Hard fraud involves criminal activity and includes scams such as auto insurance crash rings, arson for profit, the illegal funneling of insurance company assets, and falsifying medical bills. However, it is not only this clearly illegal activity that is costing insurers and policyholders millions of dollars every year. There is a more insidious form of fraud about which the general public may have a more ambivalent view.
Soft fraud, also known as opportunistic fraud, refers to claim exaggeration or embellishment. It is generally harder to detect and problematic to investigate. The perpetrators are often indistinguishable from honest policyholders, and they usually consider their behavior to be morally acceptable. A study commissioned by the Insurance Research Council (IRC) found that a quarter of respondents thought padding their insurance claim to cover a deductible was reasonable. Twenty percent thought padding a claim to recoup past premiums was acceptable behavior.
Soft fraud can also happen at the outset of a policy. The insureds may deliberately misrepresent the facts to the underwriter in the hope of reducing their premiums. They may omit details from their medical history or underreport the miles they regularly drive their car. In 2008, Quality Planning estimated that insurers lost $15.9 billion in auto insurance premiums as a direct result of underwriting rating errors.
A truly victimless crime?
A review of studies into fraud by the American Risk and Insurance Association (ARIA) in 2011 found that perceived unfairness by insurers was the most significant factor in influencing aberrant behavior by policyholders. For example, the higher the deductible in an auto claim, the higher the propensity of drivers to file a fraudulent claim. Similarly, the belief that insurers would “nitpick” and try to reduce settlements or avoid making payments was used as a justification by policyholders to tell “white lies” when completing claims forms.
Insurers face two major problems when investigating soft fraud. First, stringent investigation of a claim that may or may not be fraudulent is costly and the settlement sums involved are usually relatively small. Is saving several hundred dollars really worth involving the Special Investigative Unit (SIU)? On the other hand, the combined total of these small sums of soft fraud can mean significant losses for a company.
Second, investigations can have a potentially devastating impact on customer loyalty. Asking insureds too many questions about their claim may prompt them to choose a new company even if the claim is genuine and uninflated. Consumer websites such as badfaithinsurance.org highlight insurers identified as acting in bad faith, and feed the erroneous notion that insurers will go to great lengths to avoid paying reasonable claims. This only adds to the perception that it is okay for policyholders to abuse the system. Applying too rigid or intrusive an investigation process could send the wrong message about an honorable and fair insurer.
What is the answer?
Commercial tools exist to profile policyholders and highlight those with key risk factors such as a bad credit history. There is also software that applies algorithms to business rules to flag suspicious behavior such as a high frequency of claims, or claims submitted early in the life of a policy. It is now possible to examine fraudulent behavior at the claim line detail to flag suspicious trends or contradictory information like a person living in a financially depressed area claiming the loss of expensive art works.
While some analytical methods can result in a large number of false positives, this can be balanced by a non-confrontational and non-intrusive claims management process that delivers large volumes of valuable data and reduces the impact of soft fraud.
There is a fine balance between telling insureds that an insurance company takes their claims seriously and making them aware that the company is also taking steps to reduce fraud. Being proactive lets them know that the insurer values all claims and works with insureds to ensure they are treated fairly –which can help reduce the temptation to engage in soft fraud.
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