What is Insurance? A Comprehensive Guide

From health insurance to homeowner’s insurance, there are an endless number of insurance protections that you might want to consider purchasing to protect you and your family. Insurance policies help you cover unexpected bills and expenses in the event of an accident, emergency or illness. While most people know that they should have some type of insurance coverage, many do not understand exactly what their insurance policy covers and the many insurance-specific terms used to describe benefits.

Read on to learn more about some of the most common types of insurance policy options you’ll see and who may want to consider purchasing them. You’ll also learn more about some of the most common terms and definitions you’ll need to understand when you purchase your next policy. 

What is Insurance?

Insurance is a type of protection that helps you cover the costs of damage, bills or losses under a specific set of circumstances. Each month, you pay your insurance provider a set amount of money (referred to as a “premium”), and your insurance provider helps you cover bills or losses that are specified in your policy should they occur while your policy is active. 

An insurance contract is an agreement between you and an insurance company that lays out when you can use your coverage and how much money the insurance provider will pay out under each covered circumstance. 

Key Components of an Insurance Policy

The following components are important to your insurance policy in some way or another. Some of these components help determine the rate you’ll pay for insurance while others determine the type of coverage you are eligible for. 

• Premium
• Deductible
• Aggregate or policy limit
• Risk assessment
• Underwriting
• Annual maximum
• Copay
• Claim
• Coinsurance
• Credit-based insurance score
• Waiting period
• Inclusions and exclusions 
• Covered or named perils/events
• Rider

Important Terms and Definitions

Now that you understand the basics of what an insurance policy is and why you might need one, let’s take a look at a few of the most common insurance-related terms you’re likely to encounter when you shop for a policy. 

What is a premium?

Your insurance premium is the amount of money that you must pay each month in order to keep your insurance coverage current. Your insurance premium is due every month, regardless of whether or not you file a claim during a particular month. Depending on the type of insurance you have and how you’re using your policy, your premium may go up, down or remain the same when you renew your contract. 

What is a deductible?

An insurance deductible is a set dollar amount that you must spend on restoration costs before your insurance “kicks in” and begins covering your bills. If your insurance policy has a $0 deductible, it means that your benefits go into effect immediately.

For example, imagine that you have an auto insurance policy with a $200 deductible, and you receive a bill for $1,000 after an accident. In this instance, you would be responsible for covering the first $200 of this bill out-of-pocket. Your insurance will help you cover the cost of the remaining $800 on the bill in accordance with your policy terms.

What is a policy limit or aggregate?

Your policy limit (sometimes referred to as a “policy aggregate limit”) is the maximum amount of money that your insurance provider will pay out for covered losses within a single policy period, which is usually 1 year. For example, if your policy has an aggregate limit of $1 million, it means that your insurance provider will not pay more than $1 out for all covered damages in a single policy term.

Not every type of insurance includes aggregate limits. For example, thanks to regulations put in place by the Affordable Care Act (ACA) health insurance providers can no longer cap the amount of money that they will pay out for treatment.  

What is an annual maximum?

If you have dental insurance, your policy will likely include an annual maximum benefit. An annual maximum is the total amount of money that an insurance provider will pay out toward a member’s care or treatments within a single year.  

In the context of health insurance, an “annual maximum out-of-pocket limit” is a cap on the total amount of money that you can spend towards your healthcare costs. Your out-of-pocket limit includes copays and coinsurance percentages. Once you reach your annual maximum out-of-pocket limit, your insurance will cover 100% of your care costs. Some plan providers simply refer to this as an “out-of-pocket limit.” 

What is a copay?

A copay is a fixed amount that you pay towards a covered healthcare service after you have met your deductible. For example, imagine that you have a health insurance plan that includes a $20 deductible for doctor’s office visits and your doctor charges $100 for an office visit. If you have already met your deductible, the visit will cost $20, which is your copay. If you haven’t met your deductible, you’ll pay the full $100.

What is a credit-based insurance score?

A credit-based insurance score is a risk-assessment rating that insurers assign to you based on your credit history and information. Consumers who have higher credit scores are statistically less likely to commit insurance fraud, meaning that those with advantageous credit-based insurance scores enjoy lower rates. Some states do not allow insurance providers to change your premiums or cancel coverage based on your credit history. 

What is a claim?

An insurance claim is a formal request that you make to your insurance company asking that the company pay for something or reimburse you for a bill covered under your policy. When you use your insurance coverage, you “file a claim” with your insurance provider. 

What is a waiting period?

