Ammom-financial Underwriting Oric

8/3/2019 Ammom-financial Underwriting Oric

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A Fistful of Dollars: FinancialUnderwriting in the Real World

Anastasia Ammon, FLMI, ACS, AALUVP Underwriting & Chief CI Underwriter US & Canada

Optimum Re Insurance CompanySeptember 10th, 2007


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As an UnderwriterWhen the Premium is Largeand it is a high-profile casedo you feel like you are under the gun?
http://images.google.com/imgres?imgurl=http://www.legendsofamerica.com/photos-oldwest/Gunfighter.jpg&imgrefurl=http://www.legendsofamerica.com/WE-HenryNewtonBrown.html&h=258&w=280&sz=25&hl=en&start=3&tbnid=8dDFKyqYe6dmxM:&tbnh=105&tbnw=114&prev=/images%3Fq%3Dgunfighter%26gbv%3D2%26svnum%3D10%26hl%3Den%26sa%3DG


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Financial Underwriting

The purpose of Life Insurance is to protectagainst economic loss resulting from the deathof the insured

If the amount applied for is in excess of theamount of the potential economic loss, then poorpersistency or adverse selection may occur

The role of the Underwriter is to insure that the

amount applied for is justified based on thepotential economic loss

This process is called Financial Underwriting


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Dont let the perfume of the premiumoverpower the smell of the risk.

--Slogan in Underwriters Office


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Insurable Interest

There must be insurable interest at theinception of the contract; in the absence ofinsurable interest it becomes mere

speculation and is prohibited by law

The continued life of the insured musthave greater value than that provided by

the death benefit resulting from thepremature death of the insured


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Sometimes the dead can be more useful than the living.(Clint Eastwood in A Fistful of Dollars)

http://en.wikiquote.org/wiki/A_Fistful_of_Dollars


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Personal Insurance

Personal Insurance replaces lost earningscaused by premature death

This includes special needs such as mortgage

life insurance and college funds Young professionals such as doctors or lawyers

are usually allowed higher amounts than theircurrent income would allow since their futureincome is very likely to increase significantly


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Personal Insurance( Cont.)

Multiples of income are usually used to justifypersonal insurance amounts; most individuals

do not have as much insurance as they couldqualify for so amounts in excess of the tablesshould be analyzed carefully to be sure they are

justified

Inspection reports, copies of tax returns, incomestatements by CPAs, copies of employmentcontracts etc can be used to verify earnings ifthe amount applied for appears unusually large


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A man's life in these parts often depends on a mere scrap of information.

(Clint Eastwood in A Fistful of Dollars)http://en.wikiquote.org/wiki/A_Fistful_of_Dollars


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Typical Personal Income Tables

Age 18-40

Age 41 - 50

Age 51 - 69

Over 69

20 x Income

15 x income

10 x Income

5 x Income

But what if the amount applied for

exceeds these multiples?


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Guidelines are intended to guide our decisions butAre not the same as rules which must be obeyed

Thats why our Financial Guidelines are not carvedOn Stone Tablets--


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Underwriting Judgment is needed to make reasonable exceptionsTo the guidelines when it is appropriate to do so.


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Questions to ask:1. Does it make sense? (Thank You, Charlie Will!)2. How good are the sources of your information?3. Will the person be worth more dead than alive to family or business

--Ross Morton (RossMartin.com)


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Estate Conservation

Life Insurance can be used to preventforced sale of Estate assets for estatetaxes

Life Insurance can also serve to conservethe estate for heirs

Creation of an estate, however, byinsurance in excess of estate conservationneeds is speculative and uninsurable


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An example of Estate TaxTables

2004

2005

2006

2007

2008

2009

$850,000 exempt

$950,000 exempt

$2,000,000 exempt

$2,000,000 exempt

$2,000,000 exempt

$3,500,000 exempt

http://www.irs.gov/formspubs/article/0,,id=112782,00.html#estate_exclu_2003


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Older Age Risks


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Mature Market

Longer life expectancies and wealthier seniorcitizens have created a significant market for LifeInsurance in the Mature Market

Mortality is volatile as older individuals are morevulnerable to impairments than youngerindividuals

Adverse selection is potentially greater aschildren who are aware of problems seekinsurance for their parents


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Juveniles


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Juveniles

Juvenile policies are often purchased forsavings, as gifts and to guarantee futureinsurability

Beneficiary should be parents; Grandparentsmay be owner and/or premium payor

All siblings should be similarly insured

Parents should have a significant amount of

coverage as well; usually twice the insurance onthe juvenile

Parent or guardian must sign app to showagreement for the insurance and to attest to

correctness of application questions


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Underwriting for Persistency


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Persistency

Early lapses affect the profitability of thelife insurance policy

Many companies underwrite for

persistency as well as mortality aspects ofthe risk

Look carefully if short term need,

unemployed, unstable finances, history ofmultiple replacements or lapses,premiums in excess of 25% of annualincome


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Charitable Giving with Insurance


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Charitable Giving

Charitable Giving uses life insurance to insureagainst loss of contributions (cash or time orother services) due to the premature death ofthe contributor

Insurable interest is established by showing aregular pattern of support to the charity: financialcontributions, other support or fund raisingactivities

The amount of Life Insurance should be limitedto the present value of future contributionsunless extraordinary circumstances can bedocumented


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Trusts


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Trusts

Trusts can protect assets from adversetaxation that would otherwise diminish thevalue of the assets

A Trust can be revocable (provisions canbe altered or the Trust can be cancelled)or irrevocable (the agreement cannot be

changed or cancelled without theagreement of the beneficiary)


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Trusts(Cont.)

