Insurance is a means of providing protection against financial loss in a number of situations. It is a contract in which one party agrees to pay for another party's financial loss resulting from a specified event. Insurance works on the principal of sharing losses. If you wish to be insured against any type of loss, you purchase a policy from an insurance company and make regular payments, called premiums. In return, the company promises to pay a specific dollar amount for the type of loss determined in the policy.
Insurance has deep roots, tracing all the way back to The Code of Hammurabi, a collection of Babylonian laws of 1700 BC, which were believed to have provided the first kind of credit insurance. Under the code, a borrower did not have to repay a loan if personal misfortune made it impossible to do so. Modern insurance can be traced to the Great Fire of London in 1666, which consumed 13,200 houses and brought property owners in the city to near financial ruin. In the aftermath of this disaster, Nicholas Barbon opened an office to insure buildings, and the modern insurance industry was born.
All insurance policies require the owner of the policy to make regular payments ("premiums") and pay the owner a sum of money ("the benefit") when an insured event occurs. There are three major types of insurance policies sold:
1. Life Insurance: A life insurance policy provides that the insurance company will pay a certain amount when the insured person dies. The benefit may be paid in a lump sum or in installments to the beneficiary. There are various forms of life insurance, most of which can be categorized into one of two main types:
2. Health Insurance: Health insurance pays all or part of the cost of hospitalization, surgery, laboratory tests, medicines, and other medical care. The rising cost of medical care has increased the need for adequate health insurance. You could suffer a major financial hardship without such coverage, especially in case of a serious illness or accident. Health insurance comes in a wide variety of forms, both private and public (i.e. Medicare). Policies may be taken out by an individual, by their employer, or by a combination of both.
3. Property Insurance: Individuals buy property and liability insurance to protect their assets against financial loss. Property insurance provides direct compensation if a policyholder's possessions are damaged, destroyed, or lost as a result of peril or unforeseen events. Liability insurance protects individuals and businesses against possible financial losses if their actions result in bodily injury to others or in harm to property owned by others. The main types of individual property insurance are:
The financial stability and strength of the insurance company should be a major consideration when purchasing an insurance contract. An insurance premium paid currently provides coverage for losses that might arise many years in the future. For that reason, the viability of the insurance carrier is very important. In recent years, a number of insurance companies have become insolvent (AIG is the most prominent example), which in many cases may leave their policyholders with no coverage (or coverage only from a government-backed insurance pool with less attractive payouts for losses).
Annuities: These are savings plans sold by insurance companies to provide a fixed and regular retirement income. If the annuitant (owner of the annuity) dies before receiving the guaranteed number of payments, the insurance company must continue the payments to the beneficiary.
Dividends: Some insurance policies refund part of the premiums in the form of dividends. Such policies are called participating policies. An insurance company pays dividends if the money it collected in premiums exceeds the amount needed to pay benefits and administrative costs. Dividends may also include a share of the profits the company earned on investments made with premium funds. Dividends are most commonly paid on life insurance.