Insurance - ch 2 Flashcards
Risk can be divided into 4 categories ?
Risk can be divided into four categories: TEST
Pure / Speculative Risk
Subjective / Objective Risk
Fundamental / Particular Risk
Non-financial / Financial Risk
- Insurance is a transfer of____________________ from risk exposures.
- Premiums are paid based on _______________ to be paid.
- Premiums are ____________ for similar risk groups
- Financial uncertainty
- Expected claims
- pooled
The most important types of risk that most individuals need
insurance coverage for include: ?
Life insurance
Health insurance
Disability insurance
Property insurance
Personal liability insurance
Long term care insurance
4 categories of Risk ?
Pure Risk TEST
* Loss or no loss
Speculative Risk
* Profit, loss or no loss
Subjective Risk
* Differs based upon an individual’s PERCEPTION OR FEELING
( feeling) of risk BASED ON PAST
Objective Risk
- MEASURABLE
- Does not depend on an individual’s perception
- EXPECTED - ACTUAL LOSS = OBJECTIVE LOSS
Define Pure Risk
Examples of Pure Risk ?
Pure risk is the chance of a loss or no loss occurring. TEST
No chance of experiencing a gain.
Examples of PURE RISK
- either your car is in an accident and damaged or it is no.
* Premature death of a primary wage earner
* Prolonged illness or injury of a client or family member
* Inability of the client to work because of sickness or accident
* Wind damage to the personal residence
* Inability of the client to take care of himself in old age
*Legal judgment against the client
Define Speculative Risk.
Speculative risk is the chance of loss, no loss, or a profit. TEST
Example:
buying a stock or an entrepreneur takes when starting a business.
Define a Particular Risk
Unique TEST
.
Impact a particular individual, such as death or the inability to work because of a sickness or accident
- Subjective risk is the risk that an individual________ based on ______________________and ________________________.
- Individuals perceive risks differently and their behavior in addressing those risks depends upon that_________
- If an individual perceives the subjective risk to be ______ then the individual will take appropriate steps to reduce the subjective risk.
- “Perceives “ TEST
their prior experiences and the severity of those experiences. - perception
- high
- For an insurer, objective risk is the difference between the _______________________ and ________________.
- As the number of loss exposures (or the pool of insureds) _________________ , objective risk is reduced because the actual results are more likely to approximate expected claims.
- Objective risk varies indirectly with the ____________________________.
The better an insurer is able to manage its objective risk, the more efficiently they can price premiums.
- Expected and Actual losses. TEST
- increases
- # of loss exposures in an insured pool.
Define Fundemental risk
Risk that CAN IMPACT A LARGE NUMBER of individuals at one time, such as war, Flood, earthquake.
Fundamental risks are difficult for insurers to insure, because they can lead to severe financial consequences for the insurance company. Some fundamental risks, such as war or a nuclear hazard, are uninsurable.
Pure risks include many of the same risks all individuals are exposed to and the types of risk a planner must evaluate and plan for each client.
a. True b. False
A. True
Subjective risk is the variation of actual amount of losses that occur over a period of time compared to the expected amount of losses.
a. True b. False
B. False
The law of large numbers is useful for insurance companies because the larger the insured pool, the more likely actual losses will approach the probability of losses.
a. True b. False
A. True
- Non-financial risk is a risk that would result in a loss, other than a ______________________.
Example ?
- monetary loss.
An example:
Emotional distress a family experiences when a loved one dies.
Life insurance can protect against this financial risk, help the family achieve financial goals and provide a lump-sum amount to pay expenses for the family during the grieving process.
Risk is defined into 4 Areas
FUNDAMENTAL -large # PURE
like War - Loss, No loss
—————————— ——————————–
PARTICULAR SPECULATIVE
-unique - Loss, No loss, Gain
RISK
DEFINED
NON-FINANCIAL SUBJECTIVE
- perceived, based on prior exp.
———————- ———————————————
FINANCIAL OBJECTIVE
Risk =Expected Risk -Actual Risk
- The Law of Large numbers is a principal that states _______________________________________________________.
- The _______exposures the _____likely probable results will equal true results. The Law of Numbers.
