LIBRARY
OF THE
UNIVERSITY OF CALIFORNIA.
"- O
^
Clays
GIFT OF
HAA, Cv^o
AN ADDRESS
DELIVERED BY
WILBUR S. TUPPER
Conservative Li'/e Insurance Company
BEFORE THE
COMMERCIAL CLASSES
OF THE
UNIVERSITY OF MICHIGAN
ANN ARBOR. NOVEMBER i^TH, 1902
AN ADDRESS
DELIVERED BY
ANN ARBOR, NOVEMBER I3TH, 1902
OF THE
f UNIVERSITY ))
1 BRIDE PRESS LOS ANGELES
AN ADDRESS
DELIVERED BY
WILBUR S. TUPPER
Vice-President
Conservative Life Insurance Company
BEFORE THE
COMMERCIAL CLASSES
OF THE
UNIVERSITY OF MICHIGAN
ANN ARBOR, NOVEMBER 13, 1902
OF
UNIVERSITY
M- BRIDE PRESS LOS ANGELES
NOTE : The following address is
reproduced from the "Insurance Indi-
cator" of Detroit, which journal first
published it from stenographic notes
taken by its representative.
153747!
SOME PRIMARY PRINCIPLES
OF
LIFE INSURANCE
LADIES AND GENTLEMEN: Before begin-
ning the talk which I have in view, let me
thank you first of all for the cordial reception
which you have given me. It was not so
many years ago, as it seems to me, and still
it was twenty in reality, that I myself climbed
the steps of the university to begin my course;
and after passing through similar courses to
those which some of you are now taking, I
think I appreciate, more than I otherwise
would, this reception and this opportunity of
speaking to college students.
From the earliest times, perhaps no one
fact has impressed itself upon the minds of
historians, poets and philosophers, as much as
the uncertainty of human life. It has been
the subject of song and story. Nothing in
the world is so uncertain and indefinite as the
after duration of any individual's life. It
may come through disease, it may come
through accident ; it may come in one of vary-
ing forms, and it often comes unannounced
and suddenly.
While it is true that nothing is so uncer-
tain as the duration of individual life, it is
also true that nothing is so absolutely certain
as the duration of community life. What do
I mean by community life ? I mean that, if
we take a group of individuals under the same
conditions and ages, leading the same sort of
life, we shall find that the after duration or
average length of life will be relatively the
same. Not only is this true of different local-
ities, but it is almost absolutely true of differ-
ent times. Thus the duration of human life
today is about the same as it was in the early
times when the first mortality tables were
formed. And in the main any differences
that have been observed or recorded in this
respect are due more to increased data ob-
tained and greater facilities for observation,
perhaps, than to any actual differences which
exist.
Life insurance enables the individual
whose life is uncertain and likely to be snuffed
out at any moment to partake of the average
longevity of the race. In other words, let us
assume that there is one student here of the
age of 30. He has an expectation of life of
about 35 years. This assumes that he is the
average in reality as well as in theory. Now,
by means of life insurance, that life may be
absolutely insured so far as the productive-
ness of it is concerned. It may share in the
average productiveness of life an equivalent,
in a monetary way, for living the average du-
ration of life.
Of the various mortality tables which have
been prepared, I shall call your attention to
two in common use in this country, and shall
not go into details to any great extent in
speaking of these. The first is the "Com-
bined Experience" table of mortality, often
called the "Actuaries'." This was derived
mainly from the combined mortality experi-
ence of some seventeen English companies ;
and the results graduated and carefully tabu-
lated were thereafter used as a basis of life in-
surance calculation and practice. The other
in use in this country is the so-called "Amer-
ican Experience" table. This was chiefly de-
rived from the mortality statistics of one of
the large American companies. But the
Combined or Actuaries' table was carefully
used in grading this and was the general
basis for the table. All of the life insurance
companies in the United States, I believe, use
one of these tables.
