Which is the following defines the principle of subrogation?a) Allows anyone to collect on a claim regardless of faultb) Allows the insurance company to acquire the rights of recovery from an insured c) gives the insured the right to sue a party liable for a lossd) Allows a policyholder to collect from the insurance company and from the party responsible

for the loss

8. An agency contract with an insurance company:a) provides the agent the authority to settle claims on the company’s behalfb) permits the agent to cancel a policy of insurance without the company’s permissionc) Permits the agent to bind an insurance company to contracts of insurance d) Is a lasting contract that cannot be cancelled

14

Chapter Questions

9. what three types of authority does an agency contract provide?a) Legal, Apparent, Impliedb) Implied, Consensual, expressedc) expressed, Binding, Legald) expressed, Implied, Apparent

10. What services does the Insurance services Office (IsO) provide to insurance companies?a) Claims handling servicesb) Policy forms and contract languagec) Commission handling servicesd) Agent training services

11. If you were looking at a homeowners insurance policy, where would you find the address of the property insured?a) Declarationsb) Insuring Agreementc) Conditionsd) exclusions

12. what is the purpose of exclusions in an insurance policy?a) To limit broad coverages in a policy and/or to eliminate moral or uninsurable exposures b) To limit the amount of certain claim paymentsc) To limit most covered perilsd) to limit an agent’s binding authority

13. what does Named Perils Coverage mean?a) Coverages named in the exclusionsb) Any coverage even if not listed in the policyc) Coverage that is not named is automatically coveredd) Only those perils listed in the policy are covered

14. How many days are insurance companies normally allowed from the inception date of the policy, to gather the necessary underwriting information and either accept or decline an application?a) 45 daysb) 60 daysc) 30 daysd) 10 days

15. Which of the following is nOt an insured’s duty after a loss in a personal insurance policy?a) Negotiating with the claimant b) Prompt notice of lossc) Protection of propertyd) Providing an inventory

16. what does the “replacement” claim settlement option allow the insurance company to do?a) To replace only a damaged or destroyed covered itemb) To repair only a damaged or destroyed covered itemc) To either replace or repair a damaged or destroyed covered item d) To negotiate with policyholders on the settlement of a claim

15

Chapter Questions

17. what does the principle of indemnity state?a) An insured should not be in a better or worse financial position off after a claim than they were

prior to the claim b) An insured should be better off after the claim than beforec) An insured should collect from both the claimant and the insurance company after a lossd) Coverage is suspended when a home has been vacant for more than 30 days

18. replacement cost coverage:a) Is seldom offered on a personal insurance policyb) Violates the principle of indemnity c) Pays for a loss after a deduction for depreciationd) Is part of the exclusions of a policy

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Chapter 2

Underwriting: Laying the Groundwork

An OverviewAs an agent or personal lines customer service representative (Csr), you come into contact with company underwriters every day. understanding their job responsibilities may give you an insight into the underwriting function and how it relates to your job.

From a company standpoint underwriters have one major responsibility, which can be summarized in a single word—prOFIt! It is their job to ensure that business placed with the company not only meets the current underwriting guidelines, but over the course of the long term, will be profitable. Unlike the old days of paper folders, today’s underwriters operate from computer terminals with policyholder information at their fingertips. In today’s environment of expense controls, the computer is able to perform many functions faster and more efficiently than ever before and thus reduce the monotonous tasks formerly handled by people. In addition, the effective use of automation also helps to reduce the costs of insurance and deliver a product much faster and more efficiently, thus providing better customer satisfaction and maximizing company profitability.

Most personal lines insurance companies today use sophisticated programs to perform the initial underwriting function. These systems are capable of “screening” business based on a set of criteria that match their underwriting guidelines. For example, if the underwriting guidelines prohibit certain vehicles from being written, these computer programs recognize the vehicle from the vehicle identification number (VIn) and will not allow the policy to be issued until an underwriter has “released” or approved the application. A score is assigned, based on information provided on the application, and if the score is above or below a certain threshold, the policy will either be released or held for underwriting review.

In this way, underwriters today only see applications, which they NeeD to see. In most cases, applications are never seen by an underwriter, and those that are referred to them are merely computer printouts, which show the criteria the risk did not meet. Keep in mind underwriters spend every day reviewing business applications that do not meet their company guidelines!

“templet, n. 1. a pattern, mold, or the like,…serving as a gauge or guide…”

Webster’s Dictionary

For some companies in today’s era of automation, successful use of computer risk selection and credit scoring, the underwriter’s function has changed to one of “consultant” or “advisor.” In this role, underwriters answer agent’s questions regarding coverages, billing inquires, and underwriting guidelines, while the computer actually performs most of the risk selection. At this point an obvious question might be: “Why are underwriters needed at all if computers are capable of underwriting?” well, fortunately or unfortunately, depending on your perspective, computers can only see black and

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white. They cannot reason nor see gray areas and often the one thing insurance itself creates is gray areas!

underwriting guidelines are set by the company as a means of risk selection and pricing. The job of underwriting actually starts with you—the agent or Csr. From the information you provide the company, the underwriter will determine the acceptability of the risk in accordance with the guidelines. the question the underwriter will ask is: “Will this risk produce a profit at the rate level at which we are writing it?” If the answer is no, the underwriter must decline the risk. In reality, underwriting guidelines “discriminate”—not along racial, sexual, or religious lines, but along lines of loss probability. Tons of statistical data exist which provide companies with loss experience for age and sex of operator, vehicle type, driving record, usage, and now credit scoring is also used by many companies as a means of risk selection. we will talk more about credit scoring a little later. without this information companies would have little or no basis for determining rate structure. One way to visualize the underwriter’s job is in terms of a template, a device used to measure an object by a standard. If the risk meets the underwriting guidelines (template), in theory, that risk will be profitable in the long-run. We know this doesn’t always work in practice, but the measure of the company’s success is dependent upon it working much more often than not.

As you continue through this course, you will learn the importance of your role in the underwriting process, and how your decisions will affect your agency’s profitability.

Profitability since profit is the primary reason your agency and your companies are in business, it is important to have an understanding of how profitability is measured. Companies determine agency profitability based on loss ratio, which can be measured in a number of ways, but for our needs we will keep the explanation as simple as possible.

Earned versus Written Premium In order to understand how loss ratios are calculated we must first define a few terms.

• Written Premium: Includes all premiums collected during a specific time period, which is usually one year.

• Earned Premium: The amount of premium paying for the promised protection the company has already provided the insured for the time elapsed. (note: the protection is “promised” because until there is an actual claim the insured will not “see” the coverage or protection he had available.)

• Incurred Losses: All losses that occurred during an accounting period, regardless of whether or not they have been paid or are reserved (in company accounts) to be paid.

Income received from premium payments by policyholders is used to pay company expenses that include salaries, equipment, supplies, commissions, and losses. If you envision premium income as one dollar, for example, and after all expenses are paid, you still have .95 cents—you have made a profit. If, on the other hand, after all expenses are paid you still owe .25 cents, you have sustained a loss. In the case of loss ratios, the income (premium) is not written premium but earned premium. earned premium is used because if a policy is written effective today for a period of 1 year, only 1/365 is paid for today. At the end of 1 month of coverage, only 1/12 has been “used” or paid for. the premium for the other 11 months is kept in the company’s Unearned Premium reserve account. Again this can become very complicated and our intent here is to keep this example as simple as possible.

what is an acceptable loss ratio? The answer will vary by company.

ChApter 2: UnderWrItIng: lAyIng the grOUndWOrk



A Practical Example now that we have an understanding of the components of loss ratio calculations, let’s look at a practical example.

Suppose your agency wrote $150,000 of personal auto business in a year, and of this total, $100,000 is earned premium. Also, total losses amounted to $40,000. What is your agency’s loss ratio? Loss ratios are determined as a percentage of earned premium to total losses. So, in this example, you would divide $40,000 of losses by $100,000 of earned premium for a loss ratio of 40%.

There is an inverse relationship between incurred losses and earned premium. Note that as earned premium increases, while losses remain the same, loss ratios decline. And, conversely, if earned premium decreases while losses remain the same, loss ratios increase. The same results occur with incurred losses. If incurred losses increase while earned premium remains the same, loss ratios increase. And, if incurred losses decrease while earned premiums remain the same, loss ratios decrease.

What is an acceptable (profitable) loss ratio? the answer to this question will vary by company. depending on how well a company can control expenses and operate efficiently, the number would be higher, perhaps in the middle to low sixties. On the other hand, with some companies, a profitable loss ratio might be in the middle fifties.

