Vaibhav Thesis (main)

INDIAN INSTITUTE OF PLANNING & MANAGEMENT SATBARI CAMPUS, NEW DELHI

THESIS ON

RISK ASSESSMENT & UNDERWRITING OF AN INSURANCE PROPOSAL ICICI PRUDENTIAL LIFE INSURANCE COMPANY’S APPROACH

Submitted By: VAIBHAV TRIVEDI SPRING SUMMER/2007-2009 ALUMNI ID: DS79-F-095

Submitted To: PROF. SUMANTA SHARMA (DEAN PROJECT)

Executive Summary As the drama of life unfolds on the path from birth to death, people experience unpredictable events along the way. Not all events are same for every one and we soon learn that life is uncertain and death is indeterminable. The paradox is that we know we cannot predetermine how long our life will be, yet we know that death is certainly for everyone. Thus life is full of uncertainties and such uncertainties translate in to risks. Although insurance is a formidable risk management tool but from an insurer’s point of view it is very critical to assess the risk associated to an individual’s life in an appropriate and accurate manner. The ensuing study is an attempt to provide the greater insight to the use of rules and techniques of risk assessment in the context of risk management process followed by ICICI Prudential Life Insurance Company. It is divided in to five chapters. The first chapter looks at the details of ICICI Prudential as a company because unless or until we are known to the company profile to which we are going to study, we cannot move in the right direction. After a brief look at the company profile, chapter 2 deals with the basics of Risk Management. Chapter 3 elucidates the relationship between insurance and risk and how insurance can be applied as a formidable tool to risk management. Chapter 4 illustrates the Risk Management Process. Chapter 5 illustrates the importance, methodology and application of underwriting tools and underwriting process used by the life insurance company.

Certificate This is to certify that the dissertation entitled “Risk Assessment & Underwriting of an Insurance Proposal” submitted by VAIBHAV TRIVEDI( DS79-F-095), MBA 2 years course, Session 2007-2009) to the Indian Institute of Planning & Management, New Delhi been authentically done by him under my supervision and guidance with due diligence. The dissertation has been undertaken in fulfillment of the degree requirements for Masters in Business Administration, Indian Institute of Planning & Management, New Delhi.

Mr. Paramjeet Singh Ahuja Branch Underwriter, Noida ICICI Prudential Life Insurance Co Date :

Acknowledgement I would like to express my sincere gratitude to my project guide Mr. Paramjeet Singh Ahuja for his constant interest and guidance towards the successful completion of the project. I would also like to acknowledge the support provided by the Central Underwriting Team (CUW) of ICICI Prudential Life Insurance Company Private Ltd. Lastly, I would like to thank Mr. Nitin Malhotra, the State Manager U.P, ICICI Prudential Life Insurance Company for helping me out to get connected with the CUW team and for making available crucial information regarding the guidelines followed by the company to underwrite an insurance proposal. I also express my grateful appreciation to Prof. Sumanta Sharma & Mr. Vijay Boddu for providing guidance throughout my thesis work. Last but not the least, it is a pleasure to express my heartfelt thanks to all those who remembered and wished every success in my endeavor.

VAIBHAV TRIVEDI

INTRODUCTION TO THE STUDY Introduction This is an overall study of the rules and methods adopted by the organization of ICICI Prudential Life Insurance Company Pvt. Ltd. for the purpose of underwriting of an Insurance Proposal. Objectives The study has undertaken to get an exposure of actual working environment in an organization. The main objective of the study is to familiarize with the frame work and methods of organization, used for underwriting. 1. To provide greater insight to the use of rules and techniques of risk assessment in the context of risk management process. 2. To know how ICICI Prudential Life works and methods adopted for the purpose of

underwriting of an insurance proposal. Methodology 1. In-depth study of underwriting principles and guidelines. 2. Understanding the requirement of ICICI Prudential Life Insurance Company to assess the risk faced by a prospect. 3. Study pros & cons of the decentralized approach of underwriting of an insurance proposal at branch level. Limitation The following limitation of this internship report: 1. The study is limited to the study of the underwriting department and not on whole of organization. 2. This study is only subject to an organization and not consist the whole market. 3. The study is time bound and would be applicable to current scenario. 4. It is assumed that the information provided by the company is corrected and reference is drawn accordingly.

5.

Thesis Topic Approval ( F ) SS/ 2007-09

Dear Vaibhav Trivedi, This is to inform that the thesis topic “Risk Assessment & Underwriting of an Insurance Proposal ( ICICI Prudential Company' Approach)”, as proposed by you, has been approved .This email is an official confirmation that you would be doing your thesis work under the guidance of Mr. Paramjeet Singh Ahuja. Make it a comprehensive thesis; the objective of a thesis should be value addition to the existing knowledge base. Please ensure that the objectives as stated by you in your synopsis are met using the appropriate research design. You must always use the thesis title as approved and registered with us. Your Alumni ID Number is DS79-F-095 You are required to correspond with us by sending at least six response sheets to Prof. Vijay Kr. Boddu at [email protected] Ph-011-42789931 ( format attached along with this mail) at regular intervals, before 30th April 2009(the last date for thesis submission). Regards, Sumanta Sharma Dean (Projects)

The Indian Institute of Planning and Management New Delhi [email protected]

TABLE OF CONTENTS CHAPTER 1: DETAILS OF ICICI PRUDENTIAL LIFE INSURANCE COMPANY 1.1 Overview -------------------------------------------------------------------------------1 1.2 The ICICI Prudential’s Edge-------------------------------------------------------- 2 1.3 Vision & Mission Statement of the Company-------------------------------------3 1.4 Promoters of the Company-----------------------------------------------------------4 1.5 Fact Sheet of the Company ` 1.5.1 The Company------------------------------------------------------------ 5 1.5.2 Distribution -------------------------------------------------------------- 6 1.5.3 Products------------------------------------------------------------------ 7 1.6 Parent Organization in India------------------------------------------------------- 13 1.7 Board of Directors & Management Team----------------------------------------- 14 CHAPTER 2: RISK MANAGEMENT – AN INTRODUCTION 2.1 Meaning of Risk---------------------------------------------------------------------- 16 2.2 Categories of Risk-------------------------------------------------------------------- 16 2.2.1 Statics & Dynamic Risks----------------------------------------------- 16 2.2.2 Fundamental & Particular Risks---------------------------------------17 2.2.3 Pure & Speculative Risks-----------------------------------------------18 2.3 Nature of Insurable Risk------------------------------------------------------------- 18 2.4 Pure Risks------------------------------------------------------------------------------18 2.4.1 Personal Risks------------------------------------------------------------19 2.4.2 Property Risks------------------------------------------------------------19 2.4.3 Liability Risks------------------------------------------------------------19 2.4.4 Failure of others----------------------------------------------------------19 2.5 Methods of Handling Risk-----------------------------------------------------------20 2.5.1 Avoiding Risk------------------------------------------------------------21 2.5.2 Controlling Risk-------------------------------------------------------- -21 2.5.3 Accepting Risk-----------------------------------------------------------21 2.5.4 Transferring Risk-------------------------------------------------------- 22 CHAPTER 3: INSURANCE & RISK 3.1 Basic Characteristics of Insurance--------------------------------------------------25 3.1.1 Pooling of Losses--------------------------------------------------------25 3.1.2 Indemnification---------------------------------------------------------- 26 3.1.3 Risk Transfer-------------------------------------------------------------27 3.2 Requirements of Insurable Risks--------------------------------------------------- 28

3.3 Advantages & Disadvantages of Insurance in Handling Risk------------------ 31 CHAPTER 4: RISK MANAGEMENT PROCESS 4.1 Meaning and Objective of Risk Management-------------------------------------35 4.2 Nature of Risk Management---------------------------------------------------------37 4.3 Six Steps Risk Management Process-----------------------------------------------38 4.4 Risk Control & Risk Financing----------------------------------------------------- 42 CHAPTER 5: UNDERWRITING OF AN INSURANCE PROPOSAL 5.1 Insurance Market Dynamics---------------------------------------------------------44 5.2 Underwriting Cycle & Underwriting Guidelines--------------------------------- 44 5.3 Life Insurance Underwriting---------------------------------------------------------47 5.4 Sources of Underwriting Information---------------------------------------------- 50 5.5 Methods of Underwriting------------------------------------------------------------ 51

Underwriting guidelines followed by ICICI Prudential Life Insurance Company--59 BIBLIOGRAPHY

CHAPTER 1: ICICI PRUDENTIAL LIFE INSURANCE COMPANY 1.1 Overview ICICI Prudential Life Insurance Company is a joint venture between ICICI Bank - one of India's foremost financial services companies-and Prudential plc - a leading international financial services group headquartered in the United Kingdom. Total capital infusion stands at Rs. 37.72 billion, with ICICI Bank holding a stake of 74% and Prudential plc holding 26%. ICICI Prudential began its operations in December 2000 after receiving approval from Insurance Regulatory Development Authority (IRDA). Today, its nation-wide team comprises of over 952 branches in addition to 1,004 micro-offices, over 291,000 advisors; and 21 bancassurance partners. ICICI Prudential was the first life insurer in India to receive a National Insurer Financial Strength rating of AAA (Ind) from Fitch ratings. For three years in a row, ICICI Prudential has been voted as India's Most Trusted Private Life Insurer, by The Economic Times - AC Nielsen ORG Marg survey of 'Most Trusted Brands'. As it grows its distribution, product range and customer base, it continues to tirelessly uphold its commitment to deliver world-class financial solutions to customers all over India.

1.2 The ICICI Prudential Edge The ICICI Prudential edge comes from its commitment to its customers, in all that they do - be it product development, distribution, the sales process or servicing. Here's a peek into what makes ICICI Prudential leaders. 1. Their products have been developed after a clear and thorough understanding of customers' needs. It is this research that helps them develop Education plans that offer the ideal way to truly guarantee your child's education, Retirement solutions that are a hedge against inflation and yet promise a fixed income after you retire, or Health insurance that arms you with the funds you might need to recover from a dreaded disease. 2. Having the right products is the first step, but it's equally important to ensure that the customers can access them easily and quickly. To this end, ICICI Prudential has an advisor base across the length and breadth of the country, and also partners with leading banks, corporate agents and brokers to distribute our products. 3. Robust risk management and underwriting practices form the core of our business. With clear guidelines in place, the company ensures equitable costing of risks, and thereby ensure a smooth and hassle-free claims process. 4. Entrusted with helping the customers meet their long-term goals, ICICI Prudential adopts an investment philosophy that aims to achieve risk adjusted returns over the long-term. 5. Last but definitely not the least, company’s 28,000 plus strong team is given the opportunity to learn and grow, every day in a multitude of ways.

1.3 ICICI Prudential’s Vision “To be the dominant Life, Health and Pensions player built on trust by world-class people and service.” The company hopes to achieve this by: •

Understanding the needs of customers and offering them superior products and service

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Leveraging technology to service customers quickly, efficiently and conveniently

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Developing and implementing superior risk management and investment strategies to offer sustainable and stable returns to our policyholders

• • •

Providing an enabling environment to foster growth and learning for our employees And above all, building transparency in all our dealings

The success of the company will be founded in its unflinching commitment to 5 core values – Integrity, Customer First, Boundary less, Ownership and Passion. Each of the values describes what the company stands for, the qualities of our people and the way we work. We do believe that we are on the threshold of an exciting new opportunity, where we can play a significant role in redefining and reshaping the sector. Given the quality of our parentage and the commitment of our team, there are no limits to our growth. ICICI Prudential’s Values Every member of the ICICI Prudential team is committed to 5 core values: Integrity, Customer First, Boundaryless, Ownership, and Passion. These values shine forth in all we do, and have

become the keystones of our success.

