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General Principles of Risk & Insurance. Chapter 1 Risk Management For Financial Planners. Definitions and concepts What is insurance?

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slide1

General Principles of Risk & Insurance

Chapter 1

Risk Management For Financial Planners

  • Definitions and concepts
    • What is insurance?
      • Purchase of a contract that on behalf of purchaser pledges the payment of a sum-certain amount (the “premium”) in exchange for a promise on behalf of the other party (the insurance company) to provide restitution or indemnity arising from the occurrence of a loss
      • A device for reducing risk by combining a sufficient number of exposure units to make individual losses collectively predictable
      • The losses of the few are shared among the many
slide2

General Principles of Risk & Insurance

Chapter 1

Risk Management For Financial Planners

  • Definitions and concepts (cont'd)
    • The law of large numbers
      • Primary underpinning to the insurance mechanism
      • The more exposure units in the mix, the easier it become to predict the groups losses
    • Fortuitousness
      • Non-fortuitous loss (those losses that are certain to occur may not be insurable)
slide3

General Principles of Risk & Insurance

Chapter 1

Risk Management For Financial Planners

  • Peril, Hazard and Risk
    • Although terms may be used synonymously by practitioners, they do have differing technical meaning
    • Risk
      • Refers to the uncertainty as to the the outcome of am event
      • Possible outcomes are Loss or No-Loss
    • Peril
      • The cause of a possible loss
        • Fire, water damage, mold, etc.
        • Peril may be a covered peril (included under the coverage) or a peril that is specifically excluded under the policy
slide4

General Principles of Risk & Insurance

Chapter 1

Risk Management For Financial Planners

  • Peril, Hazard and Risk (cont'd)
    • Hazard
      • A specific situation that increases the probability of the occurrence of a loss arising from a peril or that may influence the extent of a loss
  • Concept of Indemnity
    • Indemnity means to make whole again
    • Insurance puts the person back in the same position he or she was in prior to the loss – no better, no worse
slide5

General Principles of Risk & Insurance

Chapter 1

Risk Management For Financial Planners

  • Insurance Versus Gambling
    • Insurance is not wagering
    • Three outcomes with gambling
      • Loss
      • No loss
      • Gain
    • Two possible outcomes with insurance
      • Loss
      • No loss
slide6

General Principles of Risk & Insurance

Chapter 1

Risk Management For Financial Planners

  • Other Non-insurance Responses To Risk
    • Retention
      • One assumes the risk on his or her own
      • Example – Not to purchase collision on an older car
      • Requires careful consideration of the possible losses
      • Corporations use large retention as a financial risk management strategy
    • Avoidance
      • Either not doing something or getting rid of the risk
        • Example – Use of public transportation avoids the risks of physical damage and liability of car ownership
slide7

General Principles of Risk & Insurance

Chapter 1

Risk Management For Financial Planners

  • Other Non-insurance Responses To Risk
    • Control
      • Minimizing hazards
        • Example – Installing a burglar alarm
    • Non-insurance transfer
      • Transfer of risk to someone other than an insurer
        • Rental agreement for tools where the customer agrees to bring them back in the same condition.
        • Failure to do so could result in customers being charged for the price of those tools
slide8

General Principles of Risk & Insurance

Chapter 1

Risk Management For Financial Planners

  • Voluntary and Social Insurance
    • Social Insurance
      • Government agencies that provide social insurance, against loss from
        • Unemployment, injuries, sickness, old age, premature death
      • Major types of social insurance
        • Old Age, Survivors, and Disability (Social Security)
        • Workers Compensation
        • Unemployment Compensation
      • Participation is mandatory
        • Premiums collected via payroll deduction
        • Employees and Employers pay into the social security fund
        • Employers must purchase both workers compensation insurance and unemployment compensation insurance