Insurance is legal contract that protects people from the financial costs that result from loss of life, loss of health, lawsuits, or property damage. Insurance provides a means for individuals and societies to cope with some of the risks faced in everyday life. People purchase contracts of insurance, called policies, from a variety of insurance organizations. Almost everyone living in modern, industrialized countries buys insurance. For instance, laws in some countries require people who own a car to buy insurance before driving it on public roads.
Business partners take out life insurance on each other to make sure the business will succeed even if one of the partners dies. Insurance makes up part of the broader financial saving institutions. In the western world most insurance companies offered a wide range of policies and services while in Africa only a few do offered such. Some large companies sell virtually every type of insurance available in the marketplace. Smaller companies may specialize in a specific geographic region or type of insurance. II| | REASONS FOR INSURANCE| In life, losses are sometimes unavoidable.
People may become ill and lose income or savings to pay medical bills. People’s homes or other property may suffer damage or theft. People also may accidentally cause injury to others or damage to the property of others. Since one can’t know when a loss will occur or how serious that loss will be. The uncertainty surrounding potential losses is known as risk and Insurance offers a way for people to replace risk with known costs—the costs of buying and maintaining insurance policies. For example: If the accident injures someone, the costs of medical care could be much higher.
Through the mechanism of insurance, however, the car owner can share the risk of an accident with others who face the same risk. The reduction in risk brought by insurance relies on so many factors. Insurers distinguish between two types of risk: speculative risk and pure risk. Speculative risk offers both the potential for gain and the potential for loss. People who invest in the stock of companies, for example, take speculative risk. An increase in stock prices produces a gain, while a decline in stock prices produces a loss. Pure risk, by contrast, creates the potential only for loss.
Although pure risks do not necessarily result in losses, they never result in gains. However, some insurance companies now help businesses finance large losses including those incurred on speculative risks, such as the international exchange of currency. III| | THE IMPORTANCE OF INSURANCE| Insurance benefits society by allowing individuals to share the risks faced by many people. But it also serves many other important economic and societal functions. Because insurance is available and affordable, banks can make loans with the assurance that the loan’s collateral is covered against damage.
This increased availability of credit helps people buy homes and cars. Insurance also provides the capital that communities need to quickly rebuild and recover economically from natural disasters. Insurance has become a significant economic force in most industrialized countries. Employers buy insurance to cover their employees against work-related injuries and health problems. Businesses also insure their property, including technology used in production, against damage and theft. Because it makes business operations safer, insurance encourages businesses to make economic transactions, which benefits the economies of countries.
Not all effects of insurance are positive ones. The possibility of earning insurance payments motivates some people to attempt to cause damage or losses. Without the possibility of collecting insurance benefits, for instance, no one would think of arson, the willful destruction of property by fire, as a potential source of money. | | INSURANCE POLICIES AND COVERAGE| An insurance policy covers the insured party (known also as the insured or the policyholder) for a specified period of time, called a term. When buying an insurance policy, a person must decide what type of coverage to buy.
This means deciding on the amount of loss the coverage will begin (known as the deductible) and at what amount coverage ends (known as the policy limit). Different types of insurance policies provide different amounts of coverage. They also provide coverage in different ways. Some policies, such as life insurance, determine an amount of coverage in advance and pay’s the full amount, whenever a covered loss occurs. In other cases, most other types of insurance policies determine how much to pay according to what kinds of losses policyholders experience.
Such policies specify a maximum amount they will pay. For example, a policy covering a home against fire would pay for damages up to what was the cost of the house but no more. A| | Policy Term| Policy term is a period that usually ranges from six months to many years. At the end of that term, the seller and buyer may agree to renew the contract if they wish. Only permanent life insurance does not specify a finite term. B| | Policy Limit| Insurance policies also specify an amount at which coverage ends, known as the policy limit.
