How the structure of your insurance company affects you

When you are looking for a life insurance company, the following are important to consider: financial strength ratings, price, and customer service.

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You might also want to take a look at the corporate structure of the insurance company. Do you have voting rights in the company?  Would you share in any company surplus? 

You can have voting rights, share in company surplus, or have no power at all.

Most life insurance companies fall into one of three categories:

  • Mutual insurers
  • Stock insurers
  • Mutual holding companies

Mutual insurance company

This is the most basic insurance company structure. Mutual insurance customers actually own part of the company. The insurer's board of directors and managers run the company "in trust" for policyholders. Policyholders have the right to appoint the insurer's board of directors, and the board of directors appoints the company's management.

Additionally, most mutual insurance companies pay dividends to policyholders, when the companies make enough money. (For more on this, read The basics of insurance dividends.)

  • Pros: In essence, the purpose of a mutual insurance company is to provide value to policyholders, says Brendan Bridgeland, director of the Center for Insurance Research in Cambridge, Massachusetts. You get cash rewards in the form of dividends, as well as voting power. "The company is basically run for [the policyholders'] benefit," says Bridgeland.
  • Cons: Policyholders might own the company, but it can be difficult for them to exercise real power. Policyholders have power to appoint the board of directors, but company bylaws sometimes make it difficult to oust a member of the board of directors or to nominate someone else.

Stock insurance company

Stock insurance companies are publicly traded, meaning they are owned entirely by stockholders. When a mutual company goes through demutualization — the process of converting from a mutual company to a stock company — policyholders have the option of receiving stock, cash, or additional insurance coverage. Stock insurers offer these to compensate policyholders for their ownership rights. (For more on this, read What demutualization means for policyholders.)

Three other less common structures

Although mutual, stock, and mutual holding companies are the big three in terms of insurance company structures, there are three others.

Fraternal organizations

These are mutual insurance companies in which you have to be a member of a certain group or religion to join. For example, Lutheran Brotherhood provides insurance and financial services to members of the Lutheran faith. United Services Auto Association (USAA) sells auto insurance to members of the military and their relatives. Some fraternal organizations have opened up membership to outsiders.

Lloyd's Association

This is a complex structure modeled after Lloyd's of London. This structure consists of a number of different "syndicates" that specialize in unique risks — anything from the hull of a ship to the legs of a Hollywood actress.

Reciprocal Exchange

This is an unincorporated association in which each policyholder insures the other members within the organization. Thus, each policyholder serves as the insurer and the insured. Policyholders receive profits and losses in proportion to the amount of insurance they have.

  • Pros: Simply put, if you're a policyholder who is also a stockholder, your investment does well if the company does well. Stock insurers have a tendency to run leaner operations, so policyholders could see benefits in the form of lower rates.
  • Cons: Michael Snowdon, a faculty member at the College of Financial Planning in Denver, says managers are working for shareholders rather than strictly for policyholders, so there are times when the two interests might conflict. For example, if a stock insurance company decides to start selling policies for a very severe risk, such as earthquakes, it will hurt the insurer's chances of fulfilling its obligations with existing policyholders if a major earthquake hits.

Snowdon also says if the stock price of an insurance company drops drastically, it could have a negative effect on its financial strength, which is a strong indicator of its ability to pay claims.

Mutual holding company

There are three basic elements in a mutual holding structure: A mutual holding company, an intermediate stock holding company, and a stock insurance company. A mutual holding company, which is entirely owned by policyholders, owns the intermediate stock holding company. The intermediate stock holding company, in turn, entirely controls the stock insurance company, which actually sells insurance policies.

Intermediate stock holding companies can issue stock to raise capital. If that happens, the mutual holding company will always have majority control of the intermediate stock holding company, usually just over 50 percent.

  • Pros: If a mutual holding company decides to sell stock in the intermediate stock holding company, policyholders may get "subscription rights," which is the right to purchase stock at the initial public offering (IPO) price. If a mutual holding company decides to demutualize into a stock company, the mutual holding company will be dissolved, and policyholders will receive stock.
  • Cons: Policyholders from a mutual company transforming into a mutual holding company receive no compensation for their ownership rights unless the company decides to demutualize into a stock company. If the mutual holding company decides to demutualize and become a stock company, policyholders would get only subscription rights, and not receive compensation.

Policyholders still technically "own" the mutual holding company. Like mutual companies, it is difficult and unlikely they will exercise power. What's more, policyholders do not receive any policy dividends or financial benefits from the stock insurance company.

Which one's better?

There is no clear answer as to which insurance company structure is best. James Hunt, a former insurance commissioner in Vermont who now runs a life insurance evaluation service for the Consumer Federation of America, says in general, mutual companies traditionally pay higher interest on their whole life insurance policies. He says that's because stock companies and mutual holding companies allocate surplus money to stockholders or the companies' existing operations — not to policyholders. Hunt’s life insurance evaluation web site is http://www.evaluatelifeinsurance.org.

Snowdon says all companies are bound by law to fulfill their insurance contracts — regardless of their corporate structure. "A stock company or a mutual company both have to deal with consumers the same way,” Snowdon says. "In the long run, you won't see a difference."

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