«Protecting the poor A microinsurance compendium Edited by Craig Churchill Protecting the poor A microinsurance compendium Protecting the poor A ...»
Underwriting guidelines for group insurance generally begin by specifying the fundamental requirements that define a group. The main criterion is that the group must have been formed for reasons other than to obtain insurance. For example, if a utility company required the household to be insured as a condition of being connected to the power grid, then the group is clearly defined and insurance coverage is required by virtue of being connected to the grid. It is quite unlikely that a family would seek to acquire an electricity connection to gain access to insurance. This mechanism limits the scope for adverse selection and allows more relaxed underwriting and risk management. Examples of groups targeted by insurers include employees in a company, labour union members, and affinity groups such as professional associations.
Mandatory group insurance is probably the most common type of microinsurance. For example, the microinsurance programmes spawned by many MFIs are similar to the membership of the CARD MBA in the Philippines, which is composed entirely of CARD’s borrowers. The membership Product design and insurance risk management 151 of CARD MBA is a very low-risk group. There is minimal adverse selection due to mandatory participation; the participants are all women aged 16 to 64 and are actively engaged in their respective livelihoods (for which they are borrowing from the MFI); the group is thus relatively homogenous and in good average health. To minimize risk, even the 30,000 savers of CARD Bank cannot participate in the MBA because elective coverage would raise claims costs, while mandatory coverage would be difficult to sell to savers.
To be demand-driven and client-focused, one would expect that voluntary coverage would be the most appropriate. Yet in the field of insurance – and microinsurance in particular, where affordability is so important – a
strong case can be made for compulsory coverage. Mandatory insurance:
– reduces costs due to higher volumes and lower collection and underwriting costs;
– lowers risk because of the broader base and limited adverse selection;
– improves claims ratios because it brings in the lower risk individuals (positive selection) who would otherwise opt out or wait to get coverage when they are older;
– reduces vulnerability to staff fraud since it reduces the chance that agents could sell policies and pocket the premiums.
One of the biggest disadvantages of mandatory coverage, besides the fact that people are required to buy something that they may not want, is that the distribution system tends to overlook the consumers’ need for information.
This comes through very clearly from the research in Uganda where many clients have a significant misunderstanding of what the coverage entails, which has led to profound dissatisfaction (McCord et al., 2005a). As discussed in the next chapter, when offering mandatory coverage, microinsurers (or their agents) need to constantly promote the good value of the programme. Clients need to be constantly educated about the benefits of buying an intangible service, i.e. security and peace of mind.
2.2 Voluntary group insurance Group insurance can be offered on a voluntary basis in two different ways.
Either members of the group are covered unless they specifically decline coverage or each member of the group must choose to enrol in the scheme. The costs and risks associated with the first option are often closer to mandatory coverage, whereas the second option is more akin to individual insurance, with greater concern for adverse selection. Sometimes there are grey areas between group and individual coverage. For example, both VimoSEWA 152 Microinsurance operations (India) and ServiPerú have group policies from insurance companies, but they are marketed and sold individually.
If potential insureds are not already in groups, then one strategy employed by some microinsurers is to create groups. This is the approach taken by the mutuelles de santé, such as UMSGF (Guinea), whereby rural communities are organized into groups, and the groups formed into mutuals, and the mutuals affiliated into federations. To overcome the adverse selection risk that comes with groups created for insurance purposes, UMSGF encourages all members of the community to enrol and membership is often on a family basis.
Microinsurance providers can combine the advantages of mandatory and voluntary group coverage in several ways. One way is to make insurance mandatory for all members of an existing group (which minimizes adverse selection), but to give them two or three options to choose from. This allows members to opt for the coverage level that they would prefer and increases the likelihood that they will receive sufficient information to make informed decisions. Care must be taken not to give too many options or to make the options too diverse because higher-risk individuals tend to maximize coverage, thus reducing the gains of compulsory participation.
Another approach, sometimes found among MFIs, is to make coverage all-or-nothing at the borrower group level, such as a village bank. For example, in the initial FINCA-AIG arrangement in Uganda, all members of the village bank had to agree to the coverage or none got it – this simplified the administration and created an adverse selection control since individuals could not opt in or out.
2.3 Individual insurance At the other end of the spectrum are the aforementioned memberships of BRAC’s MHIB and Grameen Kaylan in Bangladesh. Although many of the members come from the associated MFIs, the schemes also recruit the general public at slightly higher premium and co-payment rates. These are examples of individual microinsurance (since there is optional participation), as are the endowment policies offered by Tata-AIG (India) and Delta Life (Bangladesh). Individual microinsurance is possible, but it requires a high participation rate among the potential target market to attain desirable financial results.
