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FINANCIAL UNDERWRITING

THE PHILIPPINES SOCIETY OF INSURANCE MEDICINE

SEPTEMBER 2002

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Most underwriters, brokers and agents generally appreciate the need for medical underwriting.

Few realise need for financial underwriting.

Many argue that as long as the prospect can pay, why ask so many questions.

Many agents, too, develop this attitude. They would state in the application form (proposal form) that they have seen his big cars, his big houses and his big garden with a pond of koi fish. But no, they are not prepared to give more information.

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The world has changed. Since the first appearance of the word “money laundering” in the 1920s in America, the last 70 years had seen more movements of capital internationally. The flow of “dirty” money across national borders, depending on legal systems, has been a major concern of most governments.

Banks, life insurance companies, stockbrokers, money exchange office, casinos, real estate, corporate lawyers, dealers in works of art as well as dealers in fine stones, can be vehicles of money laundering.

But this issue of money laundering should not deter us from doing our jobs as underwriters.

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KEY POINTS TO NOTE IN LIFE UNDERWRITING

There is an insurable interest.

There is a valid reason for the insurance.

The type of life insurance coverage bought. (Savings products, single premium and those with bearer securities).

The contract amount requested is reasonable in relation to the needs that have been established.

There are sufficient resources available for the payment of premium in later years.

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INSURABLE INTEREST (VALID ONES)

A person on their own life or that of their spouse.

A company on the life of a key person or a few key persons.

Partners & Co-Directors. (In respect of any contractual liability to purchase the share of the business of a deceased partner or director).

Trustees Of A Settlement. (In respect of the inheritance tax liability occurring on the death of a beneficiary who has interest in the property/asset).

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FRAUD

Fraud

This falls into the following categories:

Is there such a person in existence? In some markets, passport can be obtained on assumed name basis.

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A. Suicide

Because of financial problems, suicide was felt to be the way out.

B. Murder & Disappearance

You probably must have heard that in Asia, some illegal money-lenders are asking borrowers to buy life insurance with the money – lenders named as beneficiaries.

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In 1987, an insurance broker in UK was shot dead in his office, clearly the victim of an armed robbery. Upon investigation, it was discovered that a few months prior to his death, he and his partner had effected a series of joint-life mortgage policies with several companies each for the equivalent of Peso 4,000,000. None of the insurers were aware.

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FAMILY PROTECTION

Generally, the rule of the thumb is:

AGE MULTIPLIES OF ANNUAL INCOME

Under 30 15

30 - 39 12

40 - 45 10

46 - 50 9

51 - 60 7

61 - 65 5

Over 65 Strictly for memorial, unless reasons are for wealth protection

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In Philippines, most policies are bought for:

a. Family protection

b. Estate protection.

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Principle adopted:

Dependants who may be left behind should not be better off after the death of the applicant than they are when he was alive.

Life cover acts as income replacement for spouse and children.

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Implications in Philippines:

Income disparity too wide between and among regions.

Those with higher income levels are in Manila and Cebu City.

Much depends on where the applicant is located.

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For Example:

We apply different financial underwriting standards to different people.

Makati/Forbes Park - Higher Figure. (We even feel that the land value of Corinthian Gardens too high when applicants are asked to put a value to their land).

Kalinga-Apayao - At P2m, we start to ask more questions.

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Laoarg - Northern tip of Luzon. Near to Taiwan (20 minutes flight from Pingtung).

We are careful. Drug problem.

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Cover derived on “need basis”.

We have to look at various other points like ages of husband, and wife as well as children.

Example (A real case):

Husband : Age 59

Wife : Age 24, not working full-time.

Children : 1st Born - 6 years old.2nd Born - 2 years old.

3rd Born - 6 months old.

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Assuming strictly based on income:

6 times P2,000,000 annual income = P12 million.

Questions to ask:

Does this make sense?

Should the unforeseen happen, is P12 million enough?

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Simple calculation to age 20 years (graduation from College).

Expenses to take note:

Education (nursery, pre-school, elementary school and college). In Philippines, state financed colleges and private colleges have very different tuition fee structure.

