What is insurance?
Cut through the financial jargon to learn all the essentials about
Put basically, insurance enables those who suffer a loss or accident to
be compensated for the effects of their misfortune. The payments
come from a fund of money contributed by all the holders of individual
insurance policies. In other words, individual risks are pooled and
shared, with each policyholder making a contribution to the common
The contribution is known as the premium. Premiums are paid to
insurers - these are institutions which accumulate the money into the
fund from which claims are paid. The loss is in fact paid for by the
policyholder making the claim and by all the other policyholders who
have not suffered in the same way.
Insurers are professional risk takers. They know the probability of
different types of risk happening. They can calculate the premiums
needed to create a fund large enough to cover likely loss payments.
Clearly, only a proportion of policyholders will require compensation
from the fund at any one time.
So two important factors arise when calculating the premium. Firstly,
the general likelihood that a loss will occur. Secondly, whether the
particular policyholder is above or below average in risk.
Take three examples. In motor insurance a young person with a high
powered car, or a driver with a long history of accidents will pay a
higher premium than a mature and experienced driver with a modest
saloon who has been accident free.
Similarly, the owner of a fish and chip shop will pay a higher premium
for his fire insurance than, say, the owner of an office. The risk is
greater, so the premium is higher.
Someone who is young, fit and in a risk-free job will find it easier to
buy life insurance, and will pay lower premiums than someone who
has a heart condition or is in a risky occupation.
Two kinds of Insurance
There are two different kinds of insurance - life insurance and general
insurance. With life insurance you don't renew your policy each year.
Instead, you agree to pay a fixed premium for a set number of years.
In other words you enter a long-term commitment when you buy a life
What is the Difference?
General insurance pays out;
if a car has an accident or is stolen
if a house catches fire or is burgled
if a holiday has to be cancelled
if someone is careless and damages other people's property.
Most life policies, on the other hand, pay out when an event happens;
when someone dies
when someone survives beyond a specific date.
Anyone can buy life insurance but, of course, the premium will depend
on your age, your health, and your occupation.
Husbands and wives can insure each other's lives. However, you
cannot insure the lives of other people unless you have a financial
involvement in their life. This principle of insurance is called "insurable
Insurable interest is a fundamental principle of insurance. It means
that the person wishing to take out insurance must be legally entitled
to insure the article, or the event, or the life. In other words, the
happening of the event insured against, or the death of the life insured
must cause the policyholder financial loss. Mr Smith would not be able
to insure Mr Brown's house because its destruction would not cause Mr
Smith financial loss. Similarly, you cannot insure the lives of other
people unless you have a financial interest in the life being insured.
The principle of insurable interest demonstrates the difference
between insurance and a wager or bet.
Other principles apply to all kinds of insurance.
Insurance can provide compensation only for the actual value of property. It cannot cover
the loss of sentimental value, for example.
There must be a large number of similar risks so that the likelihood of a claim can be
spread among other policyholders. It must be possible for insurers to calculate the chance
of loss so that a premium can be set which matches the risk.
Losses must not be deliberate and not inevitable. Clearly, you could not buy fire insurance
for a house which was already burning nor life insurance for someone on his or her
Lastly, there are some risks which have financial implications so vast that they can be dealt
with only by the state. These risks (mainly those arising from war or the major escape of
nuclear or radioactive material) are normally not insurable.
Insurance takes the risk away from people's lives and businesses. It brings peace of mind
to the policyholder. In return for paying premiums the policyholder knows that, if the
unexpected happens, financial compensation will be available from the fund of premiums.
What is it?
In simple terms, insurance allows someone who suffers a loss or
accident to be compensated for the effects of their misfortune. It lets
you protect yourself against everyday risks to your health, home and
There are many different types of insurance:
You are unlikely to need every single one of these, so read around,
choose carefully and remember to read the small print.
