At its most basic, insurance is designed to help reduce the financial impact on an individual or business of a risk occurring.
While insurance can never remove the risk, it will provide the policyholder with some security should an event happen that would cause the financial stress.
A business that offers cover against certain risks (the insurer) agrees to take on the risk on behalf of the business or individual concerned (the insured).
It does this by providing the insured with an insurance contract, usually known as a ‘policy’.
The contract will lay down what risks the insurer has agreed to insure against and how much it will pay if the risk happens offering the insured assurance that they will be put back into the same position as if the risk had not happened.
The policy usually also includes a list of things that are not insured against (the exclusions).
So, for example, if one buys insurance which includes cover against their car being stolen, the insurance may have exclusion against payout if the insured was careless and left the keys in the car.
In return for offering the policy, the insured pays a fee (the premium).
The insurer pools funds from many insured people and invests it to make the pot of money grow. In the event of an insured claim, the insurer pays out from the pool of funds.
Like any business, the insurer is trying to make a profit so they hope the premiums received in any one year exceed the monies it has to pay out.
Insurers in the United Kingdom and in most countries are very closely supervised to make sure that they do keep enough money to pay all their claims.
The insurer will consider the product or person wanting to be insured before offering a decision and indeed, fee, and this whole process is called ‘underwriting’.
Underwriters are specialists employed to carry this out and they will consider how likely the insured event could happen, what steps the insured has taken to reduce the risk and what are the actual financial consequences if it happens.
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