Principles of Insurance Flashcards
definition of insurance
- involves the transfer of loss and the sharing of losses with others
- used as a protection against financial loss
what type of risk is insurance used to protect someone against?
pure risk
pure risk - definition
with pure risk, there is a chance of loss or no loss
pure risk - examples
death, auto accident, house fire
speculative risk
there is a chance of profit, loss, or no loss
generally undertaken by entrepreneurs, is voluntary, and is not insurable
subjective risk
differs upon an individual’s perception of risk
objective risk
does not depend on an individual’s perception, but is measurable and quantifiable
measures the variation of an actual loss from expected loss
probability of loss
the “chance” of a loss occurring
measure of the long-run frequency with which an event occurs
the higher probability of loss may result in a decline of coverage
severity of loss
the actual dollar amount of the loss
what is more important: probability of loss or severity of loss?
severity of loss
law of large numbers
specifies that when more units are exposed to a similar loss, the predictability of such a loss to the entire pool increases
the more exposures, the more likely that the results will equal true and thus will be predictive of future results
perils - definition
the actual cause of a loss
perils - examples
fire, wind, tornado, earthquake, burglary, collision
hazard - definition
a condition that increases the likelihood of a loss occurring
3 types of hazard
- moral hazard
- morale hazard
- physical hazard
moral hazard
a character flaw
a character flaw would lead to a filing of a false claim
morale hazard
the indifference created because a person is insured
laziness
physical hazard
a tangible condition that increases the probability of a peril occurring
ex: icy or wet roads, poor lighting
adverse selection
the tendency of persons with higher-than-average risks to purchase or renew insurance policies
how is adverse selection managed?
underwriting
denying insurance on the front end, and raising premiums on the back end
requisites for an insurable risk
- large number of similar exposure units
- losses must be accidental
- losses must be measurable and determinable
- losses must not pose a catastrophic risk for the insurer
- premiums must be affordable
elements of a valid contract
- one party must make an offer and the other party must accept that offer
- there must be legal competency of all parties involved in a contract
- there must be legal consideration
- a contract must pertain to a lawful purpose
what does it mean that there must be legal competency of all parties involved in a contract?
all parties must be 18 years or older, otherwise the contract is voidable by the minor
what does it mean that there must be legal consideration with a contract?
a promise to pay (insurer) and actual payment of a premium (insured)
consideration is whatever is being exchanged (could be money, services, or property)
what does it mean that a contract must pertain to a lawful purpose?
the contract cannot promote illegal actions
the principle of indemnity
an insured is only entitled to compensation to the extent of the insured’s financial loss
insured can’t make a profit from a contract
subrogation clause
the insured cannot receive compensation from both the insurer and a third party for the same claim
the principle of insurable interest
an insured must have an emotional or financial hardship resulting from damage, loss, or destruction
when must an insured have insurable interest for a property and liability insurance contract?
at the time of inception and at the time of loss
