How Do Insurance Companies Make Money?

Most of us have some sort of insurance protection. Whether it’s health insurance, car insurance, homeowners insurance, life insurance, or something else, we all are paying a premium (or someone is paying it for us) to reduce the potential financial burden in the case that something bad happens to us. When insurance companies are paying out for all those claims, how do insurance companies make money? Read on to find out.

What Is Insurance?

Before we can talk about how insurance companies make their money, it’s important to have an understanding of what insurance is. Insurance is when a policyholder pays another entity (the insurance company) a payment in exchange for the insurance company reimbursing the policyholder in the case of a financial loss.

For instance, if you own a home you pay homeowners insurance. If your home burns down, the insurance company will pay for the damages according to the details of the insurance contract.

With health insurance, you pay your premium, and in exchange you do not pay as much for an orthopedic surgeon as you would without insurance.

What if you never suffer a loss? Well, the insurance company keeps your premium. However, I will happily go the rest of my life paying out insurance premiums on my house, even if I never suffer a loss. Because that means my home was never burglarized, burned, etc. But if those things do happen, I can rest easy knowing that I will not be responsible for repairs or rebuilds.

How Do Insurance Companies Make Money?

An insurance company sets their premiums based on how much they expect to pay out in claims. Underwriters and actuaries do the math and predict an amount of financial loss that they will pay out to policyholders.

After they predict the amount of claims, they have to add in other things such as administrative costs, premium taxes, broker fees, and other costs of doing business.  Then, after that, they add in their margin, or profit.

They take all of those figures and divide by the number of policyholders to get a premium.

That actual formula for determining premiums is more complicated than that, but those are the basics. As you can see, if the claims come in higher than expected, the insurance company’s profit goes down. If the claims come in lower than expected, the insurance company’s profit goes up.  A lot rides on the accuracy of the underwriters and actuaries.

Shop Around When Buying The Best Insurance Rates

When insurance companies are battling for your business, it is usually the amount of profit they are willing to give or take that determines how competitive they will get with their pricing. Most of the other aspects of an insurance premium is fixed. Whether you are an individual or a group, insurance companies will many times come down on their premium if you press hard enough.

So when wondering how do insurance companies make money, it comes down to the profit they are taking on top of claims and fixed expenses.

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Why Should I Buy Child Life Insurance

Why Should I Buy a Child Life Insurance Policy?

A question that many parents ask is, “should I buy a child life insurance policy?” Many people think that it’s not necessary because of two things. One, there is a misconception that a funeral for a child is not very expensive. However, that is not true. Final expenses can add up, even for children. Two, life insurance policies for children seem to contradict the reason for buying life insurance in the first place: income replacement. Adults purchase life insurance to replace the income that will be lost if a breadwinner in the household dies. Children don’t bring in any income, so why purchase life insurance? Here are some things to consider when wondering if you should buy a child life insurance policy.

Final Expenses

As mentioned above, final expenses for even a child can add up. Caskets, flowers, funeral homes, grave plots, and more aren’t cheap. Even something relatively small, such as a $5,000 or $10,000 term life policy on your child can go a long way toward paying for the necessary elements of a burial. Losing a child is the most traumatic experience someone can go through, and not having to worry about how to pay for a funeral is a good thing.

Time Off Of Work

In the event of losing a child, I cannot imagine going back to work after a couple of days. People typically take several weeks off of work to cope with the loss, seek counseling, etc., and in a lot of cases, this time off of work is uncompensated. Having a life insurance policy for your child can help cover the income that will be lost from not going to work.


As mentioned above, counseling is a cost that must be considered when a child dies. But counseling isn’t cheap. Having a life insurance policy on your children can provide money that can help pay for therapy sessions. You may have a good health insurance policy that pays for mental health benefits, but how far will those extend, and what is your copay or deductible? Is it affordable? Life insurance will help cover those costs.

Future Insurability

A difficulty with obtaining life insurance is health status. If you have health problems you could be either limited on the amount of life insurance you can buy, or you might be denied insurance and have no coverage. However, many times if you purchase insurance while you are healthy you can keep the insurance when you get sick. For children, this is especially important, because most kids are healthy. So if you purchase a policy now in their younger years, they can renew as they get older not matter their health status.


What is life insurance conversion? Life insurance conversion is the ability to change a policy if circumstances change. If someone has a term life insurance policy that is about to expire and it has a conversion provision, that person can convert that term life policy to a policy type that is more permanent. A policy can also be converted if term insurance through an employer ends through employment termination. For kids, conversion is an important thing to consider because the policy can stay in place even as circumstances change when they get older.

Where to Purchase Child Life Insurance

Perhaps the easiest place to purchase life insurance for children is through work. If your employer offers a child life policy that you can buy, the price will be affordable, and the policy will typically offer at least enough insurance for final expenses.

You can also buy child life insurance through private insurers, either in person or online. You can easily get quotes and sign up for policies that will keep your child covered with life insurance.

When you find yourself asking, “should I buy a child life insurance policy,” keep in mind that the cost is usually small, and you will be able to be financially stable while you are going through a difficult time.

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