INSURANCE UNDERWRITING PROCESS

The underwriting process is associated with insurance, the same way it is associated with other financial services. It is all about measuring the chances of risks as also the premium needed to cover that risk.

What is the role of an underwriter?

The underwriter's job is to scale the risks and probabilities that may refer to their prospective clients. They are needed to ascertain the worth of your insurance coverage. They would also help you to decide the amount of premium that you need to pay.

The processes of underwriting & segmenting the insured risks may be clear, only after studying the pool of risks associated with them. This is also essential in order to understand the uneven distribution of risks. The underwriting guidelines defined by an insurance company may vary towards deciding the fate of an insurance application. The underwriter may choose to reject an application or may also choose to offer a quote referring the different premium levels. This might also indicate circumstances that involve a variety of exclusions, which mandate certain conditions towards the payment of claims. The underwriting process necessitates prospective clients to pay their premiums to that extent as is required by the insurer towards meeting the unforeseen risks associated with such individuals, in the event that they might occur. Hence, the procedure of identifying risks & explaining them to a client becomes the sole obligation of the insurer.

At times, the insured might just succeed in making the insurer see no reason towards properly justifying the associated risks, thereby inviting a higher expectancy of losses arising out of it. Under such circumstances, the insurer might just need to charge higher premium rates in order to fill the lower returns & save him from insolvency. The insurance companies are subject to huge risks worth billions every year in terms of financial losses arising out of protecting an insured person or a group. Underwriters are there fore needed to focus on every minute detail while arriving at a premium rate for a certain individual or even at offering a policy for that purpose. While doing these the underwriters would also need to keep a track of the steps and measures undertaken by their competitors towards achieving their goals, failing which they might lose their business to their rivals.

The different areas of operation:

The underwriters would certainly like to focus at any of the main branches of insurance namely – life, property & casualty and health.

It is common for the life & health underwriters to specialize at group or independent policies depending on their areas of operation and qualification. In order to decide about the functions of a group policy, the group underwriters would often resort to representatives of the union or the employer. For the property and casualty underwriters, it is quite normal that their operational areas would depend on the nature of insurance they are associated with (eg. personal or commercial insurance), as also the nature of the risk involved. The group underwriter has to keep a check on the overall risk, so that it never crosses the limits. This is dependent on his study of the group patterns. In contrast, the casualty underwriter has to study the contribution of the individual group members and then forward his feedbacks based on his report. With the advent of the modern computers, it has become easier for the underwriters to figure out the different risk factors associated with a prospect & then arrive at a quicker decision regarding their approval of a policy. This fast-track decision-making process is contributing largely towards the overall growth of the capital fund of the modern insurers.

HOW TO SAVE ON TRAVEL INSURANCE

As life expectancy increases, so has the age at which 'life begins' – with many people supporting the idea that 'life begins at 50'. Unfortunately, travel insurance companies disagree. Or at least that is how it seems, considering how rapidly premiums rocket for those who are 50 or over. And as for those who are over 70, many "are shocked to find travel insurers unwilling to provide cover at prices they can afford", says Kara Gammell in The Daily Telegraph. So how do you find affordable travel insurance that won't leave you high and dry if you fall ill on holiday?

Consumers need to think of travel insurance as something they should tailor to their own needs, rather than an off-the-shelf product, says The Daily Telegraph. So one of the simplest ways of reducing the premium is to look carefully at the level of cover you are being offered and then decide whether you actually need it all within the policy. For example, if you are travelling to Europe, opt for European cover rather than worldwide cover, as the latter includes America, where litigation and medical costs can push up the cost of cover. Also, consider covering personal possessions under your home insurance – and, as always, shop around for the best deal.

Eat your greens. Food inflation is forcing the weekly shopping bill to new heights, but broccoli is proving the exception, says The Guardian. It is one of the few vegetables that is falling in price, due to plentiful current supplies. The average price is now £1.38 per kilo – down 27% from this time last year. So stock up on broccoli. But forget the cheese sauce. Cheddar prices rose 10% last week alone, according to The Grocer.

Choose your pets carefully. A Great Dane will cost its owner an average of £669.64 in damages over a lifetime, says eSure, and small dogs aren't much better. Chihuahuas cause an average carnage bill of £638.41 during their lives. Add in medical bills and food, and dogs are expensive members of the family. But there are ways to cut the costs.