1.4 Promoters of the ICICI Prudential Life Insurance Company ICICI Bank ICICI Bank Limited (NYSE:IBN) is India's largest private sector bank and the second largest bank in the country, with consolidated total assets of $121 billion as of March 31, 2008. ICICI Bank’s subsidiaries include India’s leading private sector insurance companies and among its largest securities brokerage firms, mutual funds and private equity firms. ICICI Bank’s presence currently spans 19 countries, including India. Prudential Plc Established in London in 1848, Prudential plc, through its businesses in the UK, Europe, US, Asia and the Middle East, provides retail financial services products and services to more than 20 million customers, policyholder and unit holders and manages over £267 billion of funds worldwide (as of December 31, 2007). In Asia, Prudential is the leading European life insurance company with life operations in China, Hong Kong, India, Indonesia, Japan, Korea, Malaysia, the Philippines, Singapore, Taiwan, Thailand, and Vietnam. Prudential is one of the largest retail fund managers for Asian sourced assets ex-Japan. Its fund management business has expanded into ten markets, comprising of China, Hong Kong, India, Japan, Korea, Malaysia, Singapore, Taiwan, Vietnam and United Arab Emirates.

1.5 Fact Sheet of ICICI Prudential Life Insurance 1.5.1 The Company ICICI Prudential Life Insurance Company is a joint venture between ICICI Bank, a premier financial powerhouse, and Prudential plc, a leading international financial services group headquartered in the United Kingdom. ICICI Prudential was amongst the first private sector insurance companies to begin operations in December 2000 after receiving approval from Insurance Regulatory Development Authority (IRDA). ICICI Prudential Life's capital stands at Rs. 37.72 billion (as on March, 2008) with ICICI Bank and Prudential plc holding 74% and 26% stake respectively. For the year ended March 31, 2008, the company garnered Retail New Business Weighted premium of Rs. 6,684 crores, registering a growth of 68% over the last year and has underwritten nearly 3 million retail policies during the period. The company has assets held over Rs. 28,500 crore. ICICI Prudential Life is also the only private life insurer in India to receive a National Insurer Financial Strength rating of AAA (Ind) from Fitch ratings. The AAA (Ind) rating is the highest rating, and is a clear assurance of ICICI Prudential's ability to meet its obligations to customers at the time of maturity or claims. For the past seven years, ICICI Prudential Life has retained its leadership position in the life insurance industry with a wide range of flexible products that meet the needs of the Indian customer at every step in life. 1.5.2 Distribution ICICI Prudential Life has one of the largest distribution networks amongst private life insurers in

India. It has a strong presence across India with over 952 branches in addition to 1,004 microoffices and an advisor base of 291,000. The company has 21 bancassurance partners having tie-ups with ICICI Bank, Bank of India, Federal Bank, South Indian Bank, Shamrao Vitthal Co-Op Bank, Jalgaon Peoples Co-op Bank, Ernakulam District Co-op Bank, Idukki District Co-op Bank, Ratnagiri Sindhudurg Gramin Bank, Solapur Gramin Bank, Wainganga Kshetriya Gramin Bank, Aryawart Gramin Bank, Jharkhand Gramin Bank, Narmada Malwa Gramin Bank, Baitarani Gramya Bank, Ratnagiri District Central Co-op Bank, Seva Vikas Co-op Bank, Sangli Urban Co-Operative Bank, Baramati Co-operative Bank, Ballia Kshetriya Co-Operative Bank, The Haryana State CoOperative Bank and Imphal Urban Cooperative Bank Ltd. 1.5.3 Products Insurance Solutions for Individuals ICICI Prudential Life Insurance offers a range of innovative, customer-centric products that meet the needs of customers at every life stage. Its products can be enhanced with up to 4 riders, to create a customized solution for each policyholder. Savings & Wealth Creation Solutions • Save'n'Protect is a traditional endowment savings plan that offers life protection along with adequate returns. • CashBak is an anticipated endowment policy ideal for meeting milestone expenses like a child's marriage, expenses for a child's higher education or purchase of an asset. It is available for terms of 15 and 20 years. • LifeTime Gold & LifeTime Plus are unit-linked plans that offer customers the

flexibility and control to customize the policy to meet the changing needs at different life stages. Each offer 6 fund options - Preserver, Protector, Balancer, Maximiser, Flexi Growth and Flexi Balanced. • LifeLink Super is a single premium unit linked insurance plan which combines life insurance cover with the opportunity to stay invested in the stock market. • Premier Life Gold is a limited premium paying plan specially structured for longterm wealth creation. • InvestShield Life New is a unit linked plan that provides premium guarantee on the invested premiums and ensures that the customer receives only the benefits of fund appreciation without any of the risks of depreciation. • InvestShield Cashbak is a unit linked plan that provides premium guarantee on the invested premiums along with flexible liquidity options. • LifeStage RP is a unique and powerful wealth creation insurance solution, which combines the benefits of automatic asset allocation and quarterly rebalancing along with increased protection. Protection Solutions • LifeGuard is a protection plan, which offers life cover at low cost. It is available in 3 options - level term assurance, level term assurance with return of premium & single premium. • HomeAssure is a mortgage reducing term assurance plan designed specifically to help customers cover their home loans in a simple and cost-effective manner. Education insurance plans • Education insurance under the SmartKid brand provides guaranteed educational

benefits to a child along with life insurance cover for the parent who purchases the policy. The policy is designed to provide money at important milestones in the child's life. SmartKid plans are also available in unit-linked form - both single premium and regular premium. Retirement Solutions • ForeverLife is a traditional retirement product that offers guaranteed returns for the first 4 years and then declares bonuses annually. • LifeTime Super Pension is a regular premium unit linked pension plan that helps one accumulate over the long term and offers 5 annuity options (life annuity, life annuity with return of purchase price, joint life last survivor annuity with return of purchase price, life annuity guaranteed for 5, 10 and 15 years & for life thereafter, joint life, last survivor annuity without return of purchase price) at the time of retirement. • LifeLink Super Pension is a single premium unit linked pension plan. • Immediate Annuity is a single premium annuity product that guarantees income for life at the time of retirement. It offers the benefit of 5 payout options. • PremierLife Pension is a unique and convenient retirement solution with a limited premium paying term of three or five years, to suit professionals and businessmen, especially those who require more flexibility and customization while planning their finances. Health Solutions • Health Assure Plus: Health Assure is a regular premium plan which provides long term cover against 6 critical illnesses by providing policyholder with financial assistance, irrespective of the actual medical expenses. Health Assure Plus offers the

added advantage of an equivalent life insurance cover. • Cancer Care: is a regular premium plan that pays cash benefit on the diagnosis as well as at different stages in the treatment of various cancer conditions. • Cancer Care Plus: is a wellness plan that includes all the benefits of Cancer Care and also provides an additional benefit of free periodical cancer screenings. • Diabetes Care: Diabetes Care is a unique critical illness product specially developed for individuals with Type 2 diabetes and pre-diabetes. It makes payments on diagnosis on any of 6 diabetes related critical illnesses, and also offers a coordinated care approach to managing the condition. Diabetes Care Plus also offers life cover. • Diabetes Care Plus: is a unique insurance policy that provides an additional benefit of life cover for Type 2 diabetics and pre-diabetics • Hospital Care: is a fixed benefit plan covering various stages of treatment – hospitalisation, ICU, procedures & recuperating allowance. It covers a range of medical conditions (900 surgeries) and has a long term guaranteed coverage upto 20 years. • Crisis Cover : is a 360-degree product that will provide long-term coverage against 35 critical illnesses, total and permanent disability, and death. Group Insurance Solutions ICICI Prudential Life also offers Group Insurance Solutions for companies seeking to enhance benefits to their employees. •

Group Gratuity Plan: ICICI Prudential Life's group gratuity plan helps employers \ fund their statutory gratuity obligation in a scientific manner. The plan can also be customized to structure schemes that can provide benefits beyond the statutory obligations.

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Group Superannuation Plan: ICICI Prudential Life offers both defined contribution (DC) and defined benefit (DB) superannuation schemes to optimise returns for the members of the trust and rationalise the cost. Members have the option of choosing from various annuity options or opting for a partial commutation of the annuity at the

•

time of retirement. Group Immediate Annuities: In addition to the annuities offered to existing superannuation customers, we offer immediate annuities to superannuation funds not managed by us.

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Group Term Plan: ICICI Prudential Life's flexible group term solution helps provide affordable cover to members of a group. The cover could be uniform or based on designation/rank or a multiple of salary. The benefit under the policy is paid to the beneficiary nominated by the member on his/her death.

Flexible Rider Options ICICI Prudential Life offers flexible riders, which can be added to the basic policy at a marginal cost, depending on the specific needs of the customer. 1. Accident & disability benefit: If death occurs as the result of an accident during the

term of the policy, the beneficiary receives an additional amount equal to the rider sum assured under the policy. If an accident results in total and permanent disability, 10% of rider sum assured will be paid each year, from the end of the 1st year after the disability date for the remainder of the base policy term or 10 years, whichever is lesser. If the death occurs while travelling in an authorized mass transport vehicle, the beneficiary will be entitled to twice the sum assured as additional benefit. 2. Critical Illness Benefit: protects the insured against financial loss in the event of 9

specified critical illnesses. Benefits are payable to the insured for medical expenses prior to death. 3. Waiver of Premium: In case of total and permanent disability due to an accident,

the future premiums continue to be paid by the company till the time of maturity. This rider is available with SmartKid, LifeTime Plus, LifeTime Super and LifeTime Super Pension. 4. Income benefit rider: In case of death of the life assured during the term of the

policy, 10% of the sum assured is paid annually to the nominee on each policy

anniversary till the maturity of the rider.

1.6 About the Promoter, Parent Organization of ICICI Prudential Life Insurance in INDIA ICICI Bank ICICI Bank Limited (NYSE:IBN) is India's largest private sector bank and the second largest bank in the country, with consolidated total assets of $121 billion as of March 31, 2008. ICICI Bank’s subsidiaries include India’s leading private sector insurance companies and among its largest securities brokerage firms, mutual funds and private equity firms. ICICI Bank’s presence currently spans 19 countries, including India. Established in London in 1848, Prudential plc, through its businesses in the UK and Europe, US, Asia and the Middle East, provides retail financial services products and services to more than 20 million customers, policyholder and unit holders and manages over £267 billion of funds worldwide (as of December 31, 2007). In Asia, Prudential is the leading European life insurance company with life operations in China, Hong Kong, India, Indonesia, Japan, Korea, Malaysia, the Philippines, Singapore, Taiwan, Thailand, and Vietnam. Prudential is one of the largest retail fund managers for Asian sourced assets ex-Japan. Its fund management business has expanded into a total of ten markets: China, Hong Kong, India, Japan, Korea, Malaysia, Singapore, Taiwan, Vietnam and United Arab Emirates. Its fund management business has expanded into a total of ten markets: China, Hong Kong, India, Japan, Korea, Malaysia, Singapore, Taiwan, Vietnam and United Arab Emirates.