Individual insurance can cost more than twice as much as group coverage because of higher sales, underwriting, administration and claims costs. Individual insurance claims costs can be reduced through more rigorous underwriting, such as medical screening (since the bad risks are identified and filProduct design and insurance risk management 153 tered out or are limited to lower coverage). For microinsurance, however, this screening may not make economic sense because coverage amounts are very low, and it may also contradict the social agenda.
Therein lies the crux of making microinsurance work. It is relatively easy if the targeted population is a well-organized group that can accommodate group insurance arrangements, but is quite challenging if it is not because of the higher delivery and claims costs. Under what circumstances would individual microinsurance make sense? It makes sense when a group is covered by a compulsory life product already and then some members of the group would like to have additional, elective coverage. Individual coverage may also be justifiable, but expensive, when the target population is unorganized.
A key advantage of individual insurance is that the individual can continue to be covered once group membership ceases, for example MFI clients who no longer require loans. Group covers can be converted into individual policies using continuation options. To the extent that the group cover relies on infrastructure supporting the group (e.g. using the MFI’s mechanisms for premium collection), continuation policies may produce additional charges and administration.
As discussed below, individual insurance can be made more viable with product design features that limit scope for adverse selection, including health declarations, waiting periods and incremental benefits. For the lowincome market, individual covers may also be possible if technology can be employed to minimize the operating costs, although such examples were not identified in the case studies.
2.4 To include or not to include A unique aspect of microinsurance is the willingness to be broadly inclusive.
Generally, commercial insurers limit their exposure by excluding high risks, such as older persons or those with pre-existing conditions. The microinsurance challenge is to find ways of serving vulnerable households at affordable
rates over the long term. There are several issues to consider:
– Broader inclusion produces lower operating costs by reducing the costs of screening, while accepting higher-risk persons and their accompanying claims costs. Significant volumes of policyholders are required to justify this approach.
– High-risk individuals can be included if the benefits are limited or, alternatively, if premiums are correspondingly higher for risky members than for the rest of the group. Both of these approaches reduce the cross-subsidization of the higher-risk individuals by the remaining members and support broader inclusion on a sustainable basis.
– There is a solid economic rationale in play as well: the costs of monitoring and enforcing complex exclusions must be weighed against the claims avoided; the small sums insured and premiums of microinsurance products cannot support complex screening and claims validation.
While schemes are often willing to accept high-risk members, they might not be so inclined to keep older policyholders. Most schemes have age ceilings – 60 years old at VimoSEWA and 67 years old for ServiPerú’s hospitalization benefit – although some, like UMSFG, have no age limitations. To soften the blow of asking members to leave the scheme (just when they are about to really need the benefits), some microinsurers such as CARD MBA and Yasiru (Sri Lanka) provide a withdrawal payout.
Funding older members may or may not be feasible. The tradeoff is between lower premiums in order to market the programme more effectively to all, or higher premiums in order to be more inclusive. If the intention is to be inclusive, should everyone pay higher premiums, or should older members pay higher premiums or receive lower benefits in order to minimize the subsidization by younger members? The best solution, as with other tradeoffs, is to explain the differences between the cost of lifelong membership versus having an exit age, and then let the prospective policyholders decide.
3 Terms and payment options
3.1 Term of the coverage Many microinsurance products are for 12 months or less. These short-term policies are generally preferred by insurers because long-term insurance involves more permanent commitments and higher risk – it is easier to predict the likelihood of an insured event in the next year than the next 10 years. An insurer needs to be conservative when giving medium- to long-term guarantees, and must ensure that significant margins in the rates are included to compensate for error (see Chapter 3.5). From a regulator’s perspective, longterm coverage is more closely supervised because of the devastating comProduct design and insurance risk management 155 pounding effects that erroneous interest rate and mortality assumptions can have on the insurer.
For the insured, the advantage of long-term coverage is that he/she will have protection even if a condition develops. On the other hand, it is generally more expensive in the younger years than renewable term coverage.
If insurance is offered together with a loan, it is generally recommended that the loan and insurance terms end at the same time so that the client has an opportunity to renew them together. In Zambia, CETZAM and NICO Insurance had an interesting arrangement whereby the insurance coverage continued for two weeks after the loan term so that borrowers could retain insurance cover between loans, since there is often a short gap between the end of one loan and the beginning of another.
Where the insurance term is significantly longer than the loan term, however, organizations have a problem with lapses. For example, Tata-AIG initially sold its five and 15-year life insurance policies through microfinance institutions. However, of the nearly 10,000 policies sold in 2002–3, only 14 per cent were still active in 2005. The high lapse rate is largely attributed to clients who stop borrowing, and if they are not borrowing, the MFI does not have an administration system to continue collecting premiums.