CHAPTER FIVE

LIFE AND HEALTH INSURANCE

POLICIES

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 LIFE INSURANCE
• Life insurance is a contract between an
insurance policy holder and an insurer
where the insurer promises to pay a
designated beneficiary a sum of money
in exchange for a premium, upon the
death of an insured person (often the
policy holder).

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 Purpose of life Insurance
Financial protection: To provide dependents of
the insured with Financial protection.
Financial compensation.
To support family income of the insured
To cover personal loans and other debts.
The family of the insured and the creditors
will then be protected from loss of money.
To accumulate an educational fund
It will be used to pay tuition fees for children
when they join higher education.
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Considerations in life insurance covering death
of the insured
1. Benefits determined in advance
2.The amount of money required to pay the
death benefits are to be collected in advance
3.Each insured in the group must be charged an
appropriate premium.
4.The probability of claim increases with the
passage of time
5.In some cases the insured & policy owner
may be different 4
 BASIC TYPES OF
LIFE INSURANCE CONTRACTS
1. Whole Life Insurance
Straight Life
Limited –pay
Single- pay
2. Term Insurance
Level Term Insurance
- Convertible
- Non-convertible
Renewable Term
Decreasing Term
3. Endowment Insurance 5
 1. WHOLE LIFE INSURANCE
 It is a type of life insurance contract that provides
insurance coverage for the life of the insured.
 Sum assured is payable only upon death of the
insured.
 When the policy holder dies, the face value of the
policy, known as a death benefit, is paid to the
person or persons named in the life insurance policy
(the beneficiary or beneficiaries).
 Whole Life Insurance contracts are classified as:
1. Straight Life
2. Limited- pay &
3. Single-pay Policies 6
1. Straight Life Insurance (Ordinary Life Insurance).
– Premiums are to be paid at regular interval until the death
of the insured or until the age of 100 year
– If the owner still alive at age 100, the face amount of
insurance is paid to the policy owner at that time.
2. Limited-Pay Life Insurance
– Premiums are paid for a definite period of time, which is
determined in advance.
– That is for 10, 15, 20, 25, 30 years or up to age 65.
– After the expiration of the specified time, the policy is said
to be paid-up
– Premiums are higher than straight Life Insurance because
premium is paid for a limited period of time.
3. Single Payment Life Insurance
– Here premium payment is made in one lump- sum at the
time of purchase of the whole life insurance.
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 2. TERM INSURANCE
Provides compensation (death benefit) to the
beneficiary if the insured person dies within the
stated period mentioned in the policy.

If the insured survives beyond the specified time

limit in the policy, the policy will expire and there
will not be any payment made by the insurer.

Term policy gives only temporary protection and

there is no saving element involved.
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Term contracts can be classified as:
1) Level Term Policy
– Provides a constant sum assured throughout the term of
the policy.
– For example, under a 15-year term policy of Birr 30,000,
the amount of payment to the insured will be Birr 30,000
if the insured dies at any time during the policy period.
– It can be convertible or nonconvertible.
2) Renewable Term Policy
– It can be renewed upon expiration
3) Decreasing Term Policy
– The amount of claims to be paid to the insured decreases
periodically
– The amount of death benefit decreases because the chance
of death increase with the age 9
3. ENDOWMENT INSURANCE

– Under this policy, payment is made if the insured

dies within the specified period; and if he survives
to the end of endowment period the amount is
paid to the policy owner at that time.
– The period of this policy is shorter than that for
Whole Life Insurance, and hence the premiums are
higher for the same age level.
– The shorter the endowment period, the higher the
premium.
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ENDOWMENT ANNUITY
– This is a policy that provides retirement income to
the holder.
– It also incorporates protection during the term of
the policy up to the age of retirement.
– Monthly income of Birr 10 for each Birr 1,000 of
the face amount for the remaining life of the
holder, after maturity, with the guarantee that 120
monthly payments be made even if the holder dies
within that period; or
– Instead of monthly payment, a single cash payment
equal to the maturity proceeds, or a combination
of paid-up Whole Life insurance and cash payment.
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 Term Insurance Endowment Insurance
 Provides only protection
• Provide protection along
for the term specified in
the policy document. with inv’t opportunity.

 They offer just the • They offer death as well

death benefits. as maturity benefits.

• The premium charged • The premiums payable

by term insurance plans for endowment plans
is much less than the are more expensive
endowment plans. than term plans
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 PREMIUM DETEMINATION
Types of premiums:
Net Premium
– This is a premium rate determined on the basis of
mortality rate and interest rate only.
– It does not include the operating costs charged by the
insurer.
– Net premium provides the insurer only with the amount
of money required to pay death claims.
Net Single Premium (NSP): It is PV of future death benefits.
– The total net premiums of an insurance policy are to be
paid as a single sum at the beginning of the contract.
Net Level Premium
– This is a premium charge that does not change from
year to year throughout the term of the policy. 13
Gross Premium

– When a portion of all the insurer’s costs of running the

business are added to the Net Premium, the resultant
premium is called the Gross Premium.

– The addition of the insurer’s costs of doing business to

the Net Premium is called Loading.

– These costs include operating expenses, commissions,

advertisement expenses etc.

