What Is Insurance?

Hurt person on ground next to bike and car

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Insurance can help you cover the cost of unexpected life events, such as car accidents, medical expenses, or damage to your home, up to the limits of your policy.

Definition and Example of Insurance

Insurance is a way to protect yourself from potential financial losses. It’s a contract between you and an insurance company in which you agree to pay a premium in exchange for the company's promise to pay a set amount of money if you experience a covered event. Insurance is commonly used to cover the costs related to a car accident, medical expenses, or damage to your home, up to the limits of your policy.

For example, if you have a car insurance policy with a $25,000 limit on collision coverage and you get into an accident that causes $30,000 worth of damage to your car, the insurer would pay a maximum of $25,000 to help cover the cost of repairs.


Depending on the terms of your policy, you may be responsible for a deductible if a covered event occurs. This means you'll be responsible for covering a set amount before your insurance coverage kicks in.

How Insurance Works

Before getting insurance coverage, you need to apply and get approved. As a part of the application process, the insurance company assesses the risks associated with insuring you and sets a premium based on that analysis.

Once you're approved, you'll need to pay your premiums regularly. Typically, you'll pay either monthly, quarterly, semi-annually, or annually. If you stop making payments, your coverage lapses and you’re no longer protected.

After your policy is active, it remains in force for a certain amount of time, known as a term. During the policy term, if you experience a covered life event, you file a claim to let your insurance company know what happened.

Typically, you'll need to include documentation with your claim to prove the event occurred. The insurer then investigates to determine if the claim is valid. If it is, the insurance company reimburses you for covered expenses up to the limits of your policy.

For example, let’s say you have an active homeowners insurance policy. While you're out one night, someone breaks into your home and steals several thousand dollars worth of electronics. After calling the police to report the robbery, you call your insurance company to file a claim.

As a part of the claim process, you provide details about what happened and what you lost. After investigating, the insurer agrees that the theft was a covered event and agrees to reimburse you for the costs of your electronics minus your deductible.

So, if you lost $9,500 worth of electronics and your deductible is $500, you'll receive a check from the insurer for $9,000. You can then use this money to purchase replacement items if you choose.


It’s not always worth it to file a claim with your insurance company. If you’ve suffered a loss of a few thousand dollars or less, you might consider paying out of pocket since your claim history is tracked and used to help price your future policies.

Types of Insurance

There are many different types of insurance, but some of the most common include:

  • Auto insurance
  • Homeowners or renters insurance
  • Life insurance
  • Health insurance
  • Disability insurance

Auto Insurance

Auto insurance (also known as car insurance) protects you from financial loss related to your vehicle. For example, it can help you pay for car repairs or for a car replacement if yours gets damaged in an accident.

Liability is a type of coverage you can get on your car insurance. It covers damages, bodily injury, and losses incurred by the other parties involved in an accident you cause.

Car insurance can help pay for medical expenses if you or your passengers get injured in an accident. It'll also cover the costs for other people involved in the accident if you’re at fault.

Most states require drivers to have auto insurance and that your policy meets the state’s minimum liability limits, but which liability coverages you’re required to have and how much varies.


Comprehensive coverage can help you pay for damages related to events that are not accidents, such as weather damage, theft, or vandalism. Basic auto insurance policies exclude these types of claims.

Homeowners or Renters Insurance

Homeowners insurance helps protect your home and belongings from loss due to fire, theft, vandalism, or other covered events.

If you live in an apartment or rental home, renters insurance can help pay to replace your belongings if they're lost, stolen, or damaged. It can also help cover expenses if you need to live elsewhere for a period of time due to a covered event.


Most mortgage companies require homeowners to have homeowners insurance as a condition of the loan.

Life Insurance

Life insurance is a type of insurance that pays out a death benefit to your beneficiaries if you die. The death benefit is the money your beneficiaries will receive from your life insurance policy.

There are different types of life insurance products available. You’ll have to decide which one is the best fit for you and your loved ones.

Health Insurance

Health insurance helps pay for medical expenses if you're injured or become ill. For example, it can help cover the cost of doctor visits, prescriptions, hospital stays, and other medical expenses. You can also use your coverage to pay for preventive care such as vaccinations and screenings.

Employers offer most health insurance plans, but you can purchase coverage through the government or on a private market.

Disability Insurance

Disability insurance is a type of insurance that provides financial protection if you're unable to work due to an injury or illness. It can help you cover your mortgage, car payments, and other living expenses.

Do I Need Insurance?

While you may not need every type of insurance on the market in your current life state, you do need some form of protection against financial loss. Otherwise, you'll be responsible for paying 100% of the costs associated with any covered event if you aren’t insured.

For example, let's say you're in a car accident and are at fault. If you don't have auto insurance, you'll be responsible for paying for the other driver's car repairs, medical expenses, and any other damages caused by the accident, as well as your own.

Not having insurance can be a risky financial decision.

So, how do you know which types of insurance you need? A good place to start is by evaluating your risks and determining what kind of coverage you need to protect yourself from financial loss.

Some factors to consider when choosing insurance coverage include your:

  • Age
  • Health
  • Lifestyle
  • Job
  • Family situation

Once you have an idea of the type of insurance you want, you can talk with a licensed broker to see about policies and insurance gaps.

Key Takeaways

  • Insurance is a product that helps protect you from financial loss in the event of a loss, accident, injury, or death.
  • When you sign up for insurance, you're entering a contract between you and the insurance company.
  • There are many different insurance types, each covering unique risks.
  • The types of policies you need to purchase depend on your situation and circumstances.
  • Make sure you have the right insurance to protect yourself from financial loss.

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The Balance uses only high-quality sources, including peer-reviewed studies, to support the facts within our articles. Read our editorial process to learn more about how we fact-check and keep our content accurate, reliable, and trustworthy.
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  2. Progressive. “What Is Car Insurance?

  3. Consumer Financial Protection Bureau. “What Is Insurance?” Page 2.

  4. Consumer Financial Protection Bureau. “What Is Insurance?” Pages 1-2.

  5. Kin. “How Long Do Insurance Claims Stay on Your Record?

  6. Missouri Department of Insurance. “Liability Insurance Coverage.”

  7. New York State Department of Financial Services. “Shopping for Auto Insurance.”

  8. Consumer Financial Protection Bureau. “What Is Homeowner's Insurance? Why Is Homeowner's Insurance Required?

  9. Heidari Law Group. “What Happens if You Have a Car Accident Without Insurance?

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