- The Law of Large Numbers helps reduce_________________ ?
- “that actual outcomes will approach the mean probability as the sample size increases.”
- ” More” “more”
- The Law of Large Numbers helps reduce objective risk
The risk management process includes: ?
O I E A S I E
- OBJECTIVES - of the risk management program
- IDENTIFYING RISK - to which the individual is exposed
- EVALUATING the identified risks for the probability and severity of the loss
- ALTERNATES for managing the risks
- SELECTING most appropriate alternative for each risk
- IMPLEMENTING the risk management plan selected
- Periodically EVALUATING and reviewing the risk management program
Fundamental Risk impacts _______________of people ?
Is it difficult to insure ?
Are all insurable with Fundamental Risk ?
“large number of individuals at one time “
YES, Difficult to insure for the insurance company
NO, Some are uninsurable
- Some are insurable by a separate policy Particular Risk
STEP ONE of Risk the management process ?
3 activities ?
- DETERMINING THE OBJECTIVES OF THE RISK MANAGEMENT PROCESS
Risk management objectives
- Establish objectives for each area of Risk
- Cost-effective protection
- Continuing income after a loss
- Work with client’s stated objective
Risk management objectives are typically to protect assets, earning capacity, human life value, and health. Objectives may also include less tangible aspirations such as providing peace of mind or protecting family relationships
STEP 2 of Risk Management Process ?
- What are the 3 categories of risk exposures ?
- What are some tools that can help identity Risk Exposures ?
- IDENTIFYING THE RISKS TO WHICH THE INDIVIDUAL IS EXPOSED
- Identify all possible pure RISK EXPOSURES of the client.
- Which is primarily a function of the client’s lifecycle position. - The risk exposures for an individual may be subdivided into the following categories.
- Personal risks -
-may cause the loss of income (untimely death, disability, health issues), or cause an increase in the cost of living (disability, health issues). - Property risks
- may cause the loss of property (automobile, home, or other asset). - Liability risks
- may cause financial loss (injury to another or to property for which the client is determined to be financially responsible) - Tools to assist identifying :
checklists, survey forms, questionnaires, or financial statement analysis. These types of systematic approaches help to ensure that the advisor and client avoid overlooking potential risk exposures.
STEP 3 of the Risk Management process ?
What are the 3 activities ?
- EVALUATING THE IDENTIFIED RISKS FOR THE PROBABILITY AND THE SEVERITY OF THE LOSS
- Analyze the risks
- Analyze each of the risks based on expected loss frequency and loss severity.
- Measure severity
When evaluating risks based on their expected loss frequency, the objective is to determine how often the event is likely to occur. Loss severity measures the dollar magnitude or the absolute dollar amount of the expected financial loss were it to occur. - Identify risk to transfer
STEP 4 and 5 of the Risk Management process ?
4 techniques for risk management ?
A planner may use a Matrix to analyze Risk as Follows:
Severity / Frequency Low Frequency High Frequency
_______________________________________________________________________
High Severity ? ?
catastrophic, financial Loss
long term disability
————————————————————————————————–
Low Severity ? ?
Non-cat financial loss
car dented
- DETERMINING AND 5. SELECTING THE BEST RISK TEST
MANAGEMENT ALTERNATIVES
4 Techniques for risk management ?
* Risk Reduction
* Risk Transfer
* Risk Avoidance
* Risk Retention
Severity / Frequency Low Frequency High Frequency
_______________________________________________________________________
HIGH Severity Risk Transfer AVOID Risk
catastrophic, financial Loss or share risk “live in torado alley”
long term disability “disability” LTC
“death” ,damage to home”
Use Risk Reduction”
————————————————————————————————–
LOW Severity Retain Risk RETAIN /REDUCE Risk
non-cat financial loss “car dent” “like losing glasses “
Risk reduction is the process of reducing the likelihood of a_______________________________________________ .
Examples
HIGH FREQUENCY / LOW SEVERITY ?
——-a pure risk that is high in frequency and low in severity.
Examples of risks:
HIGH in frequency and low in severity are: car door dings, the common cold, and damage to inexpensive personal property.
