Insurance is an age-old concept. 4000 B.C so-called “bottomry contracts” were known to the merchants of Babylon. Such contract loans were granted to merchants with the provision that if the shipment was lost at sea the loan did not have to be repaid. The interest on the loan covered the insurance risk. The Romans, on the other hand, had a burial society that paid funeral costs on behalf of their members out of monthly dues. The concept has been around for ages, yet in current times many still don’t fully understand it. Let us break down the different types of insurance and look at some important insurance concepts to help better understand it.
Short term insurance can be thought of as any insurance that covers a risk that may or may not happen to a physical asset. This cover will only pay out on the event of a covered risk event taking place such as an accident, theft or other damages to a valuable asset. Most people have short term insurance cover on their vehicle and/or household content. Long-term insurance on the other hand covers the risk of not being able to earn an income due to life-changing events, either when you are disabled, retiring or in the event of death.
It is important to understand a few important insurance concepts to ensure you understand what risks you are covered for and which you aren’t:
Under insurance: This is a situation where someone does have insurance to cover their risk, but the cover is not sufficient to replace the lost asset or income stream in the event of a claim. It is important to adjust your risk cover as the value of your assets or as your income and lifestyle increases.
Over insurance: Although the concept of over insurance seems straightforward – in that it means your cover is worth more than the value of your loss in the event that you can claim – it is an extremely important concept. Why? Because if an insured can profit from the event of such a risk taking place, it is simply known as fraud. Therefore, in the event where it is found that someone is over insured, the insurer will only pay an amount equal to the value of the asset or income that was lost. The insured would therefore have paid unnecessary premiums towards cover they can’t claim.
Excess payment: Most people understand this concept, but just to recap. Excess payments are either a fixed amount or fixed percentage that the insured pays before the insurer will pay the claim. Most insurers provide the option to waive the excess by giving the insured an option to pay an additional 10 to 15 percent along with their premium. It is important to note that an excess is something that is only payable on short term insurance. Long term insurance will pay out the claimed amount in the event of a claim regardless of an upfront excess payment.
Insurable interest: This concept is once again straight forward but it has important consequences. A person or entity has an insurable interest in an item or person when the damage or loss of the object or person would cause them financial loss or other hardship. Only if a person has insurable risk can they own insurance to cover such a risk. This is an important concept not only for short term insurance, but also for long term insurance such as a life policy on someone else’s life or even when considering buy-and-sell agreements between business partners.
Underwriting: Insurance underwriting is how an insurer determines whether or not they are willing to take on a person or business as a client, based on the risk associated with such a person or business. The process looks at how likely it is that the potential insured would make a costly claim and whether the insurer would lose money by issuing the policy. This is usually a concept seen more with long-term insurance policies and the insurer may possibly require an individual insured to complete a medical examination and answer a questionnaire.
Subrogation: This principle is mostly observed when dealing with short term vehicle insurance where a vehicle is written off. When the compensation has been paid by the insurer to the insured, the right of ownership of the property will shift from the insured to the insurer. Therefore, the insured will not be able to make a profit from the damaged property or sell it. The insurer on the other hand does have the right to sell the damaged property, or part thereof.
Insurance plays an important part in the overall financial wellbeing of individuals and businesses, but it is important to understand the terms of the contract, and the exact risks that are and aren’t covered by your risk policies.