A waiting period is a set length of time that must pass from the date that you sign up for insurance coverage before you can use your plan’s benefits. For example, if an insurance plan has a 30-day waiting period, you cannot file a claim for the first 30 days when your policy is active. 

What is coinsurance?

Coinsurance is a set percentage of care costs that you’ll pay after you meet your plan’s deductible. For example, imagine that you have an insurance plan that includes a 30% coinsurance percentage and you get a doctor’s bill equal to $100. If you’ve already met your plan’s deductible, you’d be responsible for paying 30% of this bill ($30) out-of-pocket. Your insurance provider will cover the remaining 70% of the bill.

What is a risk assessment?

An insurance risk assessment is a process that a company uses to determine the likelihood that you will need to file an insurance claim in the future. If you’re at a higher risk of needing to use your insurance coverage, most insurance companies will charge you a higher premium to maintain your policy.

What is underwriting?

Underwriting is a process in which an insurance or loan company takes a look at your finances, your claims history and your personal information in order to determine whether you qualify for an insurance policy or a loan. Some factors that underwriters may consider when determining if you qualify for coverage or a loan include current loan balances, your credit history and assets that you own. 

What are inclusions and exclusions?

Inclusions and exclusions are clauses found within your insurance contract that dictate when you can and cannot use your insurance coverage. Inclusions are covered under your policy while exclusions are not. For example, a dental insurance policy might include inclusions for fillings and cleanings but an exclusion for teeth whitening.

What are covered or named perils?

Named perils are specific instances under which you can use your homeowner’s insurance coverage to help you repair the damage. Some examples of common named perils found under homeowner’s insurance policies include fire damage, burglaries and damage from windstorms.

What is a rider?

A rider is a clause that you add to your insurance policy to extend the limits of your insurance coverage. For example, most homeowner’s insurance policies may include a limit on the total amount of money that you can claim in the event that a piece of jewelry is stolen during a break-in. 

If you want extra coverage for an expensive item of jewelry you own, you can purchase a rider that covers the total value of the item you’re insuring. Each rider that you add to a policy increases its monthly cost.   

Main Types of Insurance

The difference between each type of insurance is what exactly is covered under each policy. Let’s take a look at some of the most common types of insurance coverage options you might consider purchasing.     

Health insurance

Health insurance is a type of insurance plan that helps you cover the cost of medical bills. New regulations set in place by the ACA have refined health insurance options and opened coverage to more individuals. For example, under ACA-compliant health insurance plans, an insurance provider cannot deny you coverage because you have a pre-existing condition when you sign onto your plan.

The ACA also established a list of “essential benefits” that your health insurance provider must cover. The 10 essential benefits include:

• Ambulatory patient services received without being admitted to a hospital
• Emergency services
• Hospitalization, surgeries and overnight stays in a hospital
• Pregnancy, maternity, and newborn care
• Mental health and substance use disorder services, including behavioral health treatment
• Prescription drugs
• Rehabilitative and habilitative services and devices
• Laboratory services
• Preventive and wellness services and chronic disease management
• Pediatric services, including oral and vision care

There are specific times when you can enroll in an individual or family health insurance plan. Comparing your options before the Open Enrollment period arrives can ensure that you sign up for coverage when it is available to you.

In some states, you may be able to buy a short-term health insurance plan. Short-term health insurance providers are not subject to the rules of the ACA and may deny coverage for many of the essential benefits. Short-term health insurance plans are not sold in every state, and states that do allow them to be sold set strict limits controlling how long you may be on this plan.

Common types of health insurance: 

• Health maintenance organizations (HMOs)
• Preferred provider organizations (PPOs)
• Exclusive provider organizations (EPOs)
• Point-of-service (POS) plans
• High-deductible health plans
• Short-term health insurance plans

Dental Insurance

The ACA does not require insurance providers to cover the majority of dental care services for adults on any health insurance plan. Dental insurance is a separate insurance policy that helps you cover the costs of dental care. It includes its own premium and deductible.  

Common types of dental insurance: 

• Dental Preferred Provider Organization (DPPO)
• Dental Health Maintenance Organization (DHMO)
• Dental Indemnity
• Dental Exclusive Provider Organization (DEPO)
• Dental Point of Service (DPOS)

Vision insurance

Like dental care, vision care services are not considered essential benefits for adults under the rules of the ACA. Vision insurance is a separate policy that helps you cover the costs of vision exams, eyeglasses, contact lenses and other sight-related needs.

Common types of vision insurance:

• Health maintenance organizations (HMOs)
• Preferred provider organizations (PPOs)

Auto insurance

Auto insurance is coverage that helps you pay for costs associated with damage following an automobile accident. In most states, you are required to carry a set amount of “liability coverage,” which compensates anyone whose property you damage or who you injure during an accident. 

