How Do Insurance Companies Make Money?




Most of us have some sort of insurance protection. Whether it’s health insurance, car insurance, homeowners insurance, life insurance, or something else, we all are paying a premium (or someone is paying it for us) to reduce the potential financial burden in the case that something bad happens to us. When insurance companies are paying out for all those claims, how do insurance companies make money? Read on to find out.

What Is Insurance?

Before we can talk about how insurance companies make their money, it’s important to have an understanding of what insurance is. Insurance is when a policyholder pays another entity (the insurance company) a payment in exchange for the insurance company reimbursing the policyholder in the case of a financial loss.

For instance, if you own a home you pay homeowners insurance. If your home burns down, the insurance company will pay for the damages according to the details of the insurance contract.




With health insurance, you pay your premium, and in exchange you do not pay as much for an orthopedic surgeon as you would without insurance.

What if you never suffer a loss? Well, the insurance company keeps your premium. However, I will happily go the rest of my life paying out insurance premiums on my house, even if I never suffer a loss. Because that means my home was never burglarized, burned, etc. But if those things do happen, I can rest easy knowing that I will not be responsible for repairs or rebuilds.

How Do Insurance Companies Make Money?

An insurance company sets their premiums based on how much they expect to pay out in claims. Underwriters and actuaries do the math and predict an amount of financial loss that they will pay out to policyholders.

After they predict the amount of claims, they have to add in other things such as administrative costs, premium taxes, broker fees, and other costs of doing business.  Then, after that, they add in their margin, or profit.

They take all of those figures and divide by the number of policyholders to get a premium.

That actual formula for determining premiums is more complicated than that, but those are the basics. As you can see, if the claims come in higher than expected, the insurance company’s profit goes down. If the claims come in lower than expected, the insurance company’s profit goes up.  A lot rides on the accuracy of the underwriters and actuaries.

Shop Around When Buying The Best Insurance Rates

When insurance companies are battling for your business, it is usually the amount of profit they are willing to give or take that determines how competitive they will get with their pricing. Most of the other aspects of an insurance premium is fixed. Whether you are an individual or a group, insurance companies will many times come down on their premium if you press hard enough.

So when wondering how do insurance companies make money, it comes down to the profit they are taking on top of claims and fixed expenses.



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What is the ACA Individual Mandate Penalty?

With the Patient Protection and Affordable Care Act, or Obamacare, now fully in effect, there is a mandate that every American purchase health insurance or pay a tax as a penalty.  So what is the dollar amount of the ACA individual mandate penalty, and what exactly would need to happen to cause someone to have to pay the penalty?  Lets take a look.

Exemptions from the Individual Mandate Penalty

Not everyone without health insurance that lives in the United States will be required to pay the individual mandate penalty.  If any of the following apply, then the penalty might not be required.

  • Religious opposition to accepting health insurance benefits
  • Membership in an Indian tribe
  • Incarceration
  • Family income below the threshold for filing an income tax return
  • You pay for than 8% of your income for health insurance after employer contributions and tax credits are taken into account
  • Undocumented immigrant

If an individual does not fall into any of those categories, then having insurance from the following sources would then exempt him or her from the individual mandate penalty.

  • Medicare
  • Medicaid or CHIP
  • TRICARE
  • Employer-sponsored plan
  • Individual insurance that is at least at the Bronze level
  • Veteran’s health program
  • A grandfathered health plan that was in existence before the ACA was enacted

If someone does not have one of those types of insurance plans, then odds are he or she will be required to pay the individual mandate penalty.

How Much is the ACA Individual Mandate Penalty?