In your general studies upon this subject
it will be of interest to you to look up the par-
ticular statutes of your own state. Remem-
ber that the mortality table and the rate of
interest are matters which vary and which
may be changed in different states. I believe
that the standard of the State of Michigan at
the present time is the American Experience
with 4 per cent, interest.
Let us say further that no one pretends
that either of these tables is technically cor-
rect ; perhaps neither one is, nor is it neces-
sary that it should be, They are both ap-
proximately correct; and close enough to
actual experience to enable any life insur-
ance company to do business safely.
An understanding of the elementary prin-
ciples of the life insurance business the cal-
culation of premiums, etc., may be had with-
out recourse to mathematics beyond that
familiar to the ordinary high school student.
We have to deal merely with the force of
mortality and with interest calculations. I
will show you in brief, in a simple way, how
to compute a premium to insure a life let us
say of the age of 30. Let us calculate the
premium that will insure $1,000 at the age of
30 for one year, assuming the American ex-
perience table and 4 per cent, interest.
In the first place we have to consider not
merely the force of mortality but also interest.
The calculation of premiums in life insurance
is upon the assumption that the premium is
paid at the beginning of the year, and the
benefit at the end of the year in which the life
fails. The average death would, of course,
occur in the middle of the year. That would,
according to exact calculations, give the com-
pany six months to pay the average claim.
Some time must be given to examine proofs
of death and make any investigation neces-
sary. As a matter of fact, the practice is to
pay death claims within 30 to 90 days after
receipt of proofs; and some companies pay
claims immediately upon receipt of satisfac-
tory proofs of death.
Now the first proposition is this: What
is the present value of a dollar, at the rale
assumed, due at the end of a year? It may
be represented by the fraction TTFT or .9615,
the amount that will at the same rate of inter-
est produce $1.00 in two years is TiHhdHnr , or
.9245. Similarly for other periods.
We will start at the age of ten, taking
100,000 people, and note the decrement by
death at the end of each year. Now how
many will be alive at the age of 30? The
table says 85,441. Now how many of these
will die between the age of 30 and 31, or dur-
ing the year for which we are to insure this
one life at the age 30? Can any one in the
class give the answer? As a matter of fact
the table says 720. Now the fraction
represents the probability or the chance that
a life of the age of 30 will fail during that
year. Now if we multiply the probability of
death during that year by the present value
of a dollar due at the end of that year, we
shall have a result something as follows
.0081. In other words this .0081 will insure
one dollar at the age of 30, to be paid in case
the life fails during that year, the amount to
be paid at the end of the year ; and $8.10 will
insure $1,000 at the beginning of the year at
age 30, the amount to be paid in case of death
at the end of the year. The figures given on
the board insure the life for one year only.
The cost of insurance, effected at age 30, to
insure the life for age 31, is found by multi-
plying the present value of one dollar due at
the end of two years by a fraction whose num-
erator is the number dying between ages 31
and 32, and whose demoninator is the num-
ber living at age 30. This amount paid at age
30 suffices for the insurance for the year 31.
In a similar way we may compute the cost
of insuring at age 30, $1,000 for the ages 32,
33, 34, etc., to the table limit. I should have
explained earlier that we assume a limit to
human life, at age 100 in case of the Actuaries'
table and at age 96 in case of the American
table. We must arbitrarily cut the table off
at some point.
Having computed the cost of insuring a
life at ages 30, 31, 32, etc., to the table limit,
let us add these costs together. We shall
then have a single net premium that will in-
sure $1,000 at age 30, for the whole of life.
You will notice I have said a single premium,
and I have also called it a net premium.
A single premium means that the whole
cost is paid in one sum in advance. Now that
is not the way in which life insurance protec-
tion is ordinarily obtained. Men do not effect
purchases of life insurance as they buy a suit
of clothes. What is the process? Instead of
paying a single premium in advance, the ap-
plicant effects that which in reality is an ex-
change or barter. It is inconvenient, some-
times impossible, for the applicant to pay
down the full price of protection. The life in-
surance company gives him a policy and he
gives to the life insurance company, not the
price of the insurance, but an annuity on his
own life. Thus an exchange is made, and not
a sale in the ordinary sense.
