As I’m sure most insurance salespeople can attest, the general consensus is they’re often seen as not very nice people and are ‘ripping everyone off’. For many, insurance is an unnecessary expense that they don’t want to pay and constantly eats away at your salary, you have pet insurance, travel insurance, car insurance, life insurance and house insurance to name a few. You’re paying all of this and you’ve never made a claim so is insurance a scam? We discuss below. 

What is Insurance? 

Insurance is a way to manage risk and you buy it for protection against unexpected financial loss. Insurance essentially pools the risk for policy holders, if thousands of people pay a couple of hundred dollars into a pot for car insurance for example and only a few of those thousand have a bad accident then the pot will cover all the damages. You don’t know if you will be the unlucky one who has the costly accident so you get insurance to make sure your covered just in case. Of course in this example car insurance is a legal requirement where not all insurance is but we discuss that more in detail below. 

Policies are put together by an actuary who is someone that deals with the measurement and management of risk and uncertainty. These are the guys who put a price on your chance of having an accident or if you’re going on holiday, the chance it is going to get cancelled due to a bat virus (no comment). 

The Float

The float in insurance refers to the money that you pay to the insurers who then invest this money and make profit on it before having to pay out in claims. You may have heard of Warren Buffett (the richest investor in the world). He actually made much of his early fortune from owning an insurance company. Buffetts company Berkshire Hathaway had a float of around $40 million in the 1970s it’s now around the $100 billion mark, yes that’s billion with a ‘b’. 

Why do Many People Think Insurance is a Scam? 

A scam refers to a dishonest scheme involving fraud, seems rather strong for someone selling insurance right? When people refer to insurance being a scam they’re probably talking about the fact insurance companies make money. Is that really a bad thing though? Every company needs to make money, and yes the money they pay out in claims is less than what they bring in on insurance policies, but it has to be otherwise it’s not a viable business. As discussed earlier many think insurance is a scam because they never had to use it, but what it you did? 

Another reason people refer to insurance as a scam is that it doesn’t pay out when need it. You have an accident or your house burns down and suddenly the insurance company is giving you less than you feel you’re due. This is in part down to the company you’ve chosen to work with or the insurance policy you’ve went with. It doesn’t necessarily mean insurance as a concept is flawed more that the product you’ve chosen to purchase isn’t as good as you thought it was. In other words, make sure you read the fine print. 

Insurance Can Work 

Insurance might be scam to you, until it’s not. If you crash your car into someone else and insurance wasn’t a thing you’d have to have enough money sitting in your bank account to cover the repair of your car, the other persons car and any medical bills or claims that person makes against you. In other words you could pay for car insurance each month or have tens of thousands of pounds sitting in your bank account waiting for you to have an accident just in case. It’s fair to say car insurance is insurance that generally works. You’re probably rolling your eyes here thinking if you crash your car your insurance premium will go up for a few years to cover the cost of the accident. You’re right, it will go up. If you’ve had an accident an actuary is sitting at their desk (probably in their house these days) thinking you might be prone to another accident in the future and you’re higher risk

Bottom Line

Insurance isn’t a scam in the traditional sense, many people don’t like the idea of it as they’ve never had to make a claim or they feel like they shouldn’t be forced to pay for car insurance despite the good reasons for it we mentioned above. Some insurance policies are much better than others and it’s always worth reading your policy before you purchase insurance. 

If you’re interested in learning more about Warren Buffett you can read Warren Buffett Inside the Money Mind by Robert Hagstrom on Amazon here.

The views expressed in this post are the authors and should not be construed as financial advice

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Author

David is an Engineer and Finance Writer educated to masters degree level with sound knowledge in investing, the stock market and personal finance. We hope the information provided on this site can help you achieve your financial goals.

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