BWRR2043 : CHAPTER 1INTRODUCTION TO THE INSURANCE

COMPANY OPERATIONS

A. Insurance Industry Environment

B. Monitoring of Insurance Industry

C. Legal Aspect

D. Taxation in Insurance

OBJECTIVES

Identify and describe the major players in the insurance market and define their role

Identify and explain the reasons for monitoring

Outline the regulations practiced within the industry

Explain the special nature of insurance business taxation and its effect.

WHAT IS INSURANCE?

An agreement/contract Between insurer & insured Transfer risk and pool losses Insd. = promise to pay premium Insr. = promise to indemnify and provide

benefits.

A. INSURANCE INDUSTRY ENVIRONMENT

1. Types of Insurers

2. Objectives of Insurers

3. Function of Insurers

4. The Insurance Marketplace

5. Competition Among Insurers

A1: Types of Insurers

Insurers may be classified according to– type of insurance written (products)– by licensing status– by legal form of ownership – by marketing system

Types of Company by Product and Licensing Status

1. Life insurers – write life, annuities, and health insurance

2. Property and Liability insurers– write property & casualty (including health)

Types of Insurers by Form of Ownership

1. Capital stock companies(proprietary insurer)

2. Mutual companies(cooperative insurer)

3. Lloyd's associations (proprietary insurer)

- Lloyd’s of London

- American Lloyds

Proprietary Insurer– Formed to earn profit for owners

• Capital stock insurer• Lloyd’s• Insurance exchange

Cooperative Insurer– Formed to provide insurance protection to

members at min. cost.• Mutual insurer• Reciprocal exchange• Fraternal organization

Capital Stock Insurers

Owned by stockholders.

Organized as profit-making ventures with stockholders who assume the risk that is transferred by insureds.

Premium charged by insurer is final--there is no form of contingent liability for policyholders.

Earnings are distributed to stockholders as dividends on their stock.

Mutual Insurers

Owned by policyholders

Profit is not the main objective

Issue assessment policy

Distinguishing characteristic is distribution of earnings. Money left after paying costs is returned to policyholders as a dividend.

Lloyd’s Associations

Named after London coffee house where modern marine insurance originated.

An insurance marketplace, similar to stock exchange Lloyds does not write insurance, but is like the NYSE,

where buyers and sellers transact business. Structure

– Brokers authorized to transact, and make contact on behalf of their clients

– ‘names’ organized into approximately 180 syndicates

– Underwriters represent syndicates

Broker’s Role– Prepare a ‘slip’, defining the risk– Presents it to an underwriter specializing in the

type of risk (lead underwriter)– Pieces of the risk are sold until it is 100%

insured– Broker receives commission of approximately

5% of the premium Handle excess and surplus lines

Types of Insurers by Marketing System

Life insurance distribution systems– General agent system– Branch office system

Property & Liability Ins marketing systems– Independent agent– Exclusive agency system– Direct writer– Direct response system

General Agent System

General agent – Is empowered by insurer to operate in a given

territory and to appoint subagents.– receives an overriding commission on business

produced by subagents, out of which it pays expenses.

– Most receive some additional financial support from the insurer.

Branch Office System

Branch office manager – is an employee of the insurance company.– may receive additional compensation based on

production of agents supervised.

Expenses of branch office are paid by insurer, since branch office is simply an extension of the home office.

Distinction Between Agent and Broker

Agent:

– an individual authorized by an insurer to create, modify, and terminate contracts of insurance.

Broker:

– a representative of the insured who solicits business from insurance buyers but who is compensated by the insurer.

The agent can “bind” an insurer to a risk. A broker does not have binding authority.

Consultants and Financial Planners

risk management consultants who offer services on a fee basis.

In the personal lines field, there has been rapid growth in the personal financial planning field.