Now to convert the single net premium
paid in advance into an annual net premium,
we may simply extend or change the single
payment at the beginning of the term into an
equivalent annuity; into annual payments
running through life or for twenty years or
ten years as the case may be. Then we have
the premium in the form that it is usually
applied.
Let us assume that instead of selling a
policy of life insurance, we want to sell a pure
endowment of $1,000. I mean by this that
$1,000 will be paid, say to a man taking out
the endowment at age 50, if he shall be alive
20 years after. Nothing is to be paid in case
of his death during the term. Now I will use
round numbers instead of using the technical
figures of the table. We may gain in clear-
ness what we lose in exactness. The princi-
ple is the important thing. Roughly, at age
50 about one-half will be alive at the end of 20
years. We are now selling a pure endow-
ment to a man at age 50, engaging to pay
him $1,000 if he is alive 20 years from today.
We are also selling 99 other men, age 50,
10
pure endowments, each a like amount on like
terms. Now if all these one hundred should
live, we must manifestly have on hand at the
end of the time $100,000. But in view of the
fact that the table shows that only half of
them will be alive, we shall need at the end of
the term only $50,000. So if there were no
such thing as interest in this calculation, we
must observe the decrement by death during
that period, and have on hand at the end of
the period enough to pay each one alive at the
end of the time.
But there is the interest calculation. Let
us assume the rate at zY^%- Now, how
much of each dollar must we have on hand so
that it will, by compound interest, in 20 years
amount to a full dollar ? We will say again,
roughly, about 50 cents. If there were no
interest we should need $500.00 to be paid in
advance from each man. In view of the fact
that the present value of a dollar due at the
end of twenty years is practically 50 cents, we
must really have only $250.00 from each man,
as the price of a pure endowment at age 50 to
be paid 20 years after, if the purchaser is then
alive. This is the single premium, paid in
advance, to be changed into an annual pre-
mium as before explained.
Now that is a pure endowment, the pur-
chaser getting nothing in case of death dur-
ing the term and receiving the endowment
only if he lives through the period fixed in
the policy. Now, a life insurance endowment
means $1,000.00 in case of death during the
term, and $1,000.00 in case of survival to the
end of the term. How do we get that ?
Using the illustration already on the board,
we will now find the cost of insurance, at any
age, not for one year only, but successively for
twenty years. In other words, the premium
that will be sufficient on a basis of $ 1,000.00
for all the deaths that occur during 20 years,
according to the table rate. We will add to
that premium the premium for pure endow-
ment, at same age, as just explained, necessary
to pay a like amount to those that survive to
the end of the term. By putting the two
together we provide for both those that live to
the end of the term, and those that die prior
thereto; and that is the method by which a
regular life insurance endowment rate is calcu-
lated.
I have used the term net premium in these
illustrations. I mean by that the exact insur-
ance cost, assuming the mortality and interest
rate to be exactly realized. We have as yet
made no provision whatever for expenses of
administration, emergencies, dividends, so-
called, or anything of the kind. Now the
u gross," or " office " premium is formed by
adding a certain amount to the net premium,
which is to cover expenses of management,
etc. Now, in truth, this addition or "loading,"
as it is called, varies with the custom of the
company, the style of the policy, and the gen-
eral conditions of the business.
Insurance generally in this country is
sold on what is known as the "participating"
plan, with "dividends" or "profits." Now,
right here let me assure you that there is no
such thing, according to the usual meaning
of the term, as a dividend to the insured in
life insurance. A dividend means profit.
There is no profit in life insurance. Life
insurance entails an absolute cost as does
everything of value. This cost may be dis-
guised or concealed in various ways. But it
is there just the same. What are the so-
12
called dividends or profits of life insurance
companies, as respects the policy-holder?
They are really an abatement of the cost, the
proper return of a proper overcharge, consid-
ered necessary in the premises. In other
words, we do not know in advance exactly
what the mortality rate will be ; we assume
the table rate. Now, our experience may, and
ought to, through medical selection, bring the
death rate below the table rate. Then there
will be a saving in mortality, will there not?
