Glossary of insurance terms I. Insurance Products Annuity is a life insurance policy where an insurance company pays an income stream to an individual, usually until death, in exchange for the payment of a lump sum. Commonly used at retirement when lifetime savings are converted into an income stream. At death, there is usually no payment to the estate, although many annuities include a provision to pay an income to the spouse. Immediate annuities provide an income from the date the policy is accepted and deferred annuities at a future date. Unless part of the investment risk is transferred to the annuitant, annuity business is non-profit business and is usually matched with fixed income investments. Longevity risk is an important consideration for insurance companies, and a possible source of losses if annuitants live longer than initially expected. Endowment policy: An Insurance contract with a savings component involving asset accumulation and a life insurance protection component. If death occurs before maturity, the sum assured is paid out. At maturity, the amount built-up is payable. Endowment policies can be written in a number of different forms (participating or non-participating) and are long-term contracts. Non-participating or without profit policy is a policy where the policyholder is not entitled to a share of the company s profits and surplus. No bonus is paid to the policyholders. Examples include pure risk policies like term insurance or health insurance and unit-linked insurance contracts. Term insurance is a category of non participating life insurance protection policy with no build-up of a cash value. The insurer only pays out in case of death within a specific period of time. Participating or with profit policy is a life insurance policy where the policyholder participates in the profits of the company which is paid out as bonus to the policyholder. These policies hence have a higher premium compared to non participating policies. In a particular period if the company does not do well, the vested bonuses to the policyholders get directly affected.
Pension products: A pension policy is the one which provides for retirement benefits i.e. pensions or annuities. Pension products could be unit linked or non-linked. Riders are additional or supplementary benefits that are bought together with a main life policy on the same life and are combined for the purposes of collecting one premium. They ride on and are considered as part of the main policy. They could be added, amended or deleted from the main policy, any time, subject to risk assessment. Details and the terms and conditions of the benefits are clearly indicated in the main policy document. Typical riders available on a policy are 1) Accident & disability benefit rider provides for a pre-defined benefit in case of death or disability due to accident. 2) Critical illness rider provides for a pre-defined benefit in case of of specified critical illnesses. 3) Income benefit rider helps compensate the dependants for loss of livelihood, through a regular payout till maturity, on death of the policyholder. 4) Waiver of premium rider provides that on total and permanent disability due to an accident, all future premiums for both the base policy and rider(s) will be waived till the end of the term of the rider or death of the life assured, if earlier. Unit Linked: As the name suggests, the premium received on these products post deduction of charges levied by the company towards mortality, policy administration, fund management, etc is invested in an underlying investment vehicle (i.e. an investment fund). As a result, the policyholder benefit fluctuates with the value of the units and investment risk is transferred to the policyholder. Unit linked products could be with or without a mortality cover. In case with mortality cover, the unit holder on death is normally paid the higher of the mortality cover of the fund value. Whole life policy: A type of life insurance policy that provides lifetime protection; premiums must usually be paid for life. The sum assured is paid out whenever death occurs. Commonly used for estate planning purposes.
II. Business segments Group policy as the name suggests is an insurance policy which covers a group of people. The group could be a formal on an informal group. The policies under this segment involve an employer providing security / savings benefits to its employees through a group policy. Example: Group term, Group Gratuity, Group Superannuation, etc. Retail refers to policies sold to individual retail policyholders. Rural refers to products that are customized to the requirements of the rural sector. In addition there is currently a regulatory obligation on every insurance company to source a certain percentage of the business from the rural sector. III. Business measures Activity or activisation refers to the proportion of sales force which is actively selling. This is normally measured as percentage of total population of sales force selling minimum policies per month. Annualised Premium Equivalent (APE) / Weighted Annualised Premium / Weighted Sales is a common measure of new business sales in the life insurance industry. It is calculated as annualised new recurring premiums plus 10% of single premiums. It gives a broadly comparable measure across companies to allow for differences between regular and single-premium business. APE is computed as: Annualised regular premium + 10 % of single premium (including Top up premium). Where annualised regular premium = Premium amount * Billing frequency Example: A monthly mode policy taken in December 2009 for which premium is Rs 10,000 per month. The APE in this case will be = Rs. 10,000*12 i.e. Rs. 120,000 while the premium booked for FY 2009-10 will be Rs 10,000*4 = Rs 40,000.
