Transcript Insurance Fraud - Casualty Actuarial Society

UNDERSTANDING INSURANCE
FRAUD: THEORY AND PRACTICE
Moderator:
Richard Derrig
Automobile Insurers Bureau of Massachusetts
Insurance Fraud Bureau of Massachusetts
E-Mail: [email protected]
Martin Ellingsworth
Fireman’s Fund Insurance Companies
E-Mail: [email protected]
Sharon Tennyson
Cornell University
E-Mail: [email protected]
Casualty Actuarial Society
Annual Meeting
Atlanta, GA
November 13, 2001
FRAUD DEFINITION
Principles

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Clear and willful act
Proscribed by law
Obtaining money or value
Under false pretenses
Abuse: Fails one or more Principles
INJURY FRAUD & BUILDUP CLAIMS

A Fraudulent claim is one in which there was
no injury or the injury was unrelated to the
accident

A Buildup claim is one in which the injury is
exaggerated and/or the treatment is
excessive
HOW MUCH CLAIM FRAUD?
10%
Fraud
HOW MUCH CLAIM FRAUD?
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Methods
Surveys (Conning, IBC, Israel, UK)
Claim Studies (AIB, Florida, Canada, Portugal, Spain)
Crime Statistics (IFB, UK)
Outcomes
Guessing:
10%
AIB:
Suspected 1-10% (BI)
Florida:
Suspected 10-13% (PD)
Canada:
5%, 13% (PD)
Spain:
22% Auto Liability
HOW MUCH FRAUD?
Table 1
1989 Bodily Injury Liability Claim Sample
"Fraud Definition"
1. Apparent Fraud or Build-up
Approximate Claim
Count Percentage
43.80%
2. Apparent Fraud Only
3. Apparent Fraud Referable for
Criminal Investigation
9.10%
1.00%
4. IFB Referrals Qualifying for
Active Investigation
0.50%
5. IFB Investigations Referable
to Prosecution
0.10%
6. Prosecution Successes
0.09%
Source: AIB Studies of 1989 BI Claims; RAD estimates of IFB Data
WHAT COMPANIES DO ABOUT FRAUD

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Investigate
Investigation reduces BI Claim payments by 18
percent. Additional investigation not cost-effective.
Better claim selection may be cost-effective.
Negotiate
Negotiation reduces BI claim payments on build-up
claims by 22 percent compared to valid claims with
same medicals, injuries, etc.
Litigate
Litigation of bogus claims results in high number of
company verdicts. When effective, claim
withdrawals and closed-no-pay increase.
THEORY OF CLAIM FRAUD
Utility Maximization
UTL (Fraud v. No Fraud)
 Asymmetric Information
Inf (Claimant/Provider v. Insurer)
 Welfare Loss
WFL (Detection $ v. Fraud $)
_________________________________
 All Rely on Detection Probabilities

THE INSURER’S PROBLEM

Self-interested behavior of claimants
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Asymmetric information
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Attitudes and social norms
FRAUD FIGHTING INSTRUMENTS

Auditing (Detection Systems)
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Contract Design (e.g. Deductibles)
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Payment Schedules
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Information and Education
ECONOMIC THEORY OF
AUDITING
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Insurer chooses actions to minimize
total cost of fraud
Total cost includes cost of fraud fighting
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Choice of action takes into account the
reaction of the insured/claimant
Minimum utility constraint

Insurer must earn a normal rate of profit
Zero (economic) profit constraint
ECONOMIC THEORY OF
AUDITING

Insurer chooses
Insurance premium
Auditing rule
Payment schedule (bonuses and penalties)

Taking into account
Insured’s utility from insurance and payments
Cost of auditing
ECONOMIC THEORY OF
AUDITING

Insured chooses
Whether to purchase insurance
Whether to exaggerate claim (if loss occurs)
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Taking into account
Insurance premium and claims payments
Probability of being audited
Penalties for detected fraud
KEY RESULTS FROM THEORY

The optimal contract involves a
deductible (equal to the audit threshold)
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If penalties for fraud are available,
random auditing is preferred
THE OPTIMAL CONTRACT
If verified
Payment Amount
If not verified
45°
Claim Amount
No Audits
Audits
OPTIMAL AUDITING

Primary role of auditing is deterrence
If insurer can “precommit” to optimal auditing
strategy then all fraud eliminated

Audit claims only above some size threshold
Audit high value claims more frequently

Audit claims in areas of opportunism more
frequently
OPTIMAL AUDITING
Audit probability
P=1
P<1
Claim Amount
No Audits
Random Audits
CREDIBLE AUDITING

Insurer probably cannot commit to a costly
auditing strategy that deters all fraud
Audit only if there is some probability of fraud
detection
Audit for detection and for deterrence
Audit larger claims more frequently
Audit claims in areas of opportunism more
frequently
IF AUDITING NOT EFFECTIVE

If auditing cannot detect fraud
Deductible contract is no longer optimal as it
creates incentives for claim inflation
Optimal contract involves overpayment of small
claims
Optimal contract involves underpayment of large
claims
THE OPTIMAL CONTRACT
Payment Amount
45°
Claim Amount
THE IMPORTANCE OF ATTITUDES
AND PERCEPTIONS

Theory of fraud assumes that claimants are
opportunistic with respect to fraud
No “moral” cost or penalty from fraud

Under self-interested behavior fraud occurs
because the perceived probability of
detection is low and/or the detection penalty
is low
THEORY AND PRACTICE: LINKS

Theoretically optimal auditing strategies
have many similarities to fraud detection
systems
Focus on opportunistic claims
Focus on larger claims
Balance costs and benefits

Theory ~ general; Practice ~ specific
THEORY AND PRACTICE:
LESSONS
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Deterrence
Fraud detection systems
Information and education campaigns
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Random auditing
Criminal prosecution
Insurance contract design
POTENTIAL VALUE OF A CLAIM
DETECTION/CLASSIFICATION SYSTEM
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Screening to Detect Fraud Early
Auditing of Closed Claims to Measure
Fraud
Sorting to Select Efficiently among SIU
Referrals
Providing Evidence to Support a Denial
Protecting against Bad-Faith
Insurance Fraud
Research Register
Eleventh Report
July 14, 2001
Compiled by:
Richard A. Derrig, Ph.D.
Vice President Research
Insurance Fraud Bureau of
Massachusetts
Searchable Database at www.ifb.org
Casualty Actuarial Society
Annual Meeting
Atlanta, GA
Nov. 13, 2001