Posted in Finance, Accounting and Economics Terms, Total Reads: 198
Definition: Life Insurance
Refers to insurance that pays out a sum of money either after a set maturity period of death of an insured person. Foundation of life insurance is the value of human life, which can be compensated for a loss. The unstated goal of life insurance is to provide some amount of financial security to the insured’s family in the event of his death.
Life insurance is also known as life assurance in some jurisdictions, and constitutes a legal contract between the insured and an insurer where the insurer pays a designated nominee/policy holder a sum of money/benefit upon death of the insured(known as the policy holder) or passage of sufficient time. As contingent upon the contract, certain other events such as terminal illness, can also cause payment. A policy holder is typically required to pay a regular sum of money or premium, to continue to be enlisted in the policy.
Put into technical terms, Insurance is a form of risk management, i.e it is the equitable transfer of a loss risk, from one entity to another, with the payment of money or premium for this service.
Specific exclusions to life insurance payouts are specified in the terms and conditions of the contract and these commonly include claims relating to fraud, riots, suicide, etc. The policy would become null and void in these cases.
The life insurance company, also known as the insurer, dynamically calculates the policy prices, premiums required to fund future claims, administrative expenses and costs(determined using mortality tables). The insurer works closely with actuaries in this regard. Payment from an insurance policy may be as lump sum amount or annuity paid out in regular instalments for a specified duration/lifetime of the beneficiary.
There are broadly 2 kinds of life insurance:
• Protection policies – includes term insurance. These policy provide a lumpsum benefit on incidence of a specific event.
• Investment policies – such as ULIPs, where growth of market-linked capital is the main objective in conjunction with risk mitigation.
A majority of insurance companies’ revenue is policy holders’ premiums. The premium charged is directly proportional to the age of the insured. The insurance company investigating health of a policy applicant and the resulting evaluation of risk is known as underwriting. Most insurance co.s segregate applicants into 4 general categories based upon their health levels.
As per another criterion of classification, life insurance may be divided into temporary and permanent insurances.
1. Temporary life insurance or Term insurance - provides coverage for life insurance for a specified term. This does not accumulate cash value and is considered as pure insurance. Term insurance is significantly less costly than permanent policies. A variant of this is group life insurance covering a group of people, such as employees of a company.
2. Permanent life insurance – can be of the following 3 types - whole life, universal life, and endowment. Whole life insurance – provides insurance coverage for an entire lifetime with a set premium. Universal life coverage has a greater flexibility in premium payments with greater cash growth potential. Endowments or endowment policy pay a lump sum upon death of the insured or after a set policy's maturity. These require higher premiums. Money back policy is an endowment plan variant .