Underwriting in Insurance Process, Guidelines and Importance

What is underwriting in insurance?

Underwriting in insurance is the process that insurance companies use in determining the risks of the insured. It has to do with the insurer determining whether the risk of a firm or an individual is acceptable or not. If the risk is acceptable, then the price will be determined for the insurance coverage. Underwriting is the central part of all forms of insurance since insurance itself involves an individual transferring his risk to the insurer in exchange for a premium.

Before providing an insurance policy, it is critical for the insurers to have a clear understanding of the nature and scope of the risk level they are about. This is a situation that requires underwriting as it applies to all forms of business. This describes the process as an act of determining and quantifying an individual’s or an institution’s financial risk. It is not every application or applicant that an insurer can accept. Therefore, it is critical for an insurer to ensure the ability to be able to meet all the contractual obligations of its existing policies.

Underwriting in insurance is applicable to all types of insurance
Underwriting in insurance is applicable to all types of insurance

The process of underwriting has to do with conducting research as well as assessing the degree of risk that each prospective policyholder brings before assuming them. In all forms of underwriting, the risk is the underlying factor. In this case, the insurer assesses the determining factors of the potential customer’s risk profile. After having an understanding of these factors, the underwriter will then determine whether the applicant has certain risk factors that affect his desirability of a certain type of insurance.

For instance, the insurer can determine whether a policyholder buying general liability insurance has been sued before and the reasons behind being sued. Another instance is when a prospective insured is seeking motor vehicle insurance. The insurer has to find out the number of times the prospective insured has filed accident claims in the past. This also implies the number of times the prospective insured has been involved in an accident in the past, his driving behaviors, and whether he adopt preventive measures against accident.

This implies that the underwriter assesses every information that gets to him which will help him to determine whether the risks should be covered and at what price. If the outcome yields an unfavorable outcome, the underwriter may provide certain options to take some risks off the table. That is, there may be a suggestion to amend the insurance coverage by endorsement in order to prevent the filing of certain kinds of claims. This may be a better solution instead of going uninsured, however, the insurance becomes less useful.

Who is an insurance underwriter?

Insurance underwriters are professionals that are in charge of assessing risk and establishing a stable and fair market for the business. That is, they evaluate and analyze the risks involved in insuring lives and properties. Alongside actuaries, the insurance underwriters create statistical models for future losses as well as an underwriting system that determines the risks an insurer should cover. They establish pricing for the insurable risks accepted by the company. Underwriting implies the act of receiving remuneration for willingness to pay a potential risk.

Underwriters in the insurance sector assume the risks that are involved in the insurance contract for a premium. An underwriter performs the function of evaluating the risk of the insurer before the policy period and at the time of renewal. For instance, professionals underwriting the risks of homeowners must consider a number of variables while rating the policy. Oftentimes, property and casualty insurance agents serve as field underwriters. They inspect homes as well as other rental properties for certain conditions which include deteriorated roofs or foundations that are bound to pose risks to the owner. These agents take reports with regard to these hazards to the home underwriter.

Additionally, the home underwriter will take into consideration hazards that are bound to trigger a liability claim. These hazards can include sidewalks that are cracked, unfenced swimming pools, electrical faults, the presence of dead or dying trees on the property, etc. All these hazards represent risks factors to an insurance company. These factors may eventually require that the insurer pays claims in the event of slip and fall injuries or accidental drownings.

Still, on the issue of underwriting the risks of homeowners, the underwriters can input a number of factors which oftentimes include the credit ratings of an applicant. They employ a method of rating and pricing using algorithms. This system helps in generating a premium that is appropriate based on the interpretation of the platform as well as the combination of all the data reported from the field underwriter’s observations. Subjectively, the lead underwriter also takes into consideration the answers that the applicant submitted on the policy application when arriving at a premium.

It is critical for insurance underwriters to balance their approach to underwriting. That is, their approach should neither be too aggressive nor too conservative. If their approach is too aggressive, greater-than-expected claims could be a compromising factor to earnings. On the other hand, if their approach is too conservative, competitors will outprice them and this will cause them to lose market share.

Underwriting processes in insurance

Underwriting involves having a clear understanding of risks and ways to prevent them. As earlier pointed out, underwriters make use of skills and information to determine whether they will insure a life or a property and at what price. The information that the agent (field underwriter) provides is vital as it is being reviewed by the lead underwriter. The next thing, the company has to decide whether the company is willing to take on the risk. The following are the processes involved in commercial insurance underwriting;

  • Information review and risk assessment
  • Determining policy or perils
  • Changing policy by endorsement
  • Solutions to reduce the risk of future claims
  • Working with brokers or agents

Information review and risk assessment

The first step is to review the information gathered and get involved in situations where there is a need for more assessment. For instance, there is an issuance of new policies when the insured has made too many claims or when payment issues exist. In this case, the underwriter alongside insurance agents conducts research and determines the risk profile of various factors. In essence, they assess the degree of risk that each prospective insured brings before assuming them.