Most types of insurance specify the limit amount written in the contract. For example, an automobile insurance policy with $2,000 of collision coverage pays up to $2,000 for damage caused by an accident. For property insurance, the policy limit may not exceed the value of the property, which may either be a fixed amount or an amount based on figures such as the costs of replacing property. C| | Deductible| Insurance policies generally include an initial amount of expense that an insured person must pay when a loss occurs.
This expense is known as the policy’s deductible. The deductible is the amount of loss a policyholder agrees to pay without protection from an insurance that is any deductible on auto insurance, for instance, equals an agreement to pay up to a certain amount for damage to a car in the event of an accident. Under such an agreement, the insurance company will pay for losses exceeding the amount insured. D| | Premium| An insurance company sets a policy’s premium by multiplying a rate for each unit of insurance coverage by the total amount of coverage being purchased.
Assume, for example, a man who wants a coverage to protect his family in the case of his death will pay a premium depending on the terms for one year of coverage. Most people pay insurance premiums once or twice a year. Other people choose to make automatic monthly payments to their insurance company from a bank account. DETERMINING THE VALUE OF INSURED PROPERTY| Most insurance policies often set coverage as a fixed amount, the value of most items or services covered by insurance changes. When someone acquires a new car, for instance, it depreciates (loses part of its value) over time.
Other items, such as houses and jewelry, may appreciate (increase in value). Insurance policies can include inflation protection for very valuable items, such as houses, to allow coverage to match such increases in value. The value of damaged property can be difficult to determine. Insurance policies often contain a promise to pay the value of an item at the time of its damage or loss, also known as its actual cash value. Insurance policies may also allow the replacement of used items with comparable used items, such as used cars purchased from classified advertisements or used car dealers.
For most types of destroyed property insurance usually covers the actual cash value of the damaged item toward the price of a new replacement while the policyholder must pay the difference, for example, If a house fire destroys a Television set, its owner loses the appliance because the insurance will pay only part of its total value. An insurance policy covering the actual cash value of the property will pay part of the cost of a new Television set. Replacing used property with new items, especially in larger losses such as house fires, can create considerable financial burdens.
To relieve property owners of the risks posed by large unexpected expenditures, many policies offer an option to purchase replacement cost coverage. This option, which increases a policy’s premium, pays the full cost to replace used property with new items in the event of a loss. IV CLAIMS, BENEFITS, AND DIVIDENDS| Insured individuals who have suffered losses and want to receive payments must notify their insurance company through a process called a claim. Insurance contracts always contain a condition that the insured must provide a proof of loss in order to be paid.
A claim begins when someone who suffers a loss completes and signs a statement describing exactly what happened that led to the loss. Most insurance claims require additional supporting evidence as well. For example, a person filing a life insurance claim must provide a copy of the policyholder’s death certificate. For a health or disability claim, the insured typically must provide a doctor’s report. Someone claiming damage to an automobile usually has to provide a repair estimate to the insurance company.
Once someone files a claim and provides necessary evidence, the insurance company’s claims representative, known commonly as a claims adjuster or claims service representative, reviews it. A claims representative verifies that a claimant (person filing a claim) is entitled to the payment requested. First, the claims representative verifies that the claimant actually purchased an insurance policy from the company and paid a premium that covered the time period when the loss occurred and if the policy has not expire.
The claims representative also verifies that the terms agreed upon in the policy cover the specific claim, including the particular events that caused a loss. For example, standard policies to insure people’s homes generally cover damage from such natural events as lightning and storms. V| | BUYING INSURANCE| People face many choices when buying insurance policies. They commonly choose an insurance provider based on several criteria. Some of the most important of these include: (1) the financial stability of the insurance company, (2) the price of policies, and (3) details of coverage and service.
Only a financially sound company can fulfill its promise to pay in all circumstances. Companies with proven records of stability can provide insurance security. Policy prices vary significantly among companies, but competition usually forces most companies’ prices into a narrow range. The greater cost of some policies may pay off in the long run through better protection. Thus, a detailed examination of coverage in policies provided by different companies can help consumers make the best choice based on the risks they face, their needs, and their finances.
