EUROPEAN PAPERS ON THE NEW WELFARE

3.3 Combination of Annuity and LTC

An innovative approach suggested by Murtaugh, Spillman and Warshawsky¹⁰ is to combine into one policy two complementary risks. Firstly, the longevity risk — usually covered through an annuity. Secondly, the risk of the life insured becoming chronically ill and needing prolonged care — for which he or she will need financial support and which will ultimately lead to his or her death.
Their model looked at a policy providing an immediate life annuity paying a monthly amount of $1000 per month whilst the life insured is in good health. This increases to $3,000 per month if the life insured suffers a chronic illness and is unable to perform two of the activities of daily living, and to $4,000 per month of unable to perform four of the activities of daily living. All payments then cease on the death of the life insured — effectively the suffering of a chronic illness reduces the life insured’s longevity. Allowances can be made in the product for joint lives and for cost of living adjustments.
A major point in favour of this approach is the minimal need for medical evidence. Only a short personal statement is needed, as the intention is to only eliminate those who are already unable to perform activities of daily living at policy inception. Murtaugh et al. estimate that under this approach 98% of applicants could be accepted for cover compared to 77% who apply solely for long term care product.
This is not yet a common product in many markets but has the potential to meet long term needs for income and coverage when the life insureds suffer a chronic illness. The minimal medical information needed means the policy can be quickly underwritten and processed.

3.4 Critical Illness

Critical illness is a product that has been developed extensively in the UK, Asia, Australia and South Africa¹¹. It provides lump sum cover in the event that the life insured suffers from chronic medical conditions that are covered by the policy- common examples include heart attack, stroke, cancer, Coronary Artery Bypass Surgery, organ transplant and many chronic illnesses. The medical conditions in the policy are rigorously defined — the requirements of the definition must be met before a claim is admitted. Recent changes to the product in South Africa and the UK have increased the number of medical conditions which are covered and as well have introduced partial payments when the claimants’ medical condition is less severe. Usually critical illness coverage ceases at age 65. However recent product innovations in Asia have extended cover past this age often to ages 75 or 80 with applicants being able to apply for this cover up to age 70.
Critical illness products are still not common in Europe, but with competent pricing through to older ages, it might be possible to introduce such a product in Europe providing cover to seniors. Rigorous underwriting however is required — there is a long personal statement. Both tele-underwriting and Point of Sale systems are successfully used to collect data and underwrite this product.

4. The Issue of Trust

For the insurance industry it is important that seniors have confidence in its products and those who are advising them.
When a senior decides to retire he or she faces some major decisions. Hopefully he or she has planned for them for some time. Nonetheless, they will be confronted with social security and taxation legislation that is often difficult to understand. They may face decisions on whether to take some of their pension as a lump sum (or vice versa). As well, they have to understand and decide between the plethora of insurance contracts in the market, and their benefits and guarantees — or lack thereof. They have to take into account their own health situation and understand how this may impinge on their choices. The fundamental question is how to stretch savings to cover remaining life expectancy taking into account any social security benefits to which they are entitled and other assets and income of the senior.
There may of course be a number of other insurance needs. For example, for wealthier seniors, there may also be a need for insurance products to cover death duties or to provide an inheritance or bequest to other family members; for those seniors who continue to work, they will require disability income covers; for those who are self employed and continue to work, there may be ongoing needs for business insurance policies such as key-person covers, partnership protection, succession planning etc.
In many countries the formation of Financial Planning Associations and/or the accreditation and designation of agents and brokers as Financial Planners has helped to build trust and minimize the risk of mis-selling. Members of Financial Planning Associations must conform to a Code of Conduct¹². They must also be prepared to undertake ongoing professional training, peer-review, audit and investigation of complaints against them. Poor results in an investigation may result in sanctions being imposed or even loss of membership of the Association. These are not merely a slap on the wrist — in particular membership, once lost, may not be easily re-obtained and will have severe financial consequences as well as a possible loss of career.
A Financial Planner’s review of a retiree’s needs is comprehensive and examines many points, e.g. determining the retiree’s income needs and levels of insurance coverage in future and evaluating the retiree’s financial sophistication, knowledge, investment-risk profile (i.e. whether they are risk-averse, risk-neutral or a risk-taker), and the balance they require between volatility (short-term risk) and longer term risk.
Following this, the Financial Planner will review steps already taken and recommend a strategy tailored to fit the retiree’s needs. It usually involves recommendations concerning the investment of retirement proceeds; the choice of insurance products to provide certain levels of income; asset re-structuring (if necessary); gifting to children or other dependents, and the provision of health and other insurance covers¹³, and many other matters.
Critically, though, when a retiree already suffers a chronic condition, the focus will be on the effect of the condition on life expectancy and to provide sufficient funds for future treatment. It is important that the financial planner understands the retiree’s state of health (at least in general terms or to the extent that the retiree is prepared to divulge this information, noting privacy considerations) and the level of debility that he or she already suffers. Also the financial planner must carefully question the senior on their preference for investing a lump sum versus receiving an annuity — some may prefer to keep funds in a lump sum in case at a later stage there is a further deterioration in health. When an annuity option is chosen, consideration must be given to how to maximise this, noting the future life expectancy of the senior. A valid recommendation should then follow which reflects the state of health and the wishes of the senior.

5. Conclusion

This paper has looked at some insurance solutions to problems facing seniors especially those suffering chronic illnesses. It discusses the interface between insurance products and benefits from social security and the need for trust between seniors and those advising them in financial matters when they retire. Comment is made on four products, not widely known in Europe, the development of which may assist seniors especially those in poor health. Comment has briefly been made on how to more quickly underwrite these products.

9 http://www.sharingpensions.co.uk/pension_annuity3.htm.
10 Murtaugh, C.M., Spillman, B.C. and Warshawsky, M.J. (2001):” In Sickness and in Health: An Annuity Approach to Financing Long-Term Care and Retirement Income”, The Journal of Risk and Insurance, Vol. 68, No. 2, 225-254, www.tiaa-crefinstitute.org/research/articles/060101.html
11 For further history and discussion of this product see Hannover Life Reassurance Limited. Critical Illness. November 2006, www.hannoverlifere.co.uk/resources/hlr/hlr-uk/generic/hlr_uk/HLRUK_pub_critical.pdf.
12 Also see ISO 22222:2005 which sets out ethical behaviours, competencies and experience needed from financial planners.
13 For further information there are a number of websites. For example see the International Financial Association, www.fpanet.org/global/public/financial

References
Toyne, S. (2002): Ageing: “Europe’s Growing Problem”, BBC News/Business, 11 September.

G. Reday-Mulvey (2003): “Repenser les systèmes de pension par le vieillissement actif”, Presentation, Geneva Association Conference, 24 April, Brussels.

Maynard, P. (2004): “Tele-underwriting: The Long Awaited Revolution”, Centaur Conference, April 2004, London, www.selectx.co.uk/

Friedrich, C. (2004): Long-Term Care- Combination Products. A summary, April, Milliman Consultants and Actuaries, www.milliman.com/pubs/Life/content/research-reports/Long-Term-Care-Insurance-RR04-01-04.pdf

Murtaugh, C.M., Spillman, B.C. and Warshawsky, M.J. (2001):” In Sickness and in Health: An Annuity Approach to Financing Long-Term Care and Retirement Income”, The Journal of Risk and Insurance, Vol. 68, No. 2, pp. 225-254, www.tiaa-crefinstitute.org/research/articles/060101.html

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