BASICS OF INSURANCE

Insurance is the protection of the economic value of assets. Asset, in insurance, is something which benefits the owner; the benefit may be monetary or otherwise. Asset has a limited period of usefulness, beyond which it may have to be replaced. Assets are likely to be destroyed through accidental occurrences like fire, floods, earthquake or breakdown. These occurrences are called perils. Possibility of damage or loss due to perils is called risk. Insurance is a mechanism to reduce the effect of premature damage of assets through perils in cases where there are uncertainties in the risk involved. If a risk is certain, then the asset cannot be insured. Insurance does not protect the asset, nor does it prevent the loss. It only tries to reduce the impact of the risk on the owner by partial compensation of the loss. Only economic consequences can be insured. Non-economic losses, like the loss of affection of a parent, loss of leadership of a manager, etc cannot be insured.

Insurance is a business of sharing. People who are exposed to similar risks come together and agree that if any one of them suffers a loss, the others will share the loss and compensate the person who lost. Thus risk is spread among the community and its impact on one is reduced to smaller, manageable impacts on all. To be workable, the loss must be due to perils which occur in accidental, random manner and not be deliberate creation of the insured person. Also, the manner of sharing the loss must be determined beforehand. The likely share, determined on the assumption of an average possibility of loss, is collected in advance, either in a lump sum at the time of admission to the group or as periodic payments. In reality, the group is the group of persons holding a particular type of ‘insurance policy’ issued by a company for which each person pays a ‘premium’ depending upon his/her risk profile. On the occurrence of the stipulated loss, the affected person gets compensated through his/her ‘claim’.