The loss ratios we have been discussing are called pure loss ratios; that is, only dollars paid or reserved for the actual loss are considered. Companies use another method of loss ratio determination to measure their performance against other companies or the industry itself, called the combined loss ratio. The combined loss ratio is the sum of the pure loss ratio and the expense ratio. Included in a company’s expense ratio are items such as cost of production, general administration costs, taxes, licenses and fees, and an allowance for underwriting profits. A combined loss ratio of exactly 100% means for every dollar of earned premium, the company has paid out one dollar in losses. therefore, there was neither a profit or a loss. A combined loss ratio under 100% is profitable. Using the prior numbers, if the pure loss ratio is 40% and the company expenses are another 40 points then the combined loss ratio would be 80%. If, however, the pure loss ratio is 65%, and the expense factor is 40 points, then the combined loss ratio is an unprofitable 105%. Using the following information, determine the agency’s pure loss ratio:

earned premium $255,000

Losses incurred $175,000

Pure loss ratio __________

(If you said 68.6% you are correct!)

Now that we have a basic understanding of how loss ratios are computed, we can begin to make assumptions about factors that may positively or negatively affect an agent’s profitability.

some questions to think about:

Applying the definition of a template to underwriting, define the “object” and the “standard.”

______________________________________________________________________________________________________________________________________________________________

why is it important to have every dollar of earned premium on every policy?

______________________________________________________________________________________________________________________________________________________________

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explain the difference between a pure loss ratio and a combined loss ratio.

______________________________________________________________________________________________________________________________________________________________

Did you know? Loss ratios are also used as a method to determine statewide changes in the rate level.

The Application Most Company applications are accessed on-line via their website. This electronic application is both the initial and most critically important information for the underwriter to review. The application provides detailed information about the risk the company is being asked to assume. The agency is giving the underwriter a composite picture of the applicant. As we will discuss later, the underwriter’s sources of information about this risk are limited and sometimes lacking a great deal of accuracy. with incomplete or inaccurate information, the underwriter is being asked to make a decision with insufficient data, a factor that throws the template out of balance. It is not unlike trying to put a puzzle together without all the pieces present. For example, if the application shows pleasure use, but the vehicle is actually used to drive to work, the risk is improperly rated and the company is not receiving the proper premium for the exposure, nor the agency the proper commission income. using another example, this time homeowners, if a home is rated as masonry when it is actually frame, again the template is distorted and the proper premium is not being paid, because masonry costs more to replace than frame.

here’s an example of how misrating can negatively impact an agency’s loss ratio:Referring back to our discussion of loss ratio calculations, loss ratio is determined by dividing incurred losses by earned premium. Again, using the previous example, $40,000 of losses divided by $100,000 of earned premium produces a loss ratio of 40%. Now if we are not collecting enough earned premium and losses remain the same, the loss ratio will move higher. Using the same example, assume losses of $40,000, but change the earned premiums to $80,000, and the loss ratio becomes 50%. Improper rating of your business can adversely affect your loss ratio by not collecting sufficient premium, not to mention the loss of commission income. While you have little control over losses, you do have control over collecting the proper premium.

why is it important to properly classify auto and homeowners business?

____________________________________________________________________________________________________________________________________________________________________

In addition to not receiving the proper premium for the exposure, incomplete or inaccurate applications cause delays in policy issuance. The underwriter spends unnecessary time and effort attempting to obtain the correct information. It is very easy to slip into the habit of taking the application for granted and sometimes, in our haste, critical items are overlooked or misstated. The other major concern for agents with incomplete information on applications is the errors and omissions (e&O) exposure.

there are certain yes/no questions on the application that will always peak an underwriter’s interest. For example, if you answer that insurance has been declined in the last 3 years or that a license has been suspended or revoked, you are sure to get a call from your underwriter. The best practice is to always explain any unusual situations in the remarks section of the application. you might say that insurance was declined because the prior carrier is no longer writing business in the state. with no explanation, the underwriter assumes that coverage was declined because of an underwriting reason.

Another item on the application that may cause additional questions from an underwriter is the occupation of the applicant. To simply state the insured is “self-employed” is not a complete answer. what underwriters want to know is the nature of the self-employment because it may increase the hazard of the risk. A bookstore owner seems like a low hazard occupation, but what if the owner uses a




personal vehicle to deliver books on a regular basis to customers? There are loss records of individuals working at home in hazardous and/or dangerous occupations. In one case, a man was making fireworks in the basement of his home when sparks from a grinding wheel set off an explosion of such proportion that the roof was blown off the house! you would never know this if you simply accepted the occupation of “self-employed.”

If an applicant cannot supply you with the necessary information until a later date, you would best be advised to inform your client that you cannot bind coverage until that information is received. Many examples exist of situations where an applicant promises to provide the information and in the meantime a loss occurs because the agent bound the coverage. And, in many cases, this missing information happens to be of a critical nature, i.e. license number from a prior state. The best incentive to provide the missing information is to withhold coverage until the application is complete.

Missing information from an application can be of a critical nature.

some agencies utilize their own application in addition to the company application. This application is usually very general in nature and is often used to assess the customer’s overall insurance needs and to determine which company the customer might fit. some agents have used the application to obtain names of friends or relatives who might be interested in the agent’s services.

what effect might incomplete or inaccurate information have on an underwriter reviewing an application?

____________________________________________________________________________________________________________________________________________________________________

Driving Behaviors reported for Drivers and Motorcycle Operators Involved in Fatal Crashes

Behavior

Failure to keep in proper lane or running off road

Under the Influence of alcohol, drugs or medication

Inattentive (talking, eating, etc.)

Failure to yield right of way

Overcorrecting/oversteering

Failure to obey traffic signs, signals or officer

Swerving or avoiding due to wind, slippery surface, other vehicle, object, non-motorist on roadway, etc.

Driving wrong way in one-way traffic or on wrong side of road

Operating vehicle in erratic, reckless, careless or negligent manner

Drowsy, asleep, fatigued, ill, or blacked out

Making improper turn

Vision obscured (rain, snow, glare, lights, buildings, trees, etc.)

Other factors not listed

The InterviewConducting the insurance interview should never be a routine matter. One of your primary objectives in conducting the interview is to obtain accurate information about the exposure to insure the correct premium is charged. each applicant is unique and exposures can vary widely. In addition to the standard application questions, several areas deserve special attention.

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Vehicle Use One of these areas is vehicle use. How a vehicle is used determines its exposure to loss and ultimately the rate charged to insure that vehicle. An example might help to clarify this point.

There is no additional premium charged for a vehicle driven “to work 3 miles or under.” According to an ISO (Insurance Service Offices) rating factors chart, the factor for this use is 1.0. Therefore the company is saying that the current rate for this use is not in excess of the normal exposure.

However, the additional premium for “drive to work over 3 miles but up to 15 miles” is developed by multiplying the base premium by a factor of 1.05. Since the exposure is now greater, the correct premium is 5% more than the less than 3-mile rate. Assuming the base premium is $60, the “drive to work under 3 mile” premium would be $60. The “drive to work over 3 miles, but less than 15 miles”, would be $63. This $3 difference does not sound like very much, but multiplied by thousands of policies it is a substantial difference.

As we have discussed, improper rating of vehicle use results in insufficient premium for the exposure and consequently adversely affects loss ratios. Probably the best method of determining drive to work mileage is to ask where the insured works, rather than how far the drive is. since you, as the agent or Csr, usually know the city fairly well, you can determine the mileage roughly from your knowledge.

Other Considerations Another concern with the subject of vehicle use is a second job. Many people work two jobs to supplement their income. It is important to know the nature of that second job, as it may increase the exposure. Perhaps the clients are driving farther to the second job than to their principal job, which would increase the exposure. Or, more importantly, perhaps they are using the vehicle in a manner not contemplated in the company’s rate structure at all. For example, pizza delivery drivers sometimes use their own vehicles. This exposure is not contemplated in the rate class of “drive to work.” In fact, there might not be a rate class adequate to cover this use! It is not uncommon for drivers to cover 50 to 100 miles in an evening shift, and the chance of loss increases dramatically. A standard question during the auto interview should always be: “do you or your spouse work a second job?”

Other areas to consider are second jobs, business use of the vehicles, or young drivers.

Business Use The potential use of an auto for business use needs to be explored further. Again, referring to the IsO rating factor chart, the rate class factor for “business use” provides additional premium 15% above the base premium. As such, we know the exposure to loss is greater than the “drive to work under 3 mile” rate class. Many times questions regarding business use arise simply because of the nature of the business, i.e. salespeople who carry a large quantity of valuable samples in the vehicle.

• A typical example of an acceptable vehicle use for this class are realtors who drive to an office but also meet clients in various parts of the city to show homes.

• Other examples include salespeople who call on clients within a limited area. • Not typical for this class are salespeople who travel several states or contractors who

travel from job site to job site carrying tools related to their occupation. The rate for these exposures would be several times the basic premium. risks that fall in these categories should be written under a commercial auto form.




Other Drivers? Another important question to address during the interview relates to family members.

• Are there young children in the household? • Are there other adults living with you? • It is always a good idea to obtain the names and dates of births of all family and non-

family members living in the household, even if they are not yet of driving age. underwriters like to know if a young person is close to driving age, as it may change their opinion of the risk. A family with a 14 year old in the household will experience a substantial change in exposure when this young person reaches driving age. some agents obtain this information on their own application, as mentioned previously.

