1. Chapter 9 The Insurance Decision The Concept of Risk –Risk is the uncertainty of injury or loss –Two key elements common to all risks The possibility of loss The uncertainty about when or if the loss will occur

2. Chapter 9 The Insurance Decision Two Major Types of Risks –Speculative risk --- the possibility exists for gain as well as loss. If you choose correctly you could be rewarded. Example: gambling on a horse race

3. Chapter 9 The Insurance Decision Two Major Types of Risks –Pure risk -- there is NO possibility for gain, only for loss Example: an auto accident where a car is totaled Insurance companies only deal with pure risk.

4. Chapter 9 The Insurance Decision Ways of Dealing With Risks Avoiding Risks Reducing Risks Assuming Risks Transferring Risks

5. Chapter 9 The Insurance Decision Avoiding Risks Avoiding risks involves taking a conservative approach to life. –dont become a hang glider or a firefighter –refuse to go out on New Years Eve to avoid being hit by an intoxicated driver BUT regardless of any actions you may take to avoid risks, you cannot avoid all risks in life.

6. Chapter 9 The Insurance Decision Reducing Risks Minimizing the possibility or severity of the loss –adding smoke detectors to your house –buying a car with air bags –going for regular medical checkups NEVERTHELESS, while you can reduce risks, you cannot eliminate them entirely.

7. Chapter 9 The Insurance Decision Assuming Risk Taking responsibility (financial) for the loss. SELF-INSURANCE: This involves setting up a contingency fund as a financial resource in case of a disaster. In other words, if your car is totaled, you must have enough funds in savings to buy another car. Because self-insurance is so expensive, it is IMPRACTICAL for most people.

8. Chapter 9 The Insurance Decision Transferring the Risk Giving someone else the responsibility of the financial loss. Most people choose this route by purchasing insurance (a contract). This privilege requires a fee (premium) to compensate the insured person (third party or beneficiary) for certain kinds of losses.

9. Chapter 9 The Insurance Decision What Constitutes an Insurable Risk? Companies look for five characteristics before they will issue insurance. –Risk must be common to a large number of people –Risk must be present –Loss should be fortuitous –Loss must be definite –Risk should be spread over a wide geographic area

10. Chapter 9 The Insurance Decision A Risk Must Be Common to Many People –Companies operate under the law of large numbers –This law enables companies to predict future losses and set premiums What is NOT PREDICTABLE for the individual IS PREDICTABLE for a large group of people (Example: mortality tables)

11. Chapter 9 The Insurance Decision Risk Must Be Present –Policyholder must be able to demonstrate he/she will suffer financial loss due to an occurrence of the potential misfortune--- AKA insurable interest You cannot have an insurable interest in your neighbors car, because you WOULD NOT SUFFER FINANCIAL LOSS IF HE HAD AN ACCIDENT.

12. Chapter 9 The Insurance Decision Loss Must Be Fortuitous (Happenstance) –Loss cannot be expected or deliberately created by policyholder –Suicide which happens during first two years of buying a life insurance policy is not covered for this reason

13. Chapter 9 The Insurance Decision Loss Must Be Definite –Each risk is measured in terms of insureds financial loss –Though difficult to define, insurance policies always issued for specific financial losses –Collision insurance: maximum collectible amount is the cars current value

14. Chapter 9 The Insurance Decision Risk Should Be Spread Over Wide Geographical Area –Keeps insurance rates reasonable –Minimizes ins. companys exposure to catastrophic loss –Disaster in one area of country can be covered because companies insure millions of people throughout the country, not just that area

15. Chapter 9 The Insurance Decision Major Categories of Insurance Life Insurance Health Disability Homeowners Auto Personal liability

16. Chapter 9 The Insurance Decision Life Insurance –Protects people against the financial losses that occur with premature death –Americans pay close to $100 billion in premiums and collect around $75 billion annually in benefits –One of the nations largest businesses

17. Chapter 9 The Insurance Decision Health and Disability Insurance –More than 72% of Americans have some type of private health insurance –Covers most or all of the expenses connected with medical and hospital care due to illness or accident –Disability Insurance Provides payment when insured is unable to work because of injury or illness

18. Chapter 9 The Insurance Decision Property and Liability Insurance –Automobile Insurance The countrys largest single type of property and liability insurance Economic loss associated with accidents in ONE recent year totaled over $100 billion Most states require a minimum amount of automobile insurance

19. Chapter 9 The Insurance Decision Homeowners Insurance –Protects homeowners from damage to house by perils –Typical perils covered include fire, windstorms and burglary. –Most policies do NOT cover damage from widespread catastrophes such as floods and earthquakes

20. Chapter 9 The Insurance Decision Personal Liability Insurance –Usually attached to homeowners and automobile policies –Compensates others for losses you have caused –Sometimes policyholders purchase umbrella liability policies Provide additional liability protection Good idea for consumers with substantial assets to protect

21. Chapter 9 The Insurance Decision Basic Elements of Insurance 1. The Insurance Premium –Underwriting -- the process of determining who to insure and what to charge –Money needed to pay claims and cover expenses divided among policyholders according to amount of risk each faces

22. Chapter 9 The Insurance Decision The Insurance Premium –Cost paid per policyholder, is termed a premium –Variations of risk influence how high the premium is for each person Example: Young male drivers pay more than older male drivers because of higher risk associated with that category

23. Chapter 9 The Insurance Decision Basic Elements of Insurance 2. The Insurance Policy A legally binding contract between policyholder and insurance company. It details: Amount and type of insurance Amount and date due for premiums Beneficiaries Restrictions

24. Chapter 9 The Insurance Decision Items Found in an Insurance Policy A. Declarations Provide basic descriptive information about policy: What is being insured How long and for how much Policy limits Premiums to be paid May also include promises by the insured to lower insureds risk

25. Chapter 9 The Insurance Decision Items Found in an Insurance Policy B. Insuring Agreements Broadly defines coverages provided by the policy. For example, homeowners policy promises to pay for damages covered by fire and tornado.

26. Chapter 9 The Insurance Decision Items Found in an Insurance Policy C. Exclusions Lists the items for which the insurance company WILL NOT PAY. For example, most homeowners policies will not pay for damages caused by a flood, earthquake, nuclear accident, and war.

27. Chapter 9 The Insurance Decision Items Found in an Insurance Policy D. Conditions Impose a set of obligations on both insurance company and insured party. For example: time limits for making claims and rules for cancellation of policy. Violation can lead to denial of coverage.

28. Chapter 9 The Insurance Decision Items Found in an Insurance Policy E. Endorsements (or Riders) Amendments and additions to basic insurance policy which picks up where standard insurance coverage leaves off. Many people carry riders for jewelry because standard liability limits are very low.

29. Chapter 9 The Insurance Decision Basic Elements of Insurance 3. The Insurance Agent The agent (exclusive or independent) is the legal representative of the company. –Agents usually do NOT have the authority to bind their customer to an insurance company –Part of premium paid goes to agents sales commission

30. Chapter 9 The Insurance Decision The Insurance Company 1. Mutual Insurance Companies (Nonprofit) –Owned by policy holders who receive cash refunds (after company pays claims, deducts for operating expenses and puts aside money in fund) 2. Stock Insurance Companies –Owned by stockholders –May distribute dividends