Save on vet's bills. If you haven't bought a dog yet, then opt for a mongrel. "They tend to be less prone to disease and cheaper to insure," says Ali Taylor from Battersea Dogs & Cats Home in The Independent on Sunday. What if you already have a pet? You could consider pet insurance to cover emergency vet bills, but do shop around and check the small print carefully: pet insurance is notorious for exclusions based on age and other factors. A better route is prevention – take your dog for regular walks and cut back on the treats. A healthy, fit canine is far less likely to get ill than a fat one.

Save money on clothes. You can currently get 30% off at Gap. Just go to MONEY SAVING EXPERT, fill in the form and you can print off a voucher giving you 30% off in Gap until Sunday 28 September.

BEWARE OF DODGY INSURANCE

"A huge victory for consumers" is how Peter Vicary-Smith, head of Which?, hailed the latest payment protection insurance (PPI) proposals from the Competition Commission. No wonder. As Thisismoney.co.uk notes, the "charge sheet against PPI" (which is meant to insure you against being unable to repay a loan or credit-card balance if you fall ill or lose your job) is long. Complaints about Britain's 13 million policies include that it's "overpriced, sold to people who can never claim on it, sold with no cancellation clause, and often ineffective". It's also often "forced on customers by pushy sales staff".

The statistics are grim. Only 14% of PPI premiums are returned to customers as a result of successful claims – that's compared to 78% for car insurance and 54% for home insurance. And as Caroline Binham reports on Bloomberg, the regulator found in June that PPI providers overcharge customers by £1.4bn a year, against annual sales of £5.5bn. So what's changing? The Competition Commission stopped short of banning PPI altogether. But it is banning "single premium policies", where the premium is paid up front and often added to the original loan as a lump sum. Providers will also be stopped from pushing customers to take PPI immediately. They will have to wait 14 days and tailor any quote to ensure the policy is suitable.

Fine, say the banks – but loan rates will rise because the income from PPI sales often subsidises interest charges. And the changes come just as people need cover going into a recession. This is "nonsense", as The Independent's Julian Knight puts it. There's "never a good time to be mis-sold a policy". The extra transparency should stop millions from buying cover they either don't need, or that doesn't do what they expect. If you think you may have been sold an unsuitable PPI plan – some campaigners reckon there's a problem with up to half of them – you can complain to the Financial Ombudsman.

TIPS TO HELP IDENTIFY YOUR NEEDS IN INSURANCE : For Temporary

Key Concept: The most significant differences in international health insurance are not in the benefits and rates, but rather in the wording of the plan definitions and exclusions by which your insurance benefits are actually paid . . . or not paid!

Here are 8 tips and suggestions intended to help you identify the best choice for your exact needs and situation. (Note: Comparisons below are for guidance purposes only. Please confirm all details in plan brochures.)

1. Coverage Period (or Policy Period)

This is a seemingly obvious definition, but we start with this term as it is used in other definitions here.

If a medical condition is first diagnosed or treated during the "Coverage Period," then eligible insurance benefits will be paid (subject to policy limits).

2. Benefit Period (very important!)

* The "Benefit Period" is not the same as the "Coverage Period." The "Benefit Period" is the maximum period of time during which an insurance policy will pay benefits for a covered condition that was first diagnosed or treated during the "Coverage Period."

The "Benefit Period" may extend beyond the end of the "Coverage Period" (and often does). In many cases, a longer insurance Benefit Period is desirable.

* If temporary insurance is your only health insurance, then an extended Benefit Period is a vital feature.

Note: There are temporary international health insurance plans being sold today whereby the Benefit Period ends when the Coverage Period ends (unless hospitalized or some other extreme contingency). This is OK if you have full coverage upon return to your Home Country. Otherwise, if your plan has no extended Benefit Period, then the last few days or weeks of your insurance coverage could prove to be of limited value.

3. "Pre-Existing Conditions" (very important)

All private health insurance plans contain "exclusions," which are conditions, circumstances, or treatments which are expressly not covered. One common exclusion is for "pre-existing conditions."

The definition of "pre-existing condition" varies by plan. Some plans have a clear or less ambiguous definition, using terms such as "symptoms," manifested," "diagnosed," etc. On the other hand, some plans have an ambiguous definition of "pre-existing condition," which could be interpreted less favorably for you.

