INSURANCE

INSURANCE By Steve Wright

Contracts set in stone or ‘living documents’?

The sanctity of insurance contracts, especially in areas of trauma, is vitally important, says Steve Wright.

Yes, I’ll admit, it is many years

ago since I was a law student.

I studied contract law, but I clearly remember that one of the founding principles of contract law is that contractual provisions needed legal enforcement, even if the outcome is inconvenient to one of the parties to that contract. In other words, contracts were set in stone.

These days, however, contracts appear to be increasingly regarded as something to be ignored or amended when it doesn’t suit us. We have laws prohibiting unfair contractual terms and some are justifiable, but not all contractual terms should be outlawed or prescribed and, in my view, the sanctity of contracts is important for creating certainty.

Certainty is essential to modern commerce and civilisation and without it we would not be where we are today.

UNDERSTANDING ISSUES

Recent events in Australia highlight this issue for insurance. Media reports of ‘concerns’ that trauma policy definitions were not updated and of claims not paid when the client clearly had a ‘heart attack’ highlight this issue. While I don’t condone the alleged bad faith conduct, I think it is important, as advisers in particular, to understand some issues.

The first is that insurance is intended to pay

benefits to people who can show they have suffered a loss. It is not designed to provide windfall gains.

Unfortunately the media reports in Australia gave limited details about the ‘heart attack’ suffered, its severity or the financial loss suffered by the claimant as a result. It also only focusses on the one product, trauma cover, it does not tell us whether the claimant had any disability cover – much better suited to disability risk and which would have paid regardless of condition if he was not able to work.

TRANSFERRING RISK

Trauma cover is designed to pay benefits when someone suffers a serious, defined, medical condition that causes significant expenses or loss of income. It should not pay large amounts where little or no financial loss is incurred. This is expensive and represents unnecessary transfer of risk and not really insurance, it’s something else.

Why should trauma cover pay hundreds of thousands of dollars for a relatively mild heart attack that does not leave the client with permanent impairment or inability to work? We don’t expect to get paid our full contents sum insured if a burglar steals one item!

Notwithstanding, there are calls for standard trauma definitions. I personally do not like prescription of this nature.

FREEDOM OF CONTRACT

We live in a free society and freedom of contract is important. Without contractual freedom the danger is we wind up with either no options or a legally imposed one. If trauma condition definitions were legally prescribed in NZ, product development would die.

The very concern raised in Australia that ‘definitions were not kept up-to-date’ would probably become entrenched as there would be no motivation for companies to innovate and introduce new products and benefits. People’s choice to accept contracts with differing benefits and hence different premium structures and costs would disappear. Competition has served New Zealand policyholders very well. Our products are among the very best in the world.

❝ Commercial pressure is the best motivator for product development by companies ❞

Without competition we probably would not have seen the very improvements by some companies of their heart attack definition in trauma cover, the absence of which is being complained about in Australia.

We would also probably not have seen diagnosis benefits or Intensive Care definitions in trauma policies.

DETERMINING BENEFITS

Neither would we have seen benefits paid monthly in advance (as opposed to monthly in arrears) under income protection and mortgage repayment policies. These are significant improvements we now take for granted but which came about only about a decade ago due to competition. Insurance companies must be free to determine the benefits they offer and the price they charge, just as policyholders should be free to select from a range of options.

It is true that insurance is very technical and complex – it needs to be if it is to do its job properly at a price people can afford. It is also true we can’t expect clients to have all the information at hand to make an informed choice: this is why they need a good adviser.

A good adviser should know which policies offer better benefits and which are simply cheap. A good adviser can recommend a replacement if a client’s policy becomes outdated. A good adviser can assist their client with making a claim.

Commercial pressure is the best motivator for product development by companies, but for this to work efficiently advisers need to be both able to offer a variety of providers products and be sufficiently knowledgeable,

so that companies with inferior benefits stop getting support (the commercial pressure).

VITAL INSURANCE CONTRACTS

In my opinion, the sanctity of insurance contracts is important. No, vital! Without contractual sanctity none of us has any certainty and insurance is all about reducing uncertainty, isn’t it? If you don’t like the contract you are in, move on. (We know that sometimes moving on is not possible, usually because of existing health conditions, which is why selecting quality in the first place is important).

The alternative, where contracts are not upheld according to their provisions, where terms are fluid and enforced to suit one of the parties, would destroy the certainty that well drafted contracts strive to achieve and result in, at best, significant cost increases and, at worst, complete absence from the market.

Insurance is expensive enough as it is. No one would be well served by price increases necessary to fund the uncertainty brought about by failure to enforce the contract provisions.

AFFORDABLE PRICE

It is my experience that insurance company staff, particularly those designing products and pricing the risk (setting the premium) work very hard at trying to provide products that work when clients need it (they have suffered a financial loss) at a price that they can afford.

Keeping it affordable means not paying claims that clients don’t need (that do not result in loss) or that they do not qualify for under the claims criteria. As long as this is done in the good faith expected of the parties then that should be the end of it.

As an adviser, properly educating and preparing your clients – and managing their legitimate claims expectations – can go a long way to reducing the inevitable disappointment that comes from unrealistic expectations when a claim is properly declined. ✚

Steve Wright has qualifications in law, economics, tax and financial planning and is general manager Product at Partners Life.