Life's big decisions

The cost of life insurance has been falling, and it's easier than ever to pick up the phone or go online to obtain this and other forms of personal cover. That's good news for Australia's underinsurance problem. But alarm bells are starting to ring about just how low premiums can safely go, and about the potential for people to be sold the wrong product.

On pricing, the concern is that premiums set temptingly low at the outset may have to rise sharply in later years. The danger is that policyholders will be priced out of their cover - deliberately, a cynic might say - just at the point when they need it most.

Running parallel to that is the concern that people who buy their insurance directly, rather than through an adviser or broker, may be unaware of policy pitfalls - again, potentially leaving them without the cover they need.

Do you understand the difference between "any occupation" and "own occupation" and how this might apply to your income-protection or disability insurance? Which insurers are known in the trade for big swings in premiums? Which ones lock existing clients away in expensive policies with inferior benefits instead of passing on new benefits.

Industry researcher Mark Kachor, of DEXX&R, says life-insurance premiums have fallen 10 per cent on average over the past decade.

Paul Davies of Jarickson Insurance Advisers says a policy just two to three years old could probably be improved upon today.

But Kachor adds: "Competition is good provided it doesn't go beyond a certain point - then it becomes almost detrimental to the consumer."

Risk insurance adviser Roy Agranat, of Centric Wealth, says: "If competition is only about price, the consumer can be one of the biggest losers."

That's because insurers have to balance price and the risk they're taking on in one way or another. If the price is low, one option is for the insurer to make it harder to claim by tightening definitions or excluding more life events from the policy.

That's why it's not a good idea to choose an insurance product on price alone: the cheapest product is a false economy if you can't make a successful claim.

"Price will be long forgotten after a bad claims experience," Agranat says.

Another response is for insurers to push premiums sharply higher as they start wearing the cost of claims made under generous policies sold in previous years.

Advisers have told Money that although premiums are down across the industry, those charged by some insurers have jumped for existing policyholders in older products by as much as 30 per cent recently because they were unsustainably low in the first place.

The executive general manager of insurance for MLC & NAB Wealth, Duncan West, says: "Price on day one is important, but you should be equally as interested in the price in the future."

But how can you predict the future? "This is where the consumer needs good advice," West says.

"Good advisers will be able to look at different companies and their approach to pricing over a really long period of time."

Do these complications mean people should never buy insurance over the phone or the internet?

"Our view is that it's perfectly valid for people to buy insurance without advice, but there are a lot of people who need advice," West says.

Personal-insurance broker Rick Mapperson says there are inherent dangers in finding the right cover.

"A lot of people are doing it online now, and even using online search companies that say they will do it for you.

"But while they may find you the cheapest cover, that's not necessarily the most appropriate cover ... it's not a one-size-fits-all situation," Mapperson says.

"There are things you just can't decipher through a search engine.

"It doesn't know if the client has a pre-existing condition such as a back problem, which companies are going to be the most accepting when it comes to that condition.

"I know that from experience."

Insurance advisers point out that commissions are still permitted in insurance, so it costs nothing up front to obtain advice.

Whether you're talking to an adviser or buying a policy online, here are 10 things you need to know about life and income-protection insurance.

1. There are two types of life insurance premium - stepped and level. Stepped premiums start lower but will rise as you age, as your risk increases. Level premiums start higher but are meant to remain the same, apart for adjustments for inflation, making them cheaper in the long run. You can mix stepped and level premiums to come up with something that suits your budget.

2. Guaranteed renewable policies must be renewed by the insurer, even if there has been a change in your circumstances. A life insurer can't refuse your annual renewal because you've developed a heart condition in the past year, for example. However, sickness and accident insurance (or accident-only insurance) may not be guaranteed renewable if it comes from a general insurer (the sort of insurer that provides car or household insurance). "People are surprised that sickness and accident insurance is completely different from income protection," Davies says.

3. Definitions and exclusions are important. What your doctor calls a brain tumour may not be what the insurer calls a brain tumour. You might get a payout on one level of cancer but not on another (see case study, above). The tighter the definitions, and the fewer the conditions covered, the harder it is to claim.

4. Pay close attention to the insurer's definition of pre-existing condition. Some insurers won't pay out on any pre-existing condition, no matter how long ago it occurred and even if you've totally recovered. Others only want to know about conditions that existed in, say, the past five years.

5. Occupational category can play a big role in the premium you pay. Kachor says insurers have been fiddling with occupational pricing recently, with premiums going up for some higher-risk jobs. Remember to update your details if you change jobs, because you may be eligible for a lower premium.

