What Is Insurance?An insurance policy is a legally binding contract between an insurance company and the person who buys the policy, commonly called the “insured” or the “policyholder.”
In exchange for payment of a specified sum of money, called the “premium,” the insurance company agrees to pay the “beneficiary” (or for some benefits, the “owner”) of the policy a fixed or otherwise determinable amount of money, if circumstances that are set out in the policy, occur.
What Is Insurance
Another way of looking at insurance is to consider that it is a group of people getting together and paying on a regular basis into a ‘pooled’ account. If any of them need to claim off the insurance because of some personal calamity, the money is there to enable this to happen.
In that way, insurance serves as a risk transfer mechanism by which people or businesses can shift some of their uncertainties or risks to the insurance companies. The insurance companies charge a fee, known as a premium, for accepting these risks, and in return, agree to pay for the financial losses that the policyholder may suffer.
Basic Insurance Definitions
Some of the basic insurance definitions are discussed here:
Application – The first questionnaire an insurance applicant fills out when he applies for insurance. This form will ask for information about the applicant and the subject to be insured (i.e., the applicant’s car, houses, personal property, etc.).
Cancellation – The termination of insurance coverage during the policy period. This is further divided into three types of cancellations:
# Flat Cancellation – The cancellation of a policy as of its effective date, without any premium charge.
# Pro-rata Cancellation – When the policy is terminated at midterm by the insurance company, the earned premium is calculated only for the period for which the coverage was provided. For example: An annual policy with a premium of $1,000 is canceled after 40 days of coverage at the company’s election. The earned premium would be calculated as follows:
Earned Premium = 40/365 days x $1,000
Earned Premium = .110 x $1,000
Earned Premium = $110
# Short-rate Cancellation – When the policy is terminated prior to the expiration date at the policyholder’s request, then the earned premiums charged would be more than the pro-rata earned premium. Generally, the return premium would be approximately 90 percent of the pro-rata return premium. However, the company may also establish its own short-rate schedule.
Decline – This refers to a situation when the company refuses to accept the request for insurance coverage.
Effective Date – This is the date on which the insurance policy begins.
Expiration Date – This is the date on which the insurance policy ends.
Insurance Agent – A person authorized by, and acting on behalf of the insurer, to transact all classes of insurance that the insurance company is licensed to sell.