Cook - High Risk Personal Auto and Residual Market

Question 1

Why are residual market programs necessary?

Cook

Answer 1

Cook
* Some insureds (high risk) may not be accepted into the voluntary market.
* Some insureds (high risk) may not be able to afford actuarially sound rates.
* Some insureds will drive without insurance otherwise.

Question 2

Why are residual market programs necessary?

Germani

Answer 2

Germani
* Automobile insurance is compulsory (mandatory, required).
* Automobile insurance provides a social good (benefits society). Protects people in event of accident
* Not having insurance is not good for society.
* Govt. deems auto insurance should be affordable (available) for all.

Question 3

What are the justifications for Auto Residual Markets?

Answer 3

• Automobile insurance is compulsory and thus should be affordable and available.
• Since auto insurance is compulsory, there are insureds that may not be accepted into voluntary market or may not be able to afford the premiums.
• Thus, the government steps in to help increase affordability and availability while also providing opportunities to reduce uninsured motorists.

Question 4

How does the residual market create subsidies and impact pricing in voluntary market?

Answer 4

• Purchase of insurance is required by law, which creates need for a residual market if voluntary market won’t cover high risk insureds
• Rates in the residual market are generally lower than the costs.
  * These costs are passed onto primary insurers, who build it into their rates, creating the cross subsidy.

Question 5

What actions can an insurer take if a state rejects actuarially sound rates in their jurisdiction?

Answer 5

• Appeal the rate decision
• Accept reduced profit load as part of strategy to maintain market prescence.
• Take additional rate changes over time.
• Reduce company expenses
• Restrict Coverage such as higher deductibles and limits.
• Diversify into other areas of state, LOB in state, or other states
• Stop writing new business and renewing policies to exit the market

Question 6

What happens to residual market if state disapproves necessary rate changes?

Answer 6

• Insurers exit the jurisdiction
• Reduces supply of insurance in the jurisdiction
• Reliance on residual market increases

Question 7

What restrictions may an insurer put on a high risk insured before writing in voluntary market?

Answer 7

• Higher Deductibles (Comp and Collision)
• Lower Limits (liability)
• Exclude certain coverages suchs as glass and medical.

Question 8

What are the 3 methods for operating a state residual auto insurance market?

Answer 8

• Assigned Risk Plan (ARP), sometimes also called an Auto Insurance Plan (AIP)
• Joint Underwriting Association (JUA)
• Reinsurance Facility (RF)

Question 9

How does an Assigned Risk Plan (ARP) function?

Driver vs. Insurer/Regulator

Answer 9

Driver
* Applies and is rejected by the voluntary market
* Applies to the ARP is assigned to an insurer based on in the insurer’s WP market share

Insurer/Regulator
* Regulator sets uniform rates for all insurers
* Plans must offer minimum statutory limits, though insurer can offer higher.
* Insurer services the policy like it was voluntarily written (ie collect premiums, pay claims)
* Insurer retains profit/losses of insured (high variability).

Note insured knows they are placed in residual market unlike JUA/RF

Question 10

What makes a driver ineligible for ARP?

Answer 10

1. No valid driver’s license - this is obvious
2. Felony conviction within 36 months
3. Habitual violation of the law.

Question 11

What are 2 important differences between ARP and JUA/RF?

Answer 11

• The driver doesn’t know that they have been placed in a residual market in a JUA/RF
• Premium, losses, & expenses are shared amongst all auto insurers in the state JUA/RF based on share of voluntary market.
  
  • ARP retains premiums, losses, expenses of assigned insured so greater volatility.

Question 12

How does a Joint Underwriting Association (JUA) function?

Driver vs. Insurer

Answer 12

Driver
* Applies and is rejected by the voluntary market
* Driver does not if forwarded to JUA (different than ARP, but same is RF)

Insurer/Regulator
* If High Risk Driver insurer can either keep or send to JUA
* JUA sets the rates based on pool experience. This is higher than ARP or RF.
* Servicing Carrier handles the claims
* Insurers share in profit/losses/expenses in proportion to their voluntary business market share (same as RF)

Insurers share regardless of whether servicing risks

Question 13

How does a Reinsurance Facility (RF) function?

Answer 13

Driver
* Applies and is rejected by the voluntary market
* Driver does not know if forwarded to RF (different than ARP, but same as JUA)

Insurer/Regulator
* If considered high risk the insurer can forward to RF (same as JUA)
* Insurer fully services the policy (different than JUA)
* Rates set by insurer
* Insurers share in profit/losses/expenses in proportion to their voluntary business market share (same as JUA)
* regardless of whether servicing any policies

Question 14

Why is it worse for an insured to be written through residual market rather than voluntary

Answer 14

• Policies are more expensive
• Stigma to residual market (ARP only)
• Coverages are more limited
• Service is not as good
• Cannot choose carrier

Question 15

What is the social purposes of residual markets?

Answer 15

• Makes coverage more affordable and/or available to all
• Social benefit of reducing the number of uninsured drivers on the road
  
  • Decreasing liklihood of unremibursed losses from accident

Question 16

Which type of auto residual market will lead to the highest rates?

Answer 16

• Likely a JUA, as rates are set by actual pool experience.
• ARP is set by state, so will be lower.
• RF is set by insurer, but it is based on all of experience and not just those in the residual market so will likely be lower than JUA.

Question 17

Why are FAIR Plans needed?

FAIR = Fair Access to Insurance Requirements

Answer 17

Certain risks are essentially uninsurable in the voluntary market, but lenders often require insurance coverage, and that was the motivation for FAIR plans

Question 18

What types of risks/exposureds are insured under FAIR Plans?

Answer 18

• properties in areas susceptible to crime/riots (Ex: urban areas after riots of the 1960s)
• higher-risk coastal properties subject to windstorm damage, properties in wooded areas subject to brush fires
• individuals with a high number of prior claims.

Question 19

How do FAIR Plans operate?

Answer 19

• Policies are serviced by a syndicate or private company (who collect premiums, handle claims, & take a cut for their service)
  
  • FAIR plans typically have several voluntary insurers acting as servicing insurers for a percentage of premium.
• Premiums & losses are shared by all property insurers in state

Question 20

What types of risks are eligible for FAIR plans?

Answer 20

• coverage must have been denied by the private market
• property must not be vacant or trespassed onto, must not be damaged or poorly maintained, and must meet building codes

Question 21

What types of risks are uninsurable under FAIR Plans?

Answer 21

• vacant properties
• poorly maintained properties
• properties with building code violation

Question 22

What area the reasons for Government Involvement in Insurance

FCC(ES)

Answer 22

• Filling Needs unmet by private insurance. Coverage not offered
• When Insurance is Compulsory. Goverment requires insurance, but not offered by private insurance.
• Convenience: Goverment may already of structures in place to provide insurance
• Efficiency: eliminates agent commissions -> lower expenses -> lower price.
• Social Purposes: private market is motivated by profit at expense of social purposes (think medicare)

Question 23

What are the 3 levels of Goverment Participation in Insurance?

Answer 23

• Sole Provider: Goverment is only provide, such as Social Security
• Partnership with Private Insurance: Think National Flood Insurance Program
• Competition with Private Insurance: WC competitive state funds in some states