6. Income protection insurance can be sold on an "any occupation" or "own occupation" basis. Under the "any occupation" wording, to have a claim you need to be unable to carry out any occupation - a much higher hurdle than "own occupation", where you will be paid if illness or injury stops you doing your own job. Agranat of Centric Wealth says an added complication is that some policies have a threshold under which they pay an "own occupation" claim for two years, say, but then require the policyholder to pass the "any occupation" test to be eligible for any further payments.

7. Waiting periods are one way to reduce a premium - the longer you're prepared to wait for a payout, the cheaper the policy will be. So an income-protection policy that kicks in after three months off work will be cheaper than one that kicks in after a month.

8.The shorter the benefit period, the cheaper the policy, too. But risk specialists say this isn't a good way to cut costs. They'd prefer everyone had a policy that, in the worst-case scenario, would provide an income until age 65. Many cut out after two years. Yes, you may have TPD (total and permanent disability) insurance tied to your life insurance, but those policies have much higher disability hurdles to clear than income-protection insurance.

9. Another potential trap is the difference between agreed and indemnity income-protection policies. With an indemnity policy, you're insured for what you're earning at the time you make a claim - so let's hope it's not a bad year. With an agreed-value policy, however, you prove your income at the time of application and insure for that amount. Naturally, agreed-value policies are more expensive than indemnity ones.

10. Check the insurer's policy on passing back new benefits to existing customers. Some insurers apply changes to all policies while others "close" a product and start a new "series", leaving policyholders in the old pool with inferior benefits and possibly paying a higher price than new customers. There's debate in the industry about which method is more sustainable, but we're pretty sure you'd prefer to have pass-back. Agranat of Centric Wealth says a clue is a product with a high series number.

Key points

- Price competition can lead some insurers to cut corners on policies.

- The policy wording may make it hard to succeed in a claim.

- Definitions may be tighter and there may be more exclusions.

- There is concern that initially low premiums may rise sharply in later years.

Insurance cover

The Australian Prudential Regulation Authority has its eye on pricing in the insurance market.

In its annual report released last week, APRA refers to "the tension between the need to attract business from financial planners and sensible business practices". Time will tell how this plays out, the report says, and insurers will be under increased scrutiny.

Group life insurance has been of concern for some time, the report says, amid stiff competition for the business of groups such as superannuation funds.

It also refers to direct sales of life insurance to consumers, saying the marketing of products through call centres, the internet and television advertising "often at high prices" could pose risks "to the reputation and viability of insurers" without careful management. "Many of the concepts in this area are unproven and the market is becoming crowded, which will put pressure on profitability," the report says.

"APRA has also been in discussions with the Australian Securities and Investments Commission over directly marketed business to ensure consistent understanding and co-ordination of scrutiny in this area."

In a speech earlier this year, Ian Laughlin, one of the three members of APRA's executive group and a former insurance industry executive, noted that the direct life-insurance business had been growing at a high rate and was now a "significant proportion" of the retail market.

"We are concerned that the quality of the products and of the business being written may be poor in some cases," he told a conference of accountants.

"We [are seeing] examples of expensive products and high discontinuance rates.

"This raises concerns about governance and reputational risk for the company and for the industry and we are actively discussing this with boards".

APRA oversees the operation of 28 life insurers in Australia.

Case study

Brian and Lynn Boggs included trauma cover insurance that pays a lump sum if you suffer a serious illness when they made insurance arrangements as part of a financial plan in the mid-1990s. Five years later, Brian was diagnosed with prostate cancer and five years after that Lynn with a brain tumour.

Brian's trauma claim was paid promptly and in full, although he notes he was relatively fortunate that his cancer was what's known as T2. If he'd picked it up while it was still a T1 tumour, even an aggressive one, he wouldn't have been eligible for a payout under his policy.

"Most people with prostate cancer pick it up at T1, but there are only a few policies out there that pay on T1," says Boggs, a former financial planner.

That's the sort of detail people need to be aware of when they're buying trauma policies, he says.

When his wife, Lynn, lodged her claim for a non-malignant tumour in the carotid artery leading to her brain, which required radical surgery, she had a fight on her hands in more ways than one. While the specialists said it was a brain tumour, the insurer said the site of the tumour was not what it envisaged when it developed its policy. "We had some vigorous discussions with the claims people because at the time the policy wording simply said brain tumour it didn't say where in the brain," Brian says.

The Boggses won the argument and the insurer eventually paid (though the provider is believed to have subsequently changed the wording).

Only 3 per cent of Australians have trauma cover but Brian says the figure should be much higher. "In both our cases it meant we were able to spend the time recuperating and not race back to work ... It provided the ability to get your head space right you can mend physically, but there's also the mental element of a life-threatening condition."