General Insurance Risk & Loss

Question 1

What is another name for Perils? And list examples

Answer 1

Cause of loss - for example fire, windstorm, collision

Question 2

What is the fundamental purpose of insurance?

Answer 2

To indemnify policyholders against covered losses

Question 3

What does risk mean with respect to insurance?

Answer 3

• Chance of Loss
• Can also refer to the insured person, property or activity

Question 4

What is the definition of loss with respect to insurance?

Answer 4

An unwelcome and unplanned reduction in economic value

Question 5

What are two types of loss?

Answer 5

Direct or indirect loss

Question 6

What is the definition of direct loss?

Answer 6

A direct loss is the immediate result of an event caused by a covered peril.

Loss incurred due to direct damage to property, as opposed to time element or other indirect losses. Also used sometimes by captives to identify losses under policies directly insured by the captive, as opposed to losses assumed from a front company.

Question 7

What is the definition of an indirect loss?

Answer 7

An indirect loss is a more remote ramification than a direct loss, but is still a result of loss from a covered peril.

Loss incurred due to direct damage to property, as opposed to time element or other indirect losses. Also used sometimes by captives to identify losses under policies directly insured by the captive, as opposed to losses assumed from a front company.

Question 8

Home Fire, Describe the direct and indirect loss in this example.

Answer 8

If a home is severely damaged by fire, the damage to the building is considered a direct loss. Because the home is temporarily uninhabitable the home owner will incur additional living expenses, over and above the home owner’s normal expenses, until the house has been repaired. These additional living expenses are an indirect loss that follows the direct loss of the home.

Question 9

Definition of Exposure?

Answer 9

The state of being subject to loss because of some hazard or contingency. Also used as a measure of the rating units or the premium base of a risk.

For example, a motorist is exposed to the risk of being involved in an auto accident that could result in damage to the car, serious injury, lawsuits, or even death.

The term “exposure” also refers to the total extent of risk an insurer faces with an insured. For example, an insurance company that sells workers compensation insurance faces increased exposure as an insured business’s workforce increases.

Question 10

How do insurers measure exposure and how is exposure influenced?

Answer 10

Insurers measure exposure by assigning exposure units to the person, property, or event for which insurance is being sought. Exposure units are influenced by the insured item’s market value and risk factors facing it. In general, the more exposure units assigned to an insured item, the greater its premium.

Question 11

Definition of a Peril?

Answer 11

A peril is the destructive event that insurance guards against. Examples include:

fire
explosion
windstorm
flood
theft
collision

Question 12

Definition of Hazard?

Answer 12

Conditions that increase the probability of loss. Examples include poor housekeeping in a factory and inadequate lighting in a crime-prone area.

A hazard is a condition that increases the likely occurrence of a peril or the likely severity of a loss. Insurers recognize three types of hazards: moral, morale, and physical.

Question 13

What are the 3 types of Hazards? Describe them

Answer 13

• Moral hazards are the tendencies or traits of an individual that increase the chance of a loss. Alcoholism, smoking, and bad credit are examples of moral hazards.
• Morale hazards are also individual tendencies, but they arise from a state of mind, attitude, or indifference to loss. Not locking one’s car or driving recklessly are examples of morale hazards.
• Physical hazards are physical conditions that increase the chance of loss. For instance, dangerous conditions or activities are physical hazards that increase the chance of injury or death. Diseases are physical hazards because they increase chance of death. Slipper floors, unsanitary conditions, congested traffic, unguarded premises

Question 14

What are the 5 risk management techniques?

Answer 14

Methods for treating risks:

1) avoiding the risk
2) controlling (reducing) the risk
3) sharing the risk
4) retaining the risk
5) transferring the risk

Question 15

Definition of Risk Avoidance

Answer 15

Avoid the risk entirely.

Though not always practical, one way to manage a risk is simply to avoid it. For example, those who do not own a car avoid the risk of having a car being stolen or damaged.

Question 16

Definition of Risk Control

Answer 16

Controlling (reducing the risk)

• Risk prevention measures reduce the likelihood that a loss will occur. For example, shoveling snow off a sidewalk makes it less likely a visitor will slip and fall.
• Risk reduction measures reduce the severity of any loss that does occur. Having fire extinguishers does not keep fires from starting, but when available and used, they often limit fire damage.

Question 17

Definition of Risk Sharing?

Answer 17

Sharing the risk

Sharing the burden of a loss with others is one of the oldest ways to manage risk. Under a risk-sharing arrangement, groups share the financial burden of a loss suffered by any member of the group.

