Insurance is a broad and complex topic, but in essence a simple concept.ย Insurance is about the management of risk. When buying insurance, we’re paying to convert an uncertainty into a certainty. The goal of insurance is to minimize the cost of risk.
We cannot predict when adverse events will happen to us, how often they will happen to us, or their severity.ย The best we can do is to make sure that we’re able to manage these adverse events when they occur.ย The purpose is to ensure that adverse events do not cause us unmanageable financial burden. Losing a house, a lawsuit, or dealing with high medical expenses without sufficient insurance can be financially devastating. Insurance is a way of managing these and other risks.
Risk is expensive.ย Insure against the bigger risks, not the smaller risks.ย The smaller risks are often not cost-effective to insure.ย The goal is to get the optimal (not maximum) amount of coverage, thus minimizing the cost of risk. Depending on the type of insurance, the amount of coverage can be manipulated through maximum coverage amounts, optional features, coinsurance, deductibles, etc.ย Though features and options differ depending on which type of insurance you’re looking at, the same basic principles apply:ย What risks need to be managed?ย How much risk am I willing to accept?ย How should the remaining risk be managed? The optimal amount of coverage depends on your individual situation.
