Richard Weatherhead examines why it’s appropriate for institutions to discriminate against individuals on the basis of gender.

Recent legislation proposed by the European Parliament will require that the same premium rates apply to insurance policies regardless of the gender of the insured life. In fact, the EU made the initial decision in 2004, with an implementation date of 2007. It did, however, allow for a five-year exemption period before gender-based premiums and benefits were to cease. The recent decision, issued in March 2011, states that from December 21, 2012, the end of the five-year transition, the exemption will no longer be available.

While this sounds like a modern politically correct policy decision, there are a number of problems with the approach.

Insurance is the pooling of risk among a group of people who contribute premiums to the insurance pool, which funds payments to those who are affected by some loss. In the earliest days, local communities would pool their resources to assist those who suffered a loss. It is believed that a type of insurance applied as far back as the 2nd century BC when the early Chinese traders would distribute their cargo among several vessels to minimise the risk of loss. So the principle of pooling risks, or insurance, is well understood and has continued to develop over the centuries since then.

In current times, the provision of insurance is a very important part of our day-to-day lives – whether it be insurance of our lives, cars, houses or health. This has been demonstrated most graphically during the recent Queensland floods and cyclone Yasi.

In all cases, the individual buying insurance expects to pay a fair premium relative to the risk that is being insured. In Australia, insurers generally price their products based on the best available statistical information on similar past events, allowing for forward trends – although there are some legislative constraints, such as in the health insurance market, where prices cannot vary by age or state of health (although loadings are added for those who buy health insurance after the age of 30).

What is a fair price?

For the purposes of pricing, an insurer attempts to produce a homogeneous group in relation to the risks it is covering. Life insurance companies have built a history of insured lives and claims experience over many decades. Based on this data, they are able to make decisions on the types of risks they are willing to take and the premiums they determine to be necessary in order to remain financially viable.

Ultimately, the insurer needs to charge premiums that are competitive in the market place while at the same time being profitable, including providing a reasonable return on capital for shareholders given the risks they are taking. The more specific the premium rates are relative to the risk being provided, the greater the confidence the insurer will have in the sustainability of the premiums it charges.

Determining premium rates

When an individual takes out life insurance, they will find their premium rate varies depending on factors that include their age, gender, occupation, smoking status and previous medical history, although not all of these are used in all cases.

The factors used to determine premiums are those that are most significant in differentiating the underlying risks. Individual insurers will make decisions as to how much time and effort will be required to collect information on the chosen risk factors for each individual applicant, relative to the differences in premiums that may arise. In those cases where the extra information will not affect the underlying premiums greatly, the insurer may choose to ignore that risk factor in setting premiums.

Similarly, where information on a particular risk factor is difficult to obtain, the insurer may ignore it as a direct risk factor or choose a “proxy” risk factor instead. For example, it is well known that those who exercise frequently are at lower risk of heart disease and death, all other factors being equal. However, it is very difficult to verify an applicant’s exercise record and, indeed, to monitor it through the term of their insurance cover. It is therefore rarely used as a life insurance pricing factor, although there are examples, such as in the South African market, where price reductions can be secured by those who attend regular gym sessions.

Other examples are:

• Trauma cover, which is usually offered on the same premium terms regardless of the individual’s occupation; and

• Death cover in the adviser market, which is often provided without an occupational differential.

In the retail risk insurance market, one recent innovation has been the introduction of a “healthy lives” pricing category by Asteron under which the client can obtain an initial 20 per cent premium discount, depending on a range of additional underwriting factors, including:

• Whether they have been a non-smoker for at least five years;

• Medical history and diagnostics such as weight, body mass index, blood pressure and cholesterol;

• Family history;

• Driving record;

• Lifestyle and occupational hazards; and

• Whether they have been accepted on standard terms for all previous insurances.

Current practice in super

It is interesting to review how superannuation funds price their insurance offerings. The default level of insurance cover provided by industry funds is often initially priced at a standard rate regardless of occupation. This is done for convenience, given the large member movements that occur. However, it is increasingly common for a member to apply for cheaper rates, or higher cover, if they are in a white collar or professional occupation. This is usually achieved by the member simply advising their occupational classification on the application form.

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