Interview Opportunities the interview affords you the opportunity to evaluate the applicant’s character, maturity and sense of responsibility. This is especially true with young drivers. Company statistics clearly show a much greater chance of loss with a young person than for older operators. Aside from the companies that write non-standard business, not many companies are anxious to write young drivers for this reason.

One of your goals should be to determine a “fit” with the applicant and one of your companies. Again the “template” concept comes into play here. you have several tools at your disposal to accomplish this goal that we will discuss later. Is this a person that the agency wants to do business with?

Most insureds look to their agent as a source of knowledge for their insurance needs. Counseling applicants and policyholders and solving their problems is another of your important functions. The public has very little understanding of how insurance works.

It is difficult to assess character over the telephone.

The Telephone Interview Another interview method less effective than in person is via the telephone. some agents will not quote or sell insurance over the telephone. some non-standard companies along with many standard companies that market auto insurance by phone or via the internet, primarily utilize the insurance credit score to tier their business.

It is probably a good idea to avoid conducting an interview over the phone, but if you must do so, always let your client know that they must come into the office to sign an application. the guidelines outlined apply to the telephone interview.

why is the telephone interview not as effective as an interview in person?

1. First, it is very difficult to assess one’s character over the telephone. 2. Also, is this person calling “all over town” getting quotes to find the cheapest coverage? If

so, will they become loyal customers of your agency or will they move their coverage at the first lower quote?

3. Finally, the telephone often serves as a barrier to communication and makes it difficult to build a rapport with your customer.

what is one of your primary goals in conducting the interview?

____________________________________________________________________________________________________________________________________________________________________

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why is a telephone interview less effective than an in-person interview?

____________________________________________________________________________________________________________________________________________________________________

Information Gathering Underwriting personal lines business for a profit is by no means an easy task. the underwriter and the agency have several tools to determine the acceptability of clients for insurance coverage. some consumer advocates will argue that insurance companies have access to TOO MuCH information and therefore some states are attempting to limit or restrict information gathering by insurance companies.

Accurate Information is the Key The question is really not how much information is available but rather how ACCurATe is the information. For example, in some states motor vehicle records (MVrs) do not report accident data and there can be a 3-6 month delay in reporting moving violations to the Department of Motor Vehicles. In some states, accidents are not reported unless a minimum amount of damage occurs. In still other states citations are taken off driving records if the driver attends “driving school.” what this amounts to is companies writing business on individuals where the true driving habits are not known!

let’s look at this problem a little closer.

If you write an auto policy in a preferred tier, for an applicant with 2 accidents in the last 3 years, but whose MVr shows as clean, what have you done? First, statistics tell us that a driver with a prior accident (fault or non-fault) in the first 3 years is 1.66 times more likely to have another accident within the subsequent 3 years when compared to the accident free group. those with 2 losses in the first 3 years were 2.3 times more likely to have an additional accident in the following 3 years. Therefore, this insured is being charged a preferred rate when he actually should be paying a minimum of a non-standard rate or much higher. The same principle holds true for convictions. so with this applicant, we are playing at a disadvantage from the beginning because we do not know the true driving record. If you write just one of these risks you are tempting the “loss ratio gods” against you, because remember, you have to take in more premium than you pay out in losses in order to make a profit. In the case of this risk, the odds are against you. It’s not a matter of will this applicant have a loss, it’s a question of when!

The industry has developed a means of helping lessen the impact of inaccurate MVR information and fraudulent claims.

Fair-Issacs More than a decade ago, Fair-Issacs, a credit gathering company, introduced the concept of credit scoring as a factor in underwriting automobile insurance. (Previously insurance companies utilized MVr’s, C.l.U.e. reports, and applications to underwrite personal lines.) By comparing thousands of credit scores to corresponding insurance claims, a correlation was established which claims to be a predictor of future claims. Today most national insurance companies utilize insurance credit scoring as an additional underwriting tool in their quest for profitability. We will discuss credit scoring in more detail a little later.




Fraud In addition to inaccurate information on MVr’s, another problem that faces insurers is fraud. the industry estimates that as much as $16 billion dollars is lost each year in fraudulent claims. Con artists actually set up phony accidents in order to claim medical payments and physical damage losses. How do you underwrite against fraud, and who ultimately pays the price? Answers—you cannot, and the public does.

Underwriting Loss Exchanges Fortunately, the industry has developed a means of helping lessen the impact of inaccurate MVr information and fraudulent claims. A few years ago the industry introduced “C.L.u.e.”, an acronym for Comprehensive Loss underwriting exchange. C.L.u.e. is a nationwide database for sharing loss information among companies. Most major insurance companies subscribe to this database, and its accuracy is reported to be 95% or better. It has become one of the best tools companies and agents have for determining prior loss activity. Today agents can order these reports online much like they do motor vehicle records. One of the results of C.L.u.e. has been to cause those drivers with poor driving records to pay a premium that better reflects their driving habits.

Many companies’ philosophy on C.l.U.e. developed losses is simple. If applicants have not stated their true driving records, they do not want them as policyholders. Accidents are very traumatic experiences and seldom will someone “forget” they had one, especially within the last 3 years. you should always let a customer know in advance that the insurance company will order a report that will list all accidents they have had and may refuse to write a policy if losses are present that were not disclosed.

Moral Hazard One last problem faced by insurers is moral hazard. these are policyholders who just don’t care, or who believe they can turn in any loss because “that’s what insurance is for.” these clients can be and usually are big trouble. It is difficult to front-line underwrite this exposure, but C.l.U.e. can be a big help. you should question prior losses on C.l.U.e. reports to get an idea of a policyholder’s attitude toward insurance. In some cases, especially with comprehensive losses, it is possible to “shock” a person into reality by requiring a high deductible. you should ask yourself:

• “why would this person have so many comprehensive losses?” • Is the vehicle parked on the street at night? • Does the insured work in a high crime area? • Or, does the insured just turn in every nick and scratch loss found?

Much of the public has a misconception of the purpose of insurance. Many people believe that insurance is there to use as a maintenance contract. you can help change that attitude whenever the opportunity presents itself by explaining that insurance is intended to provide peace of mind for losses of a catastrophic nature and nuisance claims will eventually result in losing their present insurance.

Much of the public has a misconception of the purpose of insurance.

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Chapter Questions

1. From a company’s perspective an underwriter has only one major objective:a) Promptly returning phone callsb) Promptly handling mail requestsc) Processing endorsementsd) ensuring that the company makes a profit

2. One of the disadvantages of using computer programs for risk selection is:a) the cost associated with programmingb) it can only see black and white scenarios and cannot see gray areas c) the programs crash frequentlyd) the length of time it takes to program for risk selection

3. which of the following is not a component of calculating loss ratios?a) Incurred lossesb) earned premiumc) Total company revenue d) written premium

4. A company’s “combined” loss ratio is defined as:a) The sum of the incurred losses and the expense ratiob) The sum of the pure loss ratio and the expense ratioc) The sum of the written premium and incurred lossesd) The sum of total company revenue minus the loss reserve

5. Mis-rating a personal lines account usually results in:a) Loss of premium for the company and lower commission for the agentb) No impact on the company or the agentc) More losses reported than incurredd) Premium charge back to the company and no impact on the agent

6. If a customer cannot provide the agent with answers to all questions on an application, which of the following is the best course of action?a) submit the application and obtain the information laterb) No action is necessaryc) Make the customer promise to call the information into the agency when they have itd) Decline to bind the coverage until all information is provided

7. which of the following is a valid reason to ask an applicant for insurance about working a second job?a) To sell them more coverageb) To make sure there are no other drivers in the householdc) The second job may involve the use of a vehicle and that increases the chance of loss d) There is no need to ask this question during the interview

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Chapter Questions

8. which of the following is a valid reason to not conduct an interview with an applicant for insurance over the phone?a) phone call expenses can reduce the agency’s revenueb) It’s difficult to assess character in a phone call c) There is no valid reason not to conduct an interview over the phoned) For confidentiality reasons

9. which of the following best describes the information available from a CLue report?a) CLue provides moving violation information from the past three yearsb) CLue provides credit informationc) CLue provides loss information d) CLue provides policyholder information

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Chapter 3

The Process of Underwriting

Subjective versus Objective Underwriting The underwriting guidelines that companies publish and distribute to their agents are known as objective guidelines because the criteria they attempt to discriminate is measurable. For example, use of a vehicle, age of principal operators, and prior losses can all be measured against the guidelines to determine acceptability.

subjective guidelines, on the other hand, are difficult to almost impossible to measure and are usually based upon judgment. An example might be a risk where there is a 25 year old single client living on their own, driving a $50,000 BMw, and living in a $400,000 home with a $100,000 jewelry schedule. using objective guidelines this risk would normally qualify for coverage with most companies. However, using subjective guidelines this risk is highly suspect, because typically people of this age group do not possess the means to live such a lifestyle. Many times underwriters are faced with situations where a risk meets the underwriting guidelines, but sometimes something may not seem right, as in this example.

