Unified Security And Fiduciary

The banking, investment, and insurance industries perform many of the same tasks, in extremely different ways, and all have spent many years struggling to remain profitable and relevant despite the limited amount of money customer actually have to move around. Eventually, a single industry, the Unified Security and Fiduciary, will provide streamlined services taken from and combined out of the various related duties of their competing industries.

Current Status

Banks, investment services, tax preparation companies, payroll services, insurance companies have made and broken affiliations, purchased and sold each other, consolidated and eliminated services and products for many years. Each has taken opportunities to buy other companies, in hopes of building a 'rounder' bill of services, but quite often finding out that the selling company was only profitable at the selling price. Blue Cross and Blue Shield of North Dakota, under the umbrella name Noridian, purchased numerous area insurance and financial companies during the 1990s, only to reduce, eliminate, or liquidate the majority of them by the mid-2000s. Until companies like Noridian can turn their business into one unified process, there will be little opportunity for profit or valuable services for customers.

The Core Of Unified Security And Fiduciary

Ultimately, people turn to financial services for two reasons: handle their non-cash finances, and protect their assets for the future.

Despite the ubiquity of electronic transactions and banking, a large part of the US exists without using any sort of banking services or insurance. While this is possible, it creates a number of problems, creating the market for asset management and protection.

However, because the various services needed are only available to certain people, such as those working certain numbers of hours for certain employers, or can only be pieces together from various sources, the amount of administrative overhead and fees to manage one customer's needs is oversized compared to the amount of service the customer uses.

Banking, Investment, And Insurance

Banking consists of holding money for later use, investment involves lending money to others at a profit, and insurance is to pay a small amount of money against the chance of a large, unexpected expense in the future. The common aspect among all three is money, but none of these three industries can perform all the tasks entirely on their own, and as such require the assistance of each others' industry. Insurers need banks and investments to manage their money, banks invest through loans and insure their deposits, and investment companies need banks for their transactions. The number of transactions involved to perform a limited number of tasks creates a flow of finances that exceeds the money's motive force.

The three industries should be combined into a single industry, the Unified Security and Fiduciary, providing their services without the overhead of separate transaction management.

Streamlining Health Insurance

The general term "health insurance" can cover a number of separate types of insurance, such as medical, hospital, dental, disability, optical, etc., etc, thus further fragmenting the number of different companies and products a single customer needs to purchase. Even with the help of an independent insurance agent, this single customer will be managed by numerous different companies, and require a high degree of management on the part of the customer to keep payments current and keep track of deductibles and coverages.

Along with 'straight' insurance, where a premium is paid and claims made against coverage, customers may elect to purchase a medical spending account (MSA), generally under the idea that contributions to the MSA are tax-deductible. While this has significant advantage, there is an obvious difference between a MSA and insurance: in an MSA, when used within guidelines, all of the customer's money is used to pay their medical bills. With insurance, a high premium may or may not be applied to a particular customer's medical treatment, and usually only after a deductible is met, paid for out of the customer's pocket or MSA.

Stop-Loss

The use of a MSA to cover a deductible, and insurance pays everything in excess of the deductible, is a hackneyed attempt at stop-loss insurance. "Stop-Loss" implies exactly what it sounds like: loss is insured past a certain dollar amount, preventing excess expense outside of a predictable limit. However, the methodology is inverted. It is irresponsible to use an MSA, whose only restriction is that the funds are applied to medical care, to fund all care while health insurance, which is managed and paid on a per-procedure basis, is applied as a stop-loss measure. Customers who use a limited amount of medical care pay for a large number of services through their health insurance that they are unlikely to use, and insurance provides the backbone of managed care while only meeting the needs of extremely costly care.

The MSA / Stop Loss Merger: Self-Funding Individual Health

For our example, we will use a customer who is planning on funding a $1000 annual MSA to cover their deductible, while paying $300 per month for health coverage. This amounts to $3,600 paid to cover their family, added to the $1,000 MSA, is $4,600 in expenses every year. As most people may recognize, that would barely cover a broken arm, but my point is not to eliminate insurance altogether. For a $5000 broken arm, $1000 will come from the customer as cash from their MSA and the remaining $4,000 will come from reserves, of which only a portion of the customer's $3,600 will have been applied.

If the same $4,600 were divided up as $3,000 towards the MSA account, and $1,600 for stop-loss coverage, the pendulm swings further towards the customer's responsibility. $3,000 will come from the customer's MSA, and the insurer's responsibility will be $2,000, of which a portion of the customer's $1,600 in premiums was put towards in reserves.

It may seem a equal change, just taking money from a different place in each scenario, but the actual financial change is significant. With a stop-loss insurer only insuring loss, they do not need to insure medical care. Of the $3,600 to health insurance, roughly 30% goes towards reserves, and the remaining 70% to administrative costs. The cost in administering a stop-loss coverage is much smaller, and easier to keep track of on a large scale. Each policy has less micromanagement of individual procedures and transactions, requiring less work to manage.

