Principles of Risk and Insurance (Slides) Flashcards
Definition of Risk and 2 Types
Definition: risk represents the chance of loss or uncertainty of outcomes associated with engaging in an activity
Pure Risk: a situation in which only one of the two outcomes can occur - loss, or no loss
Speculative Risk: situations in which both gains and losses are present
Insurance is used to protect against pure risk
Four Key Terms (Hazards) in Risk in Insurance
Peril: a cause of a loss, typically including
- death
- flooding
- fire
- disability, etc.
Physical Hazard: something that increases the likelihood of a loss should a peril incur (i.e. failing to maintain the brakes on a car)
Moral Hazard: is present when the use of insurance increases the likelihood that the insured will be dishonest when reporting a loss.
Morale Hazard: when the presence of insurance causes the insured to become complacent or indifferent to a loss. Insurance companies typically required the insured to retain some risk through deductibles and copayments
PPMM
Risk Management Strategies for Risk Frequency and Severity
Severity vs Frequency
Low Severity / Low Frequency: retain the risk
Low Severity / High Frequency: reduce the risk
High Severity / Low Frequency: transfer the risk (purchase insurance)
High Severity / High Frequency: avoid the risk
Use legal contracts to shift the risk to a responding party (landlord requiring tenant to purchase insurance)
4 Characteristics of Insurable Situations (Insurable Interests)
Insurance companies only provide insurance on insurable risk
Characteristics:
- Losses cannont be catastrophic for the insurance company
- The potential pool of insureds must be large and homogenous
- Losses must be accidental
- Loss must be determinable and measurable
Pool Construction and the Cost of Insurance
The process of building a pool of insureds and determining an appropriate premium is based on the concept of underwriting.
All insurance companies face adverse selection
The underwriting process involves balancing the pool of insureds so that those with favorable characteristics are greater than those with unfavorable attributes.
- if the pool becomes unbalanced, premiums will increase
6 Insurance Policy Requirements to be Valid
- There must be an offer and an acceptance
- Consideration must be given by one party in the contract to the other
- The contract must have a lawful purpose
- The parties to the contract must be competent
- The contract must be written in a legal manner that matches state and contract law
- The person or entity that will receive the proceeds from an insurance policy must have an insurable interest (financial or emotion, in the case of life) at the time of issuance of the policy
COAL CIL Consideration Offer Acceptance Lawful Competence Insurable Interest Legal
6 Unique Elements of Insurance Contracts
- A personal contract
- An aleatory contract (random chance)
- A unilateral contract
- A contract of adhesion (contract drafting party has superior bargaining power)
- A conditional contract
- Founded on the concept of indemnity (not to make a profit)
Riders and Endorsements
Riders and endorsements are used to add more coverage and to customize a contract
Endorsements are used for property and casualty policies
Riders are used for other types of insurance, including life insurance
3 Ways (Authorities Used) Insurance Agents and Brokers Bind an Insurance Company
Insurance is sold to consumers through agent and broker systems
Agency law is used to enforce insurance contracts
An Agent can represent and bind an insurance company in three ways
- Express Authority: an authority that is specifically granted by the insurance in the agency contract or agreement. Can be either written or oral
- Implied Authority: the authority consumers may reasonably believe the agent possesses (i.e. if the authority to collect premiums from clients is not express granted in the agency contract, but the agent does so on a regular basis, and the insurer accepts the payment, the agent has implied authority)
- Apparent Authority: occurs when an agent oversteps the actual authority and the insurer takes no action to counter the impression that such authority exists
EIA
2 Main Regulators of Insurance Companies and Affiliates
Primarily at the state level (by commissioners)
Oversight by the National Association of Insurance Commissioners
Whose Interests are Represented
Agents represent the interests of the insurance company
Brokers represent the interests of the applicants and insured entities