Determining the policy or perils

At this stage, the underwriter determines the type of policy coverage or the perils. Here, after the assessment of the risk, the underwriter on behalf of the insurance company determines whether to insure the risk and at what price. The insurance company determines what kind of policy coverage to provide to the prospective insured and stipulates the conditions attached.

Changing policy by endorsement

After determining the policy or perils, they evaluate changes that may arise. The underwriter may change the policy by endorsement if the outcome of the assessment turns out to be unfavorable. In other words, if the risk exposure seems outside the norm, they look into it again because the application has taken place already. In this case, the insurer may suggest the amendment of the insurance coverage as stated earlier. The aim of this is to prevent filing certain kinds of claims. This means a change in insurance conditions or a change in risk which implies a change in the insurance policy.

Looking for possible solutions to reduce the risk of future claims

In the process of evaluating changes when they arise, the insurer looks for possible solutions to reduce the risk of future claims. This activity can take place by stipulating certain conditions that the insured has to meet before claims payment or indemnity will be made. For example, if a prospective insured wants auto insurance coverage, certain conditions have to be met particularly in the areas of putting in efforts to avoid accidents. These conditions can be to avoid drunk driving, not exceeding the speed limit, having a fire extinguisher, etc. Stipulating such conditions can help the insurance company to reduce the risks of future claims. In essence, the underwriter protects the company by enforcing the rules and they assess risks based on this understanding. They can alter certain conditions to make the situation less risky. This means that underwriters are responsible for the risk management of the insurance company.

Working with brokers or agents

Underwriters negotiate and liaise with brokers or agents on ways to insure the risks. These are insurance intermediaries that help in facilitating insurance policies. It is necessary for the broker or agent to present a substantial case to convince the underwriter that the risks are good and insurable.

Underwriting in life insurance

Underwriting in life insurance describes the consideration that is being given to a life insurance application to determine whether the insurer should accept the risk or effect some changes which depend on the risk profile of the prospective assured. The underwriting process in life insurance helps the insurance company in risk selection while issuing a policy to the prospective assured. The underwriting process determines whether one can get coverage and at what price it can be approved. Based on the statistics of mortality calculated by actuaries, underwriters use the guidelines to determine insurable risks.

Life insurance underwriting takes place on two bases; Financial underwriting and Medical underwriting. That is, in assessing life insurance risks, the underwriter takes a look at the health and medical history as well as lifestyle information such as hobbies and financial ability of the prospective assured.

In life insurance, the underwriting processes are;

  • Application quality check
  • Medical examination
  • Final application rating

 Application quality check

When a prospective assured submits an insurance application, it goes through the application quality check in order to ensure that the information provided is complete and correct. It is therefore important to fill out a proposal form carefully and provide a complete proposal form. After the quality check process, the application made will go to the official underwriting process. Subsequent checks can increase the turnaround time but this is necessary in order to get the accurate and right premium price that the prospective assured will have to pay over the term of the policy.

Medical examination

The medical examination step has to do with looking thoroughly at the paramedical exam. This is being conducted only if there is a requirement for health proof. This medical test involves a simple checkup with the doctor that the insurance company recommended. After the medical examination, the doctor will send the result to the underwriter for evaluation. The information that the underwriter uses comprises three components, basic measurements, blood tests, and drug tests. Basic measurements comprise regular metrics such as blood pressure, weight, and height. Blood tests oftentimes contain information with regard to potential health risks such as diabetes, stroke, heart disease, and other blood-borne illness. The final thing with regard to this is the urine test for a full drug panel will help the underwriter detect the use of drugs, smoking, and the consumption of alcohol.

Final application rating

After the completion of the underwriting process as well as all the medical and financial check, there will either be a counteroffer that suggests the changes based on the policy evaluation, or the insurance company proudly offers the life insurance policy to the prospective assured. Depending on the policyholder’s acceptance of the terms of the new policy, the insurance company issues the policy. The entire process can be completed between three to eight weeks. After the completion, the only thing left for the insurance company is to confirm the rate of premium and sign the policy to put it in force. Here, the insurance cover begins.

