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17 January 2018

A basic fix for unsustainable life insurance

Over the past 20 years life insurance has become increasingly complex, and it’s a problem, writes Stephen Craft.

While the basic principle of life insurance is simple, modern insurance policies can sometimes be complex. And while some complexity is inevitable and even desirable for clients who need comprehensive insurance, it has its negatives.

So how did we get here? Why are life insurance products designed the way they are? And is it time for change?

How competition drove complexity in insurance products

OnePath head of life insurance Gerard Kerr, an industry veteran with 25 years’ experience in insurance product design across developed markets, says the past few decades have seen product complexity gradually increase, as insurers compete to attract customers with new features.

“The modern era in life insurance really started about 20 years ago, with the transition from whole-of-life or endowment products, which combined insurance with an investment component,” he says.

“They were replaced by pure insurance products that were very cost competitive and very attractive to clients. But as competition increased, insurers continually added additional features and benefits, until we eventually ended up where we are today.”

This evolution was fastest in markets where competition was most intense — including Australia.

“The smaller your market, the more competitive it tends to be,” says Kerr. “So we saw trauma insurance starting in South Africa, then going global. Even though there are 56 million-odd South Africans, the market for comprehensive insurance is really only about 5 million people, so it’s very competitive and therefore very innovative.”

“The same thing applies in Australia. We’ve absolutely been the global leaders in income protection, with some uniquely generous policy definitions you just don’t see anywhere else,” he says.

Broader definitions bring bigger payouts

Kerr says the evolution of life insurance over the past 20 years has resulted in broadening product definitions, making benefits more easily available to more people.

“Take income protection for example. About 20 years ago, ‘disability’ was defined as being unable to perform all of the duties of a person’s occupation. Then, to be more competitive, it was gradually changed so people just had to be unable to do one of their important duties – which lowered the bar considerably,” he says.

The next step was to add an “hours measure”, allowing claimants to qualify for a benefit even if they could work, provided they only did so for a limited number of hours. Originally intended to help self-employed people keep their businesses running while they recovered from an injury or illness, Kerr says the change may have seen insurers making unexpectedly large payments for extended periods.

Trauma insurance has followed a similar pattern. Originally invented by Marius Barnard, a South African heart surgeon who witnessed first-hand the financial hardship cardiac patients suffered, trauma cover has gradually evolved to make payouts more easily available. Recently they have included the introduction of severity trauma policies, another South African innovation.

“Instead of paying you all or nothing, severity trauma uses a tiered model, where you get a payout based on the severity of your illness,” explains Kerr. “So it’s another way to be that little bit more competitive by giving more people a benefit.” Yet because severity trauma payouts are tiered and not limited to a single, one-off payment, they are unlikely to cause a rapid escalation in costs that overly-generous income-protection disability definitions have inadvertently caused in income protection.

In other insurance news, some US and British insurers are beginning to explore new kinds of life-insurance policies specifically aimed at “impaired lives” – the industry term for people who are less fit or who suffer from pre-existing conditions. Often neglected by insurers in the past, these clients can increasingly access specially designed covers, carefully priced for both sustainability and affordability.

The future of insurance

Kerr says there will always be a need for products that advisers can tailor for the needs of individual clients, making them more complex.

“These products are like a shelf full of options advisers can choose from to put together an individual package,” he says. “With these products the complexity’s taken away, because the client has an adviser by their side at every stage, from choosing the product, to renewing it, to making a claim.”

Nonetheless, he also believes it’s time for insurers to get back to basics – especially given the need to design products that will be sustainable for decades into the future.

“Fundamentally, you can still provide choice and flexibility while removing some of that unnecessary complexity we have now,” he says.

“Remember, if you’re creating a product today, you have to figure out what the world is going to look like in the year 2030 and beyond. That’s a large degree of unpredictability, so the simpler and more robust your product design, the better.”


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