Insurance Handbook

The topic

Insurance fraud is a deliberate deception perpetrated against or by an insurance company or agent for the purpose of financial gain. Fraud may be committed at different points by applicants, policyholders, third-party claimants, or professionals who provide services to claimants. Insurance agents and company employees may also commit insurance fraud. Common frauds include “padding,” or inflating claims; misrepresenting facts on an insurance application; submitting claims for injuries or damage that never occurred; and staging accidents.

People who commit insurance fraud include:

• organized criminals who steal large sums through fraudulent business activities,
• professionals and technicians who inflate service costs or charge for services not rendered, and
• ordinary people who want to cover their deductible or view filing a claim as an opportunity to make a little money.

Some insurance lines are more vulnerable to fraud than others. Healthcare, workers’ compensation, and auto insurance are generally considered to be the sectors most affected.

Cost of insurance fraud

Insurance fraud costs U.S. consumers at least $80 billion every year, according to The Coalition Against Insurance Fraud (CAIF). CAIF also estimates that workers’ compensation insurance fraud alone costs insurers and employers $30 billion a year. The FBI reports that non-health insurance portion of the overall problem amounts to $40 billion annually. Ultimately, the massive scope of the problem can mean the average U.S. family will pay an extra $400 and $700 per year in premiums.

Auto insurance fraud

Auto insurers lose at least $29 billion a year, according to a 2017 study by Verisk, to premium leakage, the "omitted or misstated underwriting information that leads to inaccurate rates." A number of information failures and fraudulent practices drive costs up, such as unrecognized drivers ($10.3 billion); underestimated mileage ($5.4 billion); violations/accidents ($3.4 billion); and, false garaging to lower premiums ($2.9 billion). While not always a result of malicious or even conscious actions, premium leakage creates problems for consumers, too—as much as 14 percent of all personal auto premiums can be attributed to the cost of covering premium leakage.

No-fault auto insurance is a system that lets policyholders recover financial losses from their own insurance company, regardless of who was at fault in a motor vehicle accident. However, in many no-fault states, unscrupulous medical providers, attorneys, and others pad costs associated with legitimate claims – for example, by billing an insurer for a medical procedure that was not performed.

Salvage fraud

Another common auto fraud involves vehicles damaged by storm flooding that later appear in used car lots and auction sales. In some states, vehicles that have been flooded bear the words “salvage only” on their titles, usually after damage to the vehicle has reached about 75 percent of its value. Unscrupulous sellers may switch or clone manufacturers’ serial number plates and put them on a flooded vehicle that has been repaired. They may also resell a car that has a salvage title in a state that has more lax title standards. This practice is called “title washing.”

Standardized state rules for titling vehicles are necessary to combat salvage fraud. In recent years, some states in hurricane-prone parts of the United States have adopted rules requiring the words “flood vehicle” to be included on the titles of vehicles that have been water damaged and rebuilt. Before such a vehicle can be sold, the buyer must be notified in writing of the vehicle’s past flood damage. However, if one state in the region does not have such strict laws it can become a dumping ground for undeclared flooded vehicles.

After the hurricanes of 2005, the National Insurance Crime Bureau (NICB) created a database in which vehicle identification numbers (VINs) and boat hull identification numbers (HINs) from flooded vehicles and boats are stored and made available to law enforcers, state fraud bureaus, insurers and state departments of motor vehicles. The database (VINcheck) is online and can be accessed by the general public.

Another attempt to solve the problem of title washing is the National Motor Vehicle Title Information System (NMVTIS), a database that requires junk and salvage yard operators and insurance companies to file monthly reports on vehicles declared total losses. The program operates under the auspices of the U.S. Department of Justice and is administered by the American Association of Motor Vehicle Administrators. By 2019, 99 percent of the U.S. vehicle population was represented in the system (based on 2019 Federal Highway Administration data), and 49 states were reporting data to the system.

Industry observers say that counterfeit airbags are being produced for nearly every make of vehicle. Unscrupulous auto body repair shops use these less expensive airbags and obtain reimbursement from insurance companies for legitimate airbags.

Mandatory auto insurance photo inspection laws are in effect in only five states: Florida, Massachusetts, New York, New Jersey, and Rhode Island. The regulation has been shown to have a measurable effect on fraud, according to the Carco Group, a company that produces fraud monitoring equipment. Photo inspections uncovered about $1.8 billion in pre-existing auto damage in New York state from 2014 to 2018. This saved insurers from paying $128 million in false claims on vehicles. In addition, for every dollar invested in pre-insurance inspections, $34 in false claims payouts were avoided.

Healthcare fraud

Although healthcare insurance is generally outside the purview of property/casualty insurance, healthcare fraud affects all types of property/casualty insurance coverage that include a medical care component, such as medical payments for auto accident victims or workers injured in the workplace.

