define risk in the context of benefit planning
uncertainty with respect to possible losses. it is the inability to determine with definitity the actual number and value of the claims that a benefit plan will have to meet
describe the relationship of peril and hazard to risk
risk is uncertainty of loss, peril is the cause of a loss, a hazard is a condition that increases the probability that a peril will happen. hazard increases the sevity of the loss when a peril happens
hazard
condition that increases the probability that a peril will happen
physical hazard
a physical condition like defective wiring that increases the chances of loss
moral hazard
when dishonesty or other character defects in a person increase the chances of lss.
ex: arson. this type of hazard premiums are high to all in the insured pool. controlled by careful underwriting and policy provisions like higher deductible, waiting periods
morale hazard
carelessness or indifference that people have because they are covered by insurance and thereby protected against loss. ex: employees or doctors scheduling unneeded medical tests
pure risk
involves situations where only 2 alternatives are possible. either the risk will or will not happen. thus there either is or isnt a financial loss.
ex: the risk or fire or an auto accident. it either happens or it doesnt. many employee benefit coverages fall into this classification. nothing good can happen with this type of risk.
many of these types of risks can be insured
speculative risk
involve siruation where a possibility that does not exist in a pure risk is present. there is the possibility of gain not just loss. also the possibility of neither gain nor loss exists (holding steady). ex: common stocks, a business venture
what is the most important type of pure risk to cover and why
personal riskmany risks involving benefit plans are personal risk
personal risk
losses that directly impact an individuals life or healthex: death, illness, disability, unemployment and old age
property risk
the potential losses to the value of one's real or personal propertyex: fire, flood, earthquake, wind, theft
legal liability risks
losses resulting from the negligent or wrongful actions of people that result in injuries or losses to others. stem from lawsuits by the injured seeking damages from negligent parties.
common sources: negligent behavior associated with the ownership and use of automobiles, operation of your home or business the manufacture or sale of products
where do you see coverage for property and legal liability risks in employee benefit plans?
homeowner insurance, auto insurance, group legal service plan
how can risk be handled?
1. avoidance2. control3. retention4. transfer5.
insurance
retention
risk is assumed and paid for by the person suffering the loss or taking responsibility for the loss. ex: a deductible for car insurance
transfer
shifting financial burden of risk to another party
insurance
a form of transfer where the financial burden of a risk is transferred to an insurance company
avoidance
one does not acquire or take on the risk to begin with or gets rid of the risk and therefore is not subject to the risk.ex: avoid risk of breaking a leg when skiing by not going skiing
control
a mechanism by which one attempts either to prevent or reduce the probability of a loss taking place or to reduce the severity of the loss if it does not take place. ex: reduce risk of lung cancer by not smoking
health insurance
the insurd pays money into a fund.
when there is a loss, reimbursement comes from the fund and given to the person suffering the loss
how is insurance different from gambling?
one addresses an existing risk while the other creates a risk
indemnification
insurance is structured on the principle that insurance is used to make the victims of losses whole to make whole as before the loss
what is mutually exclusive of risk and loss
avoidance
what are the advantages of using insurance to fund an employee benefit plan?
1. known premium2. outside administration3 financial backing4 cost management5 economy
what are the disadvantages to using insurance to fund an employee benefit plan
1. possible additional costs2 employee satisfaction
ideal insurable risk
1.
a large number of homogeneous risks to help predict loss2 the loss should be verifiable and measurable3 loss should not be catastrophic in nature4 the chance of loss should be subject to calculation5 premium should be reasonable or economically feasible6 loss should be accidental and unintentional from the standpont of the insured. it should be outside of the insured control
law of large numbers
the greater the number of exposures , the more closely the actual results will approach the probable results that are expected from an infinite number of exposures
how do employee benefit plans handle the possibility of catastrophic losses?
through insuring risks and disability income losses.
adverse selection
when people with higher than average risks join a group or comprise a larger percentage of a group than anticipated because of the availability of insurance or other benefits. ex: to select against and insurer
how do insurers address the problem of adverse selection by individual applicants applying for insurance?
insurers attempt to control for this by the use of underwriting methods and supportive policy provisions.
underwriting
the uniform process by which insureres select and classify applicants for insurance ex: controlling adverse selection including preexisting conditions clauses in medical expense policies, suicide clauses, maximum coverage amounts
how is adverse selection dealt with differently with individual insurance than with employee benefit plans?
group insurance is based on the group as a unit. and typically individual insurance eligibility requirements are not used used in employee benefit plans.
the group technique controls the problem of adverse selection
describe the group technique that enables coverages like life and health insu to be written as employee benefit plans by minimizing the risk of adverse selection
1. only certain groups are eligible2. there should be a steady flow of lives through the group...
old go out as the young come in3 a minimum number of people in the group4 eligibility requirements are imposed5 maximum limits apply to the amount of benefits that me be imposed to prevent an exessive amount of coverage on any one unhealthy person6 there is an automatic determination of benefits whereby coverage is determined for all individuals in the group on an automatic basis
describe self funding
an org retains the risks as o[pposed to an insurance company taking on the riskd in return for a premium . the key characteric of an ideally insurable risk that must be present is that the org be big enough to permit the combination of a sufficiently large number of exposure units to make losses predictable.operates on the law of large numbers
Replacement Ratio
a person's gross income afterretirement, divided by his or her gross income beforeretirement.
The group technique
enables insurance programs such as life insurance and health insurance, to name only two, to be written as employee benefit plans.4 Unlike individual insurance, group insurance is based on a view of the group rather than the individual as the unit to be insured.