A Life Insurance Trust gives the trustee the rightto own and hold life insurance policies in orderto exclude the insurance proceeds to be exemptfrom taxation

Trusts of this nature shield income from currenttaxation, protects wealth from diminished valueat probate and estate settlement and enablesthe conservation of wealth

Death benefits should not exceed the potentialtax liability and asset loss for the beneficiary


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Bankruptcy


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Bankruptcy

The Bankruptcy Code allows Chapter 13 orChapter 7 for individuals and Chapter 11 or 7 forBusinesses

Chapter 7 releases individuals from almost alldebt after non-exempt assets have beenliquidated and paid to creditors

Chapter 11 allows businesses to reorganize and

restructure debt subject to court approval Chapter 13 allows individuals to set up arepayment plan subject to court approval; oftenfor less than the original debt


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Bankruptcy(Cont.)

Life Insurance for individuals still in thebankruptcy process involves persistency risk

Adverse selection may be present if there is

significant personal stress suffered by theindividuals or business owners

Medical history of alcohol or drug abuse,employment instability, adverse driving record,

hazardous avocations are all indications ofpotential adverse selection

Recovery from the bankruptcy should bedocumented and stable income established in

an amount to justify the amount applied for


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Business Insurance Evaluation


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Evaluating Business Insurance

As with personal insurance there must be agreater value from the continued life of theinsured than that provided by the death benefitresulting from the premature death of the

insured Over-insurance is speculation and can lead to

suicide or homicide if the policy on the insuredhas greater value than the economic advantageprovided by the continued life of the insured

The business must be in good financial health inorder to justify any type of business insurance


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Venture Capital and Startups


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Venture Capital and Startups

More than half of all new businesses will failwithin 5 years due to insufficient funding orplanning

Look carefully at experience of managementteam, product or services to be offered andanticipated profitability projections

Look at source of funds to be sure from a

reputable source and amount of funding to besue the business can survive the initial years oflosses to become profitable


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Key Person Insurance


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Key Person

The value of a key person to a business must bedemonstrated based on skills, contacts orknowledge

Usually evaluated based on multiples ofcompensation for the number of years needed toreplace the person and recover the losses (5-10x)

Compensation includes gross salary, regularbonuses, benefits, significant perks, stockoption values and profit-sharing arrangements


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Key Person(Cont.)

Look for other key persons in the firm to besimilarly insured

Avoid accepting risks where key person is

significantly impaired as this usually representsadverse selection

Key Person insurance on individuals nearingretirement is not acceptable except for minimalamounts unless satisfactory justification isprovided


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Buy and Sell


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Buy and Sell

A Buy and Sell Agreement prevents forced saleof business assets by heirs of the deceased atreduced values

The insurable value for Life Insurance is equal totheir ownership percentage of the net worth ofthe business plus a modest growth factor

The business should be stable and viable anddemonstrate no financial problems


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Insurance to cover a loan

C di


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Creditor

There should be collateral for the loan so morethan 75% of the amount of the loan should notbe required

Loan terms should not be for less than 5 years Loans should not be extensions of existing loans

or refinancing

Loans should involve stable and viable businessconcerns only


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Financial Statements

Wh T L k F I Fi i l


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What To Look For In FinancialStatements

Assets are anything owned by theindividual or the business that has value

Liabilities are anything the individual or thebusiness owes to others

Equity is the net worth of the business andis Assets less Liabilities


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Financial Statement Analysis

Three types of CPA Reports: Compiled, Reviewsand Audited

Compiled reports are not investigated by theCPA but rely on numbers provided by thebusiness or individual

Reviews are somewhat more in depth but theCPA does not investigate all source documents

Audited reports should reflect a thoroughinvestigation of all source documents and an in-depth analysis of the financial records

Fi i l A l i


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Financial Analysis(Cont.)