And that forms a part of the so-called dividend.
Again companies assume a conservative
rate of interest, say 3 or $%% Now, if they
make more money on their investments there
will be excess interest earnings. And that
excess will contribute to the so-called dividend.
This element may be considered a real earning
or profit.
Again there may be savings in the admin-
istration of the business : this may also be
added to the dividend account. There may be
other possible sources of dividends, so-called,
but those outlined are the principal ones.
Why should life insurance be effected in this
way ? If you should go to a tailor and ask
the price of making a suit, he would not say,
u We will buy the cloth, figure out the cost of
making, and other necessary expenses, and add
them together ; you pay so much down, and if
there is anything left, after a fair profit, you
will get it back." We should consider such a
tailor a fit subject for the insane asylum. With
most commodities nearly everything the
exact cost of production can be ascertained and
is clearly known before the sale is made. But
the exact condition which shall exist during
the running of a life insurance policy cannot
be known in advance. Hence we may properly
13
assume a rate which may be greater than is
needed with proper return of what shall be
saved out of the appropriation made.
There is one company only in the United
States that sells all its contracts on the non-
participating basis, without any return of so-
called profits or surplus. And another very
great company in this country does nearly all
of its business on this non-participating plan.
Some one asks me here what is the
amount or percentage added to the net pre-
mium to ;make the gross or office premium.
This is a hard question to answer, and one
depending upon the company and kind of
policy contract considered. Generally we
may say that the non-participating policy is
loaded from the very smallest per cent, up to
about 15 per cent. For the participating rate
the loading on various policies will run from
15% up to say 40%, according to the kind and
style of policy. Much difference exists among
companies not only as to the amount of load-
ing but method of applying it.
The two mortality tables referred to are
sufficient to insure, as a rule, all of the adults
in any city or state of this country without
medical examination. Bear this in mind; it
is an important principle and is often over-
looked. Now you know that in order to get
a policy you have to do something more than
simply make application ; you must be exam-
ined by the company's physician; a most rig-
orous examination of your life is made at
some expense to the company, too. Why
does the company do that, if these tables are
sufficient to insure all adults living in Michi-
gan without medical examination ?
To explain, let us assume now that com-
panies have no medical examinations at all ;
14
who would apply for insurance? Not the
men eligible for your football team; not those
who have every reason to expect to live long.
No; those applying would be such as know or
feel for some reason that life with them is to
be short* If companies had no medical ex-
aminations, only the sick, only those certain
soon to die, or fearing that they would soon
die, would apply for insurance, and we would
therefore not have anything like the average
mortality rate as a result.
So in the first place companies examine
risks to guard against adverse selection.
That which an individual chooses in respect
to life insurance as favorable to himself, as
between two courses of action or two options,
if it be favorable to him, conversely it must
be adverse to the company. Therefore com-
panies examine men in order to guard first,
against this adverse selection, in order that
they may not get all the bad risks in the com-
munity, while the others are entirely indiffer-
ent whether they insure their lives or not.
Furthermore, examinations are made to bring
about affirmatively as favorable a selection as
possible.
Again, if we could secure average lives en
bloc without the cost of medical examination,
the results would be fully as favorable, from
a practical financial standpoint, as they are by
selecting risks, with the cost of medical exam-
ination. To secure average lives en bloc, is
impracticable, therefore medical examination
is not only desirable but absolutely necessary.
I can illustrate adverse selection in another
way. We have various kinds of policies ;
cheap term policies, ordinary life policies and
endowment policies. Now in the practical
operation of the company, in spite of medical
15
examination, we find a higher death-rate
among those who apply for cheap term poli-
cies. Why? Simply because those who are
applying for low-priced term policies are do-
ing it because they feel that there is some
reason for thinking that they will die before
the end of the term. On the other hand,
those who are taking out high-priced endow-
ment policies are better risks than the ordi-
nary life insurers, simply because they feel
pretty certain that they will live out the term
of the policy and receive the endowment.
