Banking and Insurance

What are the 7 principles of insurance?

Explain in detail various principles of insurance.

Meaning of Insurance

Insurance is a financial arrangement in which an individual or entity (the insured) pays a premium to an insurance company (the insurer) in exchange for protection against specific financial risks or losses. If a covered event, such as an accident, illness, property damage, or death, occurs, the insurer compensates the insured according to the terms of the insurance policy.

Key Features of Insurance:

1. Risk Protection – Insurance helps mitigate financial losses due to unforeseen events.
2. Risk Transfer – The insured transfers the financial risk to the insurer.
3. Pooling of Risk – Insurers collect premiums from many policyholders to cover claims.
4. Legal Contract – Insurance is a legally binding agreement between the insured and the insurer.
5. Compensation for Loss – The insurer provides financial compensation in case of covered losses.

Example of Insurance:

• A person buys health insurance and pays a monthly premium. If they need hospitalization, the insurer covers the medical expenses as per the policy.
• A business buys property insurance to cover damages caused by fire, theft, or natural disasters.

Insurance provides financial security and peace of mind by ensuring that unexpected events do not lead to financial hardship. What are the 7 principles of insurance?

Insurance is based on several fundamental principles that ensure fairness, risk-sharing, and proper compensation. These principles govern how insurance contracts work and help maintain trust between the insurer and the insured. Below are the key principles of insurance explained in detail:

1. Principle of Utmost Good Faith (Uberrimae Fidei)

• Both the insurer and the insured must act in complete honesty and disclose all relevant information.
• The insured must provide accurate details about the risk being covered, such as health conditions (in life insurance) or property conditions (in home insurance).
• If the insured hides material facts (e.g., a pre-existing illness), the insurer may refuse to pay the claim.
• Similarly, insurers must provide clear policy terms and conditions.

Example: If a person has a chronic disease but does not disclose it while purchasing health insurance, the insurer may reject the claim upon discovering the non-disclosure. What are the 7 principles of insurance?

2. Principle of Insurable Interest

• The insured must have a legal and financial stake in the insured asset or person.
• This means the insured should suffer a financial loss if the insured object is damaged or lost.
• This principle ensures that people do not take insurance on assets they do not own or on people they have no financial relationship with.

Example: A person can insure their own house but not their neighbor’s house because they do not suffer a financial loss if the neighbor’s house is damaged.

3. Principle of Indemnity

• Insurance compensates only for actual financial losses, ensuring the insured does not make a profit from a claim.
• The insured is restored to their previous financial position before the loss, but no more than that.
• This principle is mainly applicable to property and general insurance, not life insurance.

Example: If a factory insured for $500,000 suffers damage worth $300,000, the insurer will pay only $300,000 and not the full insured amount. What are the 7 principles of insurance?

4. Principle of Contribution

• If an insured has taken multiple policies for the same risk from different insurers, they can claim from all, but only up to the total loss amount.
• The insurers will share the claim proportionally.
• This prevents an insured from recovering more than the actual loss.

Example: If a person insures a property worth $100,000 with two insurers—one covering $60,000 and the other $40,000—and the property is completely destroyed, both insurers will share the claim proportionally. What are the 7 principles of insurance?

5. Principle of Subrogation

• After compensating the insured, the insurer gets the right to recover the loss amount from any third party responsible for the damage.
• This principle prevents the insured from getting double compensation—once from the insurer and again from the guilty party.

Example: If a car owner has insurance and the car is damaged in an accident caused by another driver, the insurer will compensate the car owner but will later recover the amount from the at-fault driver’s insurer.

6. Principle of Proximate Cause

• If multiple causes lead to a loss, the insurer determines the nearest and most direct cause before approving a claim. What are the 7 principles of insurance?
• If the proximate cause is covered under the policy, the insurer will pay the claim; if it is not, the claim may be rejected. What are the 7 principles of insurance?

Example: If an earthquake leads to a fire that destroys a house, and the insurance policy covers fire but not earthquakes, the insurer may compensate for fire damage if fire is the dominant cause. What are the 7 principles of insurance?

7. Principle of Loss Minimization

• The insured must take all reasonable steps to minimize losses after an accident or disaster.
• Insurance does not cover negligence; the insured must act as if they were uninsured.What are the 7 principles of insurance?

Example: If a shop catches fire, the owner must try to extinguish it or call firefighters instead of waiting for compensation. You can check the syllabus of Banking and Insurance on the official website of gndu.

Conclusion

These principles ensure fairness and sustainability in insurance, preventing fraud and ensuring proper risk-sharing. They help maintain trust between insurers and policyholders while making sure compensation is given appropriately. Let me know if you need further clarification! What are the 7 principles of insurance?

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What are the 7 principles of insurance?