1.7 Board of Directors The ICICI Prudential Life Insurance Company Limited Board comprises reputed people from the finance industry both from India and abroad. Mr. K. V. Kamath,

Chairman

Ms. Kalpana Morparia,

Vice Chairperson

Ms. Chanda Kochhar,

Director

Mr. Barry Stowe,

Director

Mr. H.T. Phong,

Director

Prof. Marti G. Subrahmanyam,

Director

Mr. Mahesh Prasad Modi,

Director

Ms. Rama Bijapurkar,

Director

Mr. Keki Dadiseth,

Director

Ms. Shikha Sharma,

Managing Director

Mr. N.S. Kannan,

Executive Director

Mr. Bhargav Dasgupta,

Executive Director

Management Team The ICICI Prudential Life Insurance Company Limited Management team comprises reputed people from the finance industry both from India and abroad.

Mr.V.Vaidyanathan,

Managing Director & CEO

Mr. N. S. Kannan,

Executive Director

Mr. Bhargav Dasgupta,

Executive Director

Ms. Anita Pai,

Exec. Vice President Customer Service & Tech.

Dr. Avijit Chatterjee,

Appointed Actuary

Mr. Puneet Nanda,

Exec. Vice President & Chief Investment Officer

CHAPTER 2: RISK MANAGEMENT – AN INTRODUCTION 2.1 Meaning of Risk Risk is a condition where there is a possibility of an adverse deviation from a desired outcome that is expected or hoped for; when an event is stated to be possible, it has a probability between zero and one; it is neither impossible nor indefinite. The degree of risk may or may not be measurable. Since our purpose is to relate risk to insurance, focus will be on risk, which entails the possibility of financial loss. Financial loss may be defined as a decline in or disappearance of value due to a contingency. This means that if the loss of value is intended or if it is certain, it is not a loss with in the context of above definition. For those who define risk as uncertainty, the greater the uncertainty, the greater is the risk. For an individual, higher the probability of loss, greater is the probability of an adverse deviation from what is hoped for and therefore greater is the risk. The expected value of loss in a given situation, or the mathematical value of risk at any point of time, is the probability of the loss materializing multiplied by the amount of the potential or anticipated loss. 2.2 Categories of Risk There is some element of risk in every aspect of human endeavor, and many of these risks have no (or only incidental) financial consequences. As for insurance, we are concerned with those risks that involve a financial loss. 2.2.1 Statics and dynamic risks Dynamic risks are those resulting from changes in the economy. Changes in the price level,

consumer tastes, income and output and technology may cause financial loss to the members of the economy. These dynamic risks normally benefit society over the long run since they are the result of adjustments to misallocation of resources. Since these dynamic risks may affect a large number of individuals, they are generally considered less predictable than static risks, since they do not occur with any precise degree of regularity. Static risks involve those losses that occur even if there were no changes in the economy. If we could hold consumer tastes, output and income and the level of technology, constant, some individuals would still suffer financial loss. These losses arise from causes other than the changes in the economy, such as perils of nature and dishonesty of other individuals. Unlike dynamic risks, static risks are not a source of gain to society. Static losses tend to occur with a degree of regularity over time and, as a result, are generally predictable. Because they are predictable, static risks are more suited to treatment by insurance than are dynamic risks. 2.2.2 Fundamental and particular risks Fundamental risks involve losses that are impersonal in origin and consequences. They are group risks, caused for the most part in economic, social and political phenomena, although they may also result from physical occurrences. They affect large segments or even all of the population. Unemployment, war, inflation, earthquakes and floods are all fundamental risks. Particular risks involve losses that arise out of individual events and are felt by the individuals rather than by the entire group. They may be static or dynamic. The burning of a house and the robbery of a bank are particular risks. Since fundamental risks are caused by the conditions more or less beyond the control of individuals who suffer the losses and since they are not due to the fault of any one in particular, it is held that society rather than the individual has responsibility to deal with them – social

insurance should be for fundamental risk – private insurance for particular risks though some fundamental risks like earthquake are covered by private insurance. 2.2.3 Pure & speculative Risks Speculative risk refers to a condition where there is a chance that the risk-taker may suffer a loss or enjoy a gain or maintain status quo. For example, if Jayesh purchase a lottery ticket, he runs the risk of either losing the money used to buy the ticket or striking the top prize of Rs. 1 crore. This would be an example of taking speculative risk. When an investor invests a sum of money in to certain shares, he could end up making a profit, suffering a loss or breaking even. He has also undertaken a speculative risk. Pure risk refers to a condition where the risk taker either suffers a loss or avoids losses without enjoying any gain. For example, if Jayesh owns a property, there is a risk that an accidental fire may decimate it. This is an example of pure risk as the best that Jayesh can hope for is to maintain status quo and ensure that the property is safe. 2.3 Nature of Insurable Risk Only pure risks are insurable. Insurance is not concerned with protection of individuals against those losses arising out of speculative risks. Speculative risk is voluntarily accepted because of its two-dimensional nature, which includes the possibility of gain. 2.4 Pure Risk Pure risk can be classified in to four categories: 1. Personal Risks 2. Property Risks 3. Liability Risks 4. Failure of others 2.4.1 Personal Risks These are risks that affect the income-producing ability of the client arising from events

such as employment, death, disability, illness or accident. They can also cause the client to incur additional expenses relating to his maintenance and sustenance. For example, if a client is struct by disability, then he will not only be economically unproductive, but additional expenses, e.g. medical expenses, will be incurred to look after his needs arising from the disability. 2.4.2 Property Risks These are risks that result in loss, destruction or damage to the client’s real and personal property. Examples of such risks are fire, theft, flood and accidents. 2.4.3 Liability Risks These are risks that expose the client to liability to third parties. They arise as a result of the client’s words, conduct, property or legal relationships. For example, if client is a lawyer, he owes a duty of care to his client to give proper advice. If this duty is breached and client suffers losses, he could be liable for damages. Another example is where a person negligently steers his car and cause an accident resulting in injuries inflicted on a pedestrian. The driver will be liable to the pedestrian for damages to compensate him for any pain or loss suffered. 2.4.4 Failure of others These are risks that expose the client to loss due to the acts or omission by others. For example, if a person engages a contractor to renovate his home but the contractor botches up (spoil) the job, resulting in extensive damage to the home to the person will have to suffer losses due to the contractor’s negligence. The situation will be exacerbated (worsened) if the contractor is impecunious (poor), as any legal action instituted against him will probably not result in any compensation for the client.

2.5 Methods of Handling Risk We are surrounded by risks. We take risk when we travel, when we engage in recreational activities, even when we breathe. Some risks are significant, others are not. When we decide to leave an umbrella at home, we take the risk that we might get caught in a rain shower. Such a risk is insignificant. But what about the risks in the following situations? 1. Ricky Agarwal is a 23-year old single man who is working his way through college with part time jobs. What if he becomes ill and requires a long hospital stay and expensive medical treatment? 2. Dinesh and Jaya Patel are working parents of two school-aged children. What if either Dinesh or Jaya becomes disabled and cannot work to support the family? 3. Jagdish and Jayendra Goswami own and mange a convenience store. What if a fire damages their building? 4. The Wilson Software Development Company’s product development process depends on the genius of two employees who are computer “whizzes”. What happens to the company if one or both of them dies? 5. Kavita Waghmare is an artist who supports herself by selling her artwork. What happens when she retires and her income is no longer sufficient to meet her economic needs? In each situation, the individual, family or business can use risk management to deal with the financial risk it faces. The practice of risk management involves identifying risk, assessing risk and dealing with risk. In order to eliminate or reduce our exposure to financial risk, we can do at least four things: 1. Avoid Risk 2. Accept Risk 3. Control Risk 4. Transfer Risk 2.5.1 Avoiding Risk

The first, and perhaps most obvious, method of managing risk is simply to avoid risk altogether. We can avoid the risk of personal injury that may result from an airplane crash by not riding in an airplane, and we can avoid the risk of financial loss in the stock market by not investing in it. Sometimes, however, avoiding risk is not effective or practical. 2.5.2 Controlling Risk We can try to control risk by taking steps to prevent or reduce losses. For instance, Jagdish and Jayendra Goswami in one of our earlier examples could reduce the likelihood of a fire in their convenience store by banning smoking in their building. In addition, the Goswamis could install smoke detectors and a sprinkling system in their building to lessen the extent of damage likely to happen if there is a fire. In these ways, the Goswamis are attempting to control risk by reducing the likelihood of a loss and lessening the severity of a potential loss. 2.5.3 Accepting Risk A third method of managing risk is to accept, or retain risk. Simply stated, to accept a risk is to assume all financial responsibility for that risk. Sometimes, as in the case of an insignificant risk – loosing an umbrella – the financial loss is not great enough to warrant much concern. We assume the cost of replacing the umbrella ourselves. Some people consciously choose to accept more significant risks. For instance, a couple like Dinesh and Jaya Patel from one of the previous examples may decide not to purchase disability income insurance because they believe they can just reduce their standard of living if one of them become disabled. Individuals and business sometimes decide to accept total responsibility for a given risk

rather than purchasing insurance to cover the risk. In this situation, the person or business is said to self-insure against the risk. Self-is a risk management technique by which a person or a business accepts financial responsibility for losses associated with specific risks. For example, many employers provide medical expense benefits to heir employees. An employer can self-insure the benefit plan by setting aside money to pay employees’ medical expenses or can pay those expenses out of its current income. Individuals and business can also decide to accept only a part of the risk. For instance, an employer can partially self-insure a medical expense benefit plan by paying its employees medical expenses up to a stated amount and buying insurance to cover all expenses in excess of that stated amount. Many employers now use self-insurance to fund their employees’ health insurance plans. 2.5.4 Transferring Risk Transferring risk is a fourth method of risk management. When you transfer risk to another party, you are shifting the financially responsibility for that risk to the other party, generally in exchange for a fee. The most common way for individuals, families and business to transfer risk is to purchase insurance coverage. When an insurance company agrees to provide a person or a business with insurance coverage, the insurer issues an insurance policy. The policy is a written document that contains the terms of the agreement between the insurance company and the owner of the policy. The agreement is a legally enforceable contract under which the insurance company agrees to pay a certain amount of money – known as the policy benefit, or the policy proceeds – when a specific loss occurs, provided that the insurer has received a

specific amount of money, called the premium. In general, individuals and business can purchase insurance policies, which covers three types of risks: property damage risk, liability risk and personal risk. Insurers that sell insurance policies to provide financial security from property damage risk and liability risk are known as Property-casualty or property-liability, insurance companies. Property insurance provides a benefit if the insured items are damaged or lost because of various specified perils, such as fire, theft or accident. Liability insurance provides a benefit payable on behalf of a covered party who is legally responsible for unintentionally harming others or their property. Property insurance or life insurance (also referred to as property and casualty insurance) are commonly marked together in one policy. Suppose, for example, you are driving a car that is covered by an automobile property-liability insurance policy and you accidentally crash through your neighbor’s front door. The damage to your neighbor’s home will be paid by your policy’s liability coverage; the money to repair your car will come from your policy’s property coverage. Personal insurance; Insurers that sell insurance policies to provide financial security from personal risk are known as life and health insurance companies. It is the transfer of personal risk to life and health insurers that we will address in this book. Both individuals and business purchase life and health insurance policies to provide themselves with the financial security provided by these products.