In addition, a change to current MSA policies will need to change: under current rules, all unspent money left in an MSA account is lost at the end of the year. My speculation is that this was pushed by insurers to prevent individuals from self-insuring through a tax-free MSA, but that is only my opinion. If a MSA were allowed to roll over each year, a claim-free stop-loss policy would not have to insure as much loss.

For example, if our example customer only had $400 in medical expenses for casual doctor's visits and prescriptions, that leaves $2,600 in the MSA. If contributions remained the same, the stop-loss carrier is only insuring claims in excess of $5,600 for that year -- a significant amount, and thus eliminates their responsibility for the $5,000 broken arm in the second year of coverage. To jump from a stop-loss cap of $3,000 to $5,600 will no doubt reduce the stop-loss premium much in the same way doubling a health insurance deductible would, so for our example our 2nd year's stop-loss premium is $900. Now, contributions to the MSA will be $3,700 for the second year, bring the total stop-loss cap to $6,500, if the same $4,600 budget is used for the second year.

In the second year, the customer could choose to reduce their MSA contributions to just $400, replacing the amount spent in the previous year. This would leave their stop-loss premium at $1,600, together with the $400 in contributions, making their second-year coverage only $2,000.

If the customer chooses to leave their contributions high, however, they have an additional benefit: the money in their MSA account is still their money, and can earn interest.

Insurance as Investment

The common complaint of insurance is that so much is paid in, compared to how much is gotten out. This is the nature of insurance, as for insurance to work there must always be insured customers who do not file claims exceeding their premiums. This becomes the failing of health insurance: because health care is so expensive, the choice becomes to either save, or pay for insurance that will pay for nearly every health treatment available. The more people that buy health insurance, the greater number of claims managed, causing costs to rise, which makes health insurance more expensive and prevents personal saving for health care...

Whole Life insurance was once a middle-ground: as insurance premiums are paid, a percentage of the policy earns cash value which can be borrowed against, and at the time of death when a claim is made, either the full balance is paid or just the portion borrowed but not repaid at death. Not surprisingly, giving cash to an insurance customer has gone away over time, turning more towards less-expensive term life coverage without cash value. Whole life requires more of the reserves to be liquid, to cover loans against the cash value.

What is overlooked here is that there is no reason for life insurance to have or not have cash value: the difference is administrative and affects the premium and reserves. However, in either case, a customer's funds are brought in and placed in reserves. Many of those reserves are invested -- but on the insurer's behalf, and help reduce premiums by dampening the impact of excess claims on the insurance reserves.

The self-insured health insurance example above emulates the current health insurance - MSA arrangement, but has one significant difference: healthy, claim-free customers amass a large amount of monetary funds. These funds should earn interest, contributing to the customer's assets, rather than ending up in an insurance company's reserves and profiting the insurance company.

What comes here is the connection of personal savings accounts to insurance, such as the MSA.

Personal Savings As Insurance

An MSA is essentially an interest-bearing account, tied with stop-loss insurance, and restricted to funding a specific event or expense. Under this model, any expense could be insured. Underwriting the policy consists of evaluating the amount of money contributed by the insured, and the likeliness that those funds will be insufficient to cover the resulting expenses.

Imagine "Wedding Insurance," taken out at birth, paying combined deposits and premium, for how ever many years until a claim is made. At age 1, a rough projection is made at the basic costs of a wedding in 20 years, and a initial set of cost is decided upon. Those amounts are re-evaluated on a regular basis, and the amount of contribution versus premium is adjusted -- possibly without impacting the customer's checkbook by increasing the contributions and reducing premium when the cost seems lower than expected, or reducing contributions and increasing premiums when it looks more likely that the customer will come up short. All the while, the account is earning interest -- at a high rate, comparable to a Certificate of Deposit, because the funds are not readily available -- adding to the funds when the economy is strong and prices are high, and less when prices are low and the economy is weak. As with whole life insurance, the insured may even borrow against their coverage, on the understanding that they repay with interest, and if not paid back by the time a claim is made the claim will be reduced accordingly. When the glorious day arrives, the claim is paid based on the estimated cost and possible excess loss for things such as replacing lost rental tuxes or reserving last-minute limos.

Forgive the possible tiny details that poke holes in the wedding insurance example, and consider the basic structure: funds are put into an interest-bearing account, for a specific, predictable expense, and excess risk is insured. The insured may borrow against the funds in the account, paying themselves interest in the process.

Let's transpose this to a car: currently, car insurance is not a premium that is sent off to an insurer and no vaule is recieved until a claim is filed. In my example, car insurance remains an ongoing expense, but the majority of the payment goes into a Repair and Maintenance Spending Account, which the insured customer can borrow against to actually buy a car. When the spending account is borrowed against, the insurance premiums will inevitably increase because the stop-loss cap is significantly lower, but the entire amount of the car payment covers both paying for the vehicle and insurance, essentialy reducing a car loan and a car insurance payment to a single account. More significant is that this uses no other assets than the customer's own money.

