What Is Insurance?


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An insurance policy is a contract between two parties, i.e., the insurer(company) and the insured(Individual). It is a legal agreement under which the insured pays a regular amount of money called the premium to the insurer. Moreover, the insurer offers to cover losses incurred due to unlikely circumstances like the demise of the insured, an accident, or property damage.

Insurance policies are used to protect against the chance of significant and minor financial losses resulting from damage to the insured's property or responsibility for damage or injury to a third party.

Individual demands and life goals influence the type of insurance coverage bought. In the event of a claim, the insurer pays the policyholder/nominee a lump sum payment based on the insurance terms.

How does Insurance Work?

The insurance policy specifies the rules and conditions under which the insurance company will pay the insured person or nominees the insurance sum. Insurance is a means of safeguarding yourself and your loved ones from financial turmoil. In general, the premium of a significant insurance policy is substantially lower.

There are many different insurance plans to choose from, and almost anybody or any business can find an insurance company happy to insure them-for a fee. The most prevalent forms of personal insurance coverage are car, health, homeowners, and life.

Key Takeaways

  • There are three main components of an insurance contract; deductible, policy limit, and premium
  • Insurance is a contract (policy) in which an insurer compensates for losses caused by particular events or risks.
  • The most common insurance policies in India are health, life, home, and car.

Insurance Policy Components

Before choosing an insurance policy, it is crucial to understand how insurance works. Thorough knowledge of these concepts will go a long way toward assisting you in selecting the coverage that best meets your needs. Any sort of insurance has three essential components (premium, policy limit, and deductible).


The premium is the cost of insurance, which is usually represented as a monthly cost. However, it's described as a recurring fee that you pay monthly, quarterly, half-yearly, or annual during the premium payment period. The insurer calculates the premium based on the risk profile of you or your business, which may include creditworthiness.

For example, suppose you are healthy and do not have a medical history of treating severe physical disorders. In that case, you will likely pay less for health insurance or life insurance than someone who has several ailments.

Another example is car insurance. You may buy numerous high-end cars and have a history of reckless driving. You will almost certainly pay more for vehicle insurance than someone who owns a single mid-range sedan with a spotless driving record. You should also be aware that various insurance providers may charge varying prices for comparable products. As a result, finding the correct one at a reasonable price takes time and effort.

Policy Limit

It is defined as the maximum amount for which an insurance company is responsible for losses covered by the policy. It is calculated depending on the insurance term, loss or damage, and other variables.

Typically, the higher the policy limit, the higher the premium. The sum guaranteed is the maximum amount that an insurer will pay to the nominee under a life insurance policy.

For example, the maximum amount an insurer will pay for a standard life insurance policy is the face value, the sum paid to a beneficiary upon the insured's death.


The amount or percentage that the policyholder agrees to pay out of pocket before the insurer steps in to settle a claim is the deductible. Consider it a deterrent to small, trivial claims that many individuals submit under their insurance coverage.

Deductibles are determined by the provisions of a specific type of policy and are applicable per policy or per claim. In general, insurance policies with large deductibles are less expensive since fewer claims are filed due to the higher out-of-pocket price.

Types Of Insurance Policies

In India, insurance policies are broadly classified into three types:

Life Insurance

Life insurance, as the name implies, is insurance for your life. You purchase life insurance to provide financial security to your dependents in the case of your untimely death. If you are the primary breadwinner for your family or if your family is mainly reliant on your income, life insurance is very crucial. If the policyholder dies within the policy's term, the policyholder's family gets financially rewarded.

Health Insurance

Health insurance is purchased to cover the expenses of expensive medical treatments. Various types of health insurance coverage cover a variety of illnesses and conditions. For example, you may buy both general and disease-specific health insurance coverage. A health insurance policy's premium typically covers treatment, hospitalization, and medication costs.

Car Insurance

Car insurance is an essential safety for every car owner in today's day and age. This insurance covers you in the event of an unforeseen event, such as an accident. Some insurance additionally cover damage to your automobile caused by natural disasters such as floods or earthquakes. It also includes third-party responsibility, which requires you to pay compensation to other drivers.

Home Insurance

Home insurance can assist cover the cost of rebuilding or repairing items in your home that have been damaged or destroyed by events such as fire or other natural disasters. Other events covered by home insurance include lightning, earthquakes, and other natural disasters.

Frequently Asked Questions

Q.1 What Do You Mean By Insurance?

Ans. Insurance is a way of safeguarding against financial loss. It's a type of risk management utilized to protect against the danger of a speculative or unpredictable loss. Term insurance policy LIC policies are the most common type of insurance.

Q.2 What Are Functions Of Insurance?

Ans. The Functions of Insurance are:

  • Insurance offers assurance.
  • It helps in risk-sharing
  • It improves efficiency
  • It prevents loss
  • Insurance provides protection

Q.3 What Is Insurance And Its Types?

Ans. Any unforeseen circumstance in life might cause havoc with your family's well-being. In India, different life, health, and general insurance plans are available to provide complete financial protection to your loved ones and yourself in such situations. However, before choosing an insurance policy, you must first understand the many types of plans available and select the best that suit your needs.

Apart from the standard life insurance policies available, the other policies are term insurance, endowment plans, Unit-Linked insurance plans, Child plans, pension plans, etc.

Q.4 Why Do We Need Insurance?

Ans. When we are young, healthy, have several sources of income, and are living our best life, we frequently ask why we need insurance. However, regardless of how much money you make, how well your business is running, or how strong and healthy you are, saving for an emergency is one of the most critical financial decisions you can make. We need insurance for the following reasons:

  • Insurance encourages savings
  • Insurances give peace of mind.
  • Insurance helps in saving for the future.
  • Insurance helps in building a retirement fund.
  • It also acts as an emergency savings fund.

Q. 5 What Are Principles Of Insurance?

Ans. For an insurance contract to work effectively, the insurer and the insured must adhere to the seven insurance principles listed below.

  • Principle of utmost good faith
  • Indemnity
  • Subrogation
  • Contribution
  • Proximate cause
  • Insurable Interest
  • Loss Minimization

Q.6 How Insurance Can Help You?

Ans. Insurance policies will assist your family in maintaining their quality of life if you are no longer alive. The insurance lump sum payout will assist them in covering the expenditures of supporting the family. In addition, the insurance money will provide your family some much-needed breathing room, as well as coverage for all expenses in the event of the policyholder's death, accident, or medical emergency.

Mutual fund investments are subject to market risks. Please read the scheme information and other related documents carefully before investing. Past performance is not indicative of future returns. Please consider your specific investment requirements before choosing a fund, or designing a portfolio that suits your needs.

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