People seeking to buy insurance often use the services of an insurance agent or broker to assist in their purchase. Some people, however, choose to buy insurance from direct providers, who sell policies without intermediaries. Direct-provider insurance may be purchased through the mail, by telephone, or via computer on the Internet.
IX| | INSURANCE ORGANIZATIONS| Providers of insurance may organize themselves in several different ways. In some societies, people informally group together and pool their funds to help each other in times of need.
Some much larger, formal insurance organizations work in much the same way. Others operate for profit. A| | Stock Insurance Companies| Some insurance companies operate as corporations, the form of organization common to many large businesses that operate for profit. These kinds of insurance organizations, called stock insurance companies, sell stock to shareholders whose investment provides the capital for company operations. Stock insurance companies represent the largest number of insurance companies in operation around the world, and nearly all newly formed insurance companies.
B| | Mutual Insurance Companies| These are individuals seeking to share risk joined together without the motivation of earning profits. This principle carries on today in mutual insurance companies. Everyone who purchases insurance from a mutual company owns a small piece of that company. C| | Reciprocals, Lloyd’s Associations, and Cooperatives| Other forms of insurance organizations include reciprocals, Lloyd’s associations, and cooperatives. These organizations serve an important role in making insurance available to specialized businesses.
Most reciprocals and Lloyd’s associations do not sell insurance to individuals. In reciprocal insurance organizations, also known as reciprocal exchanges or inter-insurance exchanges, each policyholder is directly insured by all the others. A specify person manage the affairs of reciprocals for the members, and members commonly know how much liability each member of the group assumes. Lloyd’s associations, modeled after the longstanding British insurance association Lloyd’s of London, are groups of businesses and individuals who come together to assume a portion of risk for specific types of insurance risks.
Lloyd’s associations employ independent agents who establish insurance rules, assess the qualifications of customers to purchase insurance, and set policy rates—to make insurance contracts on their behalf. Lloyd’s associations insure a wide variety of risks faced by international businesses and, in some cases, individuals. Cooperative organizations are nonprofit membership groups that operated for the benefit of their members and subscribers. Cooperatives are prohibited by law from paying dividends or distributing profits and are exempt from most forms of taxation. X| | TYPES OF INSURANCE|.
Most insurance falls into four main categories, according to what it covers: (1) property and casualty, (2) life, (3) health and disability, and (4) old-age and unemployment. Insurers commonly refer to insurance purchased by individuals as personal lines coverage and to insurance purchased by businesses as commercial coverage. A| | Property and Casualty Insurance| Property and casualty insurance policies protect things. Property insurance protects people against losses of and damage to things they have acquired, including houses and valuable items such as appliances or jewelry.
Casualty insurance protects people against having their property taken to compensate others in settlements of legal disputes. Property and casualty insurance commonly go together because many policies include provisions to cover both casualty and property damage or loss. Common types of property and casualty insurance include (1) homeowner’s, (2) tenant’s, (3) automobile, (4) marine, and (5) commercial. Casualty insurance resembles a more restrictive but similar form of coverage known as liability insurance.
In general, liability refers to the legal and financial responsibility someone has to another person. A person can be found to be liable for causing loss or harm to another person or for having an unpaid debt. Some types of liability are covered under property and casualty policies. Liability claims require determination of fault for loss or damage, whereas other types of casualty claims may not. When someone sustains injuries in, on, or caused by another person’s property, the property owner may be found legally liable for those injuries.
For example, if someone is injured as a passenger in another person’s car, the car’s owner and driver are held legally responsible. If someone is injured directly by someone else’s property, such as when the occupants of a car are hurt by the impact of someone else’s speeding car in an accident, the owner of that property may often be found legally liable. 1| | Homeowner’s Insurance| Homeowner’s insurance covers a wide range of losses or damages to people’s houses and home property, as well as many types of liabilities for which homeowners might be responsible.
It protects homeowners against losses from such causes as theft, storms, and fires. Also, homeowner’s insurance typically pays for additional expenses related to home damage, such as fees for temporary lodging while damage is fixed. It also protects against most lawsuits that could arise from ownership of the property. It usually includes a type of coverage called medical payments. Such coverage would pay, for instance, for damages to a guest who slipped on the steps to the door of a house and suffered an injury.