HIGH in frequency and low in severity are risks that should be reduced by taking steps to reduce the likelihood of a loss occurring.
Risk reduction can also be used in conjunction with risk transfer (to an insurance company)_________________________ perils to reduce the likelihood of a loss occurring or the severity of a loss as a result of certain perils, which helps to reduce insurance premiums.
For example, a ___________may be provided on a homeowners policy if burglar alarms or a sprinkler system are installed
Risk reduction can also be used in conjunction with risk transfer (to an insurance company)
for low frequency high severity
perils to reduce the likelihood of a loss occurring or the severity of a loss as a result of certain perils, which helps to reduce insurance premiums.
discount
- Risk transfer risk transfer involves transferring a ______________________________ to a third party, such as an insurance company.
- Examples of risks that are low in frequency but high in severity include disability ?
- These risks do not occur very often, but when they do, there are severe financial consequences that should be ___________________________________.
4, Non-insurance transfers of risk are also available for certain risk exposures and can be accomplished through means such as ____________________________________ .
- low frequency and high severity risk
- Examples of risks that are low in frequency but high in severity :
include:
-Disability (or the inability to work),
- Premature death, or
- Damage to a personal residence. - Transferred and insured.
- warranties or hold harmless agreements
- Risk retention is_________________________________
- Examples of risks that are low in frequency and severity include ____________________________________________________.
- ______________________ are forms of risk retention where the insured is sharing in the first dollar of a financial loss. Risk retention is an appropriate risk management strategy for risks that are low in frequency and low in severity
- Accepting some or all of the potential loss exposure for risks that are low in frequency and low in severity.
- minor property damage to a personal residence or personal auto.
- Deductibles and copayments
- Risk avoidance is a risk management technique used for any risks
____________________________________ . - Avoidance can be applied to many pure risks, such as:
* The risk of being injured on a construction site –
- The risk of dying in a private plane crash –
- The risk of getting a DUI –
- The risk of getting into an accident while talking or texting on a cell phone –
- ,,,,,,that are high in frequency and high in severity. SHOULD BE AVOIDED.
- Avoidance can be applied to many pure risks, such as:
- The risk of being injured on a construction site – avoid the construction site.
- The risk of dying in a private plane crash – avoid flying in private planes.
- The risk of getting a DUI – avoid drunk driving.
- The risk of getting into an accident while talking or texting on a cell phone – avoid cell phone use while driving
Selecting the appropriate risk management technique is the most critical component of the risk management process.
a. True b. False
A. true
Risk reduction is the process of avoiding pure risk that is high in frequency and low in severity. a. True b. False
B. false
Risk transfer involves transferring a high frequency and high severity risk to a third party, such as an insurance company. a. True b. False
b, FALSE
- That homeowner policy will contain a___________ which is a ___________________ (and helps to reduce the premium for the insurance policy by eliminating the administrative burden of small claims).
- The homeowner may also have a sprinkler system or fire extinguishers in the house to help reduce the size of the loss should a fire occur. The __________________________________ helps to create a more efficient plan for dealing with risk
- deductible, which is a partial retention of loss
- combination of risk management techniques
STEP 6 of the risk management process ?
2 activities ?
If a decision is made to retain a risk, the individual must determine whether ____________________________ ?
Implementing the Risk Management Plan
2 Activities :
-Implementation of appropriate risk management solutions
-Plan should reflect identified risks and solutions
,,,,an emergency fund will be used (e.g., pet needs medical care).
STEP 7: Risk Management process ?
PERIODICALLY EVALUATING AND REVIEWING
THE RISK MANAGEMENT PROGRAM
- The purpose for periodic evaluation and review is twofold.
- Things change over time, and risk exposures can change as well.
- Errors in judgment regarding the selected alternatives may occur
- Perils are the ____________________.
- Perils can be the result of ________________?
- Common Perils ?
- Perils can be specifically insured (named) in an insurance policy on a “____________” basis where only the specific perils listed in the policy are covered.
Alternatively, a policy can cover perils on an “_______________” basis, which covers all perils unless specifically identified and excluded
- Perils are the___ immediate cause and reason for a loss occurring.”
