INSURANCE is the equitable transfer of the risk of a loss, from one entity to another in exchange for payment. It is a form of risk management primarily used to hedge against the risk of a contingent, uncertain loss.
An insurer, or insurance carrier, is a company selling the insurance; the insured, or policyholder, is the person or entity buying the insurance policy.
The amount of money to be charged for a certain amount of insurance coverage is called the premium. Risk management, the practice of appraising and controlling risk, has evolved as a discrete field of study and practice.
The transaction involves the insured assuming a guaranteed and known relatively small loss in the form of payment to the insurer in exchange for the insurer’s promise to compensate (indemnify) the insured in the case of a financial (personal) loss. The insured receives a contract, called the insurance policy, which details the conditions and circumstances under which the insured will be financially compensated.
Types of insurance
Any risk that can be quantified can potentially be insured. Specific kinds of risk that may give rise to claims are known as perils. An insurance policy will set out in detail which perils are covered by the policy and which are not. Below are non-exhaustive lists of the many different types of insurance that exist. A single policy may cover risks in one or more of the categories set out below.
For example, vehicle insurance would typically cover both the property risk (theft or damage to the vehicle) and the liability risk (legal claims arising from an accident).
A home insurance policy typically includes coverage for damage to the home and the owner’s belongings, certain legal claims against the owner, and even a small amount of coverage for medical expenses of guests who are injured on the owner’s property.
Business insurance can take a number of different forms, such as the various kinds of professional liability insurance, also called professional indemnity (PI), which are discussed below under that name; and the business owner’s policy (BOP), which packages into one policy many of the kinds of coverage that a business owner needs, in a way analogous to how homeowners’ insurance packages the coverages that a homeowner needs.
Auto insurance protects the policyholder against financial loss in the event of an accident involving a vehicle they own, such as in a traffic collision.
Coverage typically includes:
Property coverage, for damage to or theft of the car;
Liability coverage, for the legal responsibility to others for bodily injury or property damage;
Medical coverage, for the cost of treating injuries, rehabilitation and sometimes lost wages and funeral expenses.
Health insurance policies cover the cost of medical treatments. Dental insurance, like medical insurance protects policyholders for dental costs. Dental insurance is often part of an employer’s benefits package, along with health insurance.
Accident, sickness and unemployment insurance
Disability insurance policies provide financial support in the event of the policyholder becoming unable to work because of disabling illness or injury. It provides monthly support to help pay such obligations as mortgage loans and credit cards.
Short-term and long-term disability policies are available to individuals, but considering the expense, long-term policies are generally obtained only by those with at least six-figure incomes, such as doctors, lawyers, etc. Short-term disability insurance covers a person for a period typically up to six months, paying a stipend each month to cover medical bills and other necessities.
Long-term disability insurance covers an individual’s expenses for the long term, up until such time as they are considered permanently disabled and thereafter.
Insurance companies will often try to encourage the person back into employment in preference to and before declaring them unable to work at all and therefore totally disabled. Disability overhead insurance allows business owners to cover the overhead expenses of their business while they are unable to work. Total permanent disability insurance provides benefits when a person is permanently disabled and can no longer work in their profession, often taken as an adjunct to life insurance.
Workers’ compensation insurance replaces all or part of a worker’s wages lost and accompanying medical expenses incurred because of a job-related injury.
Casualty insurance insures against accidents, not necessarily tied to any specific property. It is a broad spectrum of insurance that a number of other types of insurance could be classified, such as auto, workers compensation, and some liability insurances.
Crime insurance is a form of casualty insurance that covers the policyholder against losses arising from the criminal acts of third parties. For example, a company can obtain crime insurance to cover losses arising from theft or embezzlement. Political risk insurance is a form of casualty insurance that can be taken out by businesses with operations in countries in which there is a risk that revolution or other political conditions could result in a loss.
Life insurance provides a monetary benefit to a decedent’s family or other designated beneficiary, and may specifically provide for income to an insured person’s family, burial, funeral and other final expenses. Life insurance policies often allow the option of having the proceeds paid to the beneficiary either in a lump sum cash payment or an annuity. In most states, a person cannot purchase a policy on another person without their knowledge.
Annuities provide a stream of payments and are generally classified as insurance because they are issued by insurance companies, are regulated as insurance, and require the same kinds of actuarial and investment management expertise that life insurance requires.
Annuities and pensions that pay a benefit for life are sometimes regarded as insurance against the possibility that a retiree will outlive his or her financial resources. In that sense, they are the complement of life insurance and, from an underwriting perspective, are the mirror image of life insurance.
Certain life insurance contracts accumulate cash values, which may be taken by the insured if the policy is surrendered or which may be borrowed against. Some policies, such as annuities and endowment policies, are financial instruments to accumulate or liquidate wealth when it is needed.