Insurance and risk management

Standard 11

What is risk? O the likelihood of loss or profitO from an investmentO from some threat to your well-being

ability to tolerate risk varies from person to person

RiskO Based on uncertaintyO Part of every day lifeO It involves a loss, a catastrophe, or

some other undesirable or negative outcome

Sometimes it is possible to control riskOther times it is not

Potential Sources of Risk

O If you drink and drive, you’re responsible.

O You’re in the car with a friend who runs a red light, you are subject to risk.

O Your house gets damaged by an earthquake, your loss is a result of circumstances beyond your control.

Managing RiskO AvoidO ReduceO AcceptO Transfer

Avoiding RiskO You choose not to act on a behavior

you know is riskyO Example: You’ve never owned a

business and know nothing about running one, you can avoid the risk but not starting one.

Reducing RiskO lowers the severity of loss or

likelihood of loss occurring O Example: Installing smoke detectors

in your home reduces the risk of fire damage.

Accepting RiskO A viable strategy for small risks where

the cost of insuring against the risk would be greater than the total loss

O Example: If your friend’s car manual recommends changing the oil every 5,000 miles, she waits to have the oil changed at 5,200 miles it is a small risk that will most likely not cause severe loss.

Transferring Risk (to a third party)

O achieved by buying insuranceO The insurance policy you purchase

that protects you from catastrophic loss and the insurance company is covers it.

O Example: You are required by law to purchase insurance on your car.

A Risky Behavior Running a red light when driving

A way to avoid the risk

Stop at the light

A way to reduce the risk

Look both ways before you run it

A way to accept the risk

Run it anyway

A way to transfer the risk

Have car insurance in case you do get into an accident

Different Types of Insurance

Module 11.2

TerminologyO PREMIUMS

O the fees paid to cover potential lossesO insurance companies takes premiums and pools

them togetherO Funds are available to pay for losses suffered by

member of poolO CLAIM

O Written request to insurance to cover a loss

Terminology ContinuedO DEDUCTIBLE

O Amount you’re willing to pay before insurance picks up the rest

O Represents RETAINED riskO Example : Car insurance may have a

$500 deductible

Types of Insurance

HEALTH/MEDICALO protects family from

expected/unexpected health care-related problems

O You pay monthly premiums based on different factors

O Having insurance through employer is cheaper than buying your own

Health Insurance…O Copayment – amount you’ll have to

pay each time you go to the doctor ($25-$35)

O Coinsurance – percentage of your medical costs you will need to pay after meeting you deductible (Traditionally insurance = 80%, you = 20%)

O Cap – The most YOU pay out of pocket before insurances covers ALL

Types of InsuranceO MEDICARE –program provided by the

government for people 65+ with certain health problems

O MEDICAID – like medicare but pays for low-income citizens of all ages

O LONG-TERM CARE – covers costs associated with nursing homes

Types of InsuranceO LIFE INSURANCE – insures against loss of

income due to death or retirement planning

O You pay, others benefit.O It provides for others in case you die.

O Term Life – provides coverage for a defined time period (5, 10, or 20 years)

O Whole Life – covers for entire lifeO Universal Life – whole life with more

flexibility; allows policy holder to make changes

Types of InsuranceO LIABILITY INSURANCE – protects you

when others claim to be hurt or injured as a result of something you did/didn’t do.

O HOMEOWNERS INSURANCE – protects against, fires, tornadoes, busted pipes, robbery, etc. (very few cover flood)O Rule of thumb: cover for 80% of

replacement value, the other 20% is the value of land which doesn’t need to be replaced

Types of InsuranceO RENTERS – protects renters from theft or

damage of personal items (furniture, TV, computer, clothing, etc.)

O AUTOMOBILE – it’s the LAW to have car insuranceO Collision for you if you get into an accidentO Auto liability insurance pays for someone

else’s property or injuriesO Comprehensive insurance covers vehicle if

damaged by act of nature or stolen

Types of InsuranceO DISABILITY - provides benefits if you

become injured or illO You may need extra time to recover

before returning to work

Using Insurance to Manage Risk

11.3

Example

John had an accident on his skateboard. His hospital bill is $40,250. Based on his insurance policy information below, how much will John have to pay?

Deductible: $250Coinsurance: 80/20Cap on coinsurance: $2,000

Deductible: $250Coinsurance: 80/20

Cap on coinsurance: $2,000

$40, 250 – 250 (deductible) = $40,000

$40,000 x 20% = $8,000

$8,000 > John’s $2,000 cap

$2,000 cap + $250 deductible = $2,250 total

Principal of Probability (represents CHANCE)

O Insurance companies measure the probability you’ll need to make a claim

O They decide how much they will charge you for the policy based on that

O The more likely a company thinks you’ll file a claim, the higher your premium will be

O Why people will health problems pay higher for health insurance and teens pay higher for car insurance

Risk Factors Considered

O Driving record – the worse the record, the higher the premium and vice versa

O Type of car – sticker price, repair costs, and safety records affects rate

O Theft – frequently stolen cars are higherO Age – younger drivers pay more b/c of statsO Where – large cities with heavy traffic are

higherO Credit report score – good score = good

premiums