CFP, CHFc

A2: Objectives of Insurers

To earn profits– Insurers must earn a profit in order to compensate

the people and institution that provide their capital– Policyholders are the major source of capital

To meet customer needs– Customers need insurance at an affordable price– Customers need ancillary services – loss

adjustment and control, risk mgmt advices

To comply with legal requirements– Insurers have to comply with all the obligations

imposed by the law– Failure to comply – fines, penalties, etc

To fulfill the humanitarian and societal duties– Try to avoid human suffering and promote the well-

being of society– Societal concerns – contributions to public, benefits

plans for employees, etc

A3 : Function of Insurers

Ratemaking Underwriting Production Claims Settlement Investment Reinsurance etc

A4: The Insurance Marketplace

Intermediaries

Agents/Brokers/etc

Buyers

(Insured)

Sellers

Insurers/Re

Buyers Intermediaries Sellers

-Commerce-Industry-The public

-Lloyd’s brokers-Brokers-Agents-Consultants-Home service representatives

-Insurance co-Industrial ins. Co-Mutual assoc.-Captives-Self insurance-The state-Reinsurance co.

A5. Competition in the Insurance Industry

Competition within insurance industry is intense. 2 major areas of competition:

– Price• Insurers attempt to offer a lower priced product• Can be done by reducing costs

– Quality• Offer broader forms of coverage and prompt claim

services

Costs Common to All Insurers

1. Losses and loss adjustment expense

2. Acquisition expense

3. Administrative expense (company overhead)

4. Taxes

5. Profit and contingencies

B. MONITORING OF INSURANCE INDUSTRY

Rationales for Monitoring

1. Vested-in-the-public-interest Rationale- Insurance is an industry vested in the public interest- It is pervasive in influence and failures can affect a

large group of people- Subject to monitoring due to its fiduciary nature- To protect public interest- To ensure competency of insurers

2. Destructive-competition Rationale

C: LEGAL ASPECTS(MALAYSIAN LAW)

Relevant Acts– Insurance Act 1996– Takaful Act 1984– Offshore Insurance Act

Supervisory role– Bank Negara Malaysia

Licensing Authority– Minister of Finance

LIAM PIAM Insurance Mediation Bureau

– To resolve dispute regarding life and health insurance claims

– Can award a sum up to RM100,000

Insurance Act 1996

Licensing– Insurers, insurance brokers, adjusters, reinsurers

Setting up subsidiary & offices Establishment of insurance fund Direction & control of defaulting insurers Examination & Investigation powers of

Central Bank

Takaful Act 1984

- Based on Insurance Act 1963 with modification to put emphasis on Syariah rules and regulations.

- As a guidelines to all takaful companies.

LIAM www.liam.org.my

Life Insurance Association of Malaysia– Trade Association registered under Societies

Act 1966– Established in 1977

Under Section 22(1) of Insurance Act 1966– All life insurance & life reinsurance companies

must be members of LIAM

Objectives– To promote public understanding and

appreciation for life insurance– To improve the image of the life insurance

industry through self regulation– To give support to the regulatory authorities in

developing a strong and healthy industry– To enhance the professionalism of staff and

agents through continuous training and education

– To liaise & work with local and foreign life insurance organizations towards achieving common objectives and benefits

PIAMwww.piam.org.my

Persatuan Insurans Am Malaysia (1979) S.22 Insurance Act 1996

– “all general insurers must be registered under PIAM “

Objectives– To promote the establishment of sound insurance

structure in Malaysia in co-operation and consultation with Bank Negara Malaysia.

– To render to members where possible such advice or assistance as may be deemed necessary and expedient.

– To work as far as possible in co-operation with other similar associations elsewhere in the world.

– To circulate information likely to be of interest to members and to collect, collate and publish statistics and any other relevant information relating to general insurance.

D. TAXATION IN INSURANCE

Insurance companies are subject to federal, state and local tax

Life insurers : corporate taxed on their life ins. company taxable income(LICTI)

LICTI = Life ins gross income – Deductions– Gross income = premiums + decreases in reserves +

investment income + etc.– Deductions = expenses + death benefits + increases

in reserves + etc

Life Insurers Company Taxable Income (LICTI)

Incomes: Premiums

Decreases in reserve

Investment income

Total Gross Income

Deductions : Expenses

Death benefits

Increases in reserves

Total Deductions

LICTI = (Total G. Income – Total Deductions)

Property & Liability insurers : Pay corporate tax on net underwriting profit and investment income.

Taxable profits of an insurers are derived from three sources – underwriting, capital profits on investment and investment income