The insurance business model – how it works

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Traditionally there are four main aspects to insurance: product design, pricing and underwriting, distribution and admin, and claims management. The insurance business is essentially relying on policy premium income and asset management to function. 

Insurance is designed to protect an insurance policyholder/s against risk, or the likelihood of a loss financially. Through compensation in the event of a claim, so, it’s always wise to seek the broadest coverage you can afford. As coverages provided on insurance policies differ from insurance carrier to insurance carrier.  

When you buy commercial risk insurance, you pay premiums to the insurance carrier, which in turn agrees to pay a claim in the event you should suffer a covered loss. By pooling premiums from many policyholders at once, insurers are able to pay for the claims of the few who do run into problems, while providing protection to everyone else in the pool in case they need it. 

There must be a sufficient number of insureds subject to the same risk, so that all policyholders’ combined premiums can share in the cost of any losses. But it must be unlikely that all policyholders will suffer a loss at the same time. 

The first task of any insurer, however, is to price risk and charge a premium for assuming it. If a company prices its risk effectively, it should bring in more revenue in premiums than it spends on conditional payouts. 

This is where insurance underwriting is critical. Without good underwriting, the insurance company would charge some customers too much and others too little for assuming risk. This could price out the least risky customers, eventually causing rates to increase even further.

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