CHAPTER 3: INSURANCE AND RISK 3.1 Basic Characteristics of Insurance The business of insurance is related to the protection of the economic value of assets. Every asset has a value. The asset would have been created through the efforts of the owner, in the expectation that, either through the income generated there from or some other output, some of his needs would be met. In the case of a factory or a cow, the production is sold and income generated. In the case of a motorcar, it provides comfort and convenience in transportation. There is no direct income. There is normally expected lifetime for the asset during which it is expected to perform. The owner, aware of this, can so manage his affairs that by the end of that life time, a substitute is made available to ensure that the value or income is not lost. However, if the asset gets lost earlier, being destroyed or made non-functional, through an accident or other unfortunate event, the owner and those deriving benefits there from suffer. Insurance is a mechanism that helps to reduce such adverse consequences. Assets are insured, because they are likely to be destroyed or made non-functional, through an accidental occurrence. Such possible occurrences are called perils. Fire, floods, breakdowns, lightning, earthquakes etc. are perils. The damage that these perils may cause to the asset is the risk that the asset is exposed to. Basics characteristics of insurance are: 3.1.1 Pooling of losses People have always sought ways to spread risk and protect themselves from loss. Centuries ago, Chinese merchants divided their cargo among several junks when transporting goods down the

treacherous Yangtze River. If one of the boats was lost, to the river or to pirates, each merchant lost just part of the shipment. It was an early method of spreading risk. Arab traders did the same thing by dividing goods among several caravans. As civilization progressed, the concept of civic responsibility started to develop. In order to encourage commerce, a form of insurance called bottomry bonds was developed. They were called bottomry bonds after “bottoms”, a name applied to ships in those days. Under such a bond, the borrower was freed from any obligation if the collateral was lost through no willful act on the part of the borrower. It was an early form of insurance. The basic protection helped promote the growth of trade in the ancient world. 3.1.2 Indemnification One of the important terms of the contractual agreement between the insurance company and the owner of an insurance policy is the amount of policy benefit that will be payable if a covered loss occurs. Depending on the way in which a policy states the amount of the policy benefit, every insurance policy can be classified as either a contract of indemnity or a valued contract. A contract of indemnity is an insurance policy under which the amount of the policy benefit payable for a covered loss is based on the actual amount of financial loss that results from the loss, as determined at the time of loss. The policy states that the amount of the benefit is equal to the amount of the financial loss or the maximum amount stated in the contract, whichever is less. When the owner of such a contract submits a claim – a request for payment under the terms of the policy – the benefit paid by the insurance company will not be greater than the actual amount of the financial loss. Many types of health insurance policies pay a benefit based on the actual cost of a person’s medical expenses and, as such, are contracts of indemnity. For example, assume that Bala Swami

is insured by a health insurance policy that will pay any covered hospital expenses Bala incurs. The policy states the maximum amount payable to cover Bala’s expenses while he is hospitalized. If he is hospitalized and his actual hospital expenses are less than that maximum amount, the insurance company will not pay the stated maximum; instead, the insurance company will pay a sum that is based on the actual amount of Bala’s hospital bill. Property and liability insurance policies are also contract of indemnity. 3.1.3 Risk Transfer Transferring risk is a fourth method of risk management. When you transfer risk to another party, you are shifting the financially responsibility for that risk to the other party, generally in exchange for a fee. The most common way for individuals, families and business to transfer risk is to purchase insurance coverage. When an insurance company agrees to provide a person or a business with insurance coverage, the insurer issues an insurance policy. The policy is a written document that contains the terms of the agreement between the insurance company and the owner of the policy. The agreement is a legally enforceable contract under which the insurance company agrees to pay a certain amount of money – known as the policy benefit, or the policy proceeds – when a specific loss occurs, provided that the insurer has received a specific amount of money, called the premium. In general, individuals and business can purchase insurance policies, which covers three types of risks: property damage risk, liability risk and personal risk.

Insurers that sell insurance policies to provide financial security from property damage risk and liability risk are known as Property-casualty or property-liability, insurance companies.

Property insurance provides a benefit if the insured items are damaged or lost because of various specified perils, such as fire, theft or accident. Liability insurance provides a benefit payable on behalf of a covered party who is legally responsible for unintentionally harming others or their property. Property insurance or life insurance (also referred to as property and casualty insurance) are commonly marked together in one policy. Suppose, for example, you are driving a car that is covered by an automobile property-liability insurance policy and you accidentally crash through your neighbor’s front door. The damage to your neighbor’s home will be paid by your policy’s liability coverage; the money to repair your car will come from your policy’s property coverage. Personal insurance; Insurers that sell insurance policies to provide financial security from personal risk are known as life and health insurance companies. It is the transfer of personal risk to life and health insurers that we will address in this book. Both individuals and business purchase life and health insurance policies to provide themselves with the financial security provided by these products. 3.2 Requirements of Insurable Risks Insurance products are designed in accordance with some basic principles that define which risks are insurable. In order for a risk-a potential loss-to be considered insurable, it must have certain characteristics as follows: 1.) The loss must occur by chance. 2.) The loss must be definite. 3.) The loss must be significant. 4.) The loss rate must be predictable.

5.) The loss must not be catastrophic to the insurer These five basic characteristics are used to define an insurable risk form the foundation of the business of insurance. A potential loss that does not have these characteristics generally is not considered to be an insurable risk. 1) The loss must occur by chance In order for a potential loss to be insurable, the element of chance must be present. The loss should be caused either by an unexpected event or by an event that is not intentionally caused by the person covered by the insurance. For example, people cannot generally control whether they will become seriously ill; as a result, insurance companies can offer health insurance policies to provide economic protection against financial losses caused by the chance event that the person who is insured will become ill and incur medical expenses. When this principle of loss is applied in its strictest sense to life insurance, an apparent problem arises: death is certain to occur. The timing of an individual’s death, however, is usually out of the individual’s control. Therefore, although the event being insured against-death-is a certain event rather than a chance event, the timing of that event usually occurs by chance. 2) The loss must be definite For most types of insurance, an insurable loss must be definite in terms of time and amount. In other words, the insurer must be able to determine when to pay policy benefits and how much those benefits should be. Death, illness, disability and old agare generally identifiable conditions. The amount of economic loss resulting from these conditions can, however, be subject to interpretation.

3) The loss must be significant As described earlier, insignificant losses, like the loss of an umbrella, are not normally insured. The administrative expenses of paying benefits when a very small loss occurs would drive the cost for such insurance protection so high in relation to the amount of the potential loss that most people would find the protection unaffordable On the other hand, some losses would cause financial hardship to most people and are considered to be insurable. For example, if a person were to be injured in an accident that resulted in a long period of disability, he/she would lose a significant amount of income. Insurance coverage is available to protect against such a potential loss 4) The loss rate must be predictable In order to provide a specific type of insurance coverage, an insurer must be able to predict the probable rate of loss that the people insured by the coverage will experience. To predict the loss rate for a given group of insured’s, the insurer must predict the number and timing of covered losses that will occur in that group of insured’s. An insurer predicts the loss rate for a group of insured’s so that it can determine the proper premium amount to charge each policy owner. No one can predict the losses that a specific person will experience. We do not know when a specific person will die, become disabled or need hospitalization. It is possible, however, to predict with a fairly high degree of accuracy the number of people in a given large group who will die or become disabled or need hospitalization during a given period of time. These predictions of future losses are based on the concept that, even though individual eventssuch as the death of a particular person-occur randomly, we can use observations of past events

to determine the likelihood that a given event will occur in the future. This likelihood is called probability of event. An important concept that is used to determine the probability of an event occurring is the law of large numbers.

3.3 Advantages and Disadvantages of Insurance in handling risks Although insurance is only one of the techniques available for dealing with the pure risks that an individual faces many of the risk management decisions boil down to a choice between insurance and non-insurance. Advantages The following benefits flow out the mechanism of insurance: A. Indemnification The direct advantage of insurance is indemnification for unexpected losses. Organizations/Individuals having the insurance protection, as well as the benefits to the society by this are obvious.

B. Reduction of Uncertainty Before purchasing insurance, the potential insured bears the risk associated with possible losses. As a result, the person is uncertain about the outcome. The insurance transfers financial consequences of loss to the insurer, who then becomes responsible for compensating the insured for the loss and providing other loss related services according to the insurance contract. This is expected to reduce the insured’s anxiety and uncertainty. C. Funds for Investment

Insurance premiums are normally payable in advance and held by the insurer till the time of payment of claims. This enables the insurers to invest these funds, which is always sizable, and earns attractive returns on the investment made. The returns on the investments go on to reduce the premium required to be paid for the contract. Though the individual insured person can also earn returns on their premium amounts, had they not purchased insurance, the investment expertise available with the insurers, the opportunities for investing available to the insurers and the size of the investible funds that the insurer have will make the returns earned by the insurer much more attractive than what individual can think of. Also, since the Government governs the way the insurers invest the funds, most of the accumulated funds are invested in the development of infrastructure of the nation and also the development of capital markets, which is beneficial to the society as a whole. D. Loss Control After insuring the various risks of the organizations, insurance companies take interest in controlling the losses by providing loss reduction education and advices by trained experts, which result in lesser losses even in cases where losses have occurred. The organizations would have had to spend heavily for getting such loss control and loss minimization expertise if they were not to go in for insurance. Disadvantages Although the advantages of purchasing insurance as a tool in management of risks are numerous, insurance has a few disadvantages also: a) Operating Expenses

Insurers incur expenses in loss control measures, in acquisition of insurance business, claim settlement activities, in risk inspections and rating activities and other general administrative works. These expenses and a reasonable amount of profit for the insurer must be charged to the premium payable by the insured. Thus the premium paid by the insured is more than expected value of losses. The insured pays more than what is his share in losses that the group is likely to experience because of the expenses listed above. b) Moral Hazard The other disadvantage of insurance mechanism is the moral hazards. Insurance coverage reduces the insured’s incentives to prevent loss or to contain the amount of damage due to the loss when it occurs. In certain cases, there can be intentional damages created by the insured themselves, such as arson or staging accidents or hospitalization when not required etc. in some other cases, there can be attempts to overstate the damage due to the loss in order to get higher compensation than what would have been allowed. Thus moral hazard increases the amount of losses experienced by the group in relation to what would have been in the absence of insurance arrangement. This also gets provided for in the insurance premium calculations, which the insured persons will have to pay. Overall, the advantages that the insurance mechanism provides are much more than the effects of the disadvantages discussed above, in most of the cases.

CHAPTER 4: RISK MANAGEMENT PROCESS 4.1 Meaning and Objective of Risk Management The Rules Before undertaking risk management planning, the financial planner must equip himself with certain fundamental knowledge. He must be familiar with the rules of risk management, which are: 1. Don't risk more than what you can afford to loose. 2. Consider the odds of the risk occurring. 3.

Don't risk a lot for little.