Liability coverage does not offer you any benefits as the driver of the vehicle, but you may add optional collision and comprehensive coverage to help cover the cost of damage to your own vehicle.  

Common types of car insurance: 

• Liability coverage
• Collision coverage
• Comprehensive coverage 
• Uninsured and underinsured motorist coverage
• Medical payments coverage
• Personal injury protection (PIP) coverage

Motorcycle Insurance

Motorcycle insurance is a type of coverage that compensates anyone who you injure or whose property you damage during a motorcycle collision. Like auto insurance, you must have a certain level of motorcycle liability insurance in order to remain on the road legally in most states.  

Common types of motorcycle insurance:

• Liability coverage
• Collision coverage
• Comprehensive coverage 
• Uninsured and underinsured motorist coverage
• Medical payments coverage
• Personal injury protection (PIP) coverage

Life insurance

Life insurance compensates people, businesses or charities (called your policy’s “beneficiaries”) in the event that you die when your policy is active. A life insurance policy can help pay for living expenses for children and spouses after you pass. Your life insurance coverage may be valid for a limited amount of time or indefinitely depending on the type of coverage you choose. Some types of life insurance policies also accumulate a cash value, which you can access while you are alive.     

Common types of life insurance: 

• Term life insurance
• Whole life insurance
• Universal life insurance
• Variable life insurance

Homeowners Insurance

Homeowner’s insurance is a type of coverage that compensates you for damage that occurs to your home. This type of insurance policy will include a list of “covered perils” that you can claim a payout due to damage. 

Some examples of common covered perils on homeowner’s insurance policies include fires and burglaries. While homeowner’s insurance is not required by law in the same way that auto insurance is, your mortgage lender may require you to invest in a policy as a condition of taking out a loan.

Common types of home insurance:

• Homeowner’s insurance (including both property damage and liability coverages)
• Flood insurance
• Earthquake insurance

Landlord insurance

Landlord insurance is a type of homeowner’s insurance policy that covers a real estate investment property that you rent out to tenants. Landlord policies provide similar coverage as homeowner’s insurance policies but cover properties where you are not the occupant of the space.

Common types of landlord insurance:

• Coverage for property damage
• Coverage for damage or incurred to personal property that you use to maintain the rental space
• Liability coverage

Renters insurance

If you rent an apartment or a home, you might want to purchase renters insurance. Rente’s insurance provides you with liability protection in the event that someone is injured in your home as well as protection for your personal property.

Renters insurance is not the same thing as landlord insurance. While landlord insurance covers the physical structure of the building you live in, renters insurance covers things that you own as a tenant. Most policies also include coverage for additional living expenses in the event that you must temporarily move out of your current space due to damage. 

Common types of renters insurance:

• Personal property
• Liability insurance 
• Additional living expenses

Business/commercial insurance

The term “business insurance” refers to a range of insurance protections that you might need as a business owner. Some types of business insurance are required by law depending on the structure of your business and where you live while others provide optional protections. For example, you may be required to purchase worker’s compensation coverage as soon as you hire your first employee. 

Common types of business insurance: 

• General liability insurance
• Commercial property insurance
• Business income insurance
• Professional liability insurance
• Business owner’s policy (BOP) coverage
• Worker’s compensation insurance
• Data breach insurance
• Commercial auto insurance 

Travel insurance

Travel insurance is a type of protection that safeguards you against losses associated with vacations or other types of travel. These risks range from minor inconveniences (like delayed luggage) to major setbacks that force you to cancel or postpone your trip (like a death in the family). 

Common types of travel insurance:

• Comprehensive trip insurance 
• Travel medical insurance
• Evacuation insurance 

Collectibles Insurance

Collectibles insurance is a unique way to protect everything from jewelry to art and collectible items like sports memorabilia. These companies cover a range of products, and they often allow you to handle your policy online. This is especially helpful when your homeowners insurance may not cover your collectibles at the level you require. For example, you can try WAX Insurance, seek out a quote online and cover everything from art to firearms, action figures, comic books, fine spirits and more.

Other Types of Insurance

Though these are the primary types of insurance, there are additional insurance policies that you might want to consider for more unique circumstances or situations. 

Professional liability insurance

Professional liability insurance is a type of business insurance that protects you against claims of negligence made against you within your line of work. For example, if a client or customer accuses you of inadequately or unsafely providing services within your industry, professional liability insurance will help you cover the cost of defending yourself in court. It will also usually cover any court-ordered costs you’re required to pay. 

