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How Insurance Works

Insurance is available to help you pay for damage to your property or to pay others on your behalf when you injure someone or damage their property. Insurance is a contract that transfers the risk of financial loss from an individual or business to an insurance company. They collect small amounts of money from clients and pool that money together to pay for losses.

Insurance is divided into two major categories:

  • Property and Casualty insurance (P&C)
  • Life and Health insurance

Property and casualty insurance provides protection to businesses and individuals for losses related to their belongings or assets, both physical and financial. Life and health insurance protects people from financial loss due to premature death, sickness or disease.

How Insurance WorksCourtesy of eHow
Introduction to InsuranceNational Centre for Financial Education
Why Humans Need InsuranceCourtesy of Libery Mutual


Insurance uses probability and the law of large numbers to determine the cost of insurance premiums it charges clients based on various risk factors. The rate must be sufficient for the company to pay claims in the future, pay its expenses, and make a reasonable profit, but not so much to turn away customers. The more likely an event will occur for a given client, the more insurance companies will need to collect to pay the anticipated claims.

Insurers market their products and services to consumers in different ways. The price companies charge for insurance coverage is subject to government regulation. Insurance companies may not discriminate against applicants or insureds based on a factor that does not directly relate to the chance of a loss occurring.