Don't risk more than what you can afford to loose Under this rule, risks that can cause unbearable looses, as well as risks that can only result in negligible losses, should be identified. For the farmers, steps should be undertaken to eliminate or reduce the impact of losses.. for example, if the client becomes permanently and totally disabled due to an illness, he will loose his income producing capabilities. This can be fatal to the client's survival and he should take up insurance coverage to provide adequate protection from such unforeseen circumstances. Consider the odds of the risk occurring The odds of any loss occurring are another relevant factor to be considered. For example, if a particular loss is likely to happen, insurance may not be a viable option as the premiums will probably be too high. Different solutions will have to be adopted in

such cases. For example, if the client owns a goldsmith shop that is located in a high crime rate area and has suffered numerous break-ins before, the cost of acquiring theft insurance will most likely be prohibitive as the chances of another break-in occurring are very high and the premium will be heavily loaded. As such, the client may have to consider alternative solutions to manage the risk like relocating the shop to a safer place. Don't risk a lot for a little Under this rule, if the cost of carrying out a particular risk management technique is negligible compared to the potential loss and assuming the potential loss to be large, the technique should be implemented. For example,, if the client is to purchase a house made of wood, there is a risk that it might get gutted by fire. The loss sustained in such an event can be extremely high and if the premium required acquiring adequate fire insurance coverage is low, the client should, pursuant ti this rule, acquire the fire insurance coverage. This rule is also related to the Large Loss principle, which dictates that in risk management, risks that can result in catastrophic losses should be insured first. The probability of the loss occurring is of secondary importance in considering whether to acquire the insurance coverage. Application of the rules The three rules of risk management elaborated above should be considered together. Sometimes application of these rules may result in conflicting conclusions and the financial planner has to weigh the relevant factors and advise the client accordingly. For example, if a client has a past history of medical problems, which makes him insurable but at premium rates that are extremely high, there is a conflict of atleast two principles. Firstly, if no insurance is taken, the occurrence

of the client's death may result in consequences, which are unbearable to the client and his family. On the other hand, the cost of insurance is high relative to the benefits. In such a case, the financial planner has to consider all the relevant factors like affordability, family needs and family assets before giving his advice. 4.2 The Nature of Risk Management Risk management is a scientific approach to the problem of dealing with the pure risk faced by the individuals and business. It is a function of management. The management of an organization has ultimate responsibility for dealing with all risks facing the organization, including both pure and speculative risks. Risk management focuses its attention only on the pure risks. Risk management deals with insurable and uninsurable risks and the choice of the appropriate technique for dealing with them. Insurance management includes the use of techniques other than insurance [e.g. Noninsurance or retention, as an alternative to insurance], but it is restricted to the area of those risks that are considered to be insurable. Risk management, in contrast is concerned with all pure risks, regardless of whether they are insurable or not. The emphasis in risk management is not reducing the cost of handling risk by whatever means that are considered most appropriate and insurance is viewed as simply one of various approaches for minimizing the pure risks the firm faces.

4.3 The Risk Management Process The risk management process consists of six steps, which are as follows: A.) Determination of Objectives The primary objective of the risk management effort is to preserve the operating effectiveness of the organization, to make sure that it is not prevented from attaining its other goals by the losses arising from pure risks. This implies avoidance of financially catastrophic losses that could result in bankruptcy or that could prevent the organization from performing its functions, whatever those functions may be. A second objective-equally important in the view of some- is the humanitarian goal of protecting employees from accidents that might result in death or serious injury. Other goals may focus on cost, the efficient use of resources, social responsibility and preservation of good public relations. B.) Risk Identification When considering risk identification, as the first step in risk management process, the basic question would be “How can the assets be or earning capacity of the enterprise be threatened?”. The response to this question would bring about the whole host of ways in which an organization may be impeded from achieving its objectives. Risk identification must be recognized as important with in an enterprise and marked down as a task within the job description of a particular manager, for

example, the risk manager who is employed to carry out the whole function of risk management. The risk management must dig into the operations of the organization and discover the risks to which it is exposed. He must be armed with the relevant tools of trade and make use of them. There are a number of important tools or techniques including insurance policy checklists, risk analysis questionnaire, analysis of financial statements, hazard and operability studies, physical inspections of the operations, flow charts and organizational charts which provide the risk manager with a powerful weapon in the endeavor towards identifying the risks to which the organization is exposed. But no individual method or combinations of methods can replace the diligence and imagination of the risk manager in discovering the risks to which the firm is exposed. Because risks may lurk in many sources, the risk manager needs a wide-reaching information system, designed to provide a continual flow of information about all aspects of the business of the organization and the changes in operations, the acquisition of new assets and changing relationship with outside entities. C.) Risk Analysis Once it has been identified that there is a risk, then steps have to be taken to measure the potential impact of that risk on the organization. The next step is therefore in the area of statistical analysis and measurement of risk. In practical sense, the measurement of risk starts with the gathering of information , followed by the analysis of past experience, and then move on to look at what data tells us about the level of severity of risk and its periodicity to which an organization is

exposed. There is a need for accuracy and relevance at each stage and, above all, it is necessary to ensure that the results make sense and can be understood. D.) Risk Assessment The cost of risk can be looked at from a number of different perspectives. There is at least the: 1. Frequency of risk; 2. Monetary cost or financial severity; 3.

Human cost in terms of pain and suffering.

The risk manager must evaluate the risks that are identified. This means that measuring the potential size of the loss and the probability that it is likely to occur. The evaluation requires some ranking of priorities. Certain risks, because of the severity of the possible loss they would entail, will demand attention prior to others, and in most instances there will be a number of exposures that are equally demanding. The risk may, therefore, be grouped as critical, important and unimportant. Critical risks include all exposures in which the possible losses are of a magnitude that would result in bankruptcy. There is no doubt that regardless of how risk is measured, it has had a significant impact on the personal and national life of many countries. There were a number of incidents, names of which have become commonplace the world over. e.g. Bhopal, Chernobyl, Kings Cross, the challenger Space Shuttle, Hillsborough, Mexico City, Exxon Valdez, Manchester Airport. These were major risks which certainly grabbed headlines when they occurred. There will be many less serious events and it is this major thrust of risk

with which the people in the risk and insurance business spend their time. Important risks include those exposures in which the possible losses would not lead to bankruptcy, but would require the firm to borrow in order to continue operations. Unimportant risks include exposures in which the possible losses could be met out of the existing assets or current income of the firm without imposing undue financial strain. Assignment of individual exposure to one of these three categories would depend on financial loss that might result from a given exposure and also the ability of the firm to absorb such losses. In other words, the size of an organization would influence the above categorization e.g a risk which is an important risk to a small organization may be reckoned as unimportant risk by a large organization. E.) Implementation of the Decision The decision for dealing with the risk may be:1. To retain the risk – this may be attained with or without a reserve or fund; 2. To deal with the risk through loss prevention – the proper loss prevention programs must be designed and implemented; 3. To transfer the risk through insurance and this must be followed by the selection of an insurer.

F.) Evaluation And Review Evaluation and review are essential to the risk management programme for two reasons. First, the risk management process does not take place in a vacuum. Things change, new risks arise and old ones disappear. The techniques

that were appropriate last year may not be most advisable this year, and constant attention is required. Second, mistakes sometimes occur. Evaluation and review of the risk management pro grammes permits the manager to review decisions and discover mistakes hopefully, before they become costly. Selection of the Risk Treatment Device Once the risks have been identified and evaluated, the next step is consideration of the approaches that may be used to deal with risks and the selection of the techniques that should be used for each one. Risk management recognizes two broad approaches to dealing with risks facing an individual or organization: risk control and risk financing. Risk control focuses on minimizing the risk of loss to which an entity is exposed. Risk financing concentrates in arranging the availability of funds to meet losses arising from the risk that remain after the application of risk control techniques. Risk control techniques include avoidance and reduction of risk, while risk financing involves a choice between retention and transfer. This means both the chance that something will happen and the severity of the incident, should it occur. 4.4 Risk Control and Risk Financing Risk Control Risk control covers all those measures aimed at avoiding, eliminating or reducing the chances of loss-producing events occurring, or limiting the severity of losses that do happen. Here, one is seeking to change the conditions that bring about loss-producing events or increase their severity. Though some measures call for little more than commonsense, often considerable technical knowledge is required which is beyond the capabilities of ordinary persons and needs

expert risk managers in the particular field? Risk Financing Here one is concerned with the manner in which those risks that remain after the risk control measure have been implemented, shall be financed. It has to be recognized that in the long run an individual/organization will have to pay for its own losses. Therefore the primary objective of risk financing is to spread more evenly over time, the cost of risks in order to reduce the financial strain and possible insolvency, which the random occurrence of large losses may cause. The secondary objective is to minimise the cost of risk. Essentially an organization can finance its risk costs in the following ways: 1. Payment out of current expenses 2. Through a funded or non-funded reserve 3. By debt or equity financing 4. By pre or post-loss credit 5.

By forming a captive, a trust, by pooling or through a spread-loss plan.

“The interrelationship of Risk analysis, Risk control and Risk financing is depicted as a flowchart in the next page”

CHAPTER 5: UNDERWRITING OF AN INSURANCE PROPOSAL 5.1 Insurance Market Dynamics and the Underwriting Cycle Firstly, certain risks may have such a high probability of occurrence that the premium payable will be too expensive in relation to the benefits offered. For example, some insurers will issue personal accidents policies only at very high premiums to people working in a highly combustible environment, for example, in factories that emit explosive gases. Secondly, the insurer may find it prudent not to insure certain risks. Unless mandated by law, insurers are free to make such choices. Generally, for a risk to be insurable, the following four characteristics must be present: 1. There must be a sufficiently large number of homogeneous exposure units to make the losses reasonably predictable. 2. The loss produced by the risk must be definite and measurable. 3. The loss must be fortuitous or accidental. 4. The loss must not be catastrophic. 5.2 Underwriting definition and guidelines Definition: Insurance involves the sharing of loss due to exposure to a common peril. All insured parties make contributions to a common fund from which payment of an agreed sum can be made to members who are victims of the peril. For the payment of the contributions (premiums) to be equitable, the sum must be commensurate with the risk that the paying member adds to the insurable pool.

Underwriting is a process of selection and classification of risk exposures to determine the extent of contribution payable by any particular individual who wish to be member. The goal of underwriting is not the selection of risks that will not result in losses; rather, it is to avoid a disproportionate amount of bad risks, in addition, an underwriter has to gain a sufficient number of exposure units in each class. Guidelines: The underwriting process aims to establish a schedule or premiums for each class of risk. In the area of life insurance for example, it is usually subject to the following principles: a. Standard category to be the main class For the insurance concept to be viable, the main class should be those in the standard category, namely, the category consisting of those exposed to an average level of risk. This is especially important for insurers who do not insure those in the sub-standard category. By establishing the standard class to include a predominant group of insured, the morale of the agency force can be maintained; the cost of business can be controlled, public goodwill can be preserved and the group will be more stable. b. Balance within each risk classification To ensure stability within each risk classification, each class covers risks that deviate from the class average to a specified extent. The margin of risk allowed to exceed the average in each class should, approximately, not be more than the margin allowed for the below average risks in order to control the extent of mortality expenses. c. Equity among policyholders

For an insurance program to be sustainable, the policyholders’ obligations and benefits must be equitable vis-à-vis those of other policyholders. It is not possible to ensure total equity among policyholders in view of diversity and variety of cases. However, the program must attain a certain minimum level of fairness to ensure that no one is unduly discriminated against or favored. d. Based on relevant mortality assumptions The underwriting process must ensure that the mortality expenses are in line with the underlying mortality assumption. If the mortality expenses are excessive compared to the assumptions, the common fund may be depleted. e. System to ensure underwriting efficacy of underwriting process The insurer must be capable of ascertaining that, during the process of being insured, the risks remain insurable and that adverse selection is minimized. To do so, most insurers set up the following mechanisms: Firstly, the insurer creates risk categories and establishes underwriting guidelines. Secondly, the insurer will instruct the insurance agent to be field underwriters who are to filter off unsuitable risks. Thirdly, the insurers will set up a panel of qualified underwriters to rigorously apply to guidelines.