As a company underwriter, what questions would you have about the risk in this example?

____________________________________________________________________________________________________________________________________________________________________

What is at Risk? sometimes subjective factors may not seem fair, but keep in mind what is at risk.

Let’s look at an average package policy that combines both auto and home on one policy. Assume a coverage A or dwelling limit of $450,000, a liability limit at $300,000, and an umbrella of $1,000,000. The potential total loss on the property side is $810,000 ($810,000 is the total of the dwelling limit, other structure, contents, and loss of use), and up to $1,300,000 on the liability side.

A loss of this proportion would destroy an agency’s loss ratio, and possibly the relationship with their company, especially if an underwriting concern was not addressed because of “fairness.” In the sense of subjective underwriting, the word “fair” has no place in insurance vocabulary. The concept of “fair” is better suited to the objective guidelines where companies apply actuarial statistics on loss probability.

Personal lines underwriting involves subjectivity. It would probably not be possible to list every subjective criteria underwriters look at. Much of the skill of subjective underwriting is common sense. If something does not sound quite right and a customer cannot adequately explain it—it probably is nOt right! Always remember, the placement of coverage for any customer is your agency’s decision—nOt the CUstOMer’s! you have the right to refuse service to anyone or to place coverage with the company best suited to handle the exposure. Personal lines underwriters need to consider a variety of potential risks.



explain the difference between subjective and objective guidelines.

______________________________________________________________________________________________________________________________________________________________

Much of the skill of subjective underwriting is common sense.

Renewal Underwriting renewal underwriting is primarily a function of a computer program that screens policies based on criteria established by the company. In most cases, the trigger that subjects a policy to renewal screening is a claim submitted by the policyholder. As with new business underwriting, scores are assigned to specified criteria and if the maximum score is exceeded, the renewal is referred to an underwriter for further review and action. In some cases, letters of non-renewal are automatically generated when a major violation occurs, such as a dWI (driving under the influence) or a license revocation.

It is the underwriter’s job to determine if the company can continue to make a profit from the renewals they review. what do the losses tell the underwriter about this insured? was the claim a not-at-fault or at-fault accident? was a poor driving habit involved? was this a young driver or an elderly driver? If the loss was a homeowners claim, was it due to poor upkeep or a natural disaster? If the loss was the result of a burglary, what were the circumstances? were there signs of forced entry or was a door left unlocked? was there a burglar alarm, and if so was it armed? All of these factors must be analyzed and resolved in order to determine whether or not to continue coverage on the risk. subject to state laws, some companies use the insurance score of the insured as an additional tool in the renewal underwriting process.

MarketsMarkets exist within the insurance industry to accommodate practically any exposure from nuclear reactors to professional singing voices. some companies specialize in writing unusual exposures, while others write a broad range of coverages. Many major national carriers target “preferred” business to write. Later on we will discuss the characteristics of a “preferred” risk. The point to be made here is finding the correct market for the risk you are trying to place. Another example is a company that specializes in writing high value coverages, and consequentially they are very good underwriters of this class of business. It is not unusual for this type of company to write a $5,000,000, $10,000,000 or $20,000,000 homeowners policy. They recognize the exposures associated with this business and again they charge a premium commensurate with the exposure.

Many national agency companies would balk at writing a risk at these values because they are not experienced at underwriting this class and their premiums would not be adequate for the exposure. A similar example would be a company that specializes in writing auto insurance on high risk drivers. they are very good at underwriting this business and their premiums reflect the increased exposure. Again, many national agency companies will not write drivers with poor driving records because the premiums charged will not produce an underwriting profit. Between this range of very high valued and very high exposure to loss lies the “preferred” class of business that standard companies are looking to write because premiums are adequate to make an underwriting profit on this business.

One of your primary responsibilities as an agent/CSR is to determine the proper market for each risk, from the

standpoint of profitability, for both your agency and the company.

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Tiers, Pricing & Insurance Credit Scoring earlier we talked briefly about the relationship between underwriting guidelines and pricing the insurance product. In this section we will explore this subject in a little more detail.

What are Tiers? some companies have only one rate and one set of corresponding guidelines. Others, however, have several rate levels and matching sets of guidelines, and these are sometimes referred to as tiers. In some states, companies are prohibited from having more than one set of rates using the same company. In these cases, the company will use 2 or 3 companies to achieve the same result as tiered rating. Companies that rely on insurance scores to tier their business may have 5, 10, 20 or more tiers, as we will see shortly.

The Purpose of Tiers The purpose of tiers is to “slot” risks based on their probability of loss. The guidelines for a “preferred” risk will probably require that there is an excellent insurance credit score and possibly no more than 1 minor moving violation in the past 3 years. The rate level for this risk will be equal to the anticipated loss experience. The guidelines and rate for each tier are therefore matched at a level that, all other things being equal, will produce a profit for the company. Much like our earlier discussion of misrating drive to work mileage, “misslotting” a risk in the incorrect tier will result in the same problems for the insurer and ultimately the agency. Too much standard business written with preferred rates will adversely affect the agency’s loss ratio. too much preferred business written with standard rates will not stay around very long because policyholders will probably find cheaper rates in other companies’ preferred tiers.

Adverse Selection At some point in your insurance career, you are likely to hear the term, “adverse selection.” Adverse selection occurs when a company’s loss ratio is no longer profitable and they are forced to raise rates in an attempt to return to profitability. As mentioned earlier, at some point, customers with good driving records will begin shopping other companies in order to find a better rate, and business will begin moving away. Customers with poor driving records will also begin shopping other companies for a better rate. however, these customers will find that they cannot find a better rate due to their driving record, and they will remain with the current company. The ultimate result of this scenario is good customers leave, customers who continue to have losses stay, and loss ratios continue to deteriorate for the company as they retain poor drivers. This company is suffering from adverse selection, or is being adversely selected against. As you can see there is a very delicate balance here between rates, underwriting, losses and competitiveness.

Insurance companies believe that insurance credit scoring is an accurate predictor of future claims.

Insurance Credit Scoring Credit scoring has become widely used among personal lines insurance carriers. (Companies prefer to use the term “Insurance score” instead of credit score when referring to the use of credit to tier a risk for insurance coverage.) Credit scores are reported by one of three major credit bureaus: experian, transUnion, and equifax. Insurance companies use these scores to create “models” and algorithms that are considered proprietary. These scores are intended to measure financial responsibility, not credit worthiness. Many insurance companies believe that insurance credit scoring, whether used alone or in combination with other factors, is an accurate predictor of future claims. several dozen pages could be written to explain the mathematical models, and various correlations that suggest this conclusion, but that is impractical for our purposes. what is important is that you understand it is a widely used practice today.

ChApter 3: the prOCess OF UnderWrItIng



No matter how tiers or pricing levels are arrived at, whether through traditional underwriting, through credit scoring, or a combination of both, the purpose and goal is the same: to slot the risk in a tier that will most likely produce profit based on the exposure presented. Credit scoring provides insurers the ability to use 10, 15, or many more tiers by creating “bands” based on the insurance credit score. For example, a tier band for a super preferred rate may be for insurance credit scores from 775-800. A preferred tier band may be for insurance scores between 740-774, and so on. Bandwidths can be expanded or contracted to allow more or fewer risks in each tier. In this way, credit-scoring companies believe they can precisely price a risk in a tier that is profitable for the company.

A company’s preferred tier is reserved for that business that will produce fewer than average losses. And, similarly, the standard tier is reserved for that business that will produce average losses. (Average in this sense is related to the rate level at which a risk is written). with some drivers, for example, there is NO rate level that is adequate to cover the exposure. Later, we will discuss characteristics of a “preferred” risk.

explain one purpose of tiers:

______________________________________________________________________________________________________________________________________________________________

What might be an explanation of an agent’s high loss ratio in the preferred tier?

______________________________________________________________________________________________________________________________________________________________

what will be the likely result of mis-tiered business?

______________________________________________________________________________________________________________________________________________________________

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Chapter Questions

1. Objective underwriting guidelines are:a) the underwriter’s opinion about a risk b) Those published by the insurance company and provided to agents for their usec) Are never published by the insurance companyd) Cannot be used for underwriting purposes

2. “tiered” rating that can best be described as:a) several rate levels with corresponding guidelines b) rate levels that are always the same premiumc) One rate fits all customersd) rates that support young driver premiums

3. “Adverse selection” occurs when:a) An insurance company adversely selects risks to insureb) An insured has too many tickets or accidentsc) An underwriter declines an application for insuranced) A company’s loss ratio is no longer profitable and they must raise rates

4. Insurance credit scoring is used along with other underwriting tools to:a) Determine the credit worthiness of customersb) Increase rates at renewal timec) slot a risk into the proper tierd) Determine how much to pay a claimant in the event of a loss

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Chapter 4

Underwriting: Risk Selection

Retention how important is retention in maintaining an agency’s profitable loss ratios? First, keep in mind that no business can survive without repeat customers. your agency’s renewals are your repeat customers, and they make up the foundation of your agency’s revenue.