- Actual cause of a loss, such as:
Fire, wind, tornado, earthquake, burglary & collision
- Actual cause of a loss, such as:
- Perils can be the result of an accident or sickness.
- Common perils include:
* Accidental death
* Disability caused by sickness or accident
* Property losses caused by fire, windstorm, tornado, earthquake, burglary, and, collision of an automobile - Perils can be specifically insured (named) in an insurance policy on a “named peril” basis where only the specific perils listed in the policy are covered.
Alternatively, a policy can cover perils on an “open perils” basis, which covers all perils unless specifically identified and excluded
Hazards are _______________ ?
A hazard does not _______________, but simply ____________
the probability of a loss.
What are the 3 types of hazards:
Hazards are - “ specific conditions that increases the likelihood of a loss occurring “
A hazard does not “ cause the actual loss” , but simply “ increases” the probability of a loss.
There are three types of hazards:
* Moral * Morale * Physical
- Moral hazard is the____________________ ?
- Examples ?
- Potential for loss caused by the moral character of the insured .
- Examples :
- File a False claim with the insurance
- Burning down your own house or claiming a theft occurred when it did not are types of moral hazard
- Morale hazard is defined as _____________________?
- Example :
- How do insurance companies incentivize against a Morale Hazard ?
- Indifference to risk due to the fact that the insured has insurance.
TEST
Moral hazard is a character flaw or dishonesty such as burning your own house down.
Morale hazard is the indifference a person has towards loss because of insurance such as leaving the keys in your car and the car running.
- Lock keys in Car
- . Deductibles.
With a deductible, the insured pays the first dollars of loss until the deductible is satisfied. Thus, when an insured is considering leaving the keys in the ignition and the car running while they are in a convenience store, the insured may stop and think “do I want to risk paying a $500 or $1,000 deductible if my car is stolen?” Deductibles help to align the best interest of the insurer and the insured to reduce the risk of morale hazard
- Physical Hazard is ___________________
- Examples :
Physical hazard is a physical condition that increases the likelihood of a loss occurring.
Examples :
wet floors, icy roads or roads with poor lighting. A physical hazard does not actually cause the accident or the loss, it is simply just a condition that increases the probability of a loss occurring
Perils can be specifically covered in an insurance policy on a “named peril” basis where only specific perils listed in the policy are covered. a. True b. False
A True
Whats are the Requites for an Insurance Risk ?
Requisites for an Insurable Risk:
Large number of homogenous exposure units
Losses must be accidental
Losses must be measurable and determinable
Losses must not pose a catastrophic risk for the insurer
Premiums must be reasonable and affordable
- The law of large numbers tells us _________________________________________________.
- This is important for an insurance company so that the ______________________________________.
- If the_________________, the actual losses could vary significantly from the expected losses, which could lead to financial insolvency of the insurer.
- ,,,, that the more similar the events or exposures, the more likely the actual losses will equal the expected losses. T
- ,,, actual claims they pay are very close to the probability of total losses.
- pool of insureds is small,
- The insurance company needs the pool of_________________ to be ____________________
- This allows the insurance company to more ___________________________________________.
- ,,,” loss exposures” to be “homogeneous (alike).”
- This allows the insurance company to more accurately predict the loss probability and charge an appropriate premium.
Actual losses must be _______________ because ____________________ are based on the probability of a loss occurring based on historical information and claims.
- ” accidental “ because “ premiums “ are based on the probability of a loss occurring based on historical information and claims.
A loss exposure that would be financially catastrophic to the insurer is an __________________ risk, which is why an insurer excludes perils such as flood, earthquake, nuclear hazard and acts of war.
” uninsurable risk,
As a result, The Terrorism Risk Insurance Act of 2002 was passed to provide a _______________________ for losses arising out of acts of terrorism.
Private insurers are now able to offer coverage for acts of terrorism, with the ________________________________. The Act has been extended through 2027 via various Terrorism Risk Insurance Program Reauthorization Acts.
” federal government “backstop” for losses arising out of acts of terrorism.
” federal government paying 90 percent of losses above a threshold.