() A check mark indicates some coverage for pre-existing conditions.

In Summary: The plan definition of "pre-existing condition" and possible coverage for such conditions (if any) can be key factors to when reviewing temporary insurance plans.

4. Do You Want The Option Of Home Country Treatment?

On occasion, someone traveling abroad suffers an injury or illness, whereby they wish to return to their home country (including to the USA) for follow-up treatment and recuperation.

If you maintain domestic health coverage during your travel abroad, then this plan feature may not be of importance to you. However, if temporary international health insurance will be your only health insurance, then how a policy treats "Home Country Treatment" can be a very important consideration.

Note: This is NOT the same as "Home Country Coverage," which is an optional or built-in benefit on many temporary international plans. "Home Country Coverage" provides limited, short-term medical coverage during one or more short-term trips back home.

5. Definition of Home Country

Temporary health and travel insurance plans cover you while traveling "outside of your Home Country." For most people, this definition is straightforward. However, you should understand how each plan defines "home country" to be sure you are eligible.

Note: temporary health insurance plans do not go into effect until you leave your Home Country (as defined in the policy), and coverage typically terminates upon your final return. Exception: many plans contain limited coverage during one or more "incidental trips" back to your Home Country for a limited period of time, when you are able to demonstrate (for example, with a round trip plane ticket, etc.) the intention of resuming your travel abroad.

Important note for US Immigrants: If you are a recent US immigrant, please see our plans designed especially for you. As noted above, temporary travel insurance covers you while traveling outside of your "Home Country." As an immigrant, the USA is now your home country and ordinary temporary travel plans are not intended for you.

6. Who Regulates Your International Insurance Company? (important)

In the USA, health insurance is primarily regulated by the individual states. If you are a USA resident traveling abroad or a visitor to the USA, I strongly recommend that you only consider insurance from companies that are registered (either "admitted" or "approved") to legally conduct insurance business in your State.

Here is a brief look at two ways an insurance company might be registered to legally conduct business in your State. (The exact terminology may differ from State to State.)

"Admitted" - The insurance company is fully regulated under your State's "life and health" insurance laws.

"Approved" - The insurance company operates under "surplus lines" insurance laws and is not fully regulated. However, if the State obtains credible evidence of unsatisfactory claims practices or unsatisfactory financial condition, then the State may revoke the "certificate of authority" under which the insurance company legally operates in that State. Such action could influence or encourage similar action in other US States and even in other countries.

Why depend on insurance from a company that is not legally registered in your State?

7. Lower Your Premium By Electing A Higher Deductible.

The "deductible" is the amount you pay in eligible expenses before your insurance begins to pay. Most plans offer a choice of deductibles, such as $250, $500, $1000, etc. Today, most plan deductibles are cumulative, i.e. one deductible per policy period, rather than a separate deductible "per incident."

Here are 2 reasons why we normally recommend that you elect a higher deductible.

Reason #1. A higher deducible lowers your premium. For temporary plans, you save on average about 10% with the next higher deductible option.

Reason #2. In the event of a medical claim, insurance companies often request copies of prior medical records. This is to show that your claim is not the result of, nor related in any way to a "pre-existing" medical condition. In the event of a small claim, the need to provide prior medical records may not be worth your time and effort.

Remember that insurance is primarily for the big expenses, to keep you from going broke or possibly to save your life. Consider saving money by electing the highest deductible with which you feel comfortable.

8. A Higher Coverage Maximum for USA Visitors.

Temporary health insurance plans offer a choice of coverage maximums, typically ranging from $50,000 minimum up to $1,000,000 or more.

When considering Temporary health insurance, realize that medical bills exceeding $50,000 are not uncommon in today's world, especially in the USA.

Suggestion: For travel to the USA, we recommend electing a medical maximum of at least $100,000 or higher. Simply put, what good is a $50,000 policy if you require $100,000 or more in medical treatment?

TIPS TO HELP IDENTIFY YOUR NEEDS IN INSURANCE: For Long Term

Here are 8 tips and suggestions intended to help you identify the best choice for your exact needs and situation.

1. "Pre-Existing Condition" - Look at the Plan Wording Carefully.

Virtually all private-sector health insurance plans exclude coverage for "pre-existing conditions." A small difference in the wording can make a big difference in whether or not a medical insurance claim is actually paid . . . or not paid.

