There are many definitions of insurance. Insurance can be defined from the viewpoint of several disciplines, including law, economics, history, actuarial science, risk theory, and sociology. Insurance is the pooling of fortuitous losses by transfer of such risks to insurers, who agree to indemnify insureds for such losses, to provide other pecuniary benefits on their occurrence, or to render services connected with the risk. Although this lengthy definition may not be acceptable to all insurance scholars, it is useful for analyzing the common elements of a true insurance plan.
Pooling of Losses
Pooling or the sharing of losses is the heart of insurance. Pooling is the spreading of losses incurred by the few over the entire group, so that in the process, average loss is substituted for actual loss. In addition, pooling involves the grouping of a large number of exposure units so that the law of large numbers can operate to provide a substantially accurate prediction of future losses. Ideally, there should be a large number of similar, but not necessarily identical, exposure units that are subject to the same perils.
CHARACTERISTICS OF AN IDEALLY INSURABLE RISK
Private insurers generally insure only pure risks. However, some pure risks are not privately insurable.
From the viewpoint of a private insurer, an insurable risk ideally should have certain characteristics. There are ideally six characteristics of an insurable risk :
■ There must be a large number of exposure units.
■ The loss must be accidental and unintentional.
■ The loss must be determinable and measurable.
■ The loss should not be catastrophic.
■ The chance of loss must be calculable.
■ The premium must be economically feasible.
Insurance can be classified as either private or government insurance.
Private insurance includes life and health insurance and property and liability insurance.
- Life insurance pays death benefits to designated beneficiaries when the insured dies. The benefits pay for funeral expenses, uninsured medical bills, estate taxes, and other expenses. The death proceeds can also provide periodic income payments to the deceased’s beneficiary.
Life insurers also sell annuities, individual retirement account (IRA) plans, 401(k) plans, and individual and group retirement plans.
Some life insurers also sell (1) individual and group health insurance plans that cover medical expenses because of sickness or injury; (2) disability income plans that replace income lost during a period of disability; and (3) long-term care policies that cover care in nursing facilities.
- Health Insurance Although many life insurers described above also sell some type of individual or group health insurance plan, the health insurance industry overall is highly specialized and controlled by a relatively small number of insurers. About 35 health insurers write most individual and group health hospital and surgical expenses, physician fees, prescription drugs, and a wide variety of additional medical costs
Government insurance includes social insurance programs and other government insurance plans.