Ideally, the retention goal for an agency is 100%—that is no business lost during the year. however, in reality, the actual retention rate varies anywhere from 70% to 95%. some agents achieve retention rates up to 98%.

If your agency’s retention rate is low, do not despair—it can be improved. the first step to improvement is to identify why you are losing business. Insurance carriers will provide a report that displays your agency’s retention percentage for all lines of business.

lost business logs can be used to keep track of renewals lost and the reason. you might be interested in knowing the primary reason insureds renew their business elsewhere. It is not premium—but serVICe, or lack of service that can include: lack of contact with the agency/producer and poor Csr attitude. Other reasons for lost business include claims problems and lower on the list is premiums that are too high.

If the agency maintains accurate records of lost business you should not have a problem identifying the reason for poor retention rates. Of the reasons cited for lost business, lack of contact with the agency or producer is perhaps the easiest to correct. There are a number of ways to accomplish this objective. Do you use post-sale letters to insureds thanking them for doing business with your agency? Do you use renewal letters to present their renewal policy to them, and to remind them to contact you with question or problems? If you make customers feel important, they will want to continue to do business with you.

An agency should develop a method to contact each of their personal lines customers at least 5 times a year. some agents use newsletters to stay in touch with policyholders, but whatever method is chosen, it is important to do it!

Retention is a critical factor in agency revenue.

But let’s go back to the original question—how important is renewal retention in maintaining a profitable loss ratio? An agency loses renewal business for a variety of reasons as discussed earlier. In many cases, business that does not renew is loss free. why would this be the case? remember our earlier discussion of adverse selection? When an agency’s loss ratio turns unprofitable, companies only have a few alternatives to reverse the unprofitable trend. One of these choices is to raise rates. rate increases impact all policyholders, not just those with loss problems. Therefore, loss free policyholders are more likely to “shop” their coverages for a better premium. Conversely, those policyholders with loss problems will find they do not qualify for coverage with other companies and are more likely to

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remain with their agent and continue to have losses. From the standpoint of revenue to the agency, retention rate is a critical factor.

let’s look at an example. Assume you are starting a new agency from scratch, and after the first year your book of business looks like the illustration below. you have a 100 policies earning $50,000 in written premium. the company is paying you 15% commission income of $7,500. (Commission is the percentage your agency receives from the company for each policy written.)

After the 1st year only 60 of the original 100 policies renewed. you’ve lost $20,000 in premium, and the retention rate is 60%. (60 policies/100 policies = 60%.) Assuming you write 6 new policies a month, it will take over 6 months just to return to the original 100 policies.

Exhibit One

1st Year Policies Premium CommissionNew Business 100 $50,000 $7,500

Renewals 0 0 0

2nd Year Policies Premium CommissionRenewals 60 $30,000 $4,500

New Business 40 $20,000 $3,000

now let’s assume a different scenario based upon a retention rate of 98%. refer to the following chart. In this second scenario, you need only 2 policies to get back to the original 100 policies. At 6 policies a month, you’ll be back to even within 1 1/2 weeks rather than 6 months!

Exhibit Two

2nd Year Policies Premium CommissionRenewals 98 $49,000 $7,350

New Business 2 $1,000 $150

let’s now look at the impact of a 60% retention rate on the agency’s loss ratio. For the sake of discussion, let’s say the $30,000 in exhibit One is earned premium instead of written premium, and there are incurred losses of $30,000. the loss ratio is 100%

60% Retention

$30,000 Incurred Losses ÷ $30,000 Earned Premiums = 100% Loss Ratio

however, using the second scenario in exhibit two with a retention rate of 98% you have $49,000 in earned premium. With the same $30,000 in incurred losses, the loss ratio would be 61%—an improvement of 39 points!

98% Retention

$30,000 Incurred Losses ÷ $49,000 Earned Premiums = 61% Loss Ratio

up to this point in our discussion, we have been dealing with relatively small numbers for the purpose of simplification. the importance of retention becomes much more obvious when we look at books of business that more closely approximate your agency size. refer to exhibit Three. If your agency, for example, writes a total personal lines volume of $1,000,000 with a 15% commission rate, the impact of a 60% retention rate would be as follows:

ChApter 4: UnderWrItIng: rIsk seleCtIOn



Exhibit Three

1st Year Policies Premium Commission

Renewals 1,428 $1,000,000 $150,000

2nd Year Renewals 857 $ 600,000 $ 90,000

If incurred losses were $500,000 in the 1st year, the loss ratio would be 50%. how is this calculated?

$500,000 Incurred Losses ÷ $1,000,000 Earned Premium = 50% Loss Ratio

With a 60% retention rate in the 2nd year, and assuming the same $500,000 in incurred losses, the loss ratio would be 83%.

Can you calculate this?

$______ Incurred Losses ÷ $_______ Earned Premium = 83% Loss Ratio

As you can see, your agency’s retention rate not only impacts your commission income, but also your loss ratio and your marketing plan. without a plan to address this important area, you are spinning your wheels and may be moving backwards instead of forward.

Your agency’s retention rate not only impacts your commission income, but also your loss ratio and your marketing plan.

Automobile Risk Selection what type of client does your agency target for writing personal lines business? If you do not know the answer to that question, you should ask your manager or agency principal to tell you. Most professional insurance agencies know the answer to that question and they have marketing plans aimed at soliciting that business. These agencies write business with several major insurance companies and seldom have a problem placing a piece of business with the proper carrier. you probably hear references made by many companies that they want to write “preferred” business. But what does that mean? each company will probably define a “preferred” risk in a different way, but the MAJOr characteristics will be about the same. Among the characteristics mentioned most often will be the following:

• No tickets or accidents in the last 3 years • stability • Demonstrates evidence of maturity and responsibility • recognizes the need for higher limits of liability • does not own “target”, high profile, or exotic vehicles • Is a safe driver with defensive driving habits • Takes pride in ownership of home and automobiles • Occupation does not reflect excessive exposure to loss • Drivers have at least 5 years driving experience • Has good to above average credit

These characteristics are most often associated with loss-free business. some of these characteristics are impossible to determine without knowing a client personally, while others can be readily determined through MVr’s, ClUe reports, or credit reports. do these characteristics look familiar to you? They might, because most of these are incorporated into companies underwriting guidelines for preferred tiers.

The basic premise that underwriters operate from is that past experience is the best predictor of future experience.

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Prior Driving Record One of the best tools underwriters have in the area of automobile risk selection is the prior driving record of an applicant. In an earlier section we talked about prior accidents as an indicator of future accidents. studies of accident involvement indicate that while many people never have accidents, others seem to be involved frequently, and those who have had recent accidents are more likely to have future accidents than drivers who have had none at all. One such study shows that a driver who had four or more accidents in the first two years is 5.73 times more likely to have an accident in the next year than the driver who did not have an accident in the first two years. drivers who had one, two or three accidents during the first two years were also more likely to have accidents during the third year than those drivers who had no accidents in the first two years. Therefore, when an underwriter sees an accident on an MVr or on a renewal policy, the action is likely to be non-renewal, retiring, or declination of the risk.

Driving habits and loss frequency can change over time.

An important point to keep in mind during this discussion of accidents and citations is that driving habits and loss frequency can change over time. In fact, risks are always changing. today’s young immature driver will mature and may become accident free for many years. On the other hand, drivers will age and reflex times, vision, and other physical factors will deteriorate and may lead to several accidents in a short period of time. More recently, studies have shown that, a driver using a cell phone while driving is 4 times more likely to be involved in an accident whether hand held or hands free. And this is true whether you have excellent or poor credit. the underwriter’s judgment and decision making skills come into play when reviewing the driving history of an applicant.

One of the underwriters’ major problems is evaluating an applicant’s prior accident record. For example, how do you look at the accident that falls under the assigned threshold for a surcharge point? Although the accident point does not apply, was the accident indicative of a poor driving habit? Or, consider that some people have a bad habit of cutting in front of another vehicle and stopping suddenly, subjecting themselves to a rear end accident. From the underwriter’s perspective an at-fault accident under the point threshold is nonetheless an at-fault accident and would not qualify in a preferred tier; especially if the accident was caused by a poor driving habit.

The applicant is a source of information for accident details, but usually a poor source at best.

Not-At-Fault Accidents Another issue underwriters face is not-at-fault accidents. Can and should these be held against an insured? Companies vary on this issue. Certainly someone sitting stopped in traffic and struck by another vehicle should be held blameless. However, many not-at-fault accidents are much less clear cut than this. suppose two vehicles collide while turning? Again, one party may clearly be at-fault but in some cases or in some states, fault may be proportioned on a percentage basis (comparative negligence states). In these cases is someone 20%, 30%, or 40% negligent? Questions such as these face underwriters every day and call for sound decision making skills. Because of these situations, you should always look at the details of accidents very carefully and attempt to determine if poor driving habits contributed to the accident. The applicant is a source of information for accident details, but usually a poor source at best. seldom will an insured and claimant describe an accident in the same way. usually they both claim the other party was at-fault. A relatively reliable source of information is a police report, although these have been known to contain incorrect information also.