Here are two examples for illustration purposes:

1. Pre-existing condition: "Any condition which existed at or prior to the date the policy went into effect."

2. Pre-existing condition: "Any condition which was diagnosed, treated, or manifested itself in such a way as to exhibit recognizable symptoms, prior to the date that the policy went into effect."

Note that in example #1, the definition is very ambiguous. In this example, you could have a "pre-existing condition" and not even be aware of it. Examples might include slow growth cancer such as colon cancer. Another example might be any type of heart disease, which often goes undetected for years.

If you happened to have a health insurance policy with such ambiguous wording and came down with a major illness, you could be in trouble. If doctors determined that your illness existed in any form at the time your policy went into effect, even if you didn't have any noticeable symptoms, your claim would be denied.

Important: If you are over age 40, I strongly recommend that you avoid any insurance policy which contains an ambiguous definition of "pre-existing condition" as described in example #1 above. Even if you are under age 40, this may be a good idea as well.

2. A Recent Routine Check-Up Is Recommended For Ages 40+

For people over age 40, if you are in good health, then having your good health documented prior to becoming insured (or soon thereafter) could be of great value in the event of a significant medical claim later.

This documentation could be in the form of a recent routine physical exam. Or, it might be the records of one or more recent visits to a family doctor (for a cold or flu for example), where your doctor would have gathered routine medical information such as height, weight, blood pressure, etc.

If you do not have any such documentation of good health, then we recommend that you have a routine physical exam before, or soon after your insurance goes into effect.

Unless you are over age 60, having recent documentation of good health is usually not a requirement when you apply for most insurance plans. We make this recommendation because we work for you and in our experience, claims disputes are not uncommon. In the event of a dispute, your having recent documentation of good health helps us to help you.

While we strongly recommend this for people over age 40, we also believe that having recent documentation of good health is a good idea for everyone.

3. Who Regulates Your International Insurance Company?

In the USA, health insurance is primarily regulated by the individual States. If you are a USA resident traveling abroad or a visitor to the USA, we strongly recommend that you seek out insurance from companies that are registered (either "admitted" or "approved") to legally conduct business in your State.

Here is a brief look at two ways an insurance company might be registered to legally conduct business in your State. (The exact terminology may differ from State to State.)

"Admitted" - The insurance company is fully regulated under your State's "life and health" insurance laws.

"Approved" - The insurance company operates under "surplus lines" insurance laws and is not fully regulated. However, if the State obtains credible evidence of unsatisfactory claims practices or unsatisfactory financial condition, then the State may revoke the "certificate of authority" under which the insurance company legally operates in that State. Such action could influence or encourage similar action in other US States and even in other countries.

Note: We avoid insurance plans from companies that are not registered. All plans found here are backed by insurance companies which are either "admitted" or "approved" where offered.

4. When Comparing Health Insurance Plans, Check The "Exclusions."

One of the first things that experienced insurance agents look for in a health insurance brochure is the summary or list of "exclusions." Often found in smaller print, "exclusions" are not covered under the plan. Sometimes, what's NOT covered can be just as important as what IS covered.

Many exclusions are typical (i.e. acts of war, self-inflicted injuries, custodial care, etc.), while others are not and should be carefully considered when comparing health plans.

All comprehensive international insurance plans contain an exclusion for "pre-existing" medical conditions. You should carefully read and understand this exclusion.

5. The Health Questionnaire - "Medical Underwriting"

Long-Term, Annual-Renewable or "Permanent" medical plans are designed to provide comprehensive health insurance coverage for at least one year or longer. These plans are issued based on "medical underwriting" through the use of a detailed health questionnaire.

Personal medical history could be a determining factor when selecting a company to apply for insurance. Based on personal medical history, some people could be declined for insurance by one company, but accepted (or accepted with a medical "exclusion rider") by a different company.

Note: For the plans found here, if your health questionnaire is answered truthfully and accurately, and you are accepted for coverage, you cannot be cancelled or singled-out for future rate increases due to medical claims.

6. Activate Your Best Memory When Completing The Health Questionnaire.

It is important to remember that by nature, the human mind tends to forget or minimize past or present illness. A positive mental attitude can beneficial in the healing process, but failing to properly disclose a material health condition on your insurance application could jeopardize your coverage entirely.