Fraud and abuse take place at many points in the healthcare system. Doctors, hospitals, nursing homes, diagnostic facilities, medical equipment suppliers and attorneys have been cited in scams to defraud the system. The National Health Care Anti-Fraud Association (NHCAA) estimates that the financial losses due to health care fraud are $68 billion, or as high as $300 billion.

According to the FBI's Financial Crimes Report, the most prevalent types of healthcare fraud are:

• Billing for services not rendered;
• Upcoding services and medical items (the provider submits a bill using a code that yields a higher payment than for the service or item that was actually rendered);
• Filing duplicate claims;
• Unbundling (billing in a fragmented fashion for tests or procedures that are required to be billed together at reduced cost); and
• Performing excessive services; performing unnecessary services; and offering kickbacks.

Another common type of fraud is the abuse and resale of legal narcotic and other prescription drugs.

Health identity theft is when criminals steal victims’ names, health insurance numbers and other personal data and then defraud insurers by making false claims. To combat the problem, some medical facilities have limited employee access to data and require photo IDs for people seeking treatment.

The Affordable Care Act of 2010 included fraud-fighting efforts, such as allowing the U.S. Department of Health and Human Services (HHS) to exclude providers who lie on their applications from enrolling in Medicare and Medicaid and the Improper Payments Elimination and Recovery Act, which requires agencies to conduct recovery audits for programs every three years and develop corrective action plans for preventing future fraud and waste.

Other efforts included:

• Implementing an Automated Provider Screening system to review enrollment applications;
•  Allowing HHS to impose a temporary moratorium on newly enrolled providers or suppliers, if necessary to combat fraud;
• Authorizing the Centers for Medicare and Medicaid Services, in conjunction with the Office of the Inspector General, to suspend payments to providers or suppliers during the investigation of a credible allegation of fraud; and
• Ensuring that providers and suppliers found guilty of fraud in one of the Centers’ systems, such as Medicare, cannot have service privileges in another area, such as Medicaid, or within state programs.

Additionally, in 2012, HHS and the Department of Justice formed the National Fraud Prevention Partnership to combat health care fraud. The group also consists of private and public groups such as health care companies and their organizations, the National Association of Insurance Commissioners, the National Insurance Crime Bureau and the National Health Care Anti-Fraud Association. The groups will share information on claims from Medicare, Medicaid. and private insurance to be administered by a third-party vendor.

Compensation fraud

Employers who misrepresent their payroll or the type of work carried out by their workers to pay lower premiums are committing workers’ compensation fraud. Some employers also apply for coverage under different names to foil attempts to recover monies owed on previous policies or to avoid detection of their poor claim record.

Fraud by medical care providers includes upcoding or billing for procedures that were never performed.

Examples of claimant fraud include over-utilizing medical care to keep receiving lost income (indemnity) benefits, exaggeration of symptoms, working while allegedly disabled and not reporting income, claiming a job-related injury that never occurred. or claiming a non-work-related injury as a work-related injury.

Catastrophe-related property fraud

When disasters strike some individuals or groups see an opportunity to file claims that are either exaggerated or completely false. Some even intentionally damage property after a disaster to receive a higher payout. Another example of opportunistic fraud following natural catastrophes is contractor fraud. A handful of states have attempted to protect homeowners from contractor fraud by enacting laws that provide for notices and contract termination rights and prohibiting rebating or other compensation to induce homeowners to sign contracts.

In recent years, the increase in billion-dollar weather catastrophes and the propensity of claimants to commit opportunistic fraud has resulted in some insurers turning to forensic meteorologists. These experts can accurately verify weather conditions for an exact location and time, allowing claims adjusters to validate claims and determine whether more than one type of weather element is responsible for damage. Since they use certifiable weather records, their findings are admissible in court.

Following Hurricane Katrina in 2005, the National Center for Disaster Fraud (NCDF) was created to combat fraud relating to natural and man-made disasters. In addition to insurance fraud, the NCDF targets charity scams, identity theft and contract and procurement fraud.

How Insurers fight fraud

The legal options of an insurance company that suspects fraud are limited. An insurer can inform law enforcement agencies of suspicious claims, withhold payment, and collect evidence for use in a court. The success of the battle against insurance fraud therefore depends on two elements:

• The level of priority assigned by legislators, regulators, law enforcement agencies and society
• The resources devoted by the insurance industry itself

Insurers may file civil lawsuits under the federal Racketeer Influenced and Corrupt Organizations Act (RICO), which requires that insurers provide a preponderance of evidence, rather than the stricter rules of evidence required in criminal actions. It also allows for triple damages. From the late 1990s on, some of the largest insurers in the country—especially auto insurers—have been filing and winning lawsuits concerning insurance fraud against individuals and organized rings.

