Adverse Selection

What Does Adverse Selection Mean?

Adverse selection, in the context of insurance, occurs when an insurance company accepts only applicants whom they believe will have a low probability of making a claim. It arises when buyers are more inclined to purchase an insurance policy because they believe they are highly likely to make a claim.

Adverse selection is also referred to as anti-selection.

Insuranceopedia Explains Adverse Selection

Adverse selection negatively impacts the insurance business because the parties involved in the contract do not gain equal benefits. To address this issue, insurance companies offer premiums that are proportional to the risk based on an individual’s condition. For example, a person who smokes will pay higher health and life insurance premiums than a non-smoker. This pricing gap is the reason life insurance for smokers costs noticeably more than coverage for someone who has never used tobacco. Similarly, an individual convicted of DUI will face higher premiums than someone with no record of drunk driving, and the rate increase depends partly on how the conviction is classified, since a DUI charge differs from an OWI in some states.