South Carolina Life Insurance Practice Exam

Which concept indicates a higher risk associated with an individual due to prior claims history?

1. Adverse Selection

2. Risk Pooling

3. Loss Exposure

4. Underwriting

The correct answer is: Adverse Selection

The correct choice is based on the concept of adverse selection, which occurs when individuals with a higher risk of loss are more likely to apply for insurance. In this case, a person's prior claims history indicates that they may pose a higher risk compared to others, as their history suggests they have been more likely to experience events that result in claims. Insurers must take this into account when assessing applications and setting premiums. Adverse selection affects an insurance company's risk pool by potentially leading to higher claim payouts than anticipated, as it attracts those who expect to incur losses while deterring lower-risk individuals who may not see the need for insurance. Understanding adverse selection helps insurance companies implement strategies like underwriting, which evaluates the risk associated with each applicant. The other options relate to different insurance concepts. Risk pooling refers to the practice of grouping multiple individuals together to spread risk across a larger base, thereby reducing the impact of any single individual's loss. Loss exposure is a measure of the potential financial loss an insurer faces from a particular risk. Underwriting is the process through which insurers assess the risk of applicants and determine policy terms and premium rates. Each of these concepts operates within the larger framework of managing risk in insurance, but adverse selection specifically addresses the issue of risk associated with individuals who