When you knock on the door of an insurer for a Life Insurance quote they know absolutely nothing about you, yet to do business, they need to make a substantial financial and legally binding commitment to you.
The immediate challenge is that the insurer needs to make this commitment based on assumptions around the total risk of its pool of clients, and how adding you will affect the total risk of this pool and its ability to pay out future claims.
The insurer has no idea if an applicant uses a seatbelt while driving or if they regularly get drunk and if they always practice safe sex. Do they value their health or is junk food their staple diet? Does the applicant really just want peace of mind or are they contemplating committing insurance fraud to get out of a financial predicament?
Keep in mind that the premiums you pay will never cover the cost of your own claim should something happen to you. The mechanics of insurance relies on the fact that many will pay premiums but only some will claim, this is how the peace of mind through having insurance becomes affordable to everyone.
The insurer cannot afford to be overly cautious as its quote will then not be competitive, it can also not be too optimistic as future claims can then put it out of business in a heartbeat!
How do they do this?
The answer is both surprisingly simple but also extremely complex when you look at the detail.
Consider this for a moment; in the few minutes an insurer has to get to know you before it must make a life insurance commitment to you, it needs to make assumptions about your intentions and how you will affect the security of, and all the commitments it made to, the rest of its clients. To do this accurately it needs to know every bit of minute detail about your health, your psychological well-being, your home and work circumstances, your personality, relationships, your finances etc etc. This is an impossibility in the little time available and insurers therefore need a different approach.
The answer? Statistics
What insurance actuaries have learned by studying millions of lines of claims data is that trends can be identified and that statistically they can predict the probability of risk when they look at everyday seemingly unrelated things like how long you have been in a committed relationship.
An obvious example is smoking. Statistically a smoker is a much higher insurance risk compared to a non-smoker even though some live over a hundred years! The stats don’t lie though and the fact remains that the probability that a claim may happen increases significantly for smokers. This and other similar stats is all an insurer has to go on when doing a quote.
What else can affect you quote?
Age is another obvious one so the younger you are when taking out Life Insurance the cheaper your premium will be. Your level of education is statistically a powerful predictor of risk, so is your income and whether you are in a committed relationship or not. Your occupation also plays a role.
Most insurers will take a calculated chance and give you a quick quote based just on this information, then, if you are still interested and want to go ahead, they will ask you more in-depth questions about your life and health and ask you to go for certain medical tests. This process is typically referred to as "underwriting".
The outcome of the underwriting exercise may very well be that the quick quote premium remains as is, or the insurer may increase or load your premium based on the assumed increase in risk factors that may have been picked up.
The bottom line; be responsible, look after your health and wellbeing, and demonstrate this to an insurer to get the best possible quote.
Do you think this is an approach that is fair to everyone? Have you had recent experiences of getting Life Insurance quotes? Tell us about it.