Insurance Companies: Definition, Types, and Functions of Insurance Companies

By Writer Last updated Feb 15, 2022

Insurance is a means of protection from financial loss. It is provided by a body which is known as an insurer, insurance company, or underwriter. While the buyer of the insurance is known as a policyholder.

Moreover, insurance companies sell policies for individuals and businesses in exchange to provide them with financial protection or coverage in case of a claim or loss. However, in this article, we will provide information in detail about insurance companies, their definition, various types, functions, as well as examples of insurance companies.

Definition of Insurance Company

An insurance company is a financial organization that sells a policy to individuals, families, and businesses to protect their income in case of loss or damage in exchange for a small known fee called a premium. This is to say that, if you purchase the health insurance policy, the insurance company will cover your medical bills if there’s a case of an illness. Also in disability insurance, the company covers the client’s financial expenses when the policy holder is unable to work due to an injury or medical condition.

However, the main principle of insurance is an individual or an organization pays a small periodic amount of money against a possibility of a huge unexpected loss. Typically, an insurance company operates by pooling together the risk of a large number of policy holders and paying for any loss they suffer out of their premiums.

Moreover, buying an insurance policy from an insurance company involves sharing risks with all the other policyholders. The premium paid by all the policyholders goes into a pool to pay for the claims made by only a few of the policyholders. However, the cost of premiums each policyholder pays depends on the possibility of a particular event occurring and also the financial loss that comes with it.

Types of Insurance companies

However, there are many various types of insurance companies and it is very useful to be knowledgeable of the general types. As you may receive many insurance quotes from different insurance companies. But will be able to get a better value on your insurance policy if you know exactly what type of insurance company you’re dealing with.

Therefore, some of the various types of insurance companies include Captives insurance companies, domestic, mutual companies, standard lines, direct sellers, stock companies, excess lines, Lloyds of London, and more. However, below is a brief explanation of common types of insurance companies.

Captive Insurance Company:

However, a captive company is a type that exists to insure the risk of its parent company. It typically underwrites the risks of a specific organization or group of individuals or a specific form of risk. This type of insurance company is usually formed by an organization or business that cannot afford the coverage through the standard insurance market. Then it forms a company to provide insurance for itself. This company created is called a captive of its parent owner.

Domestic:

A domestic insurance company is a type of company that operates in a state where it is domiciled. The domestic company can get a license to operate its business in other states but it will be an alien entity in the state.

Alien:

This is a type of insurance company that is incorporated under the laws of another country. However, when a company that is incorporated as a U.S. company operates in a foreign country it will be considered an alien entity by the point of view of that country.

Mutual:

However, a mutual company is owned by the policyholders as shareholders of the business. Therefore, they can receive dividends payment distribution and losses may not be charged back in the premium of the policyholders. However, this can vary by company and depending on the terms and conditions of their insurance agreements.

Lloyds of London:

The Lloyds of London is a type of insurance company that is underwriting insurance through the authorization of the English Parliament and specializes in insuring unusual or high-risk items. Although the Lloyds of London specializes in insuring the unusual, they also insure other more common types of risks.

Stock Insurance Company:

The stock company is a type of insurance company that organizes itself as a corporation with shareholders or stakeholders. However, they distribute excess earnings as dividend payments to shareholders.

Check Also: Real Estate: Meaning, Types and How Real Estate works

Functions of an Insurance Company

However, here are the main functions of an insurance company:

Protection:

The primary function of an insurer is to provide financial protection for policy holders against the risk of loss, damage, or otherwise depending on the type of policy purchased by the client. Therefore, insurance does not reduce the risk of loss or damage that might occur rather it provides protection against the loss or damage. Such that the individual or organization that is the policyholder does not suffer financial losses that will affect their income.

Collective Risks:

However, an insurance company operates by pooling risk among a large number of policyholders. They share this with all the policyholders. This is to say that they all play their respective premiums and if there’s a case of financial loss or damage among them. Then their claims for payment benefits will come from the collective premium fund.

Certainty or Reliability:

An insurance company provides a solution to the problem of uncertainty of an unexpected financial loss. In other words, as individuals and businesses get financial protection or coverage from an insurer. They remain secure about the potential to meet future financial risks and losses with great protection.

Other functions of an insurance company include:

Revenue generation for the insurance company from the premiums of the policy holders. Which can serve as capital for investment purposes and generate income for the company.
Assessment of risks by the company to determine the probability of an event occurring.
Most form of insurance is usually a mandatory requirement by the law of some states such as fire insurance. Therefore, the company assists in providing such legal requirements.

Examples of Insurance Companies

Moreover, here’s a list of the companies offering international insurance:

Bottom Line: Insurance Companies

In conclusion, an insurance company provides risk management to individuals and businesses through contract. Hence, the basic principle of insurance that the insurer guarantees financial coverage in case of an event of loss for the policy holder or insured.