May 18, 2016


Insurance is the transfer of liability between two or more parties in exchange for a premium. The most common type is automobile insurance. Automobile coverage is mandatory in most states and protects the driver (known as the insured), the immediate environment in which the driver operates his/her motorized vehicle and the driver’s vehicle.

How does this transfer of liability work? In the example of automobile coverage, the third party (insurer) will take on the liability of the driver (insured) for a monthly premium. The monthly premium is calculated depending on the amount of liability the insurer agrees to assume. The more liability that is being transferred to the insurer from the insured, the higher the monthly premium. In the event of an automobile accident, the insurer will assume the liability of the insured. Typically the insured must pay a deductible, which will reduce the final payment received by the insured.

The simple example in the preceding paragraphs is the concept underpinning all insurance products, but what other types of policies are there and why would you need them?

A life policy on the surface seems self-explanatory, but it can become extremely complex. In a nutshell, the insurer will pay the beneficiary of the insured in the event that the insured dies. A life policy is essential for families when one member of the family provides the majority of the income for the family. According to LIMRA’s 2015 Insurance Barometer Study: fifty-seven percent of all people in the United States were covered by some type of life policy in 2014

Typically the head of household purchases a life policy to replace the income that he or she would provide to the family over his or her lifetime. It is prudent that the head of household purchase enough coverage to pay for the purchase of the family’s primary residence, children’s college education, and the day-to-day expenses, such as food, transportation, and clothing.

Like most insurance, as the transfer of liability increases from the insured to the insurer, the monthly premium increases. A Life policy is much more affordable at a younger age and when the insured is healthy. As a family matures and children move away from their parents’ care, and as a family’s primary real estate investment is paid, coverage needs must be revisited. Typically a family will lower their coverage requirements and potentially drop a policy altogether as their risk or liability diminishes.

Complexity occurs when life insurance products try to meet two different needs: investment and transfer of liability. One such product is an annuity. According to Nationwide Life Insurance Company: “An annuity is a long term investment that is issued by an insurance company designed to help protect you from the risk of outliving your income.” These types of investment vehicles should be carefully researched before they are purchased.

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