Managing Consumer Debt

Current consumer debt is insanely overstrained. People no longer own anything -- all is covered by one debt or another, and advertisments on television advise taking out new debts against assets to pay off other debts. All cash that employees earn is divided up between insurance, car payment, rent, credit cards, and what's left over is used for the barest of living essentials (if they're lucky; others use credit cards for all purchases and repay them later). Credit cards and debt can be handy for large-cost purchases and casual spending, but the customers get very little value out of these accounts.

While basic lending can never be eliminated, giving the public incentive to create savings accounts is a turn-around for the finance industry. While checking account ownership is low, savings is even lower. Banking reserves are devoted primarily to liquid checking accounts, reducing the risk they can take on loans, increasing interest rates and fees to make up profits and losses.

Once upon a time, customers were encouraged to open a whole-life life insurance policy for their children at birth, as an asset-building investment. As the child reaches adulthood, they can assume the policy and have both 18 years of value and the security of insurance. If all insurance is handled as an financial asset, children can reach age 18 with far more in their pocket.

Most parents spend tens of thousands of dollars on medical insurance for their children from birth to adulthood, at which point their insurance liability drops as the child strikes off on their own. Those tens of thousands of dollars, barring high medical costs, should benefit the child. If a parent drives the same car for ten years without significant claims, their auto assets should be transferrable to the child, or at least allow the child to borrow from the parent against the insurance value.

By building assets rather than paying significant amounts of fees for the privilege of living off the assets of large corporations, consumers will live more reliably on their own income without overspending or running into trouble when tragedy strikes in the form of large expenses or loss of income.

Insuring Savings And Investments

The problem appears to be obtaining these assets in the first place. A customer cannot borrow against a savings account that he has not contributed to. It seems that borrowing funds is the only way to start.

Borrowing can still occur, but with so many assets in the hands of the public, borrowing can occur between individuals. While, today, a person can borrow $500 from a friend without the backing of any financial institution, the lender has no way to ensure they will be repaid.

You may begin to see our pattern: Cash set aside to be used for a purpose, and stop-loss coverage prevents loss. If a parent has amassed $10,000 in their automobile spending account, they can lend $3,000 to one of their children, who will then pay interest. This interest rate is higher than if the account owner borrowed from themselves -- the additional interest pays for insurance protecting against default on the loan. Poor borrowers get poor credit ratings, which makes them a higher insurance risk, and their interest rate increases appropriately as risk increases.

As Prosper.com demonstrates, individual lending is an easy-to-understand and easy-to-manage process. There is also a demand for it as an alternative to buying stocks and bonds. In the case of new business investment or large loans, numberous customers could take a small amount from their indivdual spending accounts and pool it as a single loan, dividing up the interest between each contributor, and benefiting from a single stop-loss premium cost. As long as the profit from interest exceeds the self-payment interest (or the possibility of interest-free withdrawls less than a certain percentage of reserves), the customer can increase the value of their own savings accounts, reducing the amount they need to contribute to their insurance each month. A well-invested portfolio of savings accounts could, theoretically, be self sustaining, covering contributions and stop-loss coverage entirely off of interest.

Management Of Accounts

The Unified Security and Fiduciary becomes reduced to a saving-account institution and a stop-loss underwriter. These two types of accounts can be as simple or complex as needed, but they boil down an immense number of products into two simple archetypes. Customers place money in accounts, which needs to be tracked and transferred, and risk and loss are calculated and paid for. By unifying these within a single institution, time delays in transferring funds is negligible, even compared to modern ACH transactions. A large number of transactions can be handled by phone or over the internet.

The personal banker, therefore, becomes a more complex job -- although, with the attempts at one-stop shopping by financial institutions many personal bankers already perform many of these tasks. Personal bankers would be required to consolidate the tasks of a banker, insurance agent, and investment broker. It would be a far less complex than with today's standards, because only one institution -- the company who employs the banker -- is the only company to deal with. When I worked for Noridian, despite the consolidation of several life and health insurance companies, the "unified" company still had separate underwriting, claims, and marketing departments. This was necessary because the types of insurance were so disparate that they could not be easily blended. Insurance policies have been kludged and augmented to cover innumerable possibilities, rather than reduction to a simple form that could be managed centrally.

With basic structure for saving and insuring, advising customers on finance management becomes a matter of evaluating the need and consulting an underwriter for risk, regardless of which direction the money is moving. Customers could choose to have their investment or borrowing automated, or managed by their banker, at an additional cost, but at the benefit of a trained individual and less time devotion to money management.

Getting There

It is unlikely that any one bank could buy an insurance company and change to my proposed Unified Security and Fiduciary. Maintaining existing accounts, as it is now, is too costly a prospect to try and convert to this new type of account.

What will need to happen is for one of the basic industries to step across the line, creating new financial products that augment their existing products. A bank may offer to insure savings accounts, an insurance company may allow customers to 'bank' funds in their insurance policy against claims, and stockbrokers could offer insurance against loss on investments. Each of these would meet resistance from the old-guard as being too great a risk. Heavy regulation will make this difficult, if not impossible.

However, the component accounts I describe already exist -- they are just not used in the way I describe. Once some inventive company decides to step forward and re-evaluate the structure of their products, then the insurance, financial, and investment industries will begin to become more efficient, with a greater value to their customers.