Travel: Holidays can be dangerous occasions - especially abroad. If someone falls ill it is
much more difficult than it would be at home to cope with the situation. Medical treatment
is expensive. More here.
Household contents and building insurance: Contents insurance covers the contents of
a home such as furniture, carpets, clothes, television, refrigerators, jewellery and so on. In
other words, what you would take with you if you moved. Buildings insurance protects
against damage to the actual structure of the home and to its fixtures and fittings. Contents
and buildings policies can be bought separately or together in one package. More here.
Car insurance: Most people know something about motor insurance. This is because any
vehicle driven on public roads must have a certain level of insurance. The Road Traffic Act
ensures that drivers must meet liabilities they incur should they injure other people or
cause damage in an accident. More here.
Life insurance: A means of providing for your dependents should you die early, but also a
way to save cash through endowment policies or similar.
Private medical insurance: This covers the costs of private medical treatment for curable
short-term illness or injury. It means that should you become ill you could be treated
immediately privately rather than being put on an NHS waiting list. More here.
Critical illness insurance: This allows you to insure your income/ health were you to
become too ill to work later on in life, and protects any dependents/ loved ones from the
financial consequences of such unexpected events. More here.
Accident, sickness and unemployment cover: According to Moneyextra: "In 1999,
30,000 properties were re-possessed by mortgage lenders... Many lost their homes because
they could no longer afford to pay their mortgage payments through an accident, sickness
or unemployment." If you are planning on buying a house it may be sensible to think about
getting some mortgage payment protection insurance.
Pet insurance: This basically helps you foot the vet's bills if your pet gets poorly. By
paying regularly into an insurance policy it means you have paid for the bill gradually rather
than having to find the money for a steep bill when you can least afford it. More here.
Insurance policies often have hidden costs and hard-to-understand
small print. Look out for excess charges, as they won't always pay the
first £50 or more of an insurance claim.
What do all the words mean?
Don't know your underwriter from your write-off? Visit BBC Watchdog
for a quick glossary.
How do I make an insurance claim?
Keep any evidence: Depending on the situation either get the names and addresses of any
witnesses, keep any relevant receipts, or take photographs.
Contact the broker/ insurer: Give them a ring then follow up with a letter, keeping a copy
for yourself. They should send you a claim form, which you should fill out and send back
ASAP. Send 2-3 professional estimates for the repairs with the form.
Help with your claim.
Who can I complain to?
If you aren't happy with the way your insurance company is acting you
can contact the financial ombudsman service who offer a free,
independent service for resolving disputes with insurance firms.
There are two basic types of household insurance; contents insurance
and building insurance...
Contents insurance covers the contents of a home such as furniture,
carpets, clothes, television, refrigerators, jewellery and so on. In other
words, what you would take with you if you moved. Buildings
insurance protects against damage to the actual structure of the home
and to its fixtures and fittings. Contents and buildings policies can be
bought separately or together in one package.
Everyone needs contents insurance, even if living in rented
accommodation or sharing with friends. Tenants are responsible for
their own property and they should make sure they have insurance
against the risk of damage by fire, storm, or flood. There are of course
other dangers which affect rented as well as owner-occupied homes,
think of burglary for example. Unfortunately many people, particularly
those living in rented property, ignore these dangers. About one in
four households in Britain has no contents insurance at all.
Policies vary between insures. They give cover to the contents while
they are inside the home and, in some cases, while they are outside in
the immediate surroundings of the home. Most policies extend to give
limited cover for contents which are temporarily away from the home.
For example in the UK they may be at your place of work or at a
Contents insurance covers damage from a very wide range of risks.
These include fire; theft; escape of water from tanks or pipes; oil
leaking from fixed heating systems; storm; flood; riot or malicious
damage; explosion; lightning may impact by aircraft, vehicles or
animals; falling trees; subsidence and earthquake. A contents policy
also covers the loss of rent or the additional cost of alternative
accommodation if the home is made uninhabitable. Contents cover
includes accidental breakage of mirrors and glass in furniture and
there is some cover for damage to rented property where the tenant is
liable for this.
