Health Insurance Principles, Products and Policy Provisions
Life Insurance Principles: Risk, Insurable Interest, Underwriting, and Premiums
Risk fundamentals
Insurance handles pure risk (loss or no loss) - never speculative risk (gain or loss, such as gambling). Insurers pool exposures so that the law of large numbers makes losses predictable, and they guard against adverse selection (the sick buying coverage) through underwriting.
Insurable interest and consent
A life policy requires insurable interest at the time of application - a financial or close-family relationship such that the buyer would suffer a loss from the insured's death. It need not exist at the time of death. A policy taken out by a third party generally requires the insured's written consent. Arrangements with no insurable interest, such as stranger-originated life insurance (STOLI), are unlawful.
Underwriting tools
The agent is the field underwriter. The application has Part I (general information), Part II (medical history), and the agent's report. Additional tools include the attending physician's statement (APS), the medical information bureau (MIB), paramedical or medical exams, and inspection reports. Applicants are classified as preferred, standard, substandard (rated), or declined.
Application and receipt
Answers are representations (believed true), not warranties (guaranteed true). A material misrepresentation lets the insurer rescind - but only during the contestability period (typically two years). With a conditional receipt, coverage begins on the date of the application or the medical exam, whichever is later, only if the applicant proves insurable under the insurer's underwriting rules. A binding receipt provides temporary coverage regardless of insurability for a limited time.
What drives premium
Three factors: mortality, interest (assumed earnings), and expense (loading). Premium mode matters - annual is cheapest; monthly is most expensive because of lost interest and added billing expense.
Worked example: An applicant pays the first premium, receives a conditional receipt, and dies before delivery. If he was not insurable as a standard risk on the receipt date, the claim is denied and the premium refunded. Had he been insurable, the full face amount is paid.
Health Insurance Principles: Morbidity, Managed Care, Cost Sharing and Coordination
The underlying principles
Health underwriting measures morbidity (expected sickness and injury), the counterpart of life insurance's mortality. Because people who expect to use care buy the richest coverage, insurers fight adverse selection with underwriting, waiting periods, and participation rules in group plans.
Delivery systems
- Indemnity (fee-for-service): insured sees any provider; insurer reimburses a portion.
- HMO: closed panel, gatekeeper primary care physician, emphasis on prevention; providers may be paid by capitation (fixed per-member fee).
- PPO: network of contracted providers with discounted fees; out-of-network care allowed at higher cost.
- POS: HMO/PPO hybrid - gatekeeper inside, option outside.
- EPO: network only, no out-of-network benefits.
Managed care also uses utilization review and preauthorization for expensive or elective services.
Sharing the cost
A deductible is the amount the insured pays before benefits begin. Coinsurance is a percentage of covered charges after the deductible. A copay is a flat dollar amount per service. The out-of-pocket maximum caps the insured's exposure. Inside limits cap specific services (e.g., a daily hospital benefit) and are separate from the overall maximum.
Coordination of benefits
When two plans cover the same person, one is primary and pays first; the other is secondary and pays the remainder. For dependent children of two insured parents, the birthday rule applies - the parent whose birthday falls earlier in the year is primary. Total reimbursement never exceeds 100% of covered expense.
Rule of thumb: Deductible first, then coinsurance, then stop-loss; the copay is a flat fee that usually bypasses the deductible.
Worked example: $10,000 claim, $1,000 deductible, 80/20 coinsurance. The insured pays $1,000 + 20% of $9,000 = $2,800; the insurer pays $7,200.
Health Products and Policy Provisions: Uniform Provisions, Disability, LTC and Medicare
Uniform individual policy provisions
These standard clauses appear in every individual health policy. Learn them by number:
- Entire contract, with copies of the application attached.
- Time limit on certain defenses: typically two years, after which misstatements cannot void the policy.
- Grace period: 7 days for weekly premiums, 10 days for monthly, 31 days for other modes (group plans generally 31 days).
- Reinstatement: automatic if the insurer does not decline within 45 days of the application for reinstatement.
- Notice of claim: within 20 days. Claim forms: furnished within 15 days. Proof of loss: within 90 days.
- Legal actions: no suit sooner than 60 days after proof of loss, generally no later than 3 years.
Renewability - a favorite trap
Noncancelable means the insurer can neither cancel nor raise the premium. Guaranteed renewable means no cancellation but premiums may be increased by class. Conditionally renewable permits the insurer to decline renewal only for stated reasons.
Specialty products
- Disability income: own occupation is the most favorable definition, often limited to the first two years before switching to any occupation. The elimination period is the waiting time before benefits start; the benefit period is how long they last. Residual benefits pay for partial income loss.
- Accidental death and dismemberment: the principal sum is paid for accidental death; the capital sum is a percentage for a specified loss such as a limb.
- Long-term care: triggers on inability to perform 2 of 6 activities of daily living or cognitive impairment. NC requires a 30-day free look.
- Medicare supplement: standardized plans, a 6-month open enrollment at age 65, and a 30-day free look in NC.
Rule of thumb: For disability, the shorter the elimination period and the longer the benefit period, the higher the premium.
Worked example: A policy with a 90-day elimination period and 24 months of own-occupation coverage pays nothing for the first 90 days of disability, then pays full benefits for up to 24 months under the own-occupation definition.