Another inconvenient truth

By John Barton, head of advice - QLD, Shadforth Financial Group

When your son starts asking why there’s so many insurance ads on television you know there’s an issue. I started looking out for them once he’d mentioned it. It seems there’s been nearly as many insurance advertisements as there have been sports betting ads of late – and we all know there’s been far too many of them!

Here’s a fact: if they keep running them, they must be working.

Now, it’s reasonably well known that Australia has a significant under-insurance problem. So, with all these people buying insurance on the back of these television advertisements we must be addressing the under-insurance problem and surely that’s a good thing? I’m not so sure.

One of the points these advertisements all push is that the process is quick, simple and painless and that these policies are relatively cheap. This brings us to one of the major differences between the policies that these direct insurers are promoting on television versus the policies you can buy direct from the more traditional insurance company or via a broker or financial adviser – underwriting.

Underwriting is the process the insurer takes to assess the risk of claim for individuals applying for insurance. Traditionally, underwriting is completed at the time of application – and can sometimes involve blood tests or visits to a doctor. Whilst this can involve some time and energy, once completed you know you have the cover. One of the ways the process is kept quick, simple and painless for direct insurance is that underwriting is often completed at the time of claim. The major problem with underwriting being completed at the time of claim is that it is too late to find out you don’t qualify or that you have an existing condition that isn’t covered. The whole point of insurance is that it pays you when you need it.

Another common issue with direct policies are the relatively narrow definitions. One of the ways these companies can keep the costs low and the process simple is by narrowing the definitions to reduce the number of claims they will have to pay for in the future. Insurance companies aren’t charities – they aren’t in the business of taking on risks they don’t understand or that will cost them money over time. By keeping the definitions tight, they put the odds in their favour – which means your chance of being covered when it matters the most is reduced.

Direct insurance contracts also generally offer lower limits – or amounts of cover and, consequently have lower payouts at the time of claim.

The final and perhaps biggest difference between direct insurance and the more traditional insurance contracts available is the price. The major component of the price charged for insurance is the risk premium – which is based on the insurers assessment of the risk. In most cases, direct insurers charge a higher premium on a like-for-like basis as a result of their limited (or non-existent) underwriting processes.

The second component in the price is administration. The cost of administration is relatively flat – it doesn’t increase directly as the amount of cover increases. The risk component, on the other hand, does increase directly with the amount of cover. Consequently, the lower the amount of cover, the higher the proportion of the premium goes to fund administration costs rather than the risk you are actually seeking to cover. In other words more of your money is wasted on administration and less is available to cover your against the risks you are actually trying to protect yourself against.

Whilst it may be inconvenient, the fact is that you will almost always be better off by investigating the options available under a comprehensive insurance contract. You will know you are covered and you will have a much better chance of ending up with the cover you actually need.

John Barton is head of advice for Queensland at Shadforth Financial Group and plays a key management role in the company’s philanthropic advisory group. He previously held roles at Tynan Mackenzie, ipac, AXA and Sunsuper.

About John Barton

John Barton is head of advice for Queensland at Shadforth Financial Group. He previously held roles at Tynan Mackenzie, ipac, AXA and Sunsuper.