Insurance Credit Scoring As we have already discussed, credit scoring is said to be an effective tool in underwriting automobile insurance, because of its correlation with losses. risks with excellent credit are usually allowed the privilege of a preferred tier, even with an accident or violation in the past three years. this concept seems to fly in the face of traditional underwriting concepts, which look to past activity as an indicator of future activity. Insurance credit scoring seems to discredit prior loss history as a valid underwriting theory, if a customer has an excellent credit score. It discredits prior loss history as an indicator of future claims, by allowing those individuals with great credit scores and some prior accident or violation activity into a preferred tier.

The more miles one drives, the better the chances of an accident occurring.

Citations Like accidents, citations can reveal poor driving habits and are a good tool for predicting future problems. For example, someone with several “Failure to yield” citations probably has a poor driving habit, and the next violation may result in a serious accident. experts believe that of all male drivers in all age categories, 79.89% are generally conviction free. therefore, only 20% of all males of any age had a citation. For females of any age in all categories, 91.56% are generally conviction free! It is easy to see that by far the majority of drivers are conviction free, and those with citations are the exception, not the rule!

what basic tool do underwriters use to evaluate an applicant for automobile insurance?

______________________________________________________________________________________________________________________________________________________________

If studies of prior accident and citation records are correct, what is the likelihood of future accidents and citations occurring?

______________________________________________________________________________________________________________________________________________________________

Underwriter Clues underwriters will sometimes use “clues” to assess potential problems with an automobile risk. Although these “clues” are subjective in nature, they can, at times, be useful and predictive of problems. One of these “clues” is stress. Most people are careful drivers under everyday stress levels. However, under extreme stress levels, careful drivers become anxious, less patient, and more apt to make hasty or poor decisions when driving. divorce, financial or medical problems, along with many others, may result in less care in driving. It is not always possible for you to recognize these cases, and we are not implying that every driver under extreme stress will have an accident. But, there may be contributing factors that you should always be aware of.

Under extreme stress levels, careful drivers become anxious, less patient, and more apt to make hasty and/or poor decisions when driving.

Vehicle Type The type of vehicle insured is certainly an important consideration in automobile risk selection. In the past few years many companies have turned to evaluating vehicles for rating purposes by their damageability. Vehicles which sustain less damage in certain types of accidents are given a different weight in the rating calculation than vehicles that do less well. Companies usually surcharge a sports type vehicle for obvious reasons. several other type vehicles are also usually surcharged, i.e. four-wheel drive, vehicles with unusually poor cornering characteristics, or those subject to rollover tendencies. These vehicles belong in a market where the premium is adequate for the exposure. Most standard companies will not write coverage on these vehicles, and those

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that will, charge a premium that may or may not be commensurate with the exposure. Four-wheel drive vehicles are sometimes a problem, as well, because of the manner in which they are driven. These vehicles are advertised as “off-road,” go anywhere type trucks. It is not unusual for an inexperienced driver to tip these vehicles over or cause severe damage to the undercarriage, trying to reach some inaccessible, remote destination in very rugged terrain. what the underwriter wants to know in these cases is how much experience does the insured have driving these vehicles and where will they be driven?

Who will be driving the vehicle is a critical area of concern.

Vehicle Use As we have discussed previously, another area of concern with this subject is vehicle use. How a vehicle is used can, in large part, assist you in measuring the loss potential. The more annual miles driven the greater the exposure to loss. Individuals whose occupations require driving with time deadlines are more apt to speed or make imprudent decisions while driving. Vehicles used in business can sometimes be a target if, for example, valuable samples are carried and left in plain sight in the back seat.

IsO rate classes are broken down based on drive to work mileage, business use, farm use, and pleasure use vehicles. usage that falls outside of these areas, such as excessive mileage, are usually declined or rated in a higher-tiered company. The reason is quite simple. The more miles one drives, the better the chances of an accident occurring. As we discussed earlier, be especially careful to uncover part-time occupations, as this usually means additional mileage and, in fact, may involve the use of a vehicle in that second job.

Use by Non-owners Vehicle use by a non-owner or non-household resident can also be a problem, especially with roommates. It is always important therefore to make certain that your insured’s roommates have their own insurance coverage and will not drive your insured’s vehicle. the reason that companies do not like situations with roommates is because of the lack of “control” over these risks. you have no prior claims history or driving records for the roommates, and since insurance follows the vehicle, not the operator, any loss to your vehicle will be paid by your insurance carrier. whenever this situation arises, you should always carefully explain to your policyholder that allowing anyone to drive their vehicle will jeopardize their insurance coverage and may result in higher premiums or inability to obtain insurance coverage in a standard market.

Physical Damage Coverage when asked to provide physical damage coverage it is always a good idea to view the vehicle if at all possible. In fact, some agents require that the vehicle be viewed by the producer before coverage is bound. It is not totally unheard of for someone to purchase physical damage coverage on a vehicle with prior damage and submit a claim for that damage. you can assume that a late model vehicle is in good condition, but that is not always the case. Viewing the vehicle also gives you some idea of the pride individuals have in their personal property.

Statistical data can be very dry and yet provide insight otherwise overlooked or underestimated.

Vehicle Operators lastly, we want to briefly touch on the subject of vehicle operators, especially young drivers. Who will be driving the vehicle is a critical area of concern. Is this a responsible, mature individual? If this is a family account with young drivers, do the parents place restrictions on their driving? It is a bad sign if they do not. young people with unlimited use of a vehicle, either as principal or occasional operators, are usually trouble. Most insurance applications do not ask this question, so




it is up to the agent/Csr to determine this information. sometimes agents will require the young driver to come into their office for an interview, so they can discuss the merits of safe driving. while some states do not require young drivers to complete a driver education course in order to obtain a license, other states do require this course in high school. young drivers who complete a driver training course are much better equipped to handle the hazards of city driving than those who have not. Completing the course also demonstrates responsibility on the part of the parents and young driver, especially if it is not required by the state.

This section is not meant to be an all inclusive discussion of the topic of automobile risk selection. Many factors come into play, and we have only touched the highlights of the more significant. There are many courses on this subject and each company who underwrites auto insurance also provides important information.

Young drivers who complete a driver training course are much better equipped to handle the hazards of city driving than those who have not.

Homeowners Risk Selection Like automobile underwriting, underwriters have several tools at their disposal to evaluate an applicant for homeowners insurance. The primary tools are the prior loss experience that can be obtained from C.L.u.e., the insurance credit score, and your knowledge of the applicant. Again, the application is the basic tool the underwriter utilizes to determine acceptability of the risk. without complete information, the underwriter cannot make an informed decision on acceptability of the risk.

The Underwriter’s Perspective

Before proceeding with this section, you must know the underwriter’s perspective in providing homeowners insurance. This policy is designed to provide security in the event of a financial loss of such proportion that the insured would be unable to recover. The policy is not a maintenance contract for repairs to the property that are the responsibility of the owner.

Primary Concerns of the Underwriter In underwriting homeowners insurance, the primary concerns of the underwriter are pride of ownership and character of the applicant. There is no easy method to determine the character of an individual, but it is a very important factor in underwriting property insurance. People of questionable character are responsible for billions of dollars of fraudulent claims against the industry. what does pride of ownership mean? Perhaps the easiest method of evaluating this characteristic is to ask yourself, “would I be proud to live in this dwelling?” If not, why not? Based on your questions to the applicant, consider if they maintain the property by making necessary and timely repairs or wait until damage is beyond repair and replacement is the only solution? One means to determine this is noting the type and nature of prior losses. Has the applicant reported several roof claims and not had the entire roof replaced? If so, you can assume they are waiting for the insurance company to replace it. Keep in mind that the average life span of a roof is 15-20 years, and if the roof is beginning to show wear, it is the property owner’s responsibility to make repairs or replace it before major problems develop. similarly, are prior losses of the type that demonstrate carelessness or poor housekeeping of the property? Is the property neat and orderly or unkempt with old appliances and trash littering the grounds? The agency should always insist on a photo of the property to be insured from both the front and rear of the dwelling.

statistical data can be very dry and yet provide insight otherwise overlooked or underestimated. with this in mind, it is interesting to note that when averaging all causes of loss together, a policyholder with one prior homeowners claim results in a loss ratio relativity 26% higher than average, while policyholders with no prior claims had a loss ratio relativity 10% lower than

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average. And, finally, insureds with a prior vandalism or malicious mischief claim had a loss ratio relativity 172% higher than average!

Depending on the location of the risk, many times the fire department can see the smoke from a distance, but cannot find the road leading to it.