5.3 Life Insurance Underwriting In life insurance underwriting, several factors are normally taken in to account to assess the level of risk faced by a prospect. They are:  Age Except for the first few years of life , the risk of death and injuries faced by a person increases with age resulting in the increase of premiums payable.  Build The relationship between the prospect’s height, weight and girth is an important indicator of the health of a person and will thus affect his mortality. If the relationship is not within certain acceptable ranges, this may indicate that the person is more susceptible to illness or death and as a result, his premium will be higher. For example, a significantly obess person may run a higher risk of diabetes or heart disease, and for insurance to be equitable to all policyholders; the person may have to pay a higher premium.  Physical Condition If the prospect has any physical condition that affects his life expectancy, his premium will also have to be adjusted. Examples are heart valve defect or mental defect.  Personal History Information on the prospect’s personal history like his health record, past habits and surroundings, previous occupation and insurance are relevant to the underwriter and can help determine the prospect’s life expectancy.

 Family History The prospect’s family history is important as it enables the underwriter to discover any hereditary defects or illness, which may be found in the family. This may affect the life expectancy of the prospect. For example, if a person’s parents and/or siblings have suffered from colon cancer before, there is a higher of the disease striking him as well.  Residence The person’s place to stay can be a relevant factor in assessing his life expectancy. It can be argued, all other things being equal, that a person living in a diseased and violence ridden country is more likely to have a lower life expectancy than one who lives in a developed and secure place.  Habits These habits refer to the taking of drugs or the consumption of alcohol. A drug addict or an alcoholic is unlikely to be insurable and prospect are normally required to declare any involvement with these substances for the underwriter’s consideration.  Occupation The nature of prospect’s occupation is also a necessary factor to be considered by the underwriter. If the prospect works in a place that is accident prone, dangerous or filled with toxic particles, his life expectancy will be affected for the worse and a higher premium will be imposed on him. If the occupation requires him to perform dangerous and life threatening tasks, again the premium is likely to increase substantially. In fact, in certain cases, the prospect may be uninsurable because of his occupation.  Morals

A person’s sense of mortality is reflected in his conduct. The underwriter would desire in their prospect a minimum level of morality before agreeing to insure him. If the person happens to have an unsavory reputation, the insurer will be very careful about insuring him, as the information provided by the prospect in the application form may be false or contains serious omissions.  Sex All things being equal, the premium for the female is usually lower than that of a male because statistics have shown that they have longer life expectancy than the males.  The nature of the insurance plan The strictness of underwriting standards also depends on the type of the insurance policy. The gauge is the amount of risk found in the policy. The amount of risk in a policy refers to the extent of the insurer’s exposure under the policy. For example, in underwriting a single premium policy, the underwriter is usually more lenient as the lump sum payment would have minimised the insurer’s risk exposure.  Avocation Certain avocations taken up by the prospects will result in a higher premium. Examples of such avocations are deep sea diving, speedboat racing, mountain climbing or motorcar racing.  Economic Status Under the principles of insurance laws, there is no limit to the value of a human life and a person can take up as much insurance coverage as he wants to. However, in practice, insurers do not want to provide coverage to an insured beyond a level deemed acceptable.

The law does not prohibit the insurer from exercising its discretion in limiting the insurance coverage of any particular person. Most insurers will provide coverage up to an amount deemed suitable in relation to the insured’s economic means. This will prevent over-insurance and also ensure a higher chance of the insured being faithful in the payment of premiums.  Military Service If the prospect is undergoing military service at a war front, the insurer may be unlikely to provide coverage for the soldier but in India, the life insurance cover is available for service personnel in army/Navy/Air Force. 5.4 Sources of Underwriting Information The underwriter has an important role to study and assess all relevant information available from the following sources:  Agent The insurance agent or broker is normally appointed as the field underwriter. He is usually given precise information as to what types of risks are deemed acceptable to the insurer. He is usually required to submit a report containing relevant information about the insured. As he is only representative from the insurer to see and speak to the prospect, he is expected to report any instances of false representations. For example, if the prospect is blind but omits to declare this in the application form, the agent has a duty to inform the insurer about this.  The Applicant A substantial amount of information is supplied by the applicant by way of completion

of an application form.  Medical Sources The insurer may also send the applicant for the relevant medical examinations and tests or apply for an attending physician’s report to ascertain the health of the applicant.

5.5 Methods of Underwriting Life insurers nowadays resort to two methods of underwriting, namely: 1. The Judgment Method; and 2. The Numerical Rating System The Judgment Method Under this method, regular and routine applications are managed by the clerical staff. The more difficult or borderline cases will be referred to senior supervisors for their assessment. These supervisors normally have a wealth of experience to tap on and their impression of the case is crucial to the outcome. The judgment method is normally suitable in cases where there is only one unfavorable factor or the only decision applicable is either to accept or decline the case.

The Numerical Rating System This method is based on the premise that a large number of factors determine the nature of the risk. An insured with an average risk is given a 100% rating. Any adverse factor will increase the rating by an amount related to the seriousness of the adverse factor while a favorable factor will reduce the rating by an amount related to the extent of favorability of the factor involved.

Underwriting Guidelines Followed by ICICI Prudential Life Insurance Company Financial Underwriting While accepting the proposals, care should be taken. The cases of over insurance should be avoided, as the risk cannot be covered by charging some extra premium (as in the case of medical risk) and the probability of lapse of policy will be very high. Financial Underwriting evaluates the following: 1. Ability of the consumer to pay premiums, so that the persistency is maintained, because lapsation is an unfavorable situation for both the customer and company. 2. Whether the income is in the proportion of the life cover proposed by the customer. The following table indicates the maximum sum at risk that can be extended to an individual. Age (years)

Total Sum Assured (death risk) to be restricted to no. of times of gross annual income

Up to 35

20 times

36 – 40

15 times

41 – 45

12 times

46 – 50

10 times

51 – 60

5 times

Above 60

On Merits

Note:  When the sum at risk is above 15 lakhs, one has to submit an income proof.

 For people not earning income, factors determining insurance depends on the education, profile and insurance covers of individuals they are dependent on. Eg: Students, Housewives. Acceptable Income Documents Income Document: Shows the consolidated annual income of an individual. This is essential to ensure that the cover asked for by the client is justified as per financial underwriting. Documents for income proof For Employed  Salary Slips for latest 3 months.  Salary Certificate.  Appointment Letter given by the employer in the last one year.  Latest Tax returns (provided Form 16 was submitted while filing the return).

For Professional  Latest Tax returns for last three financial years.

For a Businessman  Tax returns for last three financial years.

Financial Surrogates 1. It may be possible that you encounter a situation where your client is of a superior profile and earning a good income, however his tax returns are not reflecting the same. The client desires to have a high life cover. What does one do in such a situation? 2. If an individual does not have an adequate ITR in relation to the sum assured desired, then the proposer can give surrogate documents. 3. Surrogates would be accepted only in addition to the main income document (ITR, Form

16) to bridge the gap between the cover applied and maximum allowable limit as per the main income documents. The maximum bridging allowed is Rs. 15 lakhs. 4. Surrogates would be accepted as standard income documents for computing the total sum at risk subject to a maximum capping of Rs. 25 lakhs. 5. Surrogates can not be used while sum assured is > Rs. 50 lakhs. List of acceptable surrogates: Statements  Bank Statements for last one year.  Loan Statements.  Credit Card Statements.  Loan Sanction letter issued by reputed bank. Loans  Car Loans.  Home Loans.  Personal Loans. Deposits & Debentures  Term Deposits.  Bonds & Debentures.  Alternative Income Docs.  Fixed Deposits Receipts.  Demat Account Statement. Miscellaneous  Rent Agreements.  Asset Ownership – Car.  Advance Tax Challans.  Land Ownership documents.  J – Forms; 7x12 papers.  Property Ownership documents.  Copies of sale agreements. Note: Acceptance of surrogate documents is at the sole discretion of the Underwriter.

Classification of Life Insurance Proposals All Life Insurance Proposals can be accepted as risk to company only after a medical examination. 1. Based on age, profiles, past experience, standard of living and industry standards. 2. The proposals are classified as Non Medical and Medical.

Note: o The documentation and medical criteria would vary with the type of proposal. o The above is not applicable for female lives in Group II and Group III. Jet (non medical) facility for all cases in age bracket 51 – 59 years up to a rated up Sum Assured of Rs. 1.5 lacs. o This is applicable for Non Combo Life business only. o Not applicable for Term Insurance, Health and MRTA business. Underwriting of Term Plans Note: Non-medical limit is applicable only for educated life earning regular income through employment. The following will qualify for the same: Salaried Individual (male or female)

Salaried individual would mean working with Government, Semi-government, Quasigovernment, Private ltd., PSU’s,

Professional (male or female)

Doctors, Lawyers, Engineers,

Business person (male) Minimum qualification must be 12th standard pass.

Income > 2 lacs (as per latest ITR)

Multinational company or premium schools.

Consultants.

Female Lives Underwriting Special underwriting norms are required for female lives because of varied socio-economic profile, health profile,, pregnancy related issues etc. For e.g.: 1. A single woman looking for a life insurance however does not have any income. 2. A widow, with no regular income and has grown-up children who are earning their own income. 3. Husband is the only bread earner and has absolutely no life insurance, but is looking to have a huge life cover on his spouse, why? 4. A 32 year old lady, marketing manager with HLL earning a hefty pay package and has a family to support. Each situation mentioned above is so unique and needs to be treated differently based on their respective need of insurance. Also the claims experience in India in terms of female lives being insured has not been very encouraging. ICICI Prudential has divided the females in to three groups and has defined different definitions for each group.

GROUP I Salaried

Professionally qualified At par with male lives All products allowed

INCOME RULE (Group I ) Up to 35

20 times

36 – 40

15 times

41 – 45

12 times

46 – 50

10 times

51 – 60

5 times

above 60

On merits

GROUP II Includes

Salaried in partnership firm , Business Woman - Small business/ partner/proprietor Graduate - Providing Graduation certificate (mandatory) With Income Proof

Without Income Proof

Graduate - Not providing Graduation certificate / Non Graduate With Income Proof

Without Income Proof

18 - 45 yrs 5 lacs Above 45 yrs - 3 lacs

Term Products

Till 35 yrs- 15 lacs

Till 35 yrs- 5 lacs

36-45 yrs -10 lacs

36-45 yrs- 3 lacs

46-50 yrs - 3 lacs

46-50 yrs-1.5 lacs

Compulsory Medical

INCOME RULE (Group II)

Not Allowed

3 yrs ITR

ITR or Audited P & L acc or Balance sheet

Income Multiplier Rule Age up to 45 yrs.

10 times

Age above 45 yrs.

5 times

Age up to 45 yrs.

5 times

Age above 45 yrs.

3 times

GROUP III Includes

HOUSEWIVES , SMALL BUSINESS Graduate - Providing Graduation certificate (mandatory) With Husband Insurance

Without Husband Insurance

Graduate - Not providing Graduation certificate / Non Graduate With Husband Insurance

Without Husband Insurance

18 - 45 yrs - 5 lacs Above 45 yrs 3 lacs

Term Products

Till 35 yrs- 15 lacs

Till 35 yrs- 5 lacs

36-45 yrs -10 lacs

36-45 yrs- 3 lacs

46-50 yrs - 3 lacs

46-50 yrs-1.5 lacs

Compulsory Medical

Not Allowed

Up to 1.5 lac with approval from CUW/ Cluster manager & above

Up to age 45 years - 1.5 lacs - Jet

Student And Minor Lives Underwriting Minor – a minor life is defined as one who has not completed the age 18. ‘Student’ in underwriting – A student is defined as one who is aged = 25 yrs. (age near birthday) and is pursuing his / her studies. He / she is not working full time and earning. Requirements for Minors / Students: Age Nearer Birthday

Sum Assured (total rated up) Rs. 10 lacs

> Rs. 10 lacs

0–5

Age Proof

Family insurance details in prescribed form.

