Life insurance is a contract between you and a life insurance company. You agree to pay for the policy regularly, and the insurer agrees to pay the sum of money to your beneficiaries if you die. These parameters include several types of life insurance. How do life insurance companies make money?
For the casual observer, the life insurance industry may seem a bit mysterious. Of course, the company cannot predict when it will have to pay the death benefit related to the policy. However – almost invariably it seems – the carrier takes enough income to keep its promises and get a good profit.
When we learn more about how insurance works, this puzzle begins to disappear. In fact, industry is more science than art. By using statistics, suppliers are able to make sophisticated assumptions about how much they should charge you to meet their obligations to both policyholders and shareholders. Companies also invest inflows in various securities, which are an additional source of profit.
So how do life insurance companies earn money?
At first, it’s difficult to understand how a life insurance company earns money.
If you buy a 30-year life insurance policy worth USD 500,000 and pay an annual premium of USD 1,000 and leave after 25 years, the insurance company raised USD 25,000 but must pay USD 500,000.
How do they do that Do they find ways to exit claims?
Many insurance companies use the suicide clause for the first two years of the policy, but in almost every other case, even if the insured drove a car under the influence of alcohol and caused his own death, the insurer would have to pay death benefits. It should be noted that if you take out a life insurance policy at a late age (over 50), you will receive partial benefits if you die within the first two years of the policy period.
Increasing profits by investing
If the insurance carrier is lucky enough to generate excess premiums after paying benefits and administrative costs, he does not simply put money in the treasury. Instead, it invests a significant portion of it to create more value for its shareholders (in the case of “mutual societies”, policyholders actually own the business and receive dividends).
The challenge is to find the right intermediary between profit potential and the ability to pay financial obligations. That is why companies usually direct some of their funds to conservative instruments that are less likely to experience large fluctuations in value. Therefore, bonds are the most common source of investment income, followed by shares and mortgage securities.
