1. Chapter 7 Insurance Companies Types of Insurance Regulation Structure Types of Insurance Regulation Structure

2. BackgroundBackground insurers bear risk that others pay to avoid underwrite risk receive premiums invest premiums face contingent liabilities insurers bear risk that others pay to avoid underwrite risk receive premiums invest premiums face contingent liabilities

3. profit/lossprofit/loss premiums + investment income - claims - overhead premiums + investment income - claims - overhead

4. II. Types of insurance Life Insurance term life insurance cash value life insurance Life Insurance term life insurance cash value life insurance

5. term life insurance policy period death benefit if occurs w/in policy period no cash value policy period death benefit if occurs w/in policy period no cash value

6. cash value life insurance whole life insurance death benefit cash value builds over life of policy premiums cover -- cost of insurance -- investment capital whole life insurance death benefit cash value builds over life of policy premiums cover -- cost of insurance -- investment capital

7. Universal life insurance similar to whole life buildup of cash value may be used to finance future premiums Universal life insurance similar to whole life buildup of cash value may be used to finance future premiums

8. variable life insurance policy holders chooses how to invest premiums benefits/value depend on investment returns variable life insurance policy holders chooses how to invest premiums benefits/value depend on investment returns

9. other issues timing & amounts are predictable life insurance companies also offer pure investment products annuities GICs over 50% of their liabilities timing & amounts are predictable life insurance companies also offer pure investment products annuities GICs over 50% of their liabilities

10. Health Insurance pay all/some costs of medical treatments fee-for-service managed care a separate industry pay all/some costs of medical treatments fee-for-service managed care a separate industry

11. Property & Casualty auto, home insurance timing/size of claims unpredictable separate industry auto, home insurance timing/size of claims unpredictable separate industry

12. Big losses for P&C 1992 Hurricane Andrew $15.5 billion today $30 billion 9/11 WTC attack $35 billion 1992 Hurricane Andrew $15.5 billion today $30 billion 9/11 WTC attack $35 billion

13. Liability insurance risk of litigation timing/size of claims unpredictable risk of litigation timing/size of claims unpredictable Disability insurance loss of ability to work more predictable, like life insurance loss of ability to work more predictable, like life insurance

14. Long-term care pays all/some costs of nursing care fairly new industry pays all/some costs of nursing care fairly new industry Structured settlements fixed pmts. over time for disability/damages life insurance companies fixed pmts. over time for disability/damages life insurance companies

15. GICsGICs firms pays a single premium insurer guarantees annual interest rate (10%) certain period (5 years) interest & premium paid at end of period firms pays a single premium insurer guarantees annual interest rate (10%) certain period (5 years) interest & premium paid at end of period

16. example $10 million x (1+.10) 5 = $16.1 million large premiums used by pension funds insurer bears investment risk but insurer might default example $10 million x (1+.10) 5 = $16.1 million large premiums used by pension funds insurer bears investment risk but insurer might default

17. AnnuitiesAnnuities premiums paid and invested in stock/bond portfolio premiums over time or lump sum investor receives payments fixed, variable life contingent premiums paid and invested in stock/bond portfolio premiums over time or lump sum investor receives payments fixed, variable life contingent

18. income & gains not taxed until withdrawn some guarantees on return like a mutual fund but preferential tax treatment higher expenses income & gains not taxed until withdrawn some guarantees on return like a mutual fund but preferential tax treatment higher expenses

19. ComparingComparing life/disability insurance predictable invest in more long-term assets property and liability insurance less predictable invest in more short-term assets life/disability insurance predictable invest in more long-term assets property and liability insurance less predictable invest in more short-term assets

20. III. Regulation state level type of assets permitted required surplus -- assets - liabilities state level type of assets permitted required surplus -- assets - liabilities

21. publicly-owned insurance co. also regulated by SEC no federal insurance on polices credit-rating very important deregulation repeal of Glass-Steagall 1999 more competition to insurance industry publicly-owned insurance co. also regulated by SEC no federal insurance on polices credit-rating very important deregulation repeal of Glass-Steagall 1999 more competition to insurance industry

22. taxation life insurance products get favorable treatment -- tax deferral on -- annuities -- cash value -- death benefits not taxed taxation life insurance products get favorable treatment -- tax deferral on -- annuities -- cash value -- death benefits not taxed

23. IV. Structure & Ownership 3 functions policy design investment sales 3 functions policy design investment sales

24. manage & guarantee policy design the policy assess the risks price the risks promise payment role of credit rating reinsurance to distribute risk design the policy assess the risks price the risks promise payment role of credit rating reinsurance to distribute risk

25. invest premiums done “in-house” or outsource to investment company lag between premiums & claims investment performance is important done “in-house” or outsource to investment company lag between premiums & claims investment performance is important

26. sell policies agents sell policies of one company franchisers industry moving away from agents brokers sell policies of many companys other distributors commercial banks agents sell policies of one company franchisers industry moving away from agents brokers sell policies of many companys other distributors commercial banks

27. OwnershipOwnership stock insurance co. owned by shareholders con: potential conflicts of interest -- shareholders vs. policy holders pro: access to capital stock insurance co. owned by shareholders con: potential conflicts of interest -- shareholders vs. policy holders pro: access to capital

28. mutual insurance co. owned by policy holders pro: no conflicts, long-term view con: limited access to capital pro: protection from acquistion mutual insurance co. owned by policy holders pro: no conflicts, long-term view con: limited access to capital pro: protection from acquistion

29. trend towards demutualization raise capital for mergers -- after Glass-Steagall offer stock compensation to officers trend towards demutualization raise capital for mergers -- after Glass-Steagall offer stock compensation to officers