The Importance of Insurance and Risk Management

Insurance, in all its varied forms, is simply a method forhandling risk. In order to plan an effective insurance program, you need to consider the risks to which you and your family are exposed and how financial loss could affect you. Buying insurance is the process of transferring risk you cannot afford, or choose not to accept. Since you may be unable to afford to rebuild your home and replace all its contents in the event of fire, you may choose to transfer that risk to an insurer by purchasing the appropriate amount ofhomeowners insurance.

 

However, even in situations of risk transfer, it is quite common to share some of the risk. For example, the deductible on an automobile or homeowners insurance policy is a form of risk sharing—you accept responsibility for a small portion of the risk while transferring the bulk of the risk to the insurer. The fundamental rationale behind all forms of insurance is to determine what risks can be transferred on a cost-effective basis.