A "medical audit" (obtaining prior medical records, researching medical information bureaus, etc.) is often done when there is a major claim. By contract, the insurance company can revoke coverage and return all premium if it can be shown that the policyholder failed to disclose a material condition on the application.

Never give the insurance company a potential way out of paying a major claim. Activate your best memory when completing the health questionnaire.

7. For A "Yes" Answer on Your Health Questionnaire - Note The Positives.

For every "yes" answer on your health questionnaire, be sure to give a clear and complete explanation.

Your completed health questionnaire becomes a part of your insurance contract, so it is important to be complete and truthful when answering all questions. When applicable, be sure to state the positives when giving an explanation to any "yes" answer.

If you have a condition that is well controlled by medication, give complete details. For example: thyroid, take 5mg (medication) daily, well controlled for (x) years.

If a previous medical outcome was good, clearly state so in writing. When appropriate, consider descriptive terms such as "full recovery," "no further symptoms," and "no further treatment or consultation required."

8. Lower Your Premium By Electing A Higher Deductible.

The "deductible" is the amount you pay in eligible expenses before your insurance begins to pay. Most plans offer a choice of deductibles, such as $250, $500, $1000, etc. Today, most plan deductibles are cumulative, i.e. one deductible per policy period (up to one year), rather than a separate deductible "per incident."

There are 2 reasons why we normally recommend that you elect a higher deductible.

1. A higher deducible lowers your premium. For long-term plans on average, the savings often exceed 10% on the next higher deductible option.

2. In the event of a medical claim, insurance companies often request copies of prior medical records. This is to show that your claim is not the result of, nor related in any way to a "pre-existing" medical condition. In the event of one or two small dollar-amount claims, the need to provide prior medical records may not be worth your time and effort.

Remember, health insurance is primarily for the big expenses. Consider saving money by electing the highest deductible with which you feel

INSURANCE FOR YOUR FAMILY

Getting family health insurance is an important choice and should not be taken lightly. Health insurance is a must in today world, and getting adequate coverage for your family is a decision many are faced with, only to make the wrong decision and regret it later.

This resource is designed for people who need to get family insurance but do not know where to start looking. Low cost family plans are not a myth, it exists out there, and we can show others where to start finding affordable solutions to any and all of your insurance related queries.

When planning to get Family plans few things need to be considered such as offering large networks of some of the regions best physicians, specialists and hospitals, reminding families to have important preventive screenings, providing programs and information to the modern family to help them manage chronic health conditions that often affect a loved one and offering state of the art technology to simplify tracking health benefits.

When choosing Family health care insurance programs, focusing on wellness and preventive care will be a great idea. It helps families taken care by providing access to innovative benefit packages designed to meet today family everyday needs. There are a lot of agencies that gives various kind of plans and one could be the nations leading family health care insurance companies, is devoted to improving the health of the people, and the families we serve.

Most agencies works with physicians, hospitals and other providers to help ensure that family health care insurance is accessible, coordinated, timely and provided in a manner and setting that promotes positive family first provider relationships.

Insurance Finders is a hub that helps people find family and individual health plans. Our services are geared toward individual, family, and small business health plans.

We are committed to help others meet all your individual health needs. We provide a complete list of websites that provide others with family and individual insurance plans in your state, ranging from free online health insurance quotes, application reviews, doctor selections, company contacts, and plan comparisons to best assist you with an informed decision when getting health insurance from leading insurance companies.

Some of the websites listed in our state specific marketplace will help others to get in contact with a health policy specialist in your area.

Insurance Finders, a medical policy hub helping others learn and apply for insurance from many top rated health insurance companies. We offer services geared toward individuals, families, and small businesses.

PENSION INSURANCE: The Present and Future

In the last two years, a large number of defined benefit pension plans swung from record overfunding to record underfunding, exposing many workers and retirees to pension risk. The Pension Benefit Guarantee Corporation (PBGC), established by Congress in 1974, mitigates the pension risk to some extent by providing pension insurance. However, many of the same factors that put defined benefit pension plans in deficit also have left the PBGC facing its largest deficit in its history. Recently, the U.S. General Accounting Office put the corporation's single-employer pension insurance program in its "high risk" category, reporting to Congress that the insurance program needs "urgent attention" and change. This Economic Letter discusses pension insurance, including how it works, the financial health of the pension insurer, and what can be done to improve it.