Compiled reports are more commonly seen andare the least reliable

Reviews and Audited Reports are more costly

and are usually seen on larger businesses Look carefully at the CPAs notes for any

variations from generally accepted accountingprinciples that may affect the viability of the

business


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Income Statements

Income statements summarize the resultsfor a specific period of time; also calledprofit and loss statements

Sales minus Cost of Sales equals GrossProfits

Gross Profits minus operating expenses

equals net profit after taxes Net profit after taxes is the profit (or loss)


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Balance Sheet

Snapshot of the companys financial position ata single point in time (such as close of businessat the end of the year)

Assets are listed on the left; liabilities and capitalon the right; both sides should be equal or inbalance

If current assets are less than current liabilities itmay indicate a business that is in trouble asother assets may be difficult to liquidate quicklyenough to satisfy the demand to pay currentliabilities


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Ratio Analysis

Certain ratios give a quick picture of the viabilityof the business

Current Ratio is Total Current Assets divided by

Total Current Liabilities; should be at least 2:1. Debt/Worth Ration is Total Liabilities divided by

the Tangible Net Worth; usually less than 1.0ifdebt load too great the company may have

trouble acquiring additional funds if needed


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Does It Make Sense?

Charles A. Wills 1973 text Does It MakeSense? can be summarized by the title

With all the guidelines, FinancialUnderwriting can be summarized by justthese few words applied to the case athand:

Does It Make Sense?


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Stranger Owned Life Insurance (SOLI)

Premium Financed Life Insurance, the greatdebate!!

Will be addressed in greater details at ournext seminar


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Before the Case Studies:

Are There Any

Questions Now?


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Case Study # 1Located in your packet


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Case Study # 1

Financial Case Study # 1: Male 35 6.2.180 Occupation CPA $1 million applied for March 2007 No Insurance in force Medically Preferred Inspection Report: Earned Income $425,000

Assets: Business Net Worth $500,000 Home Market Value $1,200,000 Personal Property $1,000,000 Savings/Checking $75,000 Total Assets $2,775,000 Liabilities: Home Mortgage $590,000 Other Loans $35,000 Total Liabilities $625,000 Net Worth $2,150,000 Credit Information: 38 lines of credit 27 paid as agreed 11 show delinquent High credit amount $285,000 Amount owed all accounts $147,655

Case Study # 1


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Case Study # 1Type of Account: Date Reported: Credit Rating: Balance Owed: Past Due Amount:

1 BankLine of Credit 3/07 R5 (120 days late) $5745 $534

2 Bank Card-Charged off 3/07 R9 (Charge off) $3097 $562

3 Bank Card-Charged off 3/07 R9 (Charge off) $38,100 $38,100

4 Retail Account-Transferred toRecovery

3/07 R9 (Charge off) $728 $728

5 Computer Seller 3/07 R5 (120 days late) $1502 $194

6 Bank Card-Account closed byCredit Grantor

2/07 R5 (120 days late) $22,822 $2156

7 Gas Card 2/07 R5 (120 days late) $443 $79

8 Bank Card-Account closed byCredit Grantor

12/06 R5 (120 days late) $17,560 $2602

9 Bank Card-Account transferred orsold

11/06 R9 (Charge off) $? $0

10 Bank Card-Account transferred orsold

9/06 R9 (Charge off) $14,487 $0

11 Retail 4/03 R9 (Charge off) $55 $55

12 Misc servicesCollection Account 3/07 Unpaid $18,201 $18,201

13 MedicalCollection Account 2/07 Unpaid $411 $411

14 Tax Lien Filed 6/06 Released 8/05 $2262 $0

15 Tax Lien Filed 6/06 Released $420 $0

16 Lien Filed 8/06 Open $79 $79

For Case # 1: What is your underwriting decision and why?


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Case Study # 2Located in your

packet

Case Study #2


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Case Study #2Male 355.3.175Occupation Real Estate Developer in Las Vegas, Nevada

$3 million applied for March 2007Beneficiary Business Partner ;Purchasing commercial propertyNo Insurance in forceMedically StandardInspection Report:Earned Income $112,000 per yearNet Worth $83,000($80,000 cash and investmentsplus vehicle worth $19,000 less$16,000 owed)No home mortgage as he rents;No credit card balances owedNumerous collections listed as wellas two trades currently in poor standing

two placed for collection 2006;nine placed for collection in 2004Civil judgment dated April 2005 for $988 and

A Release of Tax lien from April 1999 for $713Misdemeanor 4 years ago for insufficient funds to coverChecks written. Paid fine and 3 years probation; offProbation now.Unable to verify income through accountant.For Case # 2: What is your underwriting decision and why?


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Case Study # 3Located in your packet

Case Study # 3


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Case Study # 3

Joint Last Survivor Life for $50,000,000Male 35Female 27His in force $55,000,000

Her in force $2,000,000No replacement for eitherJoint net worth $25 millionHe owns commercial real estate firm with $200,000 annual incomeShe is not employed.Beneficiary is an Irrevocable Trust for their descendents.

He is one of two primary heirs to his parents estate, which iscurrently valued in excess of $200 million and estimated by the agentto grow at 8% to exceed $600 million in 15 years.Therefore the agent feels thetotal line is justified due to his long term need to defray potential estate tax liabilitiesof his existing and future children.

For Case # 3: What is your underwriting decision and why?


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The End

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Ammom-financial Underwriting Oric