Property Hazards Are there hazards on the property? For example, many companies will have problems insuring homes with unfenced swimming pools. This can be dangerous, especially in neighborhoods with many children. It would be easy for a toddler to wander into a back yard and fall into a swimming pool and drown. The same concern exists with trampolines. Many accidents resulting in serious injury have occurred on trampolines when children are unsupervised by an adult.

Replacement Cost In order to properly insure a dwelling, you must have an accurate estimate of replacement cost. Many company worksheets are available to determine this figure, but a rough rule of thumb is cost per square foot times the number of square feet. If for example, the approximate cost per square foot in your city to build a home is $55, and the dwelling has 2,000 square feet, the replacement cost is approximately $110,000. this is not intended to be an exact replacement cost figure. you should always calculate replacement cost from an estimator designed for that purpose. Always know your binding authority with the company, and call the underwriter if the limit exceeds your authority. Most companies require that the dwelling be insured to 100% of replacement cost in order to qualify for replacement cost coverage. you should always know the replacement cost requirement for each of your companies. The agency can be held liable for improperly insuring a dwelling so it is always important to verify the replacement cost.

On average an insured will have a homeowners loss once every seven years.

Average Loss Experience what is “normal” loss experience for homeowners insurance? On average, an insured will have a homeowners loss once every seven years. By far the largest cause of loss in terms of dollars paid is fire, with burglary/theft not far behind. the homeowners policy provides extensive theft coverage, and for that reason, you should be aware of the underwriters concerns with this coverage. If the insured owns high valued scheduled items, where are they kept? If they are kept in the home, is there an alarm system, either local or central station? If not, are the applicants willing to install one in order to protect their property? with large scheduled items, you should attempt to determine what steps the applicants are willing to take to decrease the loss exposure. The fewer or less significant the steps they are willing to take is a measure of the desirability of the risk and gives you important information about the morale hazard of the individual.

Age of Dwelling Another important factor in evaluating a risk is the age of the dwelling to be insured. Older dwellings, in and of themselves, are not poor risks. what you need to develop during your interview is information regarding:

• The upkeep of the dwelling and what renovations were made. o Older dwellings were usually built with quality materials, and with proper maintenance

and updating should not be a problem. o Older dwellings without proper maintenance and updating are usually a disaster to

insure with frequent claims of the maintenance nature.




• The electrical system can be especially dangerous with the increased load from modern appliances. o In writing coverage on an older dwelling you should always determine that the

electrical, plumbing, heating, and roof have all been updated and are in good condition.

o this may require an inspection by qualified contractors, but is well worth the cost to the insured and to the agency.

Business Exposure in the home can pose several problems depending on the risk.

Business Exposure Business exposures on a homeowners policy increase the risk and chance of loss, and can pose several problems depending on the nature of the business. Baby-sitting is a common business seen on applications. In order to determine acceptability of this exposure, the underwriter needs to know how many children are involved, their ages, and the times of operation. There is usually not a problem with 1 or 2 children during the day, especially if they are infants. There may be a problem with several children of preschool age. As the number of children increases, so too does the exposure. It is much more difficult to watch and care for 5, 6, or 7 preschoolers than 1 or 2 infants. A full-fledged day care center would not be acceptable under a homeowners policy. If you are faced with this exposure, you should always contact your underwriter to discuss the situation.

Other business exposures that are usually not a problem are listed in the rating manual, and a premium is charged for the coverage. Any business that will require numbers of people to come to the home are normally not acceptable. For example, a retail business where goods are sold or a beauty salon with heavy traffic are not acceptable. Businesses that manufacture a product are normally not acceptable nor are some businesses that provide certain types of repair service. repair services that require the use of materials that may explode are not acceptable, i.e. welding; while repairing clocks may be acceptable.

Animals Animals can present an unusual exposure to the underwriter. Dogs can be a problem, especially the guard dog breeds. some companies will non-renew a risk after one dog bite unless the owner has the animal destroyed. These claims can be very costly and may involve serious injury, and companies will not usually take a chance on a second bite. you should always ask about a dog and if it is vicious or has bitten in the past. As an indication of the seriousness of these claims, The American Association of Insurance services started filing three endorsements to allow insurers to exclude personal and umbrella liability coverage for injury or damage arising from dogs. The endorsement must be signed by the named insured acknowledging the limitation of coverage.

Horses are another problem encountered by underwriters. An underwriter will want to know how many horses are present and who has access to them. Horses ridden only by the insured or a family member are usually not a problem. Most companies will not write coverage on horses loaned out to others to ride or where others have access to them. some companies put limits on the number of horses at an insured location. Like dogs, horses can be a serious liability exposure, and if you have any questions, you should always contact your underwriter for consultation.

Animal claims can be very costly and involve serious injury.

Location of Risk Insurance companies in most states are prohibited from “redlining,” or identifying areas in a city by zip code where they will not write coverage. this was a common practice in the 1960’s and 1970’s, especially in large metropolitan areas where the condition of neighborhoods was

41


poor and/or run down. Today FAIr plans (Fair Access to Insurance regulations) of one type or another, write coverage in many of these areas, but the point is that the location of a risk is another important factor in property insurance. If a neighborhood is subject to burglary and/or vandalism, for example, the pricing template is thrown out of perspective. The problem may be inadequate police protection, drugs, economic conditions or any combination of these, but the concept of insurance was never intended to act as a solution to societal problems. At some point, the community must act to resolve these issues for the benefit of society.

Protection Class Along this line, protection class is the primary gauge for determining fire protection at the risk. simply because a protection class may indicate a protected risk (protection classes 1 - 8), it does not assure the underwriter that a total loss is unlikely. The premium charged for an unprotected risk is much higher because the exposure to loss is greater. And the rate charged for an unprotected risk assumes adequate fire protection from a volunteer fire department. however, volunteer fire departments vary considerably in the quality of protection. Many times these units are understaffed with outdated or inadequate equipment.

Other Factors • What other factors may influence an unacceptable risk? • Is the dwelling located on a road that is inaccessible at certain times of the year to

firefighting equipment? this may apply to cabins in remote areas on dirt roads that are subject to heavy snowfall or rainfall.

• Are there other dwellings in the area of the subject risk and, if so, are they visible from the insured property? Many times a class 9 or 10 risk is isolated from other properties, and should a fire start there is little possibility that neighbors would see the smoke until it was too late. depending on the location of the risk, many times, the fire department can see the smoke from a distance, but cannot find the road leading to it. you should never hesitate to call the fire chief of a volunteer fire department to ask pertinent questions regarding response times as they are usually very cooperative and can provide much information. Any time you are asked to write a risk in an unprotected class you should always assure yourself that the location and access to the dwelling is above average for firefighting equipment.

Proactive Agency Underwritingthere are essentially only two perspectives from which an agency can approach underwriting: proactive or reactive. Agencies with consistently profitable results take a proactive role. Conversely, those whose results are not as consistently profitable, have probably taken a reactive role. If an agency’s goal is to be in the proactive group rather than reacting after the fact to claims loss, it is critical to understand the differences between the two.

Know Your Client proactive agencies first and foremost knOW their business! Only a small percentage of their book of business come from “walk-ins” or price sensitive clients. These agents have established their own criteria for writing this type of business. The majority of their business has been written by producers who have:

• Targeted a particular class of clientele, and • Know the individuals they are writing, either personally or as a referral from an existing

client.




Established Goals and Guidelines • Proactive agencies do not wait for the insurance companies they market to inform them

there are problems with their book of business and consequently their loss ratios. • these successful agencies establish profitability goals internally, and their marketing plans

provide a means of reaching these goals. • Proactive agencies are constantly “purifying” their books of business. • Proactive agencies write business with higher deductibles, re-tier business with losses on

their own, or ask their companies to non-renew unprofitable business. • Many times the underwriting criteria of the proactive agency is tighter than the companies

they market. • these agencies always look at “trends” in their books of business, such as:

o The percentage of business with losses, o The percentage of business with low deductible,o The percentage of business in preferred, standard and nonstandard tiers.

• Lastly, and of extreme importance, proactive agencies plan for growth within their agencies and stay in a position of control where their loss ratios are concerned.

what does this mean? It can mean a variety of things.

• The administrative infrastructure is created and maintained to handle growing volumes of business.

• Proactive agencies are staffed with experienced customer service representatives who are responsible for a certain volume of business.

• In some cases, a clerical person has been assigned to assist the Csrs with the time consuming paperwork necessary to their job, thus allowing the Csrs time for re-underwriting and special projects, and the processing of new business applications, for example.

• these agencies understand the importance of “controlled growth” in maintaining profitable loss ratios and never seem to lose sight of this objective.