Personal liability insurance

Personal liability insurance is a type of coverage that helps you cover legal expenses if someone sues you after being injured on your property. For example, if a plumber slips on a broken step and breaks his ankle, he may sue you for the cost of medical bills. In this circumstance, your personal liability insurance will help cover court-related expenses and judgments you’re ordered to pay. Personal liability insurance is included with homeowners’ and renters’ insurance policies.

Umbrella insurance

Umbrella coverage is a type of add-on protection that extends the limits of your liability insurance. You can add umbrella coverage to almost any type of insurance that includes liability coverage, like your homeowner’s or professional liability insurance. 

Disability insurance

Disability insurance is a financial protection that safeguards your ability to make a living. If you become disabled or cannot work, disability insurance replaces a percentage of your monthly income. You can use the payouts from disability insurance in any way you want, including covering medical bills or the cost of living. 

Gap insurance

Gap insurance is an optional add-on that you can purchase alongside your auto insurance policy. In the event that your car is totaled, gap insurance will help you pay for the difference between the current value of your vehicle and anything you owe on your outstanding auto loan.  

Workers’ compensation insurance is a type of business insurance that compensates your employees in the event that they are injured while performing work-related duties. Payments from worker’s compensation insurance can help employees cover missed wages, pay off medical bills or retrain for a new career in the event of permanent disability. Workers’ compensation laws vary by state, and you may be legally required to purchase a policy is you have 1 or more part-time or full-time employees.

E&O insurance stands for “errors and omissions” coverage. It is another name for professional liability insurance, and it protects you from claims of negligence made against you as a business owner. 

Hazard insurance

The term “hazard insurance” most often refers to coverage for damage occurring from specific perils outlined in a property insurance policy. While the term “homeowners insurance” encompasses both dwelling coverage and liability insurance, hazard insurance refers to damages that are incurred to the physical structure of your property. Some of the most commonly covered hazards include theft, fire, hail and vandalism. 

Accidental death and dismemberment (AD&D) insurance is a type of insurance protection that provides a payout for the insured party in the event of an accidental death. An AD&D insurance policy will also provide you with a payout in the event that you lose a limb or 1 of your major bodily functions (for example, sight or hearing) as the result of an accident. 

How to Compare Insurance Plans

When comparing insurance plans, there are a wide variety of factors that you’ll need to consider, including the following.

• Premiums: Your monthly premium is due every month, no matter what type of coverage you’re purchasing. Your insurance provider can cancel your coverage if you begin missing premiums, so it’s important that you know that you can continue to pay your premiums for the foreseeable future before you sign on for coverage.
• Deductible: Most types of insurance come with a deductible that you must meet before you can begin using your insurance benefits. Choosing a higher deductible can help you pay less for your coverage per month, but you should always choose a deductible that you know you’ll be able to pay off in the future.
• Local availability: Not every insurance provider is authorized to offer policies in every state. Before you choose which insurance company you want to work with, be sure that the provider is able to offer coverage where you live.

Be sure to completely read the terms of your policy before you sign on for coverage. Never sign onto an insurance policy before you’ve had the opportunity to thoroughly read and understand your contract. 

How to Buy the Right Policy

Though buying a policy might seem intimidating, it’s never been easier to know your coverage options and sign up for protection. Though the specific process that you’ll go through when you sign up for coverage will vary depending on the specific insurance provider you’re working with, you can expect to follow these basic steps.  

• Compare quotes: Every provider has its own underwriting process. This means that it’s possible to find the exact same coverage from 10 different insurance providers at 10 completely different price points. Getting a quote from multiple providers in your area can help ensure that you aren’t overpaying for coverage.
• Contact your insurance company: If you’d like to speak with a representative, you should contact your insurance company before you sign up for coverage. A local representative can help you better understand local laws concerning auto and worker’s compensation insurance.
• Sign onto a policy: Depending on the type of insurance you’re buying, you may be able to instantly get coverage online after requesting a policy. Be sure to completely read the terms of your policy and know exactly what is and isn’t covered before you confirm your coverage.

If you have any questions about your insurance policy, don’t be afraid to reach out to an insurance agent before you buy coverage.

Protect Yourself With the Right Coverage

Now that you understand that there are multiple types of insurance coverage, it’s time to assess your individual needs and begin comparing coverage options by getting multiple quotes from insurance providers. No matter if you’re looking for a comprehensive auto insurance policy or the best renters insurance available in your area, getting at least 3 quotes helps you pay less for coverage.

Frequently Asked Questions