Chapter 1: Introduction to Insurance Flashcards
1
Q
Risk
A
The possibility that a loss will occur
2
Q
Insurance
A
A contract that transfers the risk of financial loss from an individual or business to an insurance company
3
Q
Insurance is designed to cover only losses that involve what?
A
Risk
4
Q
Insurance is the process of what?
A
Transfer of risk from a person or a business to an insurer
5
Q
Two types of risks:
A
Speculative
Pure
6
Q
Speculative risks
A
Have a possibility of a loss and also the possibility of a gain
7
Q
Examples of speculative risks
A
Gambling
Investing
8
Q
Pure risks
A
Involve the possibility of experiencing a loss, not a gain
9
Q
Example of pure risks
A
Chance of being in a car wreck/accident
10
Q
Which risks can be covered by insurance?
A
Pure risks
11
Q
Risk
A
Uncertainty, possibility of loss
12
Q
Exposure
A
The potential for accidents and other losses
13
Q
What departments are available to evaluate a risk and rate an exposure?
A
Underwriting departments
14
Q
How does risk relate to premium costs?
A
The higher the exposure to risk, the higher the premium
15
Q
What are potential examples of risks for which the insurance company would be liable?
A
-Pets
-Liability
-Health
-Vehicle
-Travel
-Home
16
Q
The cause of a loss is called what?
A
A peril
17
Q
A loss is?
A
The unintended, unforseen damage to property, injury, or amount paid
18
Q
Two types of loss
A
-Direct loss
-Indirect loss
19
Q
Direct loss
A
-Physical loss to property with no intervening cause
20
Q
Examples of direct loss
A
-Lightning striking a house
-An automobile hitting a tree
21
Q
Indirect loss
A
-A consequential loss as the result from a direct loss
22
Q
Examples of Indirect Loss
A
-Loss of rental income due to house fire (which cause a loss of profits for the landlord)
23
Q
Indirect loss is always consequential of what?
A
Direct loss
24
Q
Direct loss
A
physical loss
25
Indirect loss
Consequence of physical loss
26
Hazard
Anything that increases the chance that a loss will occur
27
Three types of hazards
-Physical
-Moral
-Morale
28
Physical Hazards
-Physically identifiable factors that increase the chance of loss
29
Examples of physical Hazards
-Slick tires
-Dead tree
-Slick floor/wet floor
30
Moral Hazards
-Arise from an individual's character: losses will more likely occur to individuals who lack morals as a result the individuals are hazards to an insurance company
31
Morale Hazards
-A state of mind or careless attitude
-An unconscious change in a person's actions or behaviors
32
Example of morale hazards
-The insured carelessly left the doors and windows unlocked when not at home
-Insured leaving a car running and unlocked while running into the store for a quick item
33
Moral hazard example
Dishonesty
34
Morale hazard example
Leaving door open
35
Methods of Handling Risk
STARR
36
S
Sharing
37
T
Transfer
38
A
Avoidance
39
R
Retention
40
R
Reduction
41
Sharing
In risk sharing, two or more individuals or businesses agree to pay a portion of any loss incurred by any member of the group. Stockholders in a corporation share the risk.
42
Transfer
Risk transfer is what happens with insurance. The insurer (insurance company) agrees to pay if an insured (customer) has a loss-the insured no longer bears that risk. The individual has a cost in the form of a premium payment. In contrast to the loss, which is large and uncertain, the premium is a much smaller certainty
43
Avoidance
Risk avoidance means eliminating a particular risk by not engaging in a certain activity. For example, an individual who does not drive avoids the risk of injuring someone in an automobile collision and being held liable for those damages
44
Retention
Risk-retention means the individual or business will pay for the loss if it occurs, or a portion of the loss via a deductible. If you don't have car insurance to pay for the damages you cause to another person in an accident, you have retained that risk
45
Reduction
Risk reduction refers to lessening the chance that a loss will occur, or lessening the extent of a loss if it occurs. If a business installs a sprinkler system in its building, this will help reduce or eliminate the damage caused by a fire
46
Insurance uses the risk management method of what? To spread a risk of a loss among thousands, if not millions, of insureds who do not have an accident will be paying for the losses of the few who do not have an accident
Transfer
47
Parties to an Insurance Contract
1) The insured (customer)
2) The insurer (insurance company)
48
Contract/policy
An agreement between the insured and the insurer
49
Law of Large Numbers
The larger the group, the more accurately losses can be predicted while insurance can't specifically name which individuals will have a loss each year, they can predict how many dollars in claims they will have to pay out each year based on the actual losses they experienced in the past-allows them to charge each insured a premium-that: pooled together will cover all claims and operating costs
50
Elements of Insurable Risk
-CANHAM
51
C
Calculable
52
A
Affordable
53
N
Non-Catastrophic
54
H
Homogenous
55
A
Accidental
56
M
Measurable
57
Calculable
Premiums must be calculable based upon prior loss statistics for that particular risk in order to predict future losses
58
Affordable
The premium for transferring the risk should be affordable for the average consumer
59
Non-catastrophic
The risk must be non-catastrophic for the insurance company-national or area disasters such as floods, riots, wars, and earthquakes, will often have coverage limitations in insurance policies. These events cause widespread simultaneous losses to many insured properties. The peril of detrimental (or catastrophic) to the insurer
60
Homogenous
The risk must be similar in nature, so the same factors affect the chance of loss. For example, if an actuary was going to predict the likelihood that a wood frame house would suffer a fire in California, the actuary would not include brick houses in the sample
61
Accidental
The loss must have been caused due to chance (accident). Intentional losses caused by the insured are not covered by insurance
62
Measurable
A definite (time and place) and measurable loss means that proof of loss must be established with numbers and dollar amounts, not just casual references
63
Adverse Selection
The tendency for higher-risk individuals to get and keep insurance as compared to individuals that represent an average level of risk. The statistics insurers use to predict their losses are based on average risks. To insurers, adverse selection is a bad thing because it causes more losses than predicted. Therefore, the premiums collected may not be enough and could cause the insurance company to lose money
64
What is underwriting?
To avoid adverse selection, insurers make an extensive evaluation of information related to a particular risk
65
What are statistics to predict losses based on?
Average risks
66
Is adverse selection a bad thing?
Yes-it causes more losses than predicted. Therefore, the premiums collected may not be enough and could cause the insurance company to lose money
67
If an underwriter determines that a risk is higher than average, what happens?
The insurer may charge a higher rate to insure the risk, limit the amount of coverage it will issue on the risk, or refuse the application for insurance altogether
68
Adverse selection summary
-Risks that have a greater-than-average chance of loss
-Not wanted by insurers
-Tendency for high-risk individuals to get and keep insurance
-Why insurers go through the underwriting process
-High risk= higher rate to insure or refusal
69
Reinsurance
Insurance for insurers-transfers risk from one insurer to another insurer-to reduce the total amount of loss it is liable for, one insurer may pay the other insurer a premium to assume a portion of the risk.
70
The company assuming the risk
The reinsurer
71
The company reducing its risk
ceding insurer
72
Facultative reinsurance
The reinsurer considers each risk before allowing the transfer from the ceding company-this is called facultative reinsurance
73
Treaty reinsurance
The reinsurer accepts all risks of a certain type from the ceding company
74
Reinsurance
-An insurance company's insurance company
-Helps insurers spread their risk
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