Reactive agencies write business with no direction or objectives to lead them

Reactive–No Direction, No Objectives reactive agencies, on the other hand, write business with no direction or objectives to lead them. reactive agencies wait for their companies to take action on unprofitable business. these agencies incorrectly assume it is solely the company’s responsibility to achieve a profit on the business the agency submits. Many times these agencies will try to “force” business into a market in which it does not belong solely for pricing purposes. From what has already been discussed, it should be obvious that if the loss ratios are not profitable, something is wrong with the pricing. either the agency needs more dollars of earned premium or the dollars paid in incurred losses needs to be lower. reactive agencies seldom re-underwrite their business at renewal and will usually only re-tier or change markets on a risk after the company asks them to do so. These agencies are not aware of adverse trends in their book of business. Csrs in some of these agencies are usually considered clerical staff and have no underwriting responsibilities whatsoever. growth is neither planned nor controlled and many times corners are cut because of excessive workloads. these Csr’s cannot be expected to front-line underwrite business because they have little to no understanding of the concepts.

43

Chapter Questions

1. Which of the following is a good first step toward improving an agent’s retention rate?a) It should be the company’s responsibility, not the agent’sb) Contact a company that specializes in renewal retentionc) Identify why you are losing businessd) Call every customer and ask them to keep their business with the agency

2. research findings on the number one reason for the loss of an agency’s business confirms:a) rates are too highb) Customers can’t understand the insurance policyc) Agency open hours are not convenientd) Customer service problems

3. In addition to lost commission income, and lower revenues, poor retention rates also impact:a) the agent’s loss ratio b) the Csr’s workloadc) the agency’s sales staffd) There is no other impact

4. Accident involvement studies have shown conclusively that:a) There is no correlation between recent accident involvement and future accidentsb) the correlation between recent accidents and the likelihood of future accidents is insignificantc) The correlation between recent accidents and the likelihood of future accidents is highd) The correlation between recent citations and accidents is very high

5. studies of drivers who receive traffic citations tend to indicate that:a) More drivers have traffic citations on their driving record than do notb) traffic citations are not an indicator of future citationsc) Most traffic violations are for minor infractionsd) The majority of drivers do not have citations on their driving record

6. Which of the following would be an underwriter’s primary concern with four-wheel drive vehicles with an unusually high rollover tendency?a) speedb) driver’s experience level with this type vehicle c) The number of passengers the vehicle will holdd) The vehicle weight

7. which of the following is a concern for an underwriter when evaluating an auto account with roommates?a) How long they have lived togetherb) where they livec) The number of miles the roommate driver per yeard) the roommate has his own auto insurance in force and will not drive the insured’s vehicle

44

Chapter Questions

8. When underwriting a homeowners policy, the underwriter’s perspective can best be summarized as follows:a) Normal maintenance claims are to be expected b) routine claims are not an issuec) The homeowners policy is not a maintenance contract d) The underwriter is only concerned about large claims

9. which of the following do most insurance companies require in order to provide replacement cost coverage on a home?a) Brick or masonry constructionb) Insured to 100% of replacement cost c) An inspection by the companyd) There is no requirement

10. which of the following is NOT a concern with insuring an older dwelling?a) electrical systemsb) Condition of the roofc) Heating systemd) Brick construction

11. what is the purpose of “protection class”?a) to determine the fire protection at the risk location b) To determine the crime rate in a neighborhoodc) To determine the burglary rate in a neighborhoodd) To determine the police response to crime in a neighborhood

12. which of the following is an example of “Proactive” agency underwriting?a) expect the insurance company to review their business when loss ratio problems existb) solicit “walk in” and call in businessc) Know the type of business they want to insure and target their marketing toward that groupd) Believe writing more business will improve their loss ratios

45

Conclusion

This course has attempted to provide basic information on two of the most important elements of the insurance business: contracts and underwriting. Both are necessary for the efficient operation of the insurance mechanism and in many cases, one is dependent on the other. The contract spells out the coverages, definitions, exclusions and conditions; underwriting uses the contract to establish the criteria necessary to qualify for coverage based upon each company’s marketing appetite.

A basic understanding of the insurance contract provides you the agent with the tools needed to fully analyze your customer’s known and unknown exposures. let’s face it; the insurance business is a highly competitive industry. And, as in many business situations, the person with the most knowledge, skills and problem solving abilities usually wins the account. As a professional insurance agent, one of your primary responsibilities is problem solving. “How do I insure my gun collection?”, “How do I insure my coin collection?”, “what happens if a tree in my yard falls on the neighbors fence?”, “what if someone steals my car and wrecks it? Will my insurance company pay for that?” you could call your underwriter with these questions, of course. But if you knew the answers from an understanding of the contract, you’d be in a much better position to make an immediate sale, than waiting for your underwriter to call you back.

gaining insight into how underwriters view risks submitted for approval, puts you in a much better position than the novice agent, who submits anything and everything and hopes “it sticks”. when you have some familiarity with underwriting’s expectations you also put yourself at an advantage over your competitors by submitting business that in all likelihood will be accepted and begin producing commission income.

46

Chapter Answers and Rationales

Chapter 11. B The insurance contract is a legal contract and enforceable as such in any court of law.2. D elements of a valid contract are agreement, competence, purpose and consideration. Con-

tracts can be verbal as well as written so a signature is not one of the elements. 3. C A gambling debt or any other illegal activity is never considered a legal purpose for a con-

tract.4. B A “unitlateral” contract is the exchange of an act for a promise. In insurance terms, the

premium paid is the act and the insurance policy is the promise.5. B Indemnity is the concept that states that losses are only paid for the amount of loss or dam-

age sustained.6. A Insurable interest is the principle that allows for recovery from a loss by the person who

has a financial interest in the property. Without it, anyone could collect from anyone else’s loss.

7. B subrogation allows the insurance company to require an insured to assign their rights of recovery against a legally liable party, for the amount the insurer paid the insured for the loss.

8. C An agency contract provides the agent with the authority to bind a company to contracts of insurance

9. d the three types of authority granted in the agency contract are: expressed, implied, and ap-parent.

10. B IsO provides, among other services, policy language and policy form development for most major insurance companies. they also make certain filings on behalf of insurance companies.

11. A The address of insured property in a homeowners policy is always located in the declara-tions.

12. A exclusions are designed to limit broad coverages or eliminate non-insurable exposures or moral hazards.

13. D Named perils coverage means coverage exists only for those perils listed in the policy.14. B states normally allow a 60 day initial underwriting period to gather necessary underwriting

information.15. A Insureds are not permitted to negotiate with a claimant.16. C The replacement claim option allows the insurance company the choice of either replacing

an item or repairing the item.17. A the principle of indemnity states that an insured should be in the same financial position

after a loss that they were before the loss.18. B since replacement cost coverage pays with no deduction for depreciation, it violates the

principle of indemnity.

47


Chapter 21. d An underwriter’s major objective is profitability. 2. B Computers only see black and white scenarios and cannot see gray areas.3. C total company revenue is not a component of a company’s loss ratio.4. B A company’s combined loss ratio is calculated by adding the sum of its pure loss ratio and

its expense ratio.5. A Mis-rating a personal lines account usually results in less premium to the company and less

commission for the agent.6. D The agent should never bind coverage without completed information on the application.7. C use of a vehicle in a second job is not contemplated in the rate class for a pleasure use or

drive to work vehicle. And, it also increases the chance of loss.8. B One of the reasons for not conducting an interview for insurance over the phone is the dif-

ficulty of assessing one’s character.9. C CLue provides loss information among insurance companies.

Chapter 31. B Objective underwriting guidelines are those that are published by the insurance company

and distributed to agents for their use.2. A tiered rating is defined as several rate levels with corresponding underwriting guidelines.3. d Adverse selection occurs when a company’s loss ratio becomes unprofitable and they re-

sort to increasing rates in order to return to profitability.4. C Insurance credit scoring along with other underwriting tools is used to slot risks into the

proper tier.

Chapter 41. C the first step in improving an agency’s retention ratio is to find out why the agency is los-

ing business.2. D The number one reason customers do not renew their policies with an agent is lack of cus-

tomer service.3. A poor retention rates also impact an agent’s loss ratio because as premiums decrease and

losses remain the same, loss ratios increase.4. C According to studies the correlation between recent accidents and future accidents is high.5. d traffic citation studies indicate that the vast majority of drivers have clean driving records.6. B the underwriter’s primary concern with these type of vehicles is the experience level of

the driver. since they can easily rollover when driven off road an inexperienced driver is more likely to lose control of the vehicle.

7. D An underwriter wants to know that the roommate has their own insurance in force and will not drive the insured’s vehicle.

8. C An underwriter’s perspective is that a homeowners policy is not a maintenance policy and the insured is responsible for maintaining their property in good condition.

9. B Most insurance companies require the home be insured to 100% of replacement cost in order to provide replacement cost coverage.

CHAPTer ANswers AND rATIONALes



10. D The construction type of the dwelling is of no consideration to the underwriter when insur-ing older dwellings.

11. A the purpose of protection class is to determine the fire protection at the risk location.12. C Proactive agency underwriting involves several facets, one of which is knowing their target

market or the type of business they want to insure and plan marketing strategies toward that group.

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