The Basic Principles of Insurance

All insurance contracts are based on Uberrima Fides, which means utmost good faith.

2 min read
By Prerna
The Basic Principles of Insurance
Photo by Cytonn Photography / Unsplash

All insurance contracts are based on Uberrima Fides, which means utmost good faith. This principle stresses the mutual faith between an insured party and its insurer. It also means that both parties must disclose all relevant facts to the insurer when applying for an insurance policy.

Under this principle, an insurer cannot hide information from the insured about the extent of the insurance coverage. This principle is a central aspect of insurance contracts.

Insurable interest

Insurable interest applies to any individual or entity with a reasonably high probability of suffering a loss due to its actions. Insurable interests may include employees, employers, family members, and even the c-suite executives of a company.

Insurable interests are the basic principle behind all insurance and apply to most types of insurance. But some circumstances may make an insurable interest challenging to establish.

The principle of insurable interest dictates who can obtain insurance. It means that the insured party must have a financial interest in the subject matter of the contract.

This interest is determined because the policyholder is the party who would suffer a loss if the subject object was destroyed. Insurable interests are typically related to ownership, a legal relationship, or blood.

Division of risk

The Division of Risk is a core concept in the insurance industry. Risk is defined as the uncertainty of an event. It isn't easy to assess how likely an event is, and the insurer must make this assessment based on the information available.

If a risk is too significant to transfer to an insurer, a company may choose to retain it internally. A typical example of this type of risk retention is the insurance deductible. Business owners choose to retain risk internally when the cost of commercial insurance is too high, or it is not available.

Policyholder and insured

The principle that underlies all insurance is the policyholder and insured relationship. In the event of a loss, an insurance policy pays the insured for the costs incurred in procuring a comparable replacement item.

This value is commonly equated to reinstatement value and includes planning, approval, and installation costs. The insurance policy also has high increased liability agreements. The policyholder and insured relationship are essential in determining the type of insurance policy to buy.

When an insurance policy covers a loss, the insurance company promises to pay the policyholder the amount agreed upon in the contract. As a policyholder, you should read this part of the contract carefully because it specifies the amount you are entitled to receive in the event of a covered loss.

If this portion of the contract is unclear, ask your insurance representative to explain the terms and conditions of the policy.

Reinsurance

Reinsurance is a fundamental principle of insurance. Its purpose is to provide coverage to insurance companies in a catastrophic event.

This concept is central to the entire insurance industry and has become a staple of financial statements for insurance companies and other businesses.

However, before this concept became a central part of insurance, few people were aware of its existence. The idea was not widely known until the liability crisis of the mid-1980s when a shortage of reinsurance led to high premiums and problems with the availability of liability insurance.

The insolvency of several large insurance companies caused Congress to investigate the concept of reinsurance.

Under reinsurance, insurers transfer their liabilities to other insurers. This helps lower the overall capital required to meet regulators' requirements and frees up more capital to insure more people. Reinsurance transactions are recognized as reducing financial responsibility in all states.

However, reinsurers not licensed in the U.S. are considered "alien" companies. To participate in the U.S. insurance market, these companies must post collateral to secure the transaction.