How Individual Health Plans Can Use Adverse Selection To Their Advantage

In a tier-factor approach, a family with 10 children may pay the same rates as a family with 2 children. In a member-level rating structure, the rates will be higher for a family with 10 children to account for the additional members, whereas the rates will be lower for a family with only 2 children. Therefore, families with 10 children will be attracted to plans using a tier-factor approach. It is important to review the structure of other plans offered in the same market, to ensure there are not unintended consequences of your company’s particular choice of structure.

Rescission

A critical yet sometimes overlooked area of the initial underwriting process is the balance between up-front underwriting versus back-end actions. While it might be tempting to push to speed up the initial underwriting process by requesting less information and performing less rigorous underwriting, doing so may result in a larger portion of applications leading to rescission.

Rescissions are terrible for public relations, and can lead to costly litigation, so it is important to consider the full picture of costs associated with making a decision to move to less up-front review.

Many insurers opt not to pursue rescissions, or do so only for very serious cases, because of the fear of litigation and bad public relations. However, if the market knows that a particular insurer never pursues failure-to-disclose misrepresentation actions, then it is likely that the insurer will attract greater misrepresentation. It is amazing how tuned in brokers are to specific insurer behaviors like likelihood and methods for rescission, and how brokers are able to educate and direct their clients.

Furthermore, rescissions are sometimes overturned by the courts, even in cases where it may at first seem clear that there has been falsification on the part of the insured. For example, if an applicant fails to disclose a condition, but there is sufficient information in other areas of reporting for the insurer to determine that the applicant has the condition (such as a reported prescription drug), the courts may rule that the insurer had adequate information. In other cases, regional courts may simply be more likely to rule against insurers for reasons beyond our control, such as prevailing political sentiments. In any case, it is clear that a system that minimizes the need to pursue rescissions is preferable for an insurer.

The solution? Avoid rescissions in the first place by taking the time to properly underwrite applicants at the outset. Doing this will not only prevent adverse selection, but it will help avoid the kind of publicity problems that can ensue from rescissions.

Conclusion

These tools can work together to compound their returns. An insurer with better underwriting will attract a healthier pool of applicants and will have more adequate risk protection built into the premiums of its higher-risk members. Understanding how the structure of the contract affects member behavior can again lead to creating contracts that attract a healthier, lower-cost applicant pool. More attention to the details of underwriting may help an insurer spot the signs of an unreported condition, allowing the insurer to make the correct adjustments from the beginning and avoid the need to pursue a rescission later. And with stronger underwriting and better-planned contract designs, an insurer can be more likely to attract better risks. It is a synergistic relationship among the different aspects of the contract creation process. The end result is a competitive advantage over companies that ignore the potential benefits of strategizing to account for adverse selection.