An important extension of contents insurance covers the legal liability
of the occupier. Liability could arise if other people are injured or their
property damaged as a result of the occupier's negligence. This is a
little known but very important fringe benefit of household insurance.
If, for example, a householder carelessly let a dog run free and caused
a serious road accident, then the householder ... and not the car
drivers ... could be legally liable and face an expensive bill for
damages and legal fees. Many household policies also offer cover for
any legal expenses to sue someone or if you are sued.
Buildings insurance covers the structure of the house including fixtures
and fittings, together with garages and outbuildings. There is limited
cover for boundary walls, gates, paths, drives and swimming pools. In
general, anything that would be left behind if the occupier moved is
included in buildings insurance. If you're renting, buildings insurance is
paid by the landlord, not you.
The policy should cover damage caused by fire, explosion, lightning,
earthquake, the impact of aircraft vehicles or animals, theft or
attempted theft, the breakage of aerials, and oil leaking from a central
heating system. It also covers damage caused by riot and malicious
persons, storm, flood, the escape of water from tanks or pipes,
subsidence, landslip or heave, and falling trees. The cover for
subsidence involves an excess and many policies have an excess on
other sections such as theft or flood.
Buildings insurance can't cover everything. Exclusions often include
storm or flood damage to gates and fences, and frost damage. If the
home is left empty or unoccupied for over 30 days malicious damage,
water leakage and theft won't be covered. Other exclusions are
damage caused by war, rebellion and revolution and damage caused
by sonic booms and contamination from radioactive fuel or waste.
Householders can be compensated for damage from this last cause
through special arrangements with the Government.
The Sum Insured
When householders buy contents or buildings insurance they must decide the right value to
put on the items covered. This amount is known as the "sum insured". The premium to be
paid depends upon this amount. Premium rates may be higher for certain special risks - for
example for a home in an area where burglary happens frequently or for a thatched
The sum insured must be sufficient to cover the total value of the goods and buildings
concerned. Many people unfortunately underestimate the cost of replacing or repairing their
homes and their contents. If the sum insured is set too low then, when damage occurs, the
householder will find that the insurance could cover only a part of the cost.
For buildings, insurance must cover the full cost of rebuilding the property including
architect and surveyors fees and the cost of clearing away the debris and meeting any new
building regulations or by-laws. This is not the same as the market value of the house.
Rebuilding costs often rise at times when house prices are not moving and vice versa. Take
the case of two identical houses in the same town. One is next door to a noisy factory in a
crowded industrial area while the other house is on the outskirts of town with pleasant
country views. The houses will command very different market prices but the rebuilding
cost will be the same.
For contents, the full value is the cost of replacing the house as new. If a everything in new
policy is replacement as not taken, then an allowance should be deducted for wear and
tear. The sum insured must be reviewed regularly, particularly at times of high inflation.
Otherwise the householder will soon find that the sum insured is too low. Most insurance
companies offer index-linked policies where the sum insured is automatically adjusted in
line with general rises in costs.
Policies spell out clearly the risks they cover - like fire, theft and flood.
For "accidental damage" cover you have to pay much more premium.
Then, you are covered against such risks as spilling paint on a carpet,
or dropping a camera and breaking it.
Indemnity or Replace-as-new?
Indemnity policies take full account of the wear and tear on goods so
that any claim payment would reflect the age or condition of damaged
items. For example the policy would pay less for a ten-year-old carpet
damaged by fire than for a carpet which was only a few months old.
Replacement-as-new policies provide for the full replacement of badly
damaged or destroyed goods with new. There are usually some
exceptions such as clothing and household linen.
Clearly, with such a policy, the sum insured (on which the premium is
based) must be higher. For a replacement-as-new policy, the contents
of the house must all be valued at their new price. Mixed policies can
also be bought. These provide replacement-as-new cover for some
items such as furniture, carpets and electrical goods which are less
than a certain number of years old and indemnity cover for the rest.
