The Core Concept: Risk Pooling
- Sharing risk: Insurance companies gather premiums from a large pool of policyholders. This money creates a fund used to pay out claims when covered events occur. The idea is to spread the financial risk of an unexpected event over many people, rather than one person shouldering the entire cost.
- Probability and statistics: Insurance companies use statistics to predict how likely certain events are to happen and how much they might cost (think of car accidents, illnesses, etc.). They set premiums based on these calculated risks to ensure they have enough money in the fund to cover potential claims.
The Steps Involved
- Purchase a policy: You choose the type of insurance you need (auto, health, etc.) and the coverage level you want.
- Pay premiums: You pay regular premiums to the insurance company. The amount depends on the type of insurance, the coverage level, and your own risk factors (age, health, driving record, etc.)
- An insured event occurs: If something covered by your policy happens (sickness, car accident, house fire), you file a claim with your insurance company.
- Claim assessment: The insurance company investigates your claim to:
- Verify that the event falls under the coverage of your policy
- Determine the extent of the damage or financial loss
- Payout (if approved): If your claim meets the policy’s conditions, the insurance company pays for covered losses, up to your policy limit. You may have a deductible to pay first.
Important Note: Insurance policies don’t cover everything. They have specific exclusions and limits. It’s essential to fully understand what’s covered under your policy before an unfortunate event occurs.