What Are the 7 Basic Principles of Insurance?
Insurance is something we often hear about, but not everyone understands it completely. So, let’s break it down and talk about the seven basic principles of insurance in a way that’s super simple and easy to understand. By the end of this article, you’ll know how insurance works and why these principles are important.
What Is Insurance?
Before diving into the principles, let’s first understand what insurance is. Imagine you have a piggy bank where you save money for emergencies. Now, what if someone told you that for a small amount of money every month, they would help you pay for any big expenses, like if your bike gets stolen or you get hurt? That’s basically what insurance does.
Insurance is a promise between you and an insurance company. You pay them a little money regularly, called a premium. In return, if something bad happens, like a car accident or a house fire, the insurance company helps cover the costs.
The 7 Basic Principles of Insurance
To make sure insurance works fairly for everyone, there are seven basic rules, or principles, that both the person buying insurance (the insured) and the insurance company must follow. Let’s look at them one by one.
1. Principle of Utmost Good Faith
This principle means both you and the insurance company need to be honest with each other.
For you: When you buy insurance, you have to tell the company everything they need to know. For example, if you’re getting health insurance, you must tell them about any illnesses or health problems you already have.
For the company: The insurance company has to explain the terms of the insurance clearly. They can’t hide any important details.
Why it matters: If either side lies or hides something, the insurance might not work when you need it.
2. Principle of Insurable Interest
You can only buy insurance for things that actually matter to you.
Example: You can get insurance for your house, your car, or your health because these things are important to you. But you can’t get insurance for your neighbour’s car because it doesn’t affect you if something happens to it.
Why it matters: This rule ensures that people don’t misuse insurance to make money unfairly.
3. Principle of Indemnity
This principle means insurance is meant to help you get back to where you were before a loss, not to make a profit.
Example: If your bike is stolen, your insurance will pay you enough money to buy a similar bike. They won’t give you extra money.
Why it matters: This rule keeps insurance fair and prevents people from taking advantage of it.
4. Principle of Contribution
If you have more than one insurance policy for the same thing, the companies will work together to pay your claim.
Example: Let’s say you have two health insurance policies. If you need $10,000 for surgery, the two companies will split the cost instead of both paying $10,000 each.
Why it matters: This principle prevents people from making extra money by claiming the same loss from multiple companies.
5. Principle of Subrogation
This principle means that after the insurance company pays your claim, they can take legal action to recover the money from the person who caused the loss.
Example: If someone crashes into your car and the insurance company pays for the repairs, they can sue the person who caused the accident to get their money back.
Why it matters: It ensures that the person responsible for the loss ultimately pays for it.
6. Principle of Proximate Cause
This principle helps determine whether the insurance company should pay for a loss. It focuses on the main cause of the loss.
Example: Imagine your house catches fire because of a lightning strike, and the fire damages your furniture. The proximate cause is the lightning, so your insurance will cover the damage.
Why it matters: It ensures the insurance company only pays for losses that are directly related to what’s covered in your policy.
7. Principle of Loss Minimization
This principle means you have to do your best to reduce the damage when something bad happens.
Example: If a small fire starts in your house, you should try to put it out instead of waiting for the fire to spread and claiming insurance later.
Why it matters: It ensures that people don’t act carelessly just because they have insurance.
Why Are These Principles Important?
These seven principles make sure that insurance is fair and works the way it’s supposed to. Without them, people might misuse insurance, or companies might not pay claims fairly. By following these rules, everyone benefits:
For you: You get peace of mind knowing your important things are protected.
For the insurance company: They can help more people without losing money unfairly.
Real-Life Example of the Principles
Let’s say Rahul buys health insurance. Here’s how the principles apply to him:
1. Utmost Good Faith: Rahul tells the insurance company about his asthma.
2. Insurable Interest: Rahul buys insurance for himself because his health is important to him.
3. Indemnity: If Rahul gets hospitalized, the insurance pays the hospital bills but doesn’t give him extra money.
4. Contribution: Rahul has two policies. Both companies share the cost of his treatment.
5. Subrogation: If someone injures Rahul in an accident, the insurance company can recover the money from that person.
6. Proximate Cause: If Rahul’s injury is caused by a car accident, the insurance will cover it because accidents are included in his policy.
7. Loss Minimization: Rahul goes to the hospital immediately after the accident to prevent his injuries from getting worse.
Conclusion
Insurance is like a safety net that protects you when things go wrong. By understanding the seven basic principles of insurance, you can make better decisions and use insurance the right way. These principles ensure that insurance is fair for everyone and works when you need it most.
So, the next time you think about getting insurance or filing a claim, remember these principles. They’re the rules that keep everything running smoothly. And now, you can explain them to anyone.