Most people know something about motor insurance. This is because
any vehicle driven on public roads must have a certain level of
The Road Traffic Act ensures that drivers must meet liabilities they
incur should they injure other people or cause damage in an accident.
The person who is injured is known as the third party. The first and
second parties are the car driver and their insurance company
respectively. The third party may be a pedestrian, a passenger in the
car driven by the insured person, or the driver or passenger in another
The injured third party can claim compensation from the driver of the
offending car. The driver then relies on his or her insurers to pay the
other person's claim.
Different Types of Motor Policy
The law says that drivers must have insurance against third party
injury or damage claims and that the insurer must give to the insured
a certificate of motor insurance. However, most motor insurance
policies provide far more extensive cover than this. There are four
basic types of cover available in Britain:
Act only - This brings only the minimum required by law - third party liability risks incurred
on public roads. Policies of this type are very rarely issued. Few motorists would be content
to rely on them unless, because of a poor driving record, they could not obtain any other
Third party - As well as covering the insured when driving on public roads, this type of
policy applies on private property. It covers third party claims and provides protection
against other legal liabilities. For example passenger indemnity, covering the possibility that
a passenger in the car may cause an accident perhaps by carelessly opening the door and
knocking a cyclist over. It also provides cover against certain legal costs.
Third party fire and theft - In addition to the protection given by third party insurance,
this type of policy covers loss or damage to the insurer's own car as a result of fire, theft,
or attempted theft.
Comprehensive - The widest form of cover available, although it cannot protect against
every conceivable risk. In addition to the covers described in 1, 2 and 3, comprehensive
cover protects in other valuable ways. The most important of these is accidental damage
cover -policyholders can have their own damaged vehicle repaired or replaced.
Comprehensive policies also include personal accident insurance, providing payments for
death and specified serious injuries such as the loss of a limb or sight. Such payments are
usually restricted to the policyholder and his or her wife or husband. Other cover with a
comprehensive policy can include small amounts of medical expenses cover for anyone in
the insured car, who is injured in an accident, and for loss or damage to personal effects in
Different Types of Vehicles
Insurers draw on their statistics and on their experience to issue
special policies for various types of vehicle on the roads. There are, for
example, private cars, and motorcycles including motor scooters and
mopeds. Commercial vehicle insurance covers all vehicles used for
transporting goods and passengers for commercial purposes, including
hire cars and taxis. The insurance of agricultural and forestry vehicles
and special types of vehicle covers a whole range of machines. Then
there are vehicles constructed for specific purposes such as mobile
cranes, earthmoving equipment and ambulances.
Motor traders pose a different type of risk and therefore need
specialised insurance policies. There are three basic types of motor
"Road risks" covers the trader for any vehicles which they own or
which are in their custody or control while they are away from the
premises of the insured business. "Internal risks" covers them only for
liabilities incurred on their own premises. "Combined road and garage"
includes both these as well as other risks.
Insurers will only issue motor-trader policies to traders with their own
premises. Traders working from home will have difficulty getting
Calculation of Premiums
The cost of claims varies widely, depending on the risk involved. From
their claims statistics motor insurers can relate premiums to the
degree of risk. This gives fair treatment to all policyholders.
There are four main factors in calculating private car insurance
premiums. These are:
the type of car
use to which the car will be put
district in which it is kept
Type of Car
Cars are divided by insurers into 20 groups. The higher the group
number, the higher the premium. The groups take account of factors
such as the cost of body parts, the ease with which the car can be
repaired, its value when new, its top speed, Its acceleration, and the
degree to which h resist theft. Sports and high performance cars are
more expensive to insure because statistics show that they are
involved in more accidents and also that repairs are more costly than
with other types of cars. They are therefore given a higher group
rating than, for example, a small low-powered saloon.
