A change in lifestyle

When you sell any type of product, whether it is a car, a box of washing powder, or a protection product, customers are attracted by a discount. And as protection tends to be a grudge purchase, anything that appears to increase value for money for the customer has to be good. But sometimes discounts can be a double-edged sword.

Animal Friends Insurance (AFI) recently launched a product offering cheaper term assurance rates for vegetarians. These rates are based upon research stating that a vegetarian diet can reduce the chances of suffering from heart disease, cancer and other illnesses and can improve life expectancy in the long term.

Actually this is a form of preferred lives pricing, and is really no different in concept to the traditional split between smoker and non-smoker rates. The medical evidence to suggest smoking increases the risk of heart disease and cancer and increases mortality is strong ' hence the huge differences in rates that are often seen.

The smoker/non-smoker differential is an accepted method of pricing protection products and IFAs and their clients accept this. But could the move by AFI start a trend towards more preferred lives pricing?

It would be interesting to research consumer views about the wider use of preferred life rates in the light of the recent debate over the use of genetic testing when underwriting protection policies. There have been many scare stories in the media about genetic testing leading to the development of a 'genetic underclass' and insurance companies forcing people to take genetic tests.

Public fears have instigated action by the Association of British Insurers (ABI) and the use of genetic test results has effectively been banned for the time being. This is a responsible attitude to take. In reality, the genetic tests available cannot provide underwriters with much more of an indication as to the client's possible future health than the traditional protection application form. But the public is concerned and removing the cause of that concern, as the industry has done, is a good customer-focused step forward.

Few companies have so far attempted to introduce true preferred lives pricing. This is when rates are banded according to certain health criteria. For example, standard rates could simply include the traditional smoking differential. Preferred rates move beyond this and a customer would qualify for them if they were, for example, a non-smoker that drinks less than a certain number of units of alcohol per week, is within the correct height weight ratio and has a good family history.

If people see genetic underwriting as discriminatory, what would they make of preferred life rates, which could be viewed in a similar manner, especially if extra detailed health and medical questions were needed to underwrite them? How far away from the traditional smoker/non-smoker model can we stray before the discrimination becomes unacceptable to the customer? If a vegetarian discount becomes the norm, would meat eaters feel discriminated against? In our politically correct world, when will the perception of discrimination overcome the benefit of the savings that can be advertised?

The 'true' preferred lives concept did not take off in the UK mainly because the preferred rate was always quoted up front. Clients applied, were underwritten and then disappointed when they were told that the premium would actually be higher. Only about a quarter of applicants actually qualified for the cheaper rate.

Giving clients a boost

A better way of handling this would have been to quote the standard rates during the sales process, then offer the discount after underwriting if the client met the preferred lives criteria. This would have been a pleasant surprise for the client, rather than a disappointment.

While this approach would have lacked the initial promotional boost that advertising the lower rate upfront would have had, over the longer term it may have led to more interest and take up of the preferred lives concept.

Across the Atlantic

The experience in the US has been very similar. US term policies have taken the preferred lives-pricing health banding concept to the extreme and this has led to problems.

Most policies offer many tiers of rates, for example:

• Standard smoker.

• Standard non-smoker.

• Preferred.

• Super preferred III.

• Super preferred II.

• Super preferred I.

The reason they can support so many tiers of rates is that the underwriting process is much more rigorous than in the UK. If you want to frighten an American actuary, tell them that in the UK our private medical attendants report (PMAR) limits can be as high as £600,000.

In the US, medical screening is routine on almost all applications, even those with small amounts of cover. A blood sample is used to test for HIV, cotinine, cholesterol levels, lipid and liver functions, and other conditions and disorders. Hair follicle samples are also sometimes taken to test for cocaine and other drug use.

In the UK, the trend has been to make underwriting easier, quicker and less reliant on medical evidence. Expert underwriting systems ask detailed questions to filter applications and accept as many cases as possible, without the need for medical evidence. Further attempts to introduce preferred lives pricing in the UK might require a reversal of this trend and it could become even more intrusive for the client. And the extra evidence required to check that the client qualified for a certain rate band could increase underwriting costs. At a time when protection product margins are already stretched to the limit no one wants to have to factor extra costs into premium rates.

Even if preferred life rates could be priced profitably and medical costs kept under control, they could still lead to problems if the client's expectations were not managed properly. For example in the USA, in order to qualify for the Super preferred III tier the client has to have:

• Smoked no tobacco or nicotine (including patches and gum) for three years.

• Height/weight within certain limits.

• Blood pressure within certain limits and no history of any variance.

• Cholesterol within certain limits.

• No family history of any illness.

• Never participating in hazardous occupations or sports.

• No history or evidence of drug use.

• No driving convictions in the last five years.

These criteria are quite tough to pass, but clients usually expect to get the best rates and are disappointed when they do not.

Richard Williams, president of Saukusa International Insurance Agency, based in Ohio, US, says: 'The problem is that, in the field, agents always quote the Super Preferred I rate even though they know only 10%-15% of the applicants will qualify for this.'

This can create client disappointment and mean cases move between companies until the client gets the best deal. The underwriters are frequently challenged on each case where they do not grant the top tier rate and this ties up the underwriter's time, increases costs, and increases customer irritation.

'One underwriter at a major client company of mine said they receive at least one phone call for every case they do not award Super Preferred I status to,' says Williams.

As a result of these problems, companies are considering moving back to a simple smoker/non-smoker differential. 'It may be that a company would lose out on some cases initially, but in reality bottom line profitability is much better if you do not have the preferred life rate tiers,' he adds.

Given the US experience, the poor UK take up in the past, and the potential problems of preferred life tiered pricing, this is perhaps not a route the market will go down at the moment. However, the special rates for vegetarians is an interesting niche. Perhaps the advantage there lies not so much in the discount that is available, but by allying a protection product to the benefits of a particular lifestyle community.