Clothing, shelter and food.

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INHERITANCE TAX

Clearly the purchase of life insurance is for wealth protection.

We do some estimate on the likely tax based on current tax regime and work on the sum assured. The Philippines tax laws relating to estate (inheritance) tax apparently do not distinguish cash asset and physical assets.

Riders not acceptable.

Often we are given the audited reports. Here we are not so interested in the profit or loss; but rather the net value of his investment to calculate the tax liability.

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In matured/developed markets, we tend to look at the net capital assets rather than income and outgoings i.e. net value of property and potential amount of inheritance tax.

In some markets, there could be joint policies, written on last survivor basis, and the sum assured can be very high.

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WHAT ABOUT SELF-EMPLOYED PEOPLE?

Often many high sum assured applicants declare themselves as “businessmen”. This is a very vague term.

Quite difficult, but we still need to establish:

Is the business conducted from home?

Nature of business, service or product?

How many employees? Management structure.

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How long has the business been established and trading results over the last 3 to 5 years?

Is the income of the person consistent with the trading results over the last 3 to 5 years?

Private investigators be used.

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Years ago, I was given a case for P850,000,000 life sum assured.

Documents enclosed:

Pictures of a jungle showing a factory to be built to produce dried “lechon” using state of the art technology. (A favourite Filipino food?).

Purported Bank’s approval letter (foreign bank).

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Letter from applicant explaining inheritance from father to mother and then to him.

List of retailers of his brand of “lechon” was provided. (Investigation with retailers revealed that none of them know about that particular brand).

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ALERT CRITERIA

Foreign bank, with no office in Manila lending in Philippine Peso.

Retailers claim they do not know the brand of “dried lechon”.

Comment of Court Clerk.

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Another Example

Citizen from Latin America:

- Life Policy from Switzerland (US$10m).

Premium payment via Swiss Bank upon money transfer from German bank.

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Alert Criteria

Capital movements between 3 countries.

Nationality and customer’s residence.

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IN SUMMARY

HOW MUCH IS ENOUGH?

This can only be established:

Cash Needs

Immediate money need.

Debt liquidation (but most Filipinos have MRI. This is no issue here).

Emergency Fund e.g. Repairs of house.

Child/Home Care Fund.

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Education/Vocational Fund.

Immediate Money Need

Medical/Hospitalisation Expenses.

Burial/Funeral Expenses.

Attorney/Executor’s Fees.

Probate Court Fees.

Estate Taxes.

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UNIQUE FILIPINO SITUATION

Unlike developed countries, developing countries including Philippines, do not have even infrastructure development.

Income disparity.

Unreliability of the income tax returns. Look at the following:

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Tax Revenue

Philippines : 13% of GDP

Malaysia : 25% of GDP

W. European Countries : +50% of GDP

Existence of many businessmen, many self-employed. Some carry the big family names of the roughly 200 families controlling the Filipino economy.

EGO Syndrome.

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SOME QUESTIONS

1. The objectives of financial underwriting are:

A. Ensure insurable interest exists, valid reason for cover.

B. Contract benefits reasonable in relations to need.

C. Sufficient resources to pay premium.

D. All the above.

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2. A 30-year old male employee with income of P1m a year, wants to buy a P15m policy for family protection. Do you:

A. Reduce the sum?

B. Agree, on condition of income proof and medical?

C. Decline outright?

D. Call a PI Report on him?

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3. Why do life insurance companies investigate a claim?

A. Claim after short duration of policy.

B. Claim in remote areas of world, and not consistent with

medical information at outset.

C. Claim not covered under the contract.

D. All the above.

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4. A businessman, age 49, invested in a company with subscribed capital at P15m, which was reduced to P5.6m after 5 years. He has personally P3m in bank, 1 volvo and 2 cherokee, and a house in Corinthian Gardens. He signs up a life insurance proposal for P40m for estate protection.

What is your estimate of the worth of his investment in the company?

A. P12.9m

B. P3.75m

C. P1.40m

D. None of the above.