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Life Insurance
 
What is Insurance?
The business of insurance is related to the protection of the economic values of assets. Every asset has a value. The asset would have been created through the efforts of the owner. The asset is valuable to the owner, because he expects to get some benefits from it. It is a benefit because it meets some of his needs. The benefit may be an income or in some other form. In the case of factory or a cow, the product generated by it is sold and income is generated. In the case of motor car, it provides comfort and convenience in transportation. There is no direct income. Both are asset and provide benefits.
 
Every asset is expected to last for a certain period of time during which it will provide the benefits. After that, the benefit may not be available. There is a life-time for a machine in a factory or a cow or a motor car. None of them will last forever. The owner is aware of this and he can so manage his affairs that by the end of that period or life-time, a substitute is made available. Thus, he makes sure that the benefit is not lost. However, the asset may get lost earlier. An accident or some other unfortunate event may destroy it or make it incapable of giving the benefits. An epidemic may kill the cow suddenly. In that case, the owner and those enjoying the benefits there from would be deprived of the benefits. The planned substitute would not have been ready. There is an adverse or unpleasant situation. Insurance is a mechanism that helps to reduce the effects of such adverse situations. It promises to pay to the owner or beneficiary of the asset, a certain sum if the loss occurs.
 
Purpose & Need of Insurance
Asset is insured, because they are likely to be destroyed or make non-functional before the expected life time, through accidental occurrences. Such possible occurrences are called perils. Fire, floods, breakdowns, lightning, earthquakes, etc. are perils. If such perils can cause damage to the asset, we say that the asset is exposed to that risk. Perils are the events. Risks are the consequential losses or damages. The risk to a owner of a building, because of the peril of an earthquake, may be a few lakhs or a few crores of rupees, depending on the cost of the building, the contents in it and the extent of damage.
 
The risk only means that there is a possibility of loss or damage. The damage may or may not happen. The earthquake may occur, but the building may not have been affected at all. Insurance is done against the possibility that the damage may happen. There has to be an uncertainty about the risk. The word ‘possibility’ implies uncertainty. Insurance is relevant only if there are uncertainties. If there is no uncertainty about the occurrence of an event, it cannot be insured against. In the case of a human being, death is certain, but the time of death is uncertain. The person is insured, because of the uncertainty about the time of his death. In the case of a person who is terminally ill, the time of death is not uncertain, though not exactly known. It would be ‘soon’. He cannot be insured.
 
Insurance does not protect the asset. It does not prevent its loss due to the peril. The peril cannot be avoided through insurance. The risk can sometimes be avoided, through better safety and damage control measures. Insurance only tries to reduce the impact of the risk on the owner of the asset and those who depend on that asset. They are the ones who benefit from the asset and therefore, would lose, when the asset is damaged. Insurance only compensates for the losses – and that too, not fully.
 
Only economic consequences can be insured. If the loss is not financial, insurance may not be possible. Examples of non-economic losses are love and affection of parents, leadership of managers, sentimental attachments to family heirlooms, innovative and creative abilities, etc.
 
Classification of Risk
Risks are classified in various ways. One classification is based on the extent of the dame likely to be caused. Critical or Catastrophic risks are those which may lead to the bankruptcy of the owner. It would happen if the loss is total, like in a tsunami, wiping out everything. It can also happen if the deceased person was heavily in debt. Important risks may not spell doom, but may upset family or business finances badly, requiring a lot of time to recover. The adverse effect of an economic recession is on such. Less damaging are Unimportant risks, like temporary illness or accidents.
 
Another classification is between Financial and Non-Financial risks, referred to in an earlier paragraph. Insurance is concerned with only financial risks.
 
Fundamental risks are those that affect large populations while Particular risks while a theft is a particular risk. Life Insurance business deals with particular risks, but fundamental risks affect the life insurance company’s experience, as many persons will be affected at the same time, when there is an. Earthquake, flood or riot.
 
The Human Asset
A human being is an income generating asset. One’s income generating ability depends on one’s skills, (manual, professional, problem solving, entrepreneurial, etc). These are the assets. The value of the asset can be measured by considering the income that is generated by the person concerned. The concept of Human Life Values provides scientific ways to determine the asset value of the human life and therefore, the amount of life insurance required. These techniques, like other techniques related to selling, will have to be learnt on the job.
 
These assets also can be lost through unexpectedly early death or through sickness and disabilities caused by accidents. Accidents may or may not happen. Death will happen, but the timing is uncertain. If it happens around the time of one’s retirement, when it could be expected that the income will normally cease, the person concerned could have made some other arrangements to meet the continuing needs. But if it happens much earlier when the alternate arrangements are not in place, there can be losses to the person and dependents. Those dependent on the income are helped to overcome their difficulties, by insurance.
 
A person, who may have made arrangements for his needs after his retirement, also would need insurance. This is because the arrangements would have been made on the basis of some expectations like, likely to live for another 15 years, or that children will be able to look after the arrangement would become inadequate and there could be difficulties. Living too long can be as much a problem as dying too young. Both are risks, which need to be safeguarded against. Insurance takes care.
 
Thus, the risks in the case of a human being are related to
  • Early death
  • Living too long
  • Disabilities
  • Sickness
  • Unemployment
 
 
 
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