March 14, 2010

How Frequently Do Insurance Companies Fail?

One of the risks of dealing with an insurance company is that the company might fail.   If you buy an annuity or some other form of investment from an insurance company like cash value life insurance then there is a small chance the insurance company might go bankrupt.   If an insurance company does fail then state guarantee associations guarantee your investment up to a maximum amount.   I don't think the risk of insurance company failure is high, but it does exist.   Even companies that appear solid aren't immune to risk of failure.  AIG had an A+ 'superior' rating in 2008 not long before the government had to step in and bail them out. 

Given that insurance companies can fail we know there is risk.  So how much is the risk of insurance company failure?  I did a bit of web research on this to try and answer that question.   I didn't find a definitive source with historical data on insurer failure rates.   I did find a number of different sources with bits of data that I think gives a decent rough estimate on the failure rate for insurance companies.

The National Organization of Life and Health Insurance Guarantee Associations has a partial list of Life / Health (LH) insurance companies that have been "impaired" or gone insolvent.   I count over 60 companies on that list and the list covers from 1983 to today.   But thats just a partial list so more then that have failed.   But if over 60 companies failed in 27 years then thats an average of over 2 failures / year.    About 11 of the companies on that list were just "impaired" which means that they remained in business but were taken over.

An old article citing a study from A.M. Best said they had found that "Overall, life/health insurer impairments remained relatively rare for the 27-years of the study, ranging from about 1-in-250 companies in the more stable times to 1-in-35 companies during more difficult ones. The annual average of impairments was 1-in-109 companies over the entire study period."

The III says that there are "There were 2,741 P/C insurance companies and 1,128 L/H insurance companies in the United States in 2008."   Another source cites some failure  #'s from 2004 and it says: "Overall, last year saw 22 insurer insolvencies, compared to 28 in 2002. Four life and health insurers and 18 property and casualty insurers failed in 2003, compared to three and 25 respective failures in 2002."  Those two sources above gives me #'s of failures in 2003 and 2002 and total insurers in 2008.   Of course 2002-2003 and 2008 are different years but the # of insurers is not likely to have changed significantly in a few year period.  So I can roughly estimate failure % rates using the failures form earlier years / total insurers in '08.   In 2003 there were 4 insolvencies of L/H companies and in 2008 there were 1128 such insurers.   That is about 0.3% failure rate.   They cited 18 P/C failures in 2003 and there are 2,741 of those in 2008.  That is a 0.6% failure rate.    For 2002 the failure rates are pretty close at 3 for L/H and 25 for P/C or roughly 0.2% and 0.9% failure rate.    

Bottom line, my estimate from these sources is that the rough annual failure rate for insurance companies is 0.2% to 0.9%.   Thats 1 in 111 to 1 in 500 level.

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