Overview of pension insurance

The PBGC was established by the Employee Retirement Income Security Act (ERISA) of 1974 to protect participants in defined benefit pension plans from plan terminations that do not have sufficient assets to pay promised benefits. While PBGC is a government corporation, it is not formally backed by the full faith and credit of the U.S. government, nor does it receive any federal tax money, although it does have a line of credit from the U.S. Treasury. The PBGC operates as a self-funded corporation that derives its financial resources from four sources: insurance premiums paid to the corporation by defined benefit pension sponsors; assets of pension plans that the pension insurer has assumed from terminated plans; recoveries in bankruptcy from former plan sponsors; and earnings on invested assets.

The PBGC administers separate insurance programs to protect participants in single-employer and multiemployer plans. At this point, only the single-employer plan is in deficit, so it is the focus of this discussion. Under its single-employer program, the PBGC will terminate and take over a pension plan when: (i) a pension plan runs out of money, (ii) a company liquidates and has an underfunded plan, or (iii) a sponsoring company demonstrates it cannot continue funding a pension plan and stay in business. Upon taking over a pension plan and its assets, the PBGC assumes responsibility for paying benefits to current and future retirees, but all benefit accruals, vesting, and other regular plan obligations cease at that point.

The pension insurance coverage offered by the PBGC is subject to a maximum statutory limit stipulated by the ERISA, which is adjusted annually. However, when the PBGC assumes responsibility for a terminated plan, the coverage limit is set permanently at the level specified for that year. For example, for plans that were terminated in 2002, the maximum annual pension guarantee by the PBGC to workers who retire at age 65 is $42,950 yearly for a single life annuity, and is less (more) for those who retire earlier (later) than age 65; for plans terminated in 2003, that maximum guaranteed amount rose to $43,980. Of course, a participant may receive higher benefits than the maximum guarantee if the pension plan has adequate resources at termination.

Financial status of the PBGC

Figure 1 shows the net position, defined as the difference between total assets and total liabilities, of the PBGC's single-employer program. The corporation's liabilities reflect its obligations for pension payments to retirees of terminated plans that were taken over by the pension insurer. The net position was in deficit from its inception until 1996; it then turned into a surplus that peaked at $9.7 billion in 2000. By 2002, the net position had fallen to a deficit of $3.6 billion; according to its 2003 midyear unaudited financial statement, the deficit is currently about $5.4 billion. The sharp drop in the net position was mainly a result of terminating several very large pension plans, including LTV Steel and Polaroid in 2002, Bethlehem Steel, National Steel, and US Airlines Pilots in 2003. At the same time, declining stock prices eroded the PBGC's financial assets, while lower interest rates raised the value of the PBGC's liabilities, further driving down its net position.

It is useful to put the $5.4 billion deficit in perspective. Currently, the PBGC's single-employer program insures pension benefits worth approximately $1.5 trillion, making the deficit about 0.36% of insured benefits. At the height of the most recent banking crisis in 1991, the Federal Deposit Insurance Corporation bank insurance fund had a $7 billion deficit while insuring against $1.9 trillion of bank deposits at that time, so that the reserve ratio also was at negative 0.36%. During the savings and loan crisis, the Federal Savings and Loan Insurance Corporation showed a $6.3 billion reserve deficit, or about 0.71% of $890 billion insured deposits in 1986 that eventually ballooned to $75 billion, or about 8% in two years before collapsing.

Despite the PBGC's record deficit, it remains liquid and is able to meet current promised payments. Of the over $25 billion financial assets held in its single-employer program, the PBGC contends that 98% were held in marketable assets as of 2002. The PBGC's primary sources of cash are from premium receipts and investment activities. If funds from these sources are insufficient to meet operating cash needs, the corporation has a $100 million line of credit from the U.S. Treasury, which it has never used. Thus, in the near term, it appears that the PBGC should have no difficulties in making benefit payments and meeting financial obligations stemming from its operations.

The future of pension insurance

The PBGC faces multiple challenges. In addition to the record deficit on its balance sheet, several very large defined benefit pension plans currently insured by the corporation show substantial underfunding (see Kwan 2003). The latest data indicate that total underfunding in single-employer defined benefit plans insured by the PBGC currently stands at over $300 billion. Although many underfunded plans are sponsored by financially sound companies that pose relatively low risk to the pension fund insurer at the moment, a number of pension plans with sizable underfunding are sponsored by less financially sound companies. For example, using the bond rating as a rough indicator for financial soundness, the ten pension plans with the largest underfunding by S&P 500 companies that have below-investment-grade bond ratings had a total underfunding of $16.7 billion as of 2002. If a few of these sponsoring companies were to encounter financial difficulties, termination of these large underfunded pension plans could add to the corporation's already large deficit position. Therefore, to be sustainable, the PBGC must take steps to shore up its financial position.