Although it is not every application that will require a detailed medical examination, there are times in which underwriters may request an inspection report, or independent information with regard to the financial situation and lifestyle of the applicant/prospective assured. The premium that is necessary for the applicant to pay for the life insurance is majorly dependent upon this evaluation which takes place based on certain factors such as age, medical history, job, lifestyle, and gender. However, it is important for one to have it at the back of his mind that a life insurance policy should not be bought on the basis of lower premiums. Term life insurance plans are usually low in premiums as we all know, one can choose an insurance cover that will offer an investment return that is relatively high, that is a high death benefit, and a surrender value that is relatively low alongside a high claim settlement ratio.

Why is insurance underwriting important?

Underwriting is the foundation of the entire insurance industry. Therefore, it is important for underwriters to make their decisions rightly. It is left for them to ensure that a correct level of risk is entering the industry as well as the risk matching with the right premium. There is a significant risk attached to losing this balance. If the underwriting is bad, it will have a negative effect on the entire insurance industry with its toxicity. Everyone wins if the underwriting is favorable. One factor that facilitates good underwriting is consistency. This is a characteristic that good underwriters have in common. By implication, it is necessary for them to have a view of the risk on a long-term basis and they may need to occasionally have an open mind.

Oftentimes, many underwriters will automatically decline a risk because of the fact that it is an unusual one but this does not imply that it is a bad risk. As earlier stated, there needs to be flexibility to sometimes classify risks that do not fit into any category.

Underwriting helps in risk reduction as the underwriter looks out for possible means of reducing the risk of future claims by stipulating certain conditions. These are the conditions that the policyholder must meet before the insurance claims payment take place. They can alter certain conditions to make the situation less risky. This means that underwriters are responsible for the risk management of the insurance company. Underwriting, therefore, helps the insurance company to avoid risks that are too large for the insurance to cover.

Proper underwriting also helps in connecting with people on a human level. Face-to-face contact with individuals helps an insurance company to have a better understanding of the risk as well as the thoughts and ambitions that are driving it.

Example of insurance underwriting

For instance, a health insurance underwriter would make assessments of information with regard to the health background of an individual such as family history, age, and current illnesses if any. If underwriters are able to acquire this information, they will then input the data into underwriting software for processing. this helps in analyzing the risks that are health-related which have to do with the individual and to calculate the amount of premium that should be paid. If an applicant has a longstanding history of illness, it implies that a greater risk is imposed on the insurance company. Therefore, the premium will be higher.

For different coverages, there will be a requirement for the underwriter to take a good look at different pieces of personal information. As stated above, for auto insurance, the underwriter will require detailed information which includes driving records, accidents in the past, credit scores, history of driving violations, etc. These factors have to be taken into consideration when determining the risks in the course of providing the insurance cover.

For a homeowners insurance policy, underwriters take a look at the condition and quality of the property if an individual is purchasing a new property. The factors that underwriters look at are our location, age of the property, roof deterioration, unfenced swimming pools, cracked walkways, etc. Underwriters lookout for hazards close to the property that are bound to cause injuries that may bring about an insurance claim. Also, underwriters take personal information into consideration such as credit history when calculating credit history. Oftentimes, property and casualty insurance agents serve as field underwriters. They help in inspecting homes and providing information with regard to the above-mentioned conditions. So these reports will be taken to the underwriter who in turn assesses the information gathered. This will help them generate the amount of premium that is appropriate.

Guidelines of underwriting

The general guidelines of underwriting are;

  • Trust
  • Affordability
  • Fairness
  • The full picture
  • Growth
  • Reputation
  • Understanding

Trust

For relationships to exist on a lifelong basis, trust is central. It is believed that people build trust by knowing one another honestly. This is the reason why people ask questions about one another. Openness and transparency are very important with regard to one’s personality. This is the reason why the insurance applicant should disclose material facts that relate to the subject matter of insurance.

Affordability

An insurance company should only insure risks that it can assume. On the other hand, the premium should not be too high for the policyholder to pay.

Fairness

Financial responsibility should be the primary driving force of risk cover. There should be fairness in claims payment.

The full picture

Every individual is unique, so it is important for the company to understand its clients as this makes the work a mission instead of being just a job. The insurance company should have a full picture of the risk that it is insuring. It should also have a full picture of who the policyholder is, insurance history, health, lifestyle, credit record, etc. Gaining an understanding with respect to these factors is key.

Growth

Growth is a continuous process that should not be neglected. The day you stop growing, you begin to deteriorate. It is important to make efforts never to stop growing.

Reputation

An insurance company should be able to protect its reputation in order to attract more customers. The rules that underwriters stipulate should not be too rigid for the policyholders to abide by. A good reputation is an intangible asset to any company.

Understanding

Everyone makes mistakes and this can happen to anyone including the best people. Either of the parties should be able to forgive and overlook mistakes occasionally.