Homeowners insurance normally does not cover the risks associated with operating a home-based business, such as if a customer is injured on the premises. 2| | Tenant’s Insurance| Tenant’s insurance, also known as renter’s insurance, provides much the same coverage as does homeowner’s insurance, but it does not cover damage to houses or apartments themselves. A fairly inexpensive form of insurance, it protects against loss of or damage to personal property and most lawsuits that could arise from occupying rented property.
For example, tenant’s insurance would pay for damages caused by a fire that started in a policyholder’s apartment and spread to the rest of the building. 3| | Automobile Insurance| Automobile insurance protects against damage to a policyholder’s car and most liabilities that could arise from operating that car. Most countries allow drivers to satisfy their financial responsibility for the costs of auto accidents by obtaining insurance in three categories of liability coverage: (1) for injury to any one person, (2) for injury to two or more people, and (3) for damage to another person’s property.
Most insurance policies require that drivers who purchase auto insurance buy no less than a specified minimum of coverage, toward the injury of another individual, the injury of multiple persons, the damage of another person’s property. This minimum requirement is generally listed on policies and the government operates compulsory programs of auto insurance in which all drivers must participate. Most drivers also purchase medical payments coverage, which pays for treatment of injuries they or their passengers may sustain in an accident, and collision protection, which pays for damages to their own cars.
Another optional form of auto insurance, called comprehensive, covers a person’s car against theft or many types of non-accident damage, such as windshield cracks caused by rocks. In addition, drivers may purchase insurance against injuries to themselves or their passengers from accidents with drivers who have little or no insurance. With underinsured motorist and uninsured motorist coverage, a person’s own insurance policy provides damage and injury compensation that would normally come from another person’s auto liability insurance.
Another type of coverage, called personal injury protection or no-fault, is required in some cases in addition to or instead of liability insurance. This coverage compensates drivers from their own policies for damages from accidents without determining responsibility for the accident. 4| | Marine and Other Forms of Transportation Insurance| Boats and their cargo and passengers face many risks on unpredictable and powerful waterways. Marine insurance is one of the oldest forms of insurance. It covers damage to and losses of boats, ships, marine workers, cargo, and passengers.
Both businesses and individuals may purchase various forms of marine insurance. Insurance for commercial ships or boats at sea, docked in a port, or on some inland waterways-as well as their cargo or passengers-is known as ocean marine insurance. There are four main types of ocean marine insurance: (1) hull insurance, (2) cargo insurance, (3) freight insurance, and (4) marine liability. Hull insurance covers damage to a ship itself. Cargo insurance covers losses to a ship’s physical cargo. Freight insurance covers shippers against a loss of freight (payment for the transportation of cargo).
Marine liability covers damages to people and property from collisions and other accidents. Businesses involved in transporting cargo or passengers by land or by air can purchase coverage similar to that of marine insurance. Insurance policies for commercial transport of cargo by land or air are commonly known as inland marine insurance. However, because of the increasing importance of the passenger airline industry, specialized property and casualty coverage, known as aviation insurance or aircraft insurance, has been developed to cover aircraft and their cargo or passengers.
5| | Commercial Property and Casualty Insurance| Commercial property and casualty insurance cover businesses against a wide variety of liabilities and property damages or losses. Commercial property policies cover the building occupied by a business; such items as the furniture, fixtures, machinery, and inventory of a business; income lost by a business due to fire, theft, or other damage; and most liabilities that may arise from owning property and operating a business. A special kind of casualty insurance, called workers’ compensations pays for employee injuries or illnesses that occur on the job.
B| | Life Insurance| Life insurance provides compensation to specified individuals or groups—such as to family members or charities—when the policyholder dies. Some policies also provide funds for people to use during periods of their life when they will no longer be able to earn income through work, such as in the final stages of a terminal illness. In industrialized countries, most people must earn a living to provide for themselves and their families. When a wage-earning family member dies, remaining family members may not be able to meet financial obligations and goals.
