Final answer:
Underwriting involves scrutinizing whether the sum insured and type of insurance match the applicant's needs and if the premium is affordable. The insurance premiums are calculated to cover potential claims, the company's operational costs, and profit margins while being mindful of moral hazard risks.
Step-by-step explanation:
When an underwriter is assessing an insurance application, they focus on ensuring that the insurance is appropriate for the applicant's needs. Key considerations include whether the sum insured is adequate, the type of insurance is proper, and if the insurance premium is affordable for the individual. An actuarially fair insurance policy aims to balance the premiums paid with the expected payouts, considering the risk group associated with the insured individual.
The concept of moral hazard also plays a role in insurance underwriting, acknowledging the potential for altered behavior when an individual is insured. The insurance system operates on the principles that the total premiums collected must cover all claims paid out, the operational costs of the insurance company, and allow for profitability.