Insurance Flashcards
Risk
A condition with the possibility of loss
A situation with an exposure to loss
Peril
The CAUSE of a loss
Examples:
Fire, windstorm, liability, collision, theft, sickness or injury
Hazard
A condition that may create or increase the chance of loss arising from a given peril. May increase frequency or severity of loss.
Concept of
Insurance
Pooling of risks and transferring them to an insurance company to replace uncertainty (a possible large loss) with certainty (coverage in exchange for a premium).
Law of Large Numbers
As the # of independent events increases, the likelihood grows that the actual results will be close to the expected results.
Ins company needs large # of similar exposure units
Adverse Selection
Adverse selection is the occurrence of people who need insurance the most being the most likely to purchase it. Insurance companies want to minimize their risk by also insuring healthy policyholders, yet unhealthy or high-risk individuals are more likely to apply for coverage
Adverse selection in the insurance industry involves an applicant gaining insurance at a cost that is below their true level of risk.
Someone with a nicotine dependency getting insurance at the same rate of someone without nicotine dependency is an example of insurance adverse selection.
Insurance companies have three options for protecting against adverse selection, including accurately identifying risk factors, having a system for verifying information, and placing caps on coverage. https://www.investopedia.com/articles/insurance/082516/examples-adverse-selection-insurance-industry.asp
Morbidity
Insurable Risks
For an insurance company to assume a risk, the risk must have ALL of the following characteristics:
1. Large # of homogeneous exposure untis to make losses reasonably predictable
2. Loss produced by the risk must be definite and measurable
3. Loss must be fortuitous or accidental
4. Loss must NOT be catastrophic to insurance company
Basic Rules of Risk Management
- Coverage for potential catastrophes should be purchased first (life, disability, health, homewoners, auto)
- Severity is more important than probability
- High probability will mean higher premiums or a decline of coverage by the carrier.
Risk Control
Risk ….
- Avoidance
- Diversification
- Reduction
Goes with risk financing (retention, transfer)
Examples of
Risk Avoidance
- Rent instead of buy
- Don’t buy a house with a swimming pool
Examples of
Diversification of Risk
Store assets at different locations
Examples of
Risk Reduction
- Install sprinker system, smoke detectors and burglar alarm for home
- Create safety programs for businesses
Retention of Risk
Deductibles in insurance policies
Coinsurance in insurance policies
Self-Insurance
Transfer of Risk
- Insurance
- Hold harmless agreements/hedging contracts
- Incorporation of your business
Type of Risk Management
HIGH Severity, LOW Frequency
Risk Transfer (aka Insurance)
Type of Risk Management
HIGH Severity, HIGH Frequency
Avoidance
Insurance premiums would be cost prohibitive
Type of Risk Management
LOW Severity, HIGH Frequency
Retention
Reduction
Frequency implies risk transfer (insurance) will be costly
Type of Risk Management
LOW Severity, LOW Frequency
Retention
Principle of Indemnity
A principle underlying insurance contracts (other than life) under which the insurer seeks to reimburse the insured for approximately the amount lost, no more and no less.
4 Principles Supporting Indemnity
- Insurable Interest
- The concept of actual cash value
- Other insurance (limit the ability to profit from a loss)
- Subrogation
1 of 4 Principles Supporting Indemnity
Insurable Interest
A right or relationship with regard to that which is insured so that the insured will suffer financial loss from a loss.
Must operate at issuance of policy AND at time of loss in property and casualty insurance. With LI, insurable interest must operate at time of issue, but need not be present at time of death
Contract Requirements
These must applly for a contract to be legally enforceable
- There must be an agreement preceded by an offer and an acceptance by the one to whom the offer is made (the application)
- There must be consideration (usually money)
- the principal must have legal capacity to execute contracts
* Incompetent/intoxicated adults have limited or no capacity to execute contracts
* Minors may have capacity to contract for necessities only - The contract must be for a lawful purpose
Contract Characteristics
. Unilateral
* 2. only one of the parties to an insurance contract (the insurer) makes a binding promise that if broken breaches the contract
Adhesion
* 3. Contract is accepted “as is” or not at all
. Waiver Provision
* Neither an agent nor the insured can alter a contract … only the president, VP, secretary, etc
Insurance contracts are aleatory contracts
Aleatory Contract
The amt of $$ spent by contract parties is typically unequal.
Something an insurance company can do to a contract
Recession
The contract is deemed null from its beginning due to fraud, misrepresentation, concealment, or mutual mistakes as to a material fact.
Reformation
The contract can be amended when the original intent between the parties was not expressed
Subrogation
When an insurer pays a claim, it takes over the legal rights its insured had against a negligent third party
Collateral Source Rule
In tort liability, the plaintiff’s measure of damage should not be mitigated by payments received from sources other than the negligent party
Risk Financing
- Retention
- Transfer
Goes with risk control (avoidance, diversification, reduction)
Personal Risk
- Death
- Disability
- Poor health
- Unemployment
- Superannuation
