Substandard risk

Substandard risk (also known as impaired risk) is a term in insurance industry for a person who is riskier to insure than average. There are certain factors that determine what is considered risky and what is not. If a person has characteristics which are risky to an insurer, he is considered as a substandard risk. It means that the substandard risk has to pay more money, than some other person which is in another class in risk classification, for the same insurance. Insurance companies have to equalize the difference between the money they get from risky individuals, and the money they need to pay them, so they use methods of rating substandard risk to evaluate the risk and classify their applicants.

Substandard risk factors

The factors that can trigger a substandard risk are for example:

• high age,
• health issues,
• family history of health issues,
• drinking alcohol above average,
• smoking cigarettes,
• using drugs,
• a poor driving record,
• dangerous occupation,
• dangerous habits,
• residence in unhealthy surroundings.

Methods of rating substandard risk

There are several methods of rating the risk, such as:

• Extra percentage tables - a method using a numerical system. A number of premium rates are set for varying ages and policy types based on the number of deaths per thousand that will increase with age for varying cases. The additional rate can increase by 125% to 500% of the standard premium rate.
• Permanent flat extra premiums - in this method insurance company charges a fixed amount of money per $1000 of insurance. It can be removed over time if the factors will disappear.
• Temporary flat extra premiums - the same method as above, except for the fact that the amount is established only for a certain period of time because of a risk that is higher at the beginning but it will decrease over time.
• Rating-up in age - a method that assumes that a person is older than he actually is and he is charged more due to the "assumed" age.
• Lien system - in this method insurance companies can place a lien on policy. If the insured dies too early, the benefits are decreased by the lien.

Risk classification

There are five basic risk classes:

• Preferred Plus - it is the best class you can get. It means you have perfect health and other factors.
• Preferred - you have good health but there are some minor issues.
• Standard Plus - you still have good health but there are more issues that in Preferred.
• Standard class - you have average health with some issues and your family history may be a problem.
• Substandard

Also, if you are a smoker, you have an additional denotation next to the classes above.

Examples of Substandard risk

• People who have a higher-than-average risk of being involved in an accident, such as those with a history of multiple DUIs, reckless driving or at-fault accidents, can be considered a substandard risk.
• People with pre-existing medical conditions, such as heart disease, diabetes, cancer, or obesity, can also be placed in the substandard risk category.
• People who have a history of filing frequent or large insurance claims, or who work in a dangerous profession, such as a logger, can also be considered a substandard risk.
• People who engage in risky activities, such as skydiving, racecar driving, bungee jumping, or motorcycling, can also be classified as substandard risks.
• People who are considered to be high-risk drivers, such as those under the age of 25 or over the age of 70, can also be considered a substandard risk.

Advantages of Substandard risk

• Substandard risk offers many advantages to those who are deemed a higher risk by an insurance company. One of the main advantages is that the policy holder can be approved for coverage even when the standard underwriting process may not approve them. This can be a great benefit for those who may have a medical condition or occupation that puts them in a higher risk category.
• Another advantage of being a substandard risk is that the policy holder can often get coverage at a lower premium rate than the standard underwriting process. This can be beneficial to those who may have a limited budget and may not be able to afford the standard rate.
• Finally, substandard risk can offer the policy holder peace of mind knowing that they are covered even when they may not be able to get coverage through the standard underwriting process. This can be a great benefit for those in higher risk categories who may not be able to get coverage without substandard risk.

Limitations of Substandard risk

• Substandard risk policies may be more expensive than standard policies. This is because the insurer is taking on extra risk, and therefore needs to charge extra in order to cover the cost of this risk.
• Substandard risk policies may also come with a high deductible, meaning that the insured has to pay more out of pocket before the insurance company covers the rest.
• Substandard risk policies may have more restrictions or exclusions than standard policies, meaning that certain conditions or treatments will not be covered by the insurance.
• Substandard risk policies may also require additional paperwork and documentation, such as proof of income, in order for the insurer to accurately assess the risk and determine the premiums.
• Lastly, substandard risk policies may be more difficult to find than standard policies, as not all insurers offer them.

Other approaches related to Substandard risk

• Underwriting: Underwriting is the process of assessing a person’s risk in order to determine the insurance premiums they will be charged. Insurance companies use a variety of factors such as age, health, occupation, and driving record to decide if a person is a substandard risk.
• Risk Management: Risk management is the practice of taking steps to reduce the potential for losses. Insurance companies use risk management to identify and reduce or control substandard risks. This can include raising premiums, increasing deductibles, or limiting coverage for certain risks.
• Reinsurance: Reinsurance is the practice of transferring part of the risk of an insurance policy from the primary insurer to another company. Reinsurance can be used to manage the exposure of higher-risk policies, such as those for substandard risks.

In conclusion, substandard risk is a term used in the insurance industry to describe a person who is riskier to insure than average. Insurance companies use a variety of techniques to manage this risk, such as underwriting, risk management, and reinsurance. These techniques help the insurer to determine the appropriate premiums and coverage for substandard risks.

Footnotes

Substandard risk — recommended articles

Composite Rate — Alternate employer endorsement — Compulsory insurance — Self insured retention — Guaranteed renewable — Initial deposit — Period of indemnity — Income stream — Net line

References

• Berglund S., Grunewald Ch., Pettersson H., Cnattingius S. (2010), Risk factors for asphyxia associated with substandard care during labor, "Acta Obstetricia et Gynecologica Scandinavica", vol. 89, issue 1
• Brackenridge R.D.C., Croxson R. S., Mackenzie R. (2016) Medical Selection of Life Risks 5th Edition Swiss Re branded, Palgrave Macmillan, New York
• Cummins J. D., Smith B.D., Vance R.N., Vanderhel J.L. (2013), Risk Classification in Life Insurance, Springer Science & Business Media, New York
• Einav L., Finkelstein A., Ryan S. P., Schrimpf P., Cullen M. R. (2013) Selection on Moral Hazard in Health Insurance, "American Economic Review", vol. 103, no. 1, p. 178-219
• Gatzert N., Schmitt-Hoermann G., Schmeiser H. (2012), Optimal Risk Classification with an Application to Substandard Annuities, "North American Actuarial Journal", vol. 16, issue 4, p. 462-486
• Outreville J. F., Outreville J. F. C. (1998), Theory and Practice of Insurance, Springer Science & Business Media, New York

Author: Adrian Poprawa