6 – 14

Schooling Proof *

Family insurance details in1• prescribed form Schooling proof verified by2• advisor / FSC.

15 – 25

Schooling / College Proof *

Family insurance details in1• prescribed form. Schooling / College proof2• verified by advisor / FSC.

*if the student has paid the fees for the entire year then the same is accepted as a valid student id (even if it is more than six months old)

Note: 1. Age proof is required for all student and minor proposals. 2. Paternal / Maternal grandparents can propose on grand children who are less than 18 years of age for a total rated up sum assured of Rs. 15,00,000/-. All guidelines for minor / student lives are applicable. Medical Requirements for Minors / Students  Maximum Sum Assured allowed under non-medical scheme is Rs. 15 lacs (rated up).  Proposals where Sum Assured is = 10.00 lacs will be accepted without insisting on parents insurance.  Above a rated up Sum Assured of Rs.10 lacs, insurance will be subject to double the parents insurance.  The proposal where rated up Sum Assured is above Rs.25 lacs will be considered on case-to-case basis. Note: For minor lives (age less than / equal to 14 years), difference in height and weight can be disregarded up to a rated up SA of Rs.5 lacs. Age Nearer Birthday

Upto Rs.15 Lacs

Rs.15,00,001 to Rs.25 lacs

Rs.25,00,001 to Rs.50 lacs

0 – 14 yrs.

Child MER

Child MER

Child MER, S-12, S.CR, HIV I & II

15 – 25 yrs.

MER

MER

As per special medical examination chart

a) Term products will be allowed only to major students on an exception basis only after prior approval from CUW. b) For Term Cover, Loan sanction / approval letter is mandatory. c) Cover amount would be equivalent to the loan amount sanctioned or the eligible amount as per minimum premium criteria, whichever is lower.

Note: The underwriter can use his discretion to call for medicals if required.

NRI Underwriting Nonresident Indian has been defined as an individual who is a citizen of India but not residing in the country. Main Categories of NRIs The NRI s can be categorized in to the following three categories: a) Indian citizens who stay abroad for employment or for carrying on business or Vocation or any other purpose in circumstances indicating an indefinite period of stay abroad. b) Indian citizens working abroad on assignments with foreign government agencies like United Nations Organization (UNO), including its affiliates, International Monetary Fund (IMF), World Bank etc. c) Officials of Central and State government and Public Sector undertaking deputed abroad on temporary assignments or posted to their offices, including Indian diplomat missions, abroad. Insurance on these people can be taken only by completing insurance formalities while the client is in India.

The rules for NRI proposals are as following: 1. Submission of NRI questionnaire compulsory. 2. Proposals will be accepted from those NRIs who are residing in North America, Europe, Australia, selected countries in Asia and South America (Gulf and South East Asian countries allowed) others after clearance from CUW (Central Underwriting Team). 3. Proposals from African countries will not be entertained. 4. Can be considered under non-medical subject to Jet and Female life underwriting. For the purpose of underwriting a Non Resident Indian (NRI) is one who resides outside India for occupational or personal reasons. Since one of the risk factor for an insurance company is the country of residence, purpose and duration of stay will be considered. Point to remember incase life to be assured is an NRI 1. The standard Medical and Non-Medical norms are applicable even to NRIs. 2. Submission of NRI questionnaire compulsory. 3. Proposal from non-serviceable countries will not be entertained. 4. The maximum sum assured cap is Rs. 50 lacs. CUW prelogin approval required for cases above Rs. 50 lacs. 5. Policy will be issued in Indian rupees only. 6. All products are allowed.

The following is to be used when the life assured is a minor student NRI minor student A declaration from the parents regarding the academic status of the LA to be taken in cases where the LA are the children studying in approved countries, mentioning the school name, standard and academic year. I ___________________, am the father / mother of Mr. / Miss. ________________ and proposer for insurance on the life of this child. I confirm that as of academic year _________________the said child is studying in class ____ at _____________ School at the address

_____________________________________________________________________________ _

Date Sign ________________________ Place

Name of the Proposer ________________________

PIO and Foreign National Underwriting “Persons of Indian origin” means a foreign citizen not being a citizen of Pakistan, Bangladesh and other countries as may be specified by the Central Government from time to time, if, a) He / she at any time held an Indian passport; or b) He / she or either of his / her parents or grand parents or great grand parents was born in and permanently resident in India as defined in the Government of India Act, 1935 and other territories that became part of India thereafter provided neither was at any time a citizen of any of the aforesaid countries; or c) He / she is a spouse of a citizen of India or a person of Indian origin covered under (1) or (2) above. Note: For the purpose of underwriting a PIO would mean an individual defined by points (1) or (2) above. The following points are to be kept in mind PIO card not required for SA up o Rs. 10 lacs. This is further subject to the following: 1. The PIO should be a resident of U.S.A, U.K, Europe, Canada, Singapore or

Malaysia.

2. The maximum multiple factor permissible is five times. For a higher multiple

factor, PIO card is mandatory. For a lesser multiple factor, the 10 (10 D) declaration should be attached. 3. Medicals will be mandatory in all cases with multiple factor > 1. 4. Passport as proof of age is mandatory. 5. PIO questionnaire is mandatory. 6. PIOs with earned income only are allowed. For minors, the death benefit is

restricted to Rs. 5 lacs, for housewives exception approval from CUW is required. 7. PIOs having unearned income like rent, dividend etc. will not be considered for multiple factor > 1. 8. Premium paying modes: yearly and half yearly only. 9. Passport can be considered for all types of products, except Term plans, Health

plans, IBR and Pension plans. 10. Zero death benefit products can be given to PIOs with submission of existence

certificate. 11. PIO card is not required for all ULIP products up to a total rated up Sum Assured of Rs. 10 lacs. Medicals waived up to Sum Assured of Rs. 15 lacs rated up to age 14 years for life business only.

Underwriting Guidelines for a Foreign National

Foreign Nationals is any person who is not a citizen of India and does not possess a PIO (Person of Indian Origin) Card. 1. The LA has to be a national of approved countries only. 2. He has to be residing in India for more than 1 year. 3. Submission of last 1 year ITR / Form 16 is a must. 4. Cover to be restricted to less than Rs. 25 lacs. 5. Minimum premium to be Rs. 1,00,000/-. 6. All cases will be compulsorily medical. 7. Passport as an age proof is mandatory. 8. Submissions of Foreign National Questionnaire are compulsory. 9. Photocopy of the common identification number issued in the country of residence e.g. Social Security Id (in USA), CPR (in Gulf) etc. should be obtained. 10. Proposals can be considered for all types of products, except Term plans, Health plans, IBR and Pension plans (even zero death benefit plans will not be considered). Policy will be issued in Indian rupees only.CCR by appropriate authority is compulsory.

Partnership Insurance A partnership is a business jointly owned by several parties, but which is not itself is a corporate entity. In the partnership Agreement, it is generally provided that in the event of death of any partner, the surviving partners will have the option t purchase the deceased partner’s share in the firm. For this purpose, the partnership firm should have sufficient cash available. Such ready cash will be available if the firm insures the lives of partners. A partnership, firm has insurable interest in the life of each of the partner to the extent of the amount of ‘Purchase Money’ required to be paid in respect of the share of each partner. Salient features of Partnership Insurance: 1. Partnership Insurance is considered on all the lives of the partners. 2. The Deed of Partnership should contain clause that the partnership is revocable definitely in case of demise of a partner. There should be a definite provision regarding withdrawal of capital on the demise of any of the partner. 3. The following endorsement is to be made on the policy. “Notwithstanding anything within mentioned to the contrary, it is hereby agreed and

declared that in the event of dissolution of Partnership Firm for any reason other than death of any of the partners insured under the policy, the within mentioned policy shall be either, surrendered to the Company for its cash value, if any or made paid up for value, if any, As acquired under the policy as on date of dissolution of the Partnership, and such paid up policy shall be absolutely assigned in favor of the partners insured under the policy. •

Nomination not allowed.

•

Assignment not allowed, except in the case of dissolution of partnership other tan due to death of the partner.

Extent of cover permissible under Partnership Insurance Since the partnership insurance is linked to the share of the partner in the firm, the following guidelines can be used to arrive at permissible amount of Partnership Insurance: 1. 10 times his gross annual income 2. 2 times the average gross profit of the firm 3. 5 times the average net profits of the firm The lowest of the amount arrived on the basis of the above mentioned three methods would be the total permissible amount for partnership insurance of that firm. Financial Requirements 1. Copies of original Partnership deed and supplementary partnership deed. 2. Copies of Income Tax Returns or Assessment Orders of the firm for past 3 years. 3. Copies of latest Audited Profit & Loss Account and Balance Sheet, of the firm for the last three years. 4. The partnership business should be generating profit commensurate with Sum

Proposed. Plans Allowed Life Guard WROP¬ Life Guard SP¬

Keyman Insurance Keyman is a person who is a major driving force behind a business and who is so Unique and Valuable in all areas of the business that without his presence there would be a substantial loss in the company’s earning capacity. Purpose of Keyman Insurance The death of the keyman in any business could cause a business to suffer many types of losses as indicated below: 1. The loss of customer or sales attracted by his / her ability and personality. 2. The loss of his / her day to day specialized abilities. 3. The cost of recruiting and training a suitable replacement. 4. The delay or cancellation of any business or project upon which he / she is working. 5. The loss of opportunities for future expansion. 6. The loss of stable management and good labour relations. 7. The reduction of the credit standing of the company. 8. Withdrawals of credit facilities by banks or other institutions.

9. Recall of existing loans guaranteed by the keyman. 10. Refusal of suppliers to deliver goods withut prior payment. Note: The idea of keyman insurance is to indemnify the company for these losses and to allow it to continue, as the same thriving concern that it was while the keyman was alive and working.

Extent of Insurance cover permissible under Keyman Insurance Keyman insurance is linked with the profitability of the company, the following guidelines is to be followed to arrive at the permissible amount of the keyman insurance. 1. 10 times of the total annual compensation package for the keyman, which includes salary, bonuses and all other perquisites? 2. 2 times the average gross profit for the company for the last three years (gross profits means profit before taxation), increasing to 3 times for expanding companies. 3. 5 times the average net profit of the company for the last three years, increasing to 8 times for expanding companies. The lowest of the amount arrived at on the basis of the above mentioned three methods would be the total permissible amount for keyman insurance for that company. It should be noted, however, that if there is more than one keyman, then the total face amount thus arrived at should be prorated for each keyman in the ratio that his compensation package bears to the total compensation package of all key men. If the Key Person holds > 50% of capital or family holds > 70% of capital then in such a

situation, proposal by the company will be considered, however the eligibility will be worked out on the basis of Key person’s income. Plans Allowed 1. Life Guard WROP 2. Life Guard SP

Employer Employee Scheme Employers have an insurable interest in the lives of his employees. In view of this we can allow life insurance cover for employees where the premiums are paid by the employer. This is however subject to insurer’s complete satisfaction about the absence of moral hazard. An employer employee relationship would be established where the employee earns a salary from the employer. The insurance policies can be taken for all employees or for a class of employees. The employer may or may not be the Proposer under the policy. The main reasons for the employer to have his employees’ lives covered are: 1. As a reward for good service to a select band of employees. 2. As an encouragement for continuation in the service. 3. As a welfare measure and provision for his old age / dependents. The basic difference between the Employer Employee scheme and the Keyman Insurance is that in the former the Employee or his nominee is the beneficiary whereas in the latter the beneficiary would be the Company. Who are eligible for Employer – Employee Scheme?