Most insurers have established special investigation units (SIUs) to help identify and investigate suspicious claims. These units range from small teams, whose primary role is to train claim representatives to deal with the more routine kinds of fraud cases, to teams of trained investigators, including former law enforcement officers, attorneys, accountants and claim experts.

More complex cases involving large-scale criminal operations or individuals that repeatedly stage accidents may be turned over to the NICB, which has special expertise in preparing fraud cases for trial and serves as a liaison between the insurance industry and law enforcement agencies.

Insurers have created a national fraud academy.

A joint initiative of the American Property Casualty Insurance Association (APCIA), the FBI, the NICB, and the International Association of Special Investigating Units, this academy is designed to fight insurance claims fraud by educating and training fraud investigators. This venture also offers online classes under the leadership of the NICB.

Use of technology to combat fraud

One of the most effective means of combating fraud is the adoption of data technologies that cut the time needed to recognize fraud. Advances in analytical technology are crucial in the fight against fraud to keep pace with sophisticated rings that constantly develop new scams.

Traditional approaches, such as using automated red flags and business rules, have been augmented by predictive modeling, and link analysis—which examines the relationships between items like people, places and events. Artificial intelligence can be used, among other tools, to uncover fraud before a payment is made. These newer strategies are employed when claims are first filed. Suspicious claims are flagged for further review, while those with no suspicious elements are processed normally. In search of refinement, insurers are blending tools to improve their fraud detection programs.

Programs that scan insurance claims have been improved by the consolidation of insurance industry claims databases, such as ISO's ClaimSearch, the world’s largest comprehensive database of claims information. Systems that identify anomalies in a database can be used to develop algorithms that enable an insurer to automatically stop claim payments.

In 2019, the Coalition Against Insurance Fraud and the SAS Institute published a report entitled, State of Insurance Fraud Technology. The study was based on an online survey of 84 mostly property/casualty insurers conducted in late 2018. Nearly three-quarters of the survey participants said fraud has increased either significantly or slightly in the past three years, an 11-point increase since 2014. No insurer has said that fraud has decreased significantly in the last six years.

About 40 percent of insurers polled said their technology budgets for 2019 will be larger, with predictive modeling and link or social network analysis the two most likely types of programs considered for investment. About 90 percent of respondents said they use technology primarily to detect claims fraud, a significant increase from 2016 and about half said they use it to combat underwriting fraud, up from 27 percent in 2016. The greatest challenges for insurers are limited IT resources, which affects about three-quarters of insurers, about the same as in 2016. This is followed by problems in data integration, with 76 percent reporting the problem, up from 64 percent in 2016.

State antifraud legislation

Insurance fraud received little attention until the 1980s, when the rising cost of insurance and organized crime rings' growing involvement in fraud spurred efforts to pass stronger antifraud laws.

All states have been prompted to enact these laws to some degree, particularly after the realization that it is easier to prosecute cases of insurance fraud in states where it is identified as a specific crime in the penal code, and where insurance fraud is defined, along with its penalties. By 2016, every state and the District of Columbia had enacted laws that classify fraud as a crime at least for some lines of insurance and have instituted immunity for reporting insurance fraud. Most states and the District of Columbia have set up fraud bureaus or units (though some have limited powers, and some states have more than one bureau to address fraud in different lines of insurance).  Almost two dozen states and the District of Columbia require insurers to create and implement programs to reduce insurance fraud.

To successfully bring a fraud case to trial, insurers must be able to provide information to prosecutors on individuals suspected of fraud. Immunity laws, which allow insurance companies to report information without fear of criminal or civil prosecution, now exist in all states. However, not all laws cover insurance fraud specifically, nor do all regulations allow information to be reported to law enforcement agencies or to state departments of insurance. Many are limited in other ways, like only providing protection against libel suits or violation of unfair claims practices acts in auto insurance fraud. Some experts believe that immunity laws should be extended to include good faith exchanges of certain kinds of claim-related information among insurance companies. See chart below, Key State Laws Against Insurance Fraud.

Federal antifraud legislation

The Violent Crime Control and Law Enforcement Act (1994) makes insurance fraud a federal crime when it affects interstate commerce. Insurance company employees, including agents, can be punished similarly for embezzling or misappropriating any company funds if their actions adversely affect the solvency of any insurance company.

The Health Insurance Portability and Accountability Act of 1996 made "knowingly and willfully" defrauding any healthcare benefit program a federal crime and established a comprehensive program to combat fraud committed against all health plans, both public and private.

Additional resources

National Insurance Crime Bureau

Coalition Against Insurance Fraud

Insurance Research Council

NerdWallet, 2017 Driving in America Report: The Costs and Risks

Versik, The Challenge of Auto Insurance Premium Leakage

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