Otherwise they would not have applied for the
endowments.
In connection with this topic, let me call
your attention to a very important fact in
regard to mortality among women. The Brit-
ish government has for many years sold an-
nuities on the lives of men and women.
Many years ago a number of Dutch investors
made large investments by buying annuities
on the lives of healthy young women. Long
before the death of all of these, they had
demonstrated that women live longer than
men ; that they are poorer risks for the
grantor of the annuity ; hence the Dutch in-
vestors made a very large profit. Now this
was about the beginning of an investigation
in regard to mortality as between the sexes.
And the finding of the Dutch investors has
been repeatedly confirmed since; that, in adult
life at least, women live longer than men.
What was the result of this? Shortly after-
wards a couple of companies organized in
London for the special purpose of insuring the
lives of women. These two companies took
women very readily and freely. Both these
companies became bankrupt, because the mor-
tality among women was so great! The
16
Dutch investors found that the women were
better as annuitants and lived longer ; and the
two life insurance companies failed, because
of the greater death-rate among women. Now
that is one of the greatest apparent paradoxes
that could possibly be observed. And from
that day down to this some companies, and
some American companies, too, have charged
women more for annuities, because they are
supposed to live longer, and more for life in-
surance because they are supposed not to live
so long. What resolutions do you think a
woman's rights organization would pass rela-
tive to this ?
What is still more remarkable is the fact
that both these courses were entirely logical.
Why ? On account of adverse selection again.
They did not get a fair selection from these
risks on women. Women were, and still are,
occasional insurers, not average insurers.
They are not hunted out by agents and fairly
dragged by the neck into insuring their lives,
as men are. And in consequence such women
as insure their lives are the occasional ones
who seek insurance, or are willing listeners,
because they know or feel that there is some
reason why their lives should be protected.
And therefore a higher death rate among
female risks, as a whole, may be expected.
Only when female risks are sought as vigor-
ously as men are, can you get a mortality rate
as favorable as on the lives of men. Another
contributary cause to a higher death rate
among female risks is woman's traditional
privilege of concealing anything about her past
history or present condition. Fair examina-
tions are not so easily obtained.
Adverse selection will be felt when a policy-
holder chooses an option. Assume that a man
17
insures at age 30, gets a 2o-payment life
policy of $1,000 and lives to be 50. Let us
say that he has a reserve, or cash credit, of
$500. Now at 50 the policy is fully paid up
for life; he may take that and have no more to
pay on it, or he may have his cash reserve, or
credit, of $500. He cannot have both. Now
the death rate jumps up at this point and then
slowly goes down again. Why? Because all
those who feel that death is near are going to
take the policy and let it run ; while all those
who are healthy and feel they are going to live,
will take the $500. Thus through adverse
selection the poorer risks, as a rule, remain
with the company.
I see my time is going rapidly and I shall
not have time to more than touch upon other
interesting branches of the subject. Just a word
as to investments. In the first place, you must
bear this in mind : Make all of your investiga-
tions in life insurance investments start with
the statutes of the State. The life insurance
corporation is a creature of the statute, and of
course derives all its powers and privileges
from the laws of the State. It must therefore
make all its investments along certain lines
which the statutes permit.
From State supervision of investments
there are good results and bad results. The
good results are that a general rule of this kind
will keep some companies, possibly, from stray-
ing beyond bounds, and thus compel them to
invest the people's money more safely. The
bad results are that, as the rules must be gen-
eral in their application, they restrict a com-
pany from some profitable investments which
otherwise probably might be made. Some
statutory provisions in regard to investments
are " survivals," not adapted in all respects to
18
the changed conditions of the present time.
Among investments generally permitted
you will find United States bonds, the bonds
of the state and the bonds of the municipal
corporations of the state, and sometimes those
of other states and municipalities. Likewise
bonds of certain corporations under conditions
specified in the statute. You will always find
real estate mortgages, under certain condi-
tions, generally that they must be first mort-