The penalty for not having health insurance will increase as the years go by.  For the first 3 years of the law’s existence, the penalty will look like this:

YearGreater of:AdultChildFamily Max
20141% of family income, or:$95$47.50$285
20152% of family income, or:$325$162.50$975
20162.5% of family income, or:$695$347.50$2,085

 

 

Some key notes:

  • Definition of income: Total income in excess of the filing threshold ($10,000 for individuals, $20,000 for families, in 2013)
  • Penalty is pro-rated by the number of months without coverage
  • A single gap of coverage of less than 3 months will not result in a penalty.  This is of importance for those enrolling in the initial Marketplace Open Enrollment.  The Open Enrollment deadline is March 31, which will start plans on either April 1 or May 1.  For those without coverage on January 1, this would result in a lack of coverage for over 3 months, and would seem to then result in an individual mandate penalty.  However, HHS has said that individuals that fall in this bucket can file a waiver to avoid the penalty.
  • The penalty cannot be greater than the national average of Bronze coverage on the exchanges
  • After 2016 the individual mandate penalty increases by the cost of living index

There are many things to consider when it comes to insuring yourself and your family.  The ACA individual mandate penalty is one of those things.

Source: Healthcare.gov

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Affordable Care Act Deadlines You Need To Know

Time is running out for individuals who want to enroll in an Obamacare plan.  Enrollment so far has been lagging, and it will be interesting to see if people are not interested in enrolling or if there is not enough information available.  In any event, if someone does not have coverage by March 31 they will be required to pay a tax for not having heatlh insurance.  In order to avoid inadvertently being left out in the cold, here are some dates to be aware of.

February 15, 2014

Deadline for March 1 Enrollment

As a general rule, an individual must be signed up by the 15th of a month in order to have coverage start on the 1st of the following month.  Therefore, if you need coverage on March 1, you need to have signed up for an exchange plan by February 15.  Even if you miss this deadline by 1 day, you will most likely have to wait until April 1 to have health insurance.

Technically, since enrollment after February 15 would result in coverage that would not begin until April, the individual would be subject to the penalty for not having coverage if he or she was without coverage since January 1 (i.e. 3 consecutive months).  However, the federal government has said that as long as someone enrolls during the Open Enrollment period (through March 31) that person will not have the penalty applied.  Be aware that a hardship waiver may be required when filing 2014 taxes.

March 15, 2014

Deadline for April 1 Enrollment

As mentioned above, if you want coverage by April 1, 2014, you must be enrolled by March 15.  If you enroll between March 16 and March 31, you will still be in the Open Enrollment timeframe, but now you have pushed your effective date of coverage back to May 1.  And you’ll probably be required to complete a hardship waiver at tax time.

March 31, 2014

Last Day of Open Enrollment

In order to completely avoid a penalty for not having health insurance you must have your enrollment completed by March 31, 2014.  The first day of coverage will be May 1.

Do Not Wait

If you are wanting to enroll in an exchange plan, do not wait until the last minute to complete your enrollment.  While the marketplace websites are vastly improved over what was rolled out in October, there is no guarantee that you will not experience technical difficulties when trying to sign up.

Also, if you want the coverage, why wait?  Get signed up and covered as soon as possible.

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Top 10 Most Expensive Health Insurance Markets in the United States

Kaiser Health News has an article out that lists the 10 most expensive health insurance markets in the United States.  Some things to note about the list:

  • The ranking is based on the exchange available in each of the states, whether it be a state-run exchange for the federal exchange.
  • The ranking uses the lowest cost Silver Plan available in each region.  The Silver Plan seems to be the most popular marketplace option.
  • The ranking uses the cost for a 40-year old person.  Some states such as Vermont do not allow different rates based on age, so while Vermont is on Kaiser’s list, it may not necessarily be on every list of this type.
  • The cost shown does not take into account available subsidies.

It’s interesting to see how locations all throughout the country make the list.  Some are on here due to poor health and low employer-provided coverage, and some are on here due to high cost of medical care.

If you have been out shopping for health insurance on the exchanges, you have no doubt had many questions and have possibly had some sticker shock. Unless you live in one of these 10 locations, the sticker shock could be worse.

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