Chapter 2 Flashcards
External Environment (16 cards)
Name the External environment to consider list acronym:
CREATE GREAT LISTS
What are the different external environmental factors to consider?
- Competition and the underwriting cycle
- Regulation and legislation
- Environmental issues
-emission trading, demographic changes - Accounting standards
- Tax
- Economic outlook
- Governance
- Risk management requirements
- Experience from overseas
-replicate products (differences in tax and legislation makes this difficult) - Adequacy of capital
- Trends - demographic
- Lifestyle considerations
- Institutional structure
- Social trends
- Technology
- State benefits
The differences between Legislation and Regulation:
-legislation is issued by the legislative branch while regulation is issued by regulatory agencies
-legislation has general principles and rules while regulation has specific instructions and procedures
-legislation sets the overall framework while regulation implements and enforces the law
Why should we consider state benefits? (3)
The level and form of state benefits will influence the level and form of additional
non-state benefits provided.
o State benefits should be taken into account when considering the financial
planning needs of an individual.
o Individuals may need to provide less for themselves.
▪ E.g., In the UK where emergency hospital is free, very few individuals
take out insurance against this, but may take out private medical
insurance against specialised medical treatments.
o There may not be a savings incentive.
▪ E.g., Where state benefits are means-tested, individuals on low income
who only have a limited ability to save may find that it is better value
for them not to save at all, as any savings they have will offset against
the benefits that they are entitled to from the state and result in lower
level of income.
What are the aims of state benefits? (8)
- Social protection
- Social justice and equity
- Political stability
- Moral and ethical responsibility
- Economic stability
- Reducing inequality ( means-testing = you get a benefit based on your income [resource
tested] the more resources one has, the less help the state will provide) - Promoting health and education (leads to production, economic growth, high tax income, etc.)
- Encouraging participation in the economy (linked to education and health)
What are the possible tax treatments of benefits? (4)
o Benefits can be received free of tax.
o The excess of benefits over contributions can be taxed as income or as capital
gains.
o Benefits can be taxed entirely as income.
o A portion of the benefits can be tax-free, with the balance being taxed.
How items other than benefits can be taxed:
o Some arrangements may offer tax relief on contributions, normally coupled
with tax on the resulting benefits.
o Contributions may be paid from taxed income, normally coupled with tax
relief on the resulting benefits.
o Income and gains may be taxed during the accumulation phase, normally
coupled with no tax on the policyholder’s gains.
o Tax may be payable on inheritance. Insurance can be available to cover this
tax liability.
How do accounting standards affect the types of products offered?
- The presentation of financial instruments in the accounts of product providers also impacts on the range of products that is brought to market.
-For example, the different accounting requirements for setting the provisions for different types of insurance contract in different territories can influence the design of contracts
Define corporate governance!
o Corporate governance is the high-level framework within which a company’s managerial decisions are made.
Key features of a mutual financial provider (4)
o No shareholders.
o Better benefits as profits belong entirely to with-profit policyholders.
o Restricted access to new capital, which may restrict product offerings. (retained profits or debt)
o There are two ways in which mutuals approach product pricing.
▪ Surplus distribution:
* Mutuals may offer specific distributions of surplus to their
members.
* With-profit insurance companies, friendly societies and co-operative organisations tend to do this.
▪ Pricing at cost:
* The alternative is to design products with the lowest margins in
the price consistent with the risk undertaken and benefit
members by that route.
Key features of a proprietary financial provider: (3)
o Public proprietary companies benefit from easier access to capital markets for finance and may also have greater economies of scale and more dynamic management than mutuals.
o Private proprietary companies may be as restricted as mutuals for raising capital, but benefit from the close involvement of the owners, which is a management advantage.
o Profits may be shared between shareholders and with-profit policyholders for proprietary life insurance companies.
Describe the underwriting cycle: (7)
-is a consequence of the competitive nature of insurance business
-profitability goes in cycles which are driven by market forces of supply and demand combined with actual claims experience and the economic climate
-when business is profitable more insurers enter the market, the premium rated reduce as insurers compete for market share, leading to reduced profits and loss of business and reduced solvency and the cycle goes into depression. The position can be accentuated by catastrophes or by economic climate. The insurers leave the market or reduce their involvement in the classes concerned as premiums are too low to be profitable
Why would an insurer stay in a market that was loss making?
-belief that the accumulated losses during the bottom of the cycle would be outweighed by the expected profits at the anticipated subsequent upswing in the market
-cross-subsidising
-costs of leaving and re-entering a market may be high
-The insurer may need to offer such a product in order to attract sales of other more profitable products that it sells. (loss leader)
-the product may diversify against other risk products and does not need to be profitable on a standalone basis
effects of an aging population on the economy: (7)
-more saving, less spending
-pay as you go funding falls short as there is fewer working population
-falling contribution to tax as lower working population
-more people surviving to retirement age
-longevity risk during retirement
-increased costs of healthcare systems
-cost of education decreases as fewer young people to educate
Describe the lifestyle considerations and changing individual needs:
-Younger members of the population will have a high demand for loans and mortgages and are less likely to be saving towards retirement.
-As individuals age, they will pay off some of their loans and begin to save.
o They may also have an increased demand for life insurance protection products as they have dependent children and longer working lifetime.
-Once members of the population retire from employment, they are likely to reduce the amount they save and start spending the funds they have saved.
-They may have a need for annuities and products providing long-term care.
-Their need for life insurance may decline if their dependants become more self sufficient.
o However, longer working lifetimes and increases in life expectancy will
increase the amount of life insurance required and increase the age to which it is required.
-At the time at which investors move from savings accumulation to savings decumulation, many may wish to secure certainty of value and avoid investment in volatile markets and volatile instruments.
o This suggests a gradual move from equity-type towards fixed interest-type assets.
o However, better-off investors may be able to afford to take more risk during the decumulation phase in order to gain a better investment return.
-As people live longer they will need to save more and/or save for longer to ensure that their assets do not run out before they die.
Examples of such technological advances overtime include:
-internet quotations and sales
-price comparison sites
-banking over the internet and phone
-social media for advertising and links to sales/enquiry websites
-insurance companies increasingly using websites to capture customer enquiries and register claims and transactions
email as a fully acceptable and widely used means of communication
