How insurance works & what is the impact of risk on your life


by Maureen Ball, June 28, 2018

How insurance works

The concept of insurance has been around for ages. Where there was trade, commerce, and community, there was insurance. It has always been used as a way for individuals to cope with a very real fact of life for everyone – sometimes, the unexpected does happen. And if you’re not ready for it when it does, you could lose everything.

In days gone by, merchants would use insurance when borrowing money or sending a shipment in case a vessel went down while at sea. Granaries were a type of insurance against famine.

The Greeks and Romans developed a type of health and life insurance with their so-called ‘benevolent societies,’ guilds that would care for the families of deceased members.

Insurance works by spreading risk – essentially thinning the blow from a disaster – fire, accident, sudden illness, flooding – to a level an individual or business can cope with.

The idea behind insurance is to put the insured back in the same or similar situation they enjoyed before they suffered damage, loss or injury. It’s a tool every civilized society has used, in one form or another, to ensure life can keep going on, no matter what.

Modern insurance is about reducing the financial impact on an individual or business following damage or loss. Insurers are the entities that facilitate this process of risk reduction. They:

  • Collect premiums from a pool of customers.
  • Pay out the appropriate sum of money when a policy holder makes a valid claim.
  • Use statistical information and apply mathematical calculations to establish the level of premium required to cover
  • the likely cost of claims they will incur.

In order for insurers to continue to exist, premiums will always fluctuate as the size of the pool of customers, as well as the unique factors and requirements of each individual in the pool, will always change. What most people don’t realise is the balancing act every insurer has to constantly perform: ensuring they have enough money set aside to pay claims as well as to remain a viable business, while also meeting shareholder expectations and complying with regulatory requirements.

How much insurance actually costs depends on numerous factors, including:

  • The type of insurance cover
  • The sums insured
  • The level of excess selected
  • Any optional benefits selected
  • Claims history
  • Risk assessment criteria of the insurer
  • Government taxes, levies or duties applied 

How risk impacts your life

Risk is a very individual thing. We are not all vulnerable to the same threats, nor do we all require the same amount of coverage should the unexpected occur.

But – no one is exempt from risk. Generally, the more you have and the more dynamic your life, the more protection you’ll need. A university student that doesn’t have a home, a car or dependent children to worry about, would require a lot less insurance than a business owner with property and a business to protect, as well as a family to lookout for.

This also means your level of risk and your insurance needs will evolve over time. Evaluating your coverage needs periodically with your financial advisor, insurance agent, or another financial professional is a great way to help ensure you are always in a risk-averse position, both personally and professionally.

No matter what stage, risk is a part of life that will always be there. For the most part, risk will always be outside of your control. Something as simple as someone breaking the window of your car and stealing your work laptop, or a major storm causing serious water damage in your home, can completely capsize your life and your finances. The bigger risks – serious injury, long-term illness or legal issues – can put your future in jeopardy, as well as your family.

The purpose of insurance is to help us deal with risk. We can’t stop things from happening but we can create a safety net that will allow us to manage problems if they do occur. Instead of living in fear, insurance allows us to have confidence and peace of mind that we’ll be able to cope, move on, and continue to enjoy our lives.

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