In the near term, it appears that the agency may need to recapitalize itself by raising insurance premiums. Absent any government bailout, the two main sources of funds to deal with the corporation's net position are insurance premiums paid by sponsoring companies and returns from PBGC's investment portfolio. Without any extraordinary market movements, the expected return from the corporation's asset portfolio would not be enough to correct its deficit position.

Thus, to recapitalize the insurance fund, the PBGC needs to work with its insurance premium. Currently, the corporation charges a flat-rate premium and a variable-rate premium. The flat-rate premium is $19.00 per plan participant, and the variable-rate premium is $9 per $1,000 of unfunded vested benefits with no maximum. This premium schedule has been in effect since 1996. Indeed, the $19.00 flat-rate premium has not been raised since 1991; while the 0.9% variable rate premium schedule also has been in place since 1991, it was capped at $53 per participant until 1994 and the cap was raised twice before it was abolished in 1996.

Notice that as an insured pension plan swings from overfunding to underfunding, the variable-rate premium kicks in, which by itself would increase the premium received by the pension insurer and hence would help to alleviate its deficit. However, recapitalizing the pension insurance fund fully would require raising the insurance premium. How much the premium needs to be raised would depend on how fast the corporation wants to recapitalize the fund as well as on detailed projections of future underfunding and asset returns which are beyond the scope of this article.

Over the longer term, a case can be made to reform the overall pension insurance pricing structure. In theory, in order to be fully self-funded, the pension insurer must be able to charge an actuarially fair insurance premium. In other words, over the long run, the premium rate should be adjusted so that the net position of the insurance fund reverts to zero. One way to achieve this is to have a pricing structure that varies with the net position at the PBGC, so that some form of automatic recapitalization is built into the insurance pricing. For example, the insurance premium would rise when the net position falls below a certain threshold and would drop when the net position is above a certain threshold.

Another reason for reforming the pension insurance pricing is that the pricing scheme is based on only the number of participants and the amount of underfunding in the pension plan, and not on the risks of the sponsoring companies or pension fund assets. Consider two pension plans that are similar in terms of their size and the amount of underfunding but that differ in that one plan is sponsored by a AAA-rated company while the other is sponsored by a financially weak firm with a much higher chance of bankruptcy. Since both plans have the same amount of underfunding, the current pension pricing charges both plans the same insurance premium. However, it is quite clear that the plan sponsored by the weaker firm is riskier, so its insurance premium should be commensurately higher. Compounding this risk assessment is the asset risk in the pension plan. From the option pricing theory literature, it is well known that the cost of insuring a plan that invests in riskier assets is higher than the cost of insuring a plan that invests in less risky assets. And the theory was borne out in fact during the banking crises of the 1980s--especially the S&L crisis, when banks and S&Ls had incentives to take on excessive risk because of the cost of deposit insurance did not rise with their risk-taking. Thus, it seems wise to apply the hard lessons we learned from those crises to pension insurance pricing, as it bears many important similarities to deposit insurance.

Conclusions

Pension insurance is designed to protect workers and retirees in the event that their defined benefit pension plans are terminated when the sponsoring company goes under. However, the PBGC, the pension insurer itself, has a $5.4 billion deficit, the largest deficit in its history. Moreover, with over $300 billion in underfunding in defined benefit plans that are insured by the agency, terminations of more underfunded plans would further weaken the PBGC's financial position. To restore financial health to pension insurance, it appears that policymakers may need to raise insurance premiums to recapitalize the pension insurance fund in the near term. More fundamentally, the current insurance pricing scheme, which does not take into consideration either firm risk or asset risk, may need to be reformed to reflect the true cost of insurance in order to attain structural soundness for the insurance fund over the longer run.

Adapted from: Kwan, S. 2003. "Underfunding of Private Pension Plans." FRBSF Economic Letter 2003-16 (June 13).

http://www.frbsf.org/publications/economics/letter/2003/el2003-16.html