Life insurance allows people to use some of their earnings to assure that money will be available in the case of death. Individuals can purchase life insurance coverage individually from insurance companies. Others purchase coverage as part of a group, such as through their place of employment. Some life insurance policies, known as term life, cover policyholders for set periods of time, or terms. Other policies, known as permanent life, cover policyholders for their entire lives. B1| | Term Life Insurance|
Term life insurance pays out the value specified on the policy if the policyholder dies during the period specified in the policy. People may purchase term life coverage for 1, 5, 10, or 20 years. Term life can provide fairly large amounts of coverage with relatively low premiums. However, some people need longer-term coverage to provide for such expenses as a 30-year home mortgage loan or estate taxes imposed after the insured person’s death. Term insurance can play a part in covering certain long-term expenses, if the insurer can design policy options to match the need.
Using term insurance policies to deal with long-term risks poses two serious problems: (1) An insured person’s health may decline to the point that the insurance company will no longer wish to extend a policy for another term. To protect against this problem, a policyholder can consider adding an option to make a policy guaranteed renewable, an agreement in which an insurance company must continue to provide coverage if the policyholder wants it. (2) The premiums of guaranteed renewable term life policies, or any term policy, commonly increase with each renewal.
Often the increasing premiums become so high that policyholders decide to drop their coverage, sometimes before the need for the coverage disappears. Policyholders using term life insurance to protect against long-term risks should consider buying convertible term insurance, which can be changed to permanent coverage. Convertible term life policyholders can switch their coverage as soon as they can afford additional premium costs. Once this switch is made, costs usually remain stable. B2| | Permanent Life Insurance| Permanent life insurance pays its face value whenever policyholders die, as long as they have complied with policy requirements.
Most types of permanent life insurance policies also provide a cash surrender value, which returns some money to people who cancel their policies. This practice helps maintain fairness within large groups of policyholders. If the risk that caused some people to buy their insurance, such as an outstanding debt, should disappear, those people would probably decide to discontinue their coverage, often called “surrendering the policy. ” But they would also have overpaid for the amount of risk protection delivered by the time they ended coverage.
Cash surrender rules allow individuals who surrender their policies to take some or most of their overpayments out of the group without hurting those who retain their policies. Insurance companies commonly sell three different categories of permanent life insurance: (1) whole life, (2) universal life, and (3) variable life. Although some insurance companies may use different names to market their policies, most fall into one of these three categories. Whole life insurance spreads the cost of insurance coverage over a person’s entire life through a payment plan of regular, equal installments.
People’s early payments into a whole life plan actually exceed what they would have had to pay for similar amounts of term insurance coverage. But these overpayments accumulate in whole life policies to a cash-surrender-value fund. The fund returns money to those who end their coverage and also keeps premiums from going up for people who do not end their coverage. Whole life policyholders may take out loans using their insurance as collateral, which they can either repay with interest or deduct from their death benefit (face-value benefit at death).
Another type of policy, known as endowment life insurance, resembles whole life but runs for less than the full life of the policyholder. Endowment policies pay out their face value at the contract’s end, even if the insured is still living. Because endowments have short terms, they also have higher premiums than do whole life policies, which in turn force the policyholder to save more. Universal life insurance policies are permanent plans that incorporate some features of term life plans. Although more flexible than whole life, universal life policies transfer less of policyholders’ total risk to the insurance company.
Typically, a universal life policy has a flexible target premium, which the insurance company calculates will keep the plan in force for life for a particular group of policyholders. Policyholders may pay somewhat more or less than the target premium, depending on their current financial circumstances. When an insurance company collects universal life premiums for a particular policy period, it allocates a portion of that premium to pay claims if policyholders die during the policy period. This is called the policy’s mortality charge, which is the equivalent of a term life insurance premium.
