What is Insurance?

Cite this article as:"What is Insurance?," in The Business Professor, updated January 24, 2015, last accessed November 26, 2020, https://thebusinessprofessor.com/lesson/what-is-insurance/.
Video Thumbnail
What is Insurance?
This video explains what is insurance.

Next Article: What is an Insurance Contract or Policy


What is “insurance”?

Insurance is a risk management and mitigation relationship between an insurer and the insured party. The primary participants and characteristics of the relationship are as follows:

•    Insured – The insured allocates the contingent risk of loss in a particular situation to an insurer.

•    Insurer – The insurer is a business entity that agrees to bear the burden of potential losses and to indemnify the insured from a degree of personal loss. “Indemnify” generally means to hold a person harmless by paying any costs or expenses incurred.

•    Premiums – The insurer receives some form of compensation for assuming the insured party’s risk, known as a “premium”. The insurer assesses the extent or severity of the contingent risk through a process or system known as “actuarial science”. The premium that the insurer charges to the insured is documented through a contract known as an “insurance policy”.

•    Coverage & Policy Limits – An insurance policy contract is the legal document evidencing each party’s right and obligations in the insurance relationship. It will cover or establish terms of indemnification of an insured for losses suffered as a result of a specific occurrence. It will identify specific limits on the amount of indemnification payable upon the occurrence of a specific risk.

Insurance policies are a specific type of contract with unique attributes.

•    Discussion: Can you identify a difference between an insurance policy and a typical contract for services? Hint: Think about the elements of a valid contract as compared with the attributes of an insurance policy.

•    Practice Question: Jed owns a home and car that are both subject to an insurance policy. What must Jed do to maintain this insurance relationship? If Jed’s home or car suffers damage that is covered under the insurance policy, what is the role of the insurer?

Was this article helpful?