Information about drivers affects the premium significantly. Important
factors include drivers' ages and their driving experience. Young
drivers - particularly those under 25 - pay a higher premium because
statistics show that they are far more often involved in accidents.
Young men have more insurance claims than young women. This
means that some insurers will charge young women lower premiums
than men of the same age.
The premium may also be affected by drivers' occupations. Other
factors include the accident record and history of convictions - drivers
convicted of drunk-driving will, when they come back to driving, have
to pay a very high premium for a policy providing only limited cover
The use to which a car is put also affects the risk. Most insurers
recognise three common classes;
use for social domestic and pleasure purposes and use by the policy holder in person in
connection with his business or that of his employer or partner
use for social, domestic and pleasure purposes and for the business of the policyholder or
that of his employer or partner
all this cover, plus commercial travelling.
All of these types of cover exclude the use of the car for racing,
competitions, and rallies or for carrying passengers for hire or reward.
However, taking money from passengers in return for a lift (known as
"car sharing") is allowed, as long as the lift is not part of a business
The risk is also influenced by the district in which the car is kept. Areas
with a high density of traffic are more risky than a remote country
area. Also, some areas have a significantly higher-than-average record
of car theft or vandalism. Insurers therefore divide the country up into
a number of categories of area according to their experience of the
risks involved. Sometimes, theft is not covered where a car is left
overnight in the open.
No Claim Discount
Motorists who go for a year or more without making an insurance
claim qualify for a no claim discount off the basic premium. Most
insurers offer a reduction of around 25% after one claim-free year.
This discount rises, year by year, to 60% or 65% after four or five
years. If the motorist has to claim off his own policy he may lose some
or all of his discount. The discount is allowed for not making a claim
and the question of blame for any accident is not relevant. Therefore if
motorists make a claim they will lose part of their discount (even if
they are not to blame) unless their insurers can recover their claim
payment from another motorist who is at fault.
Many insurers issue special policies which allow, say, two claims in
three years without the no claim discount being affected. These
"protected discount" policies of course cost more to buy.
The excess is an arrangement whereby motorists meet the first part of
a claim for accidental damage to the car or its theft. The amount of the
excess is set out in the policy.
Excesses may be agreed by motorists on a voluntary basis to reduce
the level of the premium or they may be imposed by the insurer.
Compulsory excesses are often imposed, for example, on learner
drivers or those who are young or inexperienced. A motorist with a
poor claims record may also have to face a compulsory excess.
These excesses cut down the cost to insurers of small claims and
therefore benefit all policyholders.
All private motor policies issued in the UK extend automatically for use
in all EU countries, and certain other European countries. The cover,
however, is limited to third party liability.
To enjoy the full level of UK cover, such as fire, theft and accidental
damage, motorists should tell their insurance company before
departure. The company will then arrange to extend cover during the
period of the visit.
Holidays can be dangerous occasions - especially abroad. If someone
falls ill it is much more difficult than it would be at home to cope with
the situation, so make sure you're covered.
Holiday insurance can be bought as a complete package or selectively.
Package policies usually include
Protects against the loss of deposits, advance payments, and other
charges if a holiday has to be cancelled. The cancellation may be due
to death, injury or illness of the traveller or a close relative, business
associate, or other member of the party. It may be because of jury
service or witness summons. Cancellation cover does not, however,
extend to previously existing medical conditions or pregnancy. Some
policies also pay compensation if departure is delayed by industrial
action or if the holiday has to be curtailed.
Even in the EU, where there are special arrangements for British
people to have free or cheap medical treatment, it is sensible to take
out separate insurance. This not only covers the cost of treatment but
also extra travel, accommodation costs, and air ambulances home if
necessary. Cover is often for £1 million or more.
Pays compensation if the policyholder is accidentally injured.
Pays for any damages the policyholder may incur to another person.
Baggage and Money
Pays for up to £1,000 or more of baggage, with 250 pounds or so for