Pooling is a modern example of risk sharing. Groups of cities or other municipalities may organize a formal arrangement by which they share one another’s losses of a common nature (e.g., flooding) through pooled resources.

Question 18

Definition of Risk Retention?

Answer 18

Retaining the risk - the do nothing option

Accepting the loss using personal funds - self insure

Planned acceptance of losses by deductibles, deliberate noninsurance, and loss-sensitive plans where some, but not all, risk is consciously retained rather than transferred.

Question 19

Definition of Risk Transfer

Answer 19

Transferring the risk

Risk transfer—transferring the risk of loss to a third party—is the basis for most insurance today.

Ex. In exchange for paying a premium, an individual or business can transfer the risk of loss to an insurance company through an insurance policy. Should a covered loss occur, the insurer will compensate the insured for the value of the loss up to policy limits.

Question 20

Definition of Insurable Risk?

Answer 20

To be considered an insurable risk, a policy applicant must meet certain underwriting criteria and standards for insurability set by the insurer.

To be insurable, a risk must conform to the following standards and requirements:

• A covered loss must be definite as to time, cause, and location. It must be clear that a covered loss has occurred.
• The value of the item to be insured must be measurable. Without this, it would not be possible to determine premium rates and claim amounts.
• The insured event must be accidental or outside the insured’s control. Only losses that occur due to chance are insurable.
• In general, losses are not covered if due to catastrophic events such as a war or massive earthquake impacting many policyowners at once.
• The risk must be part of a large group of similar risks that the insurance company can use to predict future losses.
• Only pure risks (e.g., the risk of a house burning) are insurable; speculative risks are not.

Question 21

Definition of Speculative Risk?

Answer 21

Speculative risks—those that offer the chance of gain as well as loss—are not insurable. (Gambling; Investing in stock market)

It is not insurance’s role to protect a person’s loss in situations where the result may just as easily had been a gain, such as gambling or investing in the stock market.

Question 22

Definition of Adverse Selection?

Answer 22

Adverse selection means to “select against.” It is the tendency of those at greater-than-average risk of loss to seek insurance. In other words, people who are at the greatest risk of loss are also the ones most likely to do whatever is necessary to buy insurance to cover that loss.

For example, a person with a bad driving record is especially likely to recognize the need for auto insurance.

Question 23

Law of Large Numbers

Answer 23

law of large numbers. This mathematical concept says that what is not predictable in a single instance becomes predictable the greater the number of similar instances are being observed.

The law of large numbers makes it possible for insurance company actuaries (i.e., insurance mathematicians) to predict losses among a group of similar risks, as long as there are a sufficiently large number of risks to observe. This explains the requirement that, to be insurable, the risk must be part of a large group of similar risks that the insurance company can use to predict future losses.

Question 24

What concept allows actuaries, insurers to reasonably predict an instance from occurring as a great number of similar occurrences occur?

Answer 24

Law of Large Numbers

Regardless of past statistics, an actuary cannot reasonably predict if any of ten houses will burn down in the next year because there are too few to base predictions on. But, in a group of 10,000 houses an actuary can reasonably predict that a certain number will burn down in the next year.

While the law of large numbers helps actuaries predict the number of losses that might occur in a given population over a period of time, it does not predict which homes will suffer the loss. It is that uncertainty that makes insurance so important.

Question 25

Risk Means?

Answer 25

Risk means the “chance of loss.”

Question 26

What Type of risk is insurable and which is not?

Answer 26

Only pure risk (like the chance of a house burning) is insurable. Speculative risks (like stock investments) are not insurable.

Question 27

What is a loss with respect to insurance?

Answer 27

A loss is an unplanned reduction in economic value.

Question 28

What event does an insurance protect against?

Answer 28

A peril is the event that insurance protects against.

Question 29

What is an example of risk retention device in property insurance

Answer 29

A Deductible

Question 30

What is Risk Transfer?

Answer 30

Risk transfer—transferring the loss to a third party—is the basis for most forms of insurance today.

Question 31

What is the underwriting process?

Answer 31

Through the underwriting process, insurance company underwriters determine if the applicant is an insurable risk, meaning it meets the insurers standards and criteria for being insurable.

Question 32

What is adverse selection?

Answer 32

Underwriters are alert for applicants engaged in adverse selection, which is the tendency of those at greatest risk of loss to seek insurance for that risk.

Question 33

What is the law of large numbers

Answer 33

The law of large numbers is the mathematical principle of probability upon which insurance is based.