Regular premium is received on regular intervals during the term of policy such as monthly, quarterly, half yearly or annually. Under these contracts the policyholder is obliged to pay the premium year on year till maturity or the end of premium paying term, whichever is earlier. Single premium policy is the policy in which the policyholder is required to pay the premium upfront for the entire life of the policy. In single premium policy, the premium is paid only once at the inception of the policy and the policyholder is not obliged to make any further premium payments. As single premium payments are up fronted they cannot be treated at par with regular premium payments where money will keep coming in future years also. As an industry practice, globally 10% weightage is given to single premium to make it comparable to regular premium. Top-up premium is an additional amount of premium paid by the customer voluntarily. Top-up premiums made during the currency of contracts are usually treated as single premium. Top up premiums have insurance cover hence it will affect the sum assured. Appraisal value refers to the value of an insurance company. This is a summation of the present value of existing business i.e. the business written in earlier years (called Embedded value) and future value creation i.e. measured in terms of the present value of profits expected to emerge from any new business (called new business profit). Assets Under Management / Assets Held / Funds Under Management: Represents the total value of assets managed by an insurance company; which would include: 1. Funds managed on behalf of the policyholders 2. Shareholders funds representing capital invested by the shareholders for initial set up or solvency capital requirement and undistributed profits, if any. Average premium: Average premium is the average size of the Policy in terms of Premium. Average Premium = New business premium / Total number of new business policies.
Embedded value is a globally accepted measure of value of a Life Insurance Company as on a given date. Embedded value is computed as the sum of the net asset value of a life insurance company and the discounted value of profits expected to emerge on business already written. The latter is calculated with a set of economic and operational assumptions. A deduction for the effect of holding the minimum statutory solvency margin is usually made. The embedded value excludes any value that may be attributed to future new business and this would be captured in the appraisal value. Embedded value profits / margins: The difference in embedded value between two dates gives the embedded value profit. Embedded value margins are calculated by comparing such profits with new business premium. Embedded value profits as a measure is important as statutory profits normally indicate the amount accruing to the shareholders in a given year but do not reflect any long term benefits likely to accrue from current management decisions or investments. Embedded value profits emerge earlier than statutory profits but equate over the lifetime. Expense loading refers to the expenses that are priced in the premium while designing a life insurance product or in other words it is the portion of the life insurance premium that is supposed to be used to cover the operating expenses. Expense ratio: The ratio of operating expenses as a percentage of premiums gives an indication on the efficiency of the business independent of the claims experience and the performance of the investment portfolio. Funds for Future Appropriation (FFA): refers to the undistributed profits which have emerged from the policyholders accounts but not allocated between policyholders and shareholders. The allocation could be pending either due to pending approval from the Appointed Actuary or due to the policy terms which provide distribution subject to certain conditions (example end of revival period in case of lapsed linked policies. FFA is included while calculating the available solvency margin.
New business premium refers to premium earned on new contracts (policies) written in a given year. In any financial year new business premium would thus include: i. Single premium earned in that year ii. First year premium on regular premium policies written in that year iii. First year premium from regular premium written in previous years. New Business Profit (NBP) is the true measure of profitability for an insurance company. As the expenses in insurance are front ended while the income stream is deferred through the policy term, the insurance companies make losses in the initial years. Therefore the measurement of profit is less straightforward in insurance compared to other industries. NBP measures profitability over the contract terms and is computed as the present value of future profits on the business sourced in a particular period. NBP Margin is a measure of profitability margin of an insurance company. Globally, NBP margin is computed by reflecting new business profit as percentage of APE. New business strain: New business strain arises when the early years premiums under a contract are inadequate to cover the initial commission, expenses and statutory reserving. Strain mainly arises at contract inception, but it is possible to have further strains in subsequent years, usually lower. Rapidly growing insurance companies experience high strain. New business strain leads to statutory losses for Life Insurance Companies in its initial years of operation. Productivity as the name suggests refers to the premium or policies sold per sales personnel.