INSURANCE :

The meaning of insurance is important to understand for anybody that is considering

buying an insurance policy or simply understanding the basics of finance. Insurance is a
hedging instrument used as a precautionary measure against future contingent losses.
This instrument is used for managing the possible risks of the future.
Insurance is bought in order to hedge the possible risks of the future which may or may
not take place. This is a mode of financially insuring that if such a incident happens then
the loss does not affect the present well-being of the person or the property insured.
Thus, through insurance, a person buys security and protection.
A simple example will make the meaning of insurance easy to understand. A biker is
always subjected to the risk of head injury. But it is not certain that the accident causing
him the head injury would definitely occur. Still, people riding bikes cover their heads
with helmets. This helmet in such cases acts as insurance by protecting him/her from
any possible danger. The price paid was the possible inconvenience or act of wearing
the helmet; this ie equivalent to the insurance premiums paid.
Though loss of life or injuries incurred cannot be measured in financial terms,
insurance attempts to quantify such losses financially. Insurance can be defined as
the process of reimbursing or protecting a person from contingent risk of losses
through financial means, in return for relatively small, regular payments to the
insuring body or insurance company.
Insurance can range from life to medical to general (residential,commercial property,
natural incidents, burglary, etc).
Life Insurance
It insures the life of the person buying the Life Insurance Certificate. Once a Life
Insurance is sold by a company then the company remains legally entitled to make
payment to the beneficiary after the death of the policy holder.
Medical Insurance
This is also known as mediclaim. Here, the policy holder is entitled to receive the
amount spent for his health purposes from the insurance company.
General Insurance
This insurance type involves insuring the risks associated with the general life such
as automobiles, business related, natural incidents, commercial and residential
properties, etc

Premiums:
Insurance companies ask for a periodically obtained fee or cost to be paid to give away
an insurance policy to a buyer. This is called a premium.(Which is pre-set by the firm or
the company). Premiums are forfeited(or gotten hold of by the company) depending on
the kind of insurance or on the buyer’sinclination. For instance, the premium for an
automobile insurance is generally forfeited twice a year. Now due to privatization many
insurance firms permit monthly or yearly compensations as well. Hence, the fortification
 made in the form of premium is a kind of source through which the insurance company
makes money. The insurance company collects its premiums from all clients, invests
that money in extremely safe investments, such as government bonds, and keeps
capital on hand(reserves) to pay claims made by its clients.

Shared Risk :
If an insurance policy is bought for a certain period of time and the time expires, the insurance company is entitled to
keep the premium amount. However if the accident/loss occurs within the period of time, the insurance company is
supposed to pay more than the amount received as premium from the specific buyer. The risk involved here faced by
both the the buyer and insurance firm is called the shared risk.
If a policy holder forfeits Rs 700 as premiums in automobile insurance but does not register any case of accident till
the validity of the plan, then the insurance company is entitled to keep that amount. In the same manner if policy
holder forfeits Rs 900 as premiums in automobile insurance and has registered a case of accident that results in a
damage of Rs 90,000, then the insurance firm is entitled to forfeit Rs 90,000 in spite of the fact that the purchaser
gave far less. This theory is known as shared risk.
Reserves :
Do you ever wonder how an insurance company maintains enough money to pay off all of the claims
they handle? If so, you are not alone. Insurance companies don't use a magic wand to figure out how
much money to keep in the bank in order to handle their business. They use several figures called
reserves.
Reserves are a portion of an insurance company's current earnings set aside for future losses. This
money is kept in liquid form in a bank. These funds are not used for investments or loans. The sole
purpose for them is to pay claims. A company sets them by reviewing the odds.
Insurance companies set their reserves based on the odds of certain numbers and types of claims being
made annually. So, if an insurance company believes 10,000 auto claims worth $2,000 each will be
reported in a year, the company will keep at minimum $2,000,000 in reserve. Savvy insurance
companies usually keep reserve amounts higher than their anticipated claims payments. It is a way to
plan for the unexpected, especially when the odds they review change with every new claim.
Although insurance companies use numbers from prior years to determine reserves, these odds change
with every claim. When insurance companies have an unexpected catastrophic loss, they up their
reserves. These reserves are increased from the usual set amounts. When a claim is reported, a set
reserve is attached to it based on the estimated future payment. Consequently, most claims will fall
within the reserve amounts unless the details about them are skewed in some way.
On occasion, an insurance company severely underestimates the amount of its reserves. When this
happens, it can spell the end of the company unless they are profitable in other ways. It also puts
policyholders with new claims in jeopardy. The only help they can get is through the government and this
may include a much longer waiting period and reduced payments.
In general, the reserve setting system used by insurance companies is the acceptable method used
industry wide. It is reliable and is the backbone for success in a profitable insurance company. The risk is
known and money set aside for payment. It's an efficient way to do a business based on the odds.
WORKING OF A SAMPLE INSRANCE COMPANY :
Simple Sample (Premium Per month lets say)
 Joe: $100
 Jane: $100
 Jack: $200
 Bob: $200
These 4 pay each month for $10000 worth of insurance for their cars lets say. If no one ever made a
claim it's pure profit. Each month if the insurance company can invest the money and make 10% they
would clear $60 a month of invested return. Over time this can be substantial. But lets say Bob's car
blows up after beind hit with a supervillians death ray. Bob makes a claim and the insurance company
doles out $10,000 dollars. As you can see, as long as they don't have to pay out more then comes in,
they can make a profit. Thus a natural disaster which affects all of the above clients will affect the
insurance company adversely and might lead to bankruptcy.