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 Net Single Premium (NSP)
• The net single premium (NSP) is defined as
the present value of the future death benefit

• The NSP is based on three assumptions:

– Premiums are paid at the beginning of the policy year

– Death claims are paid at the end of the policy year

– The death rate is uniform throughout the year

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Steps to determine Net Single premium
1. Determine the PV of Birr 8,285,000
PV = FV/(1+i)n
PV = 8,285,000 = 7,531,818.18
(1.10)
2.Divide the PV by the number of insured to arrive at the
NET SINGLE PREMIUM.
7,531,818.18
NSP = = Birr 7.862
958,000

Every Insured will have to pay NSP of Birr 7.862 at the

beginning of the Term policy. The Insurer will, then, collect a
total of Birr 7,531,818.18 which will grow to Birr 828,500 in one
year time at 10%
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 TERM INSURANCE
With the above example as a background, let us try to
determine the Net Single Premium for a Term policy.
Consider the following information:
 3- Year term policy for Birr 5,000 to be issued at the beginning of
the year.

Number of policy holders at age 30 is 958,000

Interest rate is 10%

Single premium payment at the beginning of the year.

Death claims to be paid at the end of the year in which the

incident occurred.

CSO, 1980 mortality rate.

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 CSO MORTALITY RATE, MALE, 1980

Year Age Number Number Probability of

Living Dying Dying
1 30 958,000 1,657 0.00173
2 31 956,343 1,702 0.00178
3 32 954,640 1,747 0.00183

Expected death claims

Year Age Number Amount of Expected Death
Dying policy Claim
1 30 1,657 5,000 8,285,000
2 31 1,702 5,000 8,510,000
3 32 1,747 5,000 8,735,000
Total Expected Death Claims = 25,530,000
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 Present value of Total claims
1 2 3 4 = (2*3) 5 6
Yr Death PV PV of No. of (4/5)
Claims Factor at Claims Insured Annual
10% Net Prem
1 8,285,000 0.9091 7,531,893.5 958,000 7.862

2 8,510,000 0.8264 7,032,664 958,000 7.341

3 8,735,000 0.7513 6,562,605.5 958,000 6.850

25,530,000 21,127,163 22.053

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So each Insured must pay in advance the sum of Birr 22.053 for
three years protection. It helps the insurer to meet the expected
death claims that occur in each year

1 2 3 4 = (2 + 3) 5 6= (4 – 5)
Yr Beg Bal Int 10% B.B + Interest Death Claims End Bal

1 21,126,774* 2,112,677.40 23,239,451.40 8,285,000 14,954,451.4

2 14,954,451.4 1,495,445.14 16,449,896.54 8,510,000 7,939,896.54

3 7,939,896.54 793,989.66 8,733,886.20 8,735,000 -1113.80*

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ACTURIAL NOTATIONS: -
T = time (years)
X = age
Lx = number of people living during age x.
(Lx – Lx +1) = dx = number of people dying during age x.
(Dx/Lx) = px = probability of dying during age x.
(Lx+1/Lx) = qx = Probability that an individual at age x.
Survives age x.
Formula to determine Net Single Premium:

S (dx / Lx) S (dx  1 / Lx s(dx  T  1 / Lx

   
NSP  (1  r ) (1  r )2 (1  r )T

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Using this formula the Net Single Premium is computed as follows

Year Age Number Living Number dying

t x Lx dx
1 30 958,000 1,657
2 31 956,343 1,702
3 32 954,640 1,747

Birr 22.053

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 NET LEVEL PREMIUM
Instead of paying a single premium at the beginning of the
policy, the policyholders want to pay annual premiums of
equal size.
Here there are two points to consider.
1.Not all the policyholders will pay the annual level premiums
since some of them are expected to die before the end of the
term.
2.The insurer is now collecting limited amount of premiums to
invest at the beginning of the policy.

Accordingly, the total annual level premiums paid by a

policyholder will be greater than the single premium paid at
the beginning of the policy.
This equal annual premiums paid by a policy-holder is then
called NET LEVEL PREMIUM. 25
 NLP- EXAMPLE
No. of insured PV of $ 1 payable PV of $ 1
Yr Age Paying premium Beginning of year Premium
1 30 958,000 1 958,000
2 31 956,343 0.9091 869,411
3 32 954,640 0.8264 788,915
TOTAL PV 2,616,326

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The following table shows the amount of Net Level Premiums to be
collected and the expected death claims to be paid each year.

1 2 3 4 =(3 + 7) 5 6 7
Annual Total Prem Beg Bal B.B Invested Death Ending
Yr LP Collected at 10% Claims Balance

1 8.075 7,735,850 7,735,850 8,509,435 8,285,000 224,435

2 8.075 7,722,470 7,946,905 8,741,596 8,510,000 231,596
3 8.075 7,708,718 7,940,314 8,734,345 8,735,000 -655*

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 Personal Accident Policy
It provides compensation for death or bodily
injuries caused by violent, accidental, external and
visible means.
The injuries shall be the direct cause of death, loss or
disablement.
In the event of death of the insured, the benefit is to
be given to his representative.
Death or disablement should occur within 12
calendar months from the date of the accident. 28
 Worker’s Compensation Policy
This policy indemnifies the insured against all sums for
which he is to be liable to pay compensation for any worker
who sustains death or bodily injury by an accident or
occupational diseases arising from his work and during the
time of his work.
The worker should be employed by the insured, and the
category of work assigned to him and the place of work
should be specified in the Schedule.
The policy does not provide compensation for death or
disablement resulting from suicide attempted suicide or
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intentional self-injury