Any employee other than ‘keyman’ who does not have beneficial ownership in the employer entity in excess of 5 % can get insurance cover under the Employer – Employee Scheme. For ascertaining the limit of 5%, shareholding or ownership held by the concerned employee, his / her spouse, children, son-in-law, daughter-in-law, parents, brother or sister should be aggregated together. The most common employer employee relationships are: 1. A sole proprietorship as the employer where the employee (other than the sole proprietor) is any employee of the sole proprietorship. 2. A partnership firm as the employer where the employee (other than a partner) is any employee of the partnership firm. 3. A corporate as the employer where the employee is any employee of the corporate. 4. Any other legal entity as the employer and its employees. Undertakings the Employer has to provide The employer should provide the following undertakings under the deferred assignment option: 1. That he will compulsorily assign the policy at the end of 4 years, if it has not resulted into a claim or surrender already. 2. In the pre-assignment period: 3. That he will pass on the death benefit to the legal heirs of the employee. 4. That he will not surrender the policy except when the employee leaves the company. 5. That he will forego the rights to partial withdrawal under the policy. 6. That he will not assign the policy to any other party during the pre-assignment period. Different options available to the EMPLOYER

The employer is the proposer under the policy and assigns the policy at the inception. The proposal form has to be signed by an authorized signatory of the Employer along with the seal or stamp of the entity. A letter on the entity’s letterhead signed by the sole proprietor or the managing partner or the authorized signatory or the governing body stating the following: 1. The fact that they have opted for the employer – employee scheme and will be paying premium on behalf of the employee. 2. The authorized signatories who can sign the document on behalf of the employer along with the specimen signatures of the authorized signatory. 3. The names of the employees to be covered along with the Plan type, Term, Sum assured & the riders. 4. The assignment form duly filled in and signed by the authorized signatory making an assignment in the name of the employee should be collected at the proposal stage. 5. The nomination form duly filled in and signed by the employee making a nomination should be collected at the proposal stage. The policy document will be dispatched to the employee after the policy is assigned in the favor of the Life Assured & the nomination The employer is the Proposer under the policy and retains the right to assign the policy (deferred assignment). The proposal form has to be signed by an authorized signatory of the Employer along with the seal or stamp of the entity. A letter on the entity’s letterhead signed by the sole proprietor or the managing partner or the authorized signatory or the governing body stating the following:

1. The fact that they have opted for the employer – employee scheme & will be paying premiums on behalf of the employee. 2. The authorized signatories who can sign the documents on behalf of the employer along with the specimen signatures of the authorized signatories. 3. The names of the employees to be covered along with the Plan type, Term, Sum assured & the riders. The policy shall be assigned to the life to be assured at the earliest as per the agreement between employee & employer. A separate letter from the employer, stating the objective of insurance and timing or conditions of assignment of the policy should be obtained with the letter from the basis of the contract (see Annexure 1). The restrictions imposed by the employer should be reasonable. Normally these should not go beyond 4 years from the date of policy in any case. The policy document will be dispatched to the employer. After the stipulated period is over, the employer has to initiate the process of assignment of the policy to the employee. If the Employee leaves the company or the Employer does not want to pay the premiums, the Employer should intimate to the Insurance Company. The employee is the Proposer on his own life but the premiums have been paid by the Employer (third party cheque). 1. If this option is selected then the proposal will be sent together with a letter from the employer that the premiums under the policy is paid by the employer. 2. If this option is exercised, then no further assignment or any action is required on the part of the Employer, apart from payment of premiums. 3. The policy document will be dispatched to the Employee.

Plans Allowed All plans allowed except Pension Products, Life Guard ROP, Cash Bak, Smart Kid & Smart Kid ULIP. Documents required for Employer – Employee Scheme. Basic documents: 1. Proposal form signed and stamped by the Employer. 2. Age proof for the Employee. 3. KYC documents of the Employer. 4. Copy of the resolution on the employer – employee insurance cum authorized signatory (Annexure 1). 5. Copy of absolute assignment & undertaking for immediate assignment or undertaking for deferred assignment & dully filled Annexure 2. 6. EBI (Electronic Benefit Illustration) to be signed by the Employer. 7. Salary proof like salary slip for last three months, salary certificate, Form-16 from the same Employer or PF statement. Financial documents for Sum Assured > 15 lacs: 1. ITR of the Employer / audited P & L account & Balance Sheet of last three years. 2. Copy of AOA & MOA (form 32 if the name is not appearing in MOA) / Partnership deed. 3. Bank statements of last six months. Requirements for Immediate Assignment: 1. Copy of Absolute assignment to the Life Assured.

2. Nomination Form by the Life Assured. Requirements for Deferred Assignment: Employer’s undertaking under Deferred Assignment option (Annexure 2). Requirements incase of self proposed policy but premium is being paid by the Employer. 1. KYC of the Employer. 2. Income proof of the Employee.

Annexure 1 <> Resolution for Employer-Employee Scheme This is the certified abstract of the resolution passed at the meeting of Partners / Managing committee / Board of Directors of______________________________ (name of the company) held on ____________ (date of the meeting) at _________________________ (place of the meeting). In the meeting, it was resolved that the Company to take Employer-Employee Scheme Insurance Cover in the year 20__ , 20__ in respect of the following employees. S. No.

Employee’s Name

DOB

P lan

Coverage Term

Sum Assured

Premium

These policies shall be taken from ICICI Prudential Life Insurance, the premiums of which will be paid by the company to safeguard any probable losses in the event of the exit of the above employees from the Company. We would like to undertake and confirm as follows: 1. The employee (Life to be assured) is not a ‘keyman’. 2. The employee does not have beneficial ownership in in

excess of 5%. For ascertaining the limit of 5%, shareholding or ownership held by concerned employee, his / her spouse, children, son-in-law, daughter-in-law, parents, brother or sister have been aggregated together. 3. Premiums are being paid by the employer on behalf of the employee. It is further resolved that ___________________ (name of the authorized signatory) is the ______________________ (designation) of the company and is authorized to negotiate the term and conditions with ICICI Prudential Life Insurance and sign all the documents, including proposal form as required by ICICI Prudential Life Insurance Co. Ltd. For ______________________________ (Name of the employer)

Name & Signature of the Authorized signatory:

Seal of the Employer:

Date: Place:

Annexure 2 <> Employer’s undertaking under Deferred Assignment Option Ref: Proposal No. __________ on the life of ________________________(“Employee”) In connection with the life insurance policy proposed to be taken by us with ICICI Prudential Life Insurance Company Limited (“ICICI Prudential”). We undertake that the above mentioned policy will be assigned to Mr. ______________(name of the employee) at the end of ______ years (not exceeding 4 years) from the date of commencement of the policy. We also undertake that it is the responsibility of ___________________ (name of the employer) to get in touch with ICICI Prudential Life Insurance Company to complete the assignment at the

end of the stipulated time period. We would further like to undertake and confirm as follows: 1. The employee (Life to be assured) is not a ‘Keyman’. 2. The employee does not have beneficial ownership in in

excess of 5%. For ascertaining the limit of 5%, shareholding or ownership held by concerned employee, his / her spouse, children, son-in-law, daughter-in-law, parents, brother or sister have been aggregated together. 3. In case the employee survives the 4 years period from the date of the commencement of the policy proposed (“Policy”) to be issued by ICICI Prudential, the said policy will compulsorily be assigned by us to the above employee. 4. In case the employee dies with in the said period of 4 years, the death benefits, if any

paid to us by ICICI Prudential shall be passed on to the legal heirs of the deceased employee. 5. We waive our rights to surrender the policy during the period of employment of the employee with us, except when the employee leaves the organization. 6. In case of Unit Linked Insurance Policy, we waive our rights to make partial withdrawals from the said policy since the object of this policy is to grant an employee welfare benefit. 7. Premiums are being paid by the employer on behalf of the employee. We agree and understand that this undertaking will form a part of the proposal form. These confirmations are irrevocable.

(Name & Signature of the Authorized signatory)

Name of the Employer: Date: Place:

BIBLIOGRAPHY

Regulators

Industry Associations / Bodies

Insurance Regulator

Financial Planning Standards Board, India (FPSP, India) -http://www.fpsbindia.org Association of Financial Planners (AFP, India) -http://www.afpindia.org Insurance Regulatory & Development Authority (IRDA) -http://www.irdaindia.org

Insurance Company (ICIC Prudential Life Insurance Company Pvt. Ltd.) -http://www.iciciprulife.com

International college of Financial Planning

Indoor Study Material

SYNOPSIS Details:Name: -

Vaibhav Trivedi

Batch: -

PGPSS-07-09

Specialization: - Finance, Marketing. Phone: E-mail id: -

+919899350432 [email protected]

Desired Area:Underwriting of Insurance proposals.

Title:Risk Assessment & Underwriting of an Insurance Proposal (ICICI Prudential Company Approach).

Research objective:Analysis of underwriting process in Insurance Company. (ICICI Prudential)

Area of Research:As a drama of life unfolds on the path from birth to death, people experience unpredictable events along the way. Not all events are same for everyone we soon learn that life is uncertain and death is indeterminable. The paradox is that we know we can not pre-determine how long our life will be, yet we know that death is certain for everyone. Thus life is full of

uncertainties and such uncertainties translate into risks. Although insurance is a formidable risk management tool from an insurer’s

point of view it is very critical to assess the risk associated to an individual’s life in an appropriate and accurate manner.

Scope of Research:During the project, we will first be taking out the details of ICICI Prudential Life Insurance Company (its business & core competencies) who is the leading private life insurance company in India. Then we will try to elaborate on basic facts about risk management process and how insurance can be applied as an effective risk management tool. We will focus on underlying principles (i.e. assessment of an individual’s exposure to the risk followed by ICICI Prudential Life Insurance Company.

Research Methodology:The basic methodology will include:1. In-depth study of underwriting principles and guidelines This will cover the in-depth study of underwriting guidelines followed by ICICI Prudential Life Insurance Company.

2. What will factors the company considers and how categorization has been made on the basis of sex, age & income group, basis on which underwriting decision depends. 3. Understanding the requirement of ICICI Prudential Life Insurance Company to assess risk faced by a prospect. 4. Study pros&cons of the decentralized approach of underwriting of an insurance proposal at branch level.

Justification of research:The main purpose of this project is to provide greater insight to the use f rules and techniques of risk assessment in the context of risk management process followed by the company. Apart from this the project will help to increase the knowledge of context of risk management to the customer’s personal risk needs in the area of life insurance and health insurance. During the development of the project we will see that how the

decentralized approach of risk assessment i.e. the underwriting of an insurance proposal at branch level has benefited the ICICI Prudential Life Insurance Company.

Details of External Guide:Name:-

Mr. Paramjeet Singh Ahuja

Qualification:-

MBA(Finance)

Designation:-

Branch Underwriter