The company then deposits the remainder of the universal premium in an investment account that earns interest. The amount that results is called the policy’s accumulation value. The accumulation value minus any charge for surrendering the policy equals its cash surrender value. Variable life insurance works much like whole life except that the insurance company invests overpayments from all policyholders in the stock market instead of in accounts that earn a regular rate of interest. The performance of stock investments varies.
Therefore, the insurer and policyholders cannot know the exact cash surrender values of policies in advance. Instead, their value depends on the performance of the stocks bought with money from premiums. Some variable life policies also allow the death benefit to vary with stock market performance. Variable universal life, a variety of policy introduced in the 1980s, combines the stock market investment feature of variable life insurance with the flexible premium feature of universal life. C| | Health and Disability Insurance|
Illnesses and disabilities can lead to enormous medical care expenses and also can prevent people from being able to earn income, so insurance can provide important economic relief. Health insurance protects people against the costs and consequences of illness and injury. Disability income insurance, or disability insurance, provides money for ordinary living expenses if an accident or illness prevents a policyholder from working. Employer-sponsored workers’ compensation plans provide limited coverage that applies only to job-caused or -related disability.
About 20 percent of people in the United States purchase individual health insurance to cover medical costs. Policies that cover all expenses for what is defined as medically necessary treatment provide better protection than do ones that limit benefits to accidents, cancer, or other specific causes for treatment. Some very large businesses may provide their own group insurance plans, known as self-insured health plans. Many government regulations that apply to standard insured plans do not apply to self-insured health plans.
Therefore, people covered under self-insured plans have limited recourse in the event of a dispute over medical service or insurance coverage. Many health insurance plans offer separate policies for very specific kinds of insurance, in addition to general medical care. For instance, dental coverage, if purchased, pays for routine care and often a portion of the costs of more complex dental procedures. Vision care insurance pays for visits to eye doctors as well as a portion of the price of prescription corrective eyewear. Another type of policy provides long-term care for critically ill or terminally ill patients.
This coverage, when added to general health insurance, lead to higher premium costs. 1| | Government Programs| The governments of many countries provide a basic level of health and disability insurance and services for their citizens. In the developed world the Medicare program, operated by the Social Security Administration, helps assure that people with disabilities and senior citizens have access to health services. Medicaid programs, funded by both state and federal revenues and also provide medical care for the poor.
Medicare medical insurance, which helps pay for routine medical care, is funded by contributions from the elderly and by general federal revenues. The U. S. government takes a tax out of people’s paychecks to fund Medicare hospital insurance, which helps pay for hospital care The U. S. Social Security program provides some disability protection for workers through its Old-Age, Survivor’s, and Disability Insurance program, or OASDI. The federal government takes a portion of people’s incomes in taxes earmarked specifically to pay for OASDI.
The disability portion of OASDI provides fairly minimal coverage, and it does not cover short-term disabilities. Thus, people who want adequate compensation in the event of disability usually try to have a combination of government-provided and employer-provided or individual plans. Similarly in other countries in Europe Pension Plan provide limited disability benefits to workers who have contributed to the system. 2| | Private Health and Disability Insurance| The health insurance sold by private U. S. insurance companies promises to indemnify (reimburse) the insured for covered medical expenses.
A contract of indemnification puts the ultimate responsibility for the entire bill with the policyholder. Doctors and hospitals often submit their bills directly to insurers as an administrative courtesy designed to speed up their payments. Any portion of a bill not paid by an insurer becomes the policyholder’s own responsibility to pay. Health insurance plans that offer only indemnity coverage are known as fee-for-service plans. Today, however, many people cover the costs of health care through managed care plans, which promise to actually manage or provide, not simply insure, medical services covered by their policies.
People who use managed care rarely or never go through a process of indemnification, because their contracts guarantee the provision of health care services instead of repayment for the cost of those services. In some cases, a managed care plan may use a process of indemnification to pay for services given by health care providers who are not part of the plan. The common types of managed care include (1) health maintenance organizations, (2) preferred provider organizations, and (3) point-of-service plans. The individual disability insurance offered by private insurance companies often.