Understanding Insurance: Risk, Hazard, and Proximate Cause

Understanding Insurance: Risk, Hazard, and Proximate Cause

What is Insurance?

Insurance is a method of mitigating losses sustained by individuals or businesses by collecting modest premiums from many people. This way, individuals who face unpredictable and unintentional losses can obtain protection through the payment of a defined cost, known as a premium. Essentially, the insured's risk is transferred to the insurer.

Insurance has its origins in bottomry bonds issued by Mediterranean merchants as early as the fourth century BC. Today, there is insurance for various aspects of daily life, including business, auto, health, life, and travel, each with numerous sub-categories and divisions.

Risk and Hazard

Understanding Risk

Risk represents the uncertainty of a loss occurring. It indicates an uncertain future outcome that can place us in a worse situation. Risk can be described as the prospect of loss, the uncertainty of loss, or a mix of hazards.

Defining Hazard

Hazard refers to an incident that produces loss and the circumstances that influence the result of that loss. For example, a house built on a beach faces a hurricane threat. Here, the "peril" is a major source of loss beyond human control, like fire, flood, or earthquake. A hazard is a circumstance that enhances the likelihood and magnitude of loss. Therefore, the house's proximity to the water poses a hazard.

Hazards amplify the severity of risks, leading to loss. They are categorized into:

1. Physical Hazards:These arise from the physical properties of an object that increase the likelihood of loss. Examples include icebergs (a hazard for ships), earth faults, and dense forests (a hazard for fire).

2. Moral Hazards:These emerge from the insured's mindset, where actions are taken intentionally to cause damage or file false claims, reflecting the actions of dishonest individuals.

Proximate Cause

Proximate cause refers to an active cause that starts a sequence of events leading to property damage or destruction. For instance, a fire caused by an LPG explosion in the kitchen that spreads and damages the bedroom is covered as the proximate cause of loss. Therefore, the entire loss, including water damage, is covered.

Insurable Risks

Personal Risks

These directly impact individuals and include:

Premature Death Risk: Life insurance plans primarily cover death, an inevitable but unpredictable event.

  

Risk of Living Too Long:With decreasing death rates worldwide, planning for post-retirement obligations is essential.

  

Unemployment Risk:The economic challenge of unemployment is significant, though such coverage is currently unavailable in India.

  

Illness/Disability Risk: Complete incapacity is a major concern as it not only reduces earning capacity but also incurs additional rehabilitative costs.

Property Risks

Property owners face the risk of damage, loss, or destruction due to fire, natural disasters, or theft. Losses are categorized into:

-Direct Monetary Loss: Physical damage or theft results in immediate financial loss.

  

-Consequential Loss: This involves monetary loss due to the interruption caused by direct damage, such as loss of profit until reconstruction.

Liability Risks

Liability risks arise when one's actions cause serious bodily harm or property damage to others, leading to potential legal accountability and substantial restitution. For instance, a driver may be legally responsible for injuries caused by reckless driving.

Conclusion

Understanding the concepts of risk, hazard, and proximate cause is crucial for comprehending how insurance works to protect against unforeseeable events. Whether it's personal, property, or liability risks, insurance provides a safety net, ensuring financial stability and peace of mind in the face of uncertainties.