Insurance Premium Financing – For those who cannot afford!

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Thank you for the encouraging response and feedback to the previous article on Insurance Premium Financing. The comments on the article suggested that the Insurance Premium Financing (IPF) for the non-life insurance is a comparatively lesser known and less understood concept. Hence, I thought of dedicating the article this week focusing on IPF for non-life insurance. The best way to understand any concept is to start by addressing why it exists and what problem it solves. And hence, as Simon Sinek recommends, we too are starting with why!

 

Why do you need insurance when you can’t afford to buy it?

Having spent over a dozen years in the insurance industry, it is easy for me to appreciate the need and importance of insurance. If I could put in simple words, the purpose of insurance is to protect the insureds from financial consequences of risks. Insurance becomes all the more important for those who don’t have the “cushion” to deal with unplanned financial strain arising out of situations not entirely in their control. For example, while one can take care of one’s health, it is impossible to guarantee that one would never fall sick and hence never see a doctor. Equally, one could have security systems for a house but thefts can happen and lastly one could drive the vehicle carefully but that doesn’t guarantee zero accidents! The bad news is that the events mentioned above impact people in lower strata more than those who have savings to partially protect them against the shock. The good news, however, is that one could cover oneself through insurance and get the premiums financed.

 

How does insurance premium financing work?

Before we get into the structure of insurance premium financing model, let’s see how the regular insurance arrangement looks like. The diagram below captures a simplified version of the arrangement

Figure 1: Regular Insurance Arrangement

Figure 1: Regular Insurance Arrangement

The regular insurance arrangement is straightforward but helps to set-up the foundation for the IPF insurance arrangement, which is depicted in the diagram below.

Figure 2: IPF Insurance Arrangement

Figure 2: IPF Insurance Arrangement

A quick look at the two diagrams suggests that in the IPF insurance arrangement, there is one more party involved i.e. the lender. The lender, in this arrangement, directly pays the premium to the insurance company on behalf of the insured individual. The individual repays the loan over a period of one year. In case of the claim event, the lender deducts the outstanding loan and gives the remaining amount to the insured individual. This looks like a neat arrangement. But what happens when the insured individual fails to keep the promise of paying monthly instalments? This gets tricky especially when lenders don’t have collateral to back the loan!

The beauty of the arrangement is that there is hardly any credit risk involved. In case the insured individual doesn’t pay the monthly instalment on the due date, the lender initiates the request to cancel the insurance policy. The insurance company then returns the premium commensurate with the outstanding policy term to the lender after deducting the charges. Hence, the lender doesn’t lose money due to non-payment of monthly instalment. The only situation in which lender can lose money is when insurance company defaults, which is very unlikely given how highly regulated insurance companies are!

 

Wait a minute! Does this look like a perfect candidate for blockchain implementation?

 Indeed! The three parties can get into a smart contract and the entire IPF Insurance Arrangement can be made very smooth and efficient. The smart contract could give the lender the right to charge the insured individual on the date when the monthly instalment is due. The moment this transaction fails, a cancellation request of the insurance contract can be triggered automatically! Equally, in case of a claim event, the insured individual can trigger the claim request and smart contract(s) can take care of the rest! Smooth, right?

 I hope and believe that you found the article useful. Before I sign-off, I wish to remind you about the upcoming #AskTheActuary session on this Monday i.e. 11-March-2019. Tweet us your questions on insurance premium financing or insurance in general and I would be happy to take them during the session. You could send your queries to hello@fidentiaX.com


Disclaimer: The article has been written with an aim to broadly explain an otherwise complicated and technical topic for readers with little or no insurance background. Hence, it doesn’t have finer details but is still broadly correct. The readers are recommended to take advise from their respective financial advisers before taking any financial decision.

 About the writer: Mr Sumit Ramani is the Chief Actuary of fidentiaX. He is a qualified Life actuary and a computer science engineer with over a decade of experience in (re)insurance business with a focus on modelling of life and health products, peer review and business analysis.