Insurance basics
Insurance gives you peace of mind and some financial protection against unforeseen incidents and other risks in life. You may need insurance for many reasons, some of which include protecting your dependents in the event of your death, your ability to earn an income, your home, car, or other assets in case of theft or disaster.
How insurance works
Insurance is about managing risks. If you have insurance cover, you transfer part of the financial risk to your insurer. Without insurance, you bear the financial risk by yourself. Incorporating insurance into your financial plan is necessary to protect yourself, your family and your assets, and safeguard against a wide range of risks.
When you take out an insurance policy, you are a policyholder, and may be the insured. You pay a certain amount of money called a 'premium' to the insurance company for being covered against certain risks. If something goes wrong which is covered by the policy, you can make a claim.
When considering your insurance needs, some key steps include:
- Determine what insurance cover you need and shop around to choose an insurance policy that meets your needs.
- Apply for insurance and make sure you understand the policy terms and coverage areas. Check out tips for buying insurance.
- Pay the premium. Depending on the policy, this could be an annual payment, monthly installments or a one-off payment.
- Make a claim- Don't wait, Contact your insurer as soon as possible if you need to make a claim.
Types of insurance
Insurance can be broadly divided into two types: life insurance and general insurance. Life insurance pays the beneficiaries a lump sum upon the insured's death. Some other elements can also be included, such as combining a savings option. On the other hand, general insurance offers indemnity given to an event of loss other than life, eg personal injury due to accident or damages to your assets.
Deciding what insurance cover you need
How much insurance you need will depend on your circumstances. Procuring insurance cover involves cost. What you need is enough insurance cover.
But how much is enough? You have to decide based on what you would like to insure. For general insurance, you need to consider the value of the asset you are thinking of insuring, the financial loss you would suffer if that asset is lost or damaged, and how much it would cost to replace.
You should also consider the likelihood of that loss or damage occurring and what steps, if any, you have taken to mitigate those risks. For example, if you are thinking of insuring your car, you might consider the factors such as where your car is parked, how often you use it and any security devices you have installed.
For life insurance, you need to consider who is dependent on you and your income in case you die or become sick or injured and are unable to work. If you have children or parents to support, your needs for life insurance will be greater than if you are single with no dependents. You also need to consider any debts that would need to be repaid, eg personal loans or mortgages.
Before taking out insurance, ask yourself these questions:
- Whom or which asset do you want to protect?
- What risks do you want to insure against?
- How likely will the risk occur and can you mitigate against it?
- What would happen to you and your family or how much would you suffer financially if it occurs?
- How much does the insurance policy cost?
- How much can you afford to pay the premiums on certain insurance policies with longer term?
Consider insurable interest and indemnity
Insurable interest exists when you have a legally recognised relationship in a subject matter to be insured (like a person or asset), including your body parts, such as your limbs and teeth, and even your voice. Without an insurable interest, insurance protection would be speculative in nature, and not be enforceable under the law.
A common example of insurable interest is the ownership of property. There are many other examples, such as being an employer of workers, or a custodian of assets.
Sometimes during the term of an insurance policy, the policyholder might end the relationship with the subject matter insured. If this happens, the insurable interest will cease and the insurance cover will also automatically end. A common example might be the sale of a car or a flat. The policyholder should take care to notify the insurer of such changes promptly.
Indemnity means the amount of money paid to you by the insurer to compensate for your loss. However, this amount will not exceed your economic loss, but will be enough to put you in the same financial position you were in at the time of loss.
For the insurance of property, if the insured subject matter has depreciated in value at the time it is lost, the insurer pays the policyholder only the replacement value. This is called 'Indemnity Basis'. There is an alternative arrangement called 'Reinstatement Value Basis' which pays for the new replacement value at the time of loss without deducting depreciation.
