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What Is an Underwriter?

The average person has at least one if not multiple, insurance policies. Your insurance policies help with risk management. Insurance coverage in line with your needs is critical for protecting your financial situation and minimizing financial risks. Insurance coverage is a fundamental component of good personal finance.

The insurance industry covers a wide range of insurable interests. The most common types of insurance include:

If you have more than one insurance policy, you know that the premiums for different types of policies vary significantly.

Who determines the price of a particular insurance policy? Underwriters. Learn more about the role of underwriters in evaluating risk and pricing insurance policies and other financial instruments in this article.

What Is Insurance Underwriting?

The insurance underwriting process involves evaluating risks to determine whether an insurance company will insure a particular individual or entity. If the insurance company agrees to take on the risk, the insurance underwriting process requires the insurance company to price the risk.

Insurance underwriting involves extensive data analytics. The process also employs artificial intelligence and other tools to analyze risk factors. It determines the level of risk based on relevant data. Effective insurance underwriting is essential for any insurance company to maintain a healthy loss ratio.

Poor underwriting decisions lead to high loss ratios. This means the insurance company pays more in insurance claims than it collects in insurance premiums. If this condition persists, it jeopardizes the insurance company's financial health.

What Does an Underwriter Do?

Lloyd's of London first used the term underwriter centuries ago. Lloyd's of London evaluated the risks assumed by financiers of sea voyages. Banks would sign below the risk information on the document memorializing the deal, hence the term "underwriting."

Today, insurance companies employ underwriters. They determine the company's risk for insuring a potential insured. Underwriters balance the insurance company's interest in profitability against the likelihood of a client needing to use a particular policy.

Underwriters work behind the scenes. They do not have direct contact with clients like insurance brokers and agents. Underwriters price premiums for various types of insurance. They evaluate the risk of insuring a particular home, car, driver, business, or individual.

How Underwriters Evaluate Risk

Underwriters often rely on computer programs that use algorithms and actuarial data to evaluate the insurance company's risk.

The goal is to avoid potential exposure to claims that could result in an excessive payout. The data sets used by underwriters evaluate potential customers by groups. For example, data models predict the expense of insuring:

  • A healthy person of a particular age
  • Someone with a certain family disease
  • A person who falls within a certain income bracket
  • A person with a particular occupation

Depending on the type of insurance, underwriters consider different factors when reaching a figure.

Types of Underwriters

As you would expect, there are different types of underwriters. Underwriters must have specific qualifications and credentials. The basic qualifications for an insurance underwriter include earning a bachelor's degree and completing on-the-job training that can lead to certifications.

The underwriting process is industry-specific. Most insurance underwriters focus on a specific subset of insurance, such as auto insurancehealth insurance, or life insurance.

Common Factors Evaluated in Underwriting

Health Insurance​

Health insurance underwriting gives significant weight to the customer's personal history. For example, smoking is considered a high-risk behavior because in general smokers require more hospitalizations than non-smokers.

With car insurance, underwriters consider a customer's:

  • Driving history
  • Location
  • Credit score
  • Type of vehicle
  • Marriage status
  • Gender
  • Education level

After a thorough examination of the risk to the insurance company, the underwriter sets a price for the premium in exchange for the insurance company taking on the risk.

Insurance underwriting uses different metrics to determine the level of risk depending on the type of insurance application.

Life Insurance

For example, here's how underwriting works for life insurance. Life insurance issuers require a rigorous underwriting process before issuing life insurance policies. Every life insurance applicant must complete the underwriting process in some form. Analyzing the person's risk factors helps determine whether the applicant is insurable, for what amount of insurance, and at what cost.

Risk assessment factors that determine a fair premium. They include the following:

  • Age
  • Current health
  • Medical history
  • Occupation
  • Income
  • Credit score
  • Dangerous hobbies
  • Lifestyle factors

Depending on the underwriting tract, applicants may be required to undergo a medical exam that includes collecting blood and urine samples. The results of such underwriting can be used to predict relative mortality. With traditional underwriting, it can take one to two months to complete but can offer the best rate. The accelerated tract is more streamlined. It is typically available for applicants in good health who are 60 or younger.

Mortgage Underwriting

Although not technically insurance underwriting, mortgage underwriting for a loan involves a similar process to insurance underwriting.

If you're like the majority of Americans, you'll need a mortgage loan to finance a home purchase. To obtain a home loan, you must complete a mortgage application through a financial organization's loan officer. Loan underwriters evaluate the application.

The loan application process requires a review of the mortgage lender's requirements. The borrower must provide all documentation the lender requires. The underwriter verifies the following:

  • Identity
  • Credit history
  • Debt-to-income ratio
  • Income
  • Cash reserves
  • Investments and brokerage accounts
  • Whether you are a first-time buyer or own other real estate
  • Debts

Banks and other financial institutions perform underwriting to determine the likelihood of an insurer paying back the home loan. This process will also determine the interest rate for your loan.

Securities Underwriting

Another type of underwriting involves securities. A securities underwriter can administer the public issuance and distribution of securities, usually stock. The most common type of securities underwriting occurs during the initial public offering (IPO) process.

IPO underwriters work with the entity issuing the stock to:

  • Determine the initial offering price
  • Buy securities from the issuer
  • Sell the securities to investors through the underwriter's distribution network

Investment banks and investment companies typically serve as IPO underwriters. The interest of institutional investors, such as insurance companies and mutual fund companies, helps set the price for the IPO.

Get Legal Help With Insurance Underwriting

Understanding insurance premiums and other issues can be confusing. Sometimes, legal disputes can arise with insurance companies about premiums, policies, and coverage.

If you have questions about the legal aspects of insurance or underwriting, consult a qualified local insurance law attorney.

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