Basic Insurance Concepts and Principle Quiz

Events in which a person has both the chance of winning or losing are classified as A. Speculative risk. B. Insurable. C. Pure risk. D. Retained risk.

A. Speculative risk. - Speculative risk involves the chance of gain or loss and is not insurable.

Insurance is a contract by which one seeks to protect another from A. Uncertainty. B. Hazards. C. Loss. D. Exposure.

C. Loss. - Insurance will protect a person, business or entity from loss.

A person who does not lock the doors or does not repair leaks shows an indifferent attitude. This person presents what type of hazard? A. Legal B. Physical C. Morale D. Moral

C. Morale - A morale hazard is someone who has an indifferent attitude towards an insurance company. He is careless or irresponsible because he knows his loss will be covered by insurance.

When an individual purchases insurance, what risk management technique is he or she practicing? A. Avoidance B. Sharing C. Retention D. Transfer

D. Transfer - Insurance is a transfer of the risk of financial loss from a covered peril from the insured to the insurance company.

For the purpose of insurance, risk is defined as A. The uncertainty or chance of loss. B. The certainty of loss. C. The cause of loss. D. An event that increases the amount of loss.

A. The uncertainty or chance of loss. - Risk, or the chance of loss occurring, is the basic reason for buying insurance.

The insurer may suspect that a moral hazard exists if the policyholder A. Always drives over the speed limit. B. Is not honest about his health on an application for insurance. C. Is prone to depression. D. Is indifferent to activities that may be dangerous.

B. Is not honest about his health on an application for insurance. - Moral hazards refer to those applicants that may lie on an application for insurance, or in the past, have submitted fraudulent claims against an insurer.

All of the following are examples of risk retention EXCEPT A. Self-insurance. B. Premiums. C. Deductibles. D. Copayments.

B. Premiums. - Retention is a planned assumption of risk, or acceptance of responsibility for the loss by an insured through the use of deductibles, copayments, or self-insurance.

Adverse selection is a concept best described as A. Risks with higher probability of loss seeking insurance more often than other risks. B. Underwriters slanting the odds in favor of the company. C. Poor choices of applicants to be covered. D. Only offering coverage to good risks.

A. Risks with higher probability of loss seeking insurance more often than other risks. - Adverse selection means that there are more risks