What Is an Insurance Risk Class?
An insurance risk class is a group of individuals or companies that have similar characteristics, which are used to determine the risk associated with underwriting a new policy and the premium that should be charged for coverage. Determining the insurance risk class is a primary component of an insurance company’s underwriting process.
- An insurance risk class is a way for insurers to underwrite policies based on one's belonging to a particular risk group.
- People in each risk group will generally share similar characteristics that help insurers better estimate the chances that the policyholder will file a claim.
- Riskier risk groups will pay higher premiums—for example, people who are sick, older, or have a poor driving record.
Insurance Risk Classes Explained
While no two individuals are exactly the same, many people exhibit similarities that allow them to be classified. Insurance companies need to know the likelihood that underwriting a new policy for a new client or business will be a profitable endeavor. After all, taking on a new policy for several hundred dollars a year won't be a good idea if the policyholder winds up creating thousands of dollars in claims.
In the case of auto insurance, an insurer may examine the age of the vehicle, the age of the driver, the driver’s history, the amount of coverage requested, and the area in which the vehicle is operated. These factors, when taken together, create a profile of a specific type of driver, which can be used by actuaries to determine how drivers in this particular profile act.
The insurance risk class allows insurance companies to determine the amount of coverage needed, as well as how much that coverage should cost.
Life Insurance Risk Classes
For life insurance, metrics like smoking status, height, weight, gender, family history, and age determine your risk class. Once you apply, the answers you provide to health and lifestyle questions will are taken into account by your agent, and an internal underwriting team will provide the most accurate risk class and quote possible.
"Substandard" is the broadest category and includes anyone who doesn’t fit into any other class. Some insurance companies will have categories exclusively for those who identify as smokers.
Preferred Plus/Elite: the lowest-risk category. People in this risk class are in excellent health, are typically younger, and have no other immediate cause for concern.
Preferred: a small step down from preferred plus, preferred class policyholders enjoy lower premiums due to excellent health but may have some subtle red flags like higher cholesterol.
Standard Plus: Above average health, but things like blood pressure or body mass index (BMI) may be outside the ideal range.
Standard: This means typical risk, and for life insurers it means an average life expectancy. You may have some health issues in your family or in your past, which keeps you out of more preferred risk groups.
Substandard/Rated: If you are classified as a higher risk than standard, you are subject to various degrees or ratings of substandard, which each insurer approaches a bit differently. This can be because of health issues or a risky past. Your premiums will also be higher, typically at the Standard price plus an additional 25 percent at every step down in the ratings.
Smoker: Smokers will pay significantly more due to the increased health risk. Insurers will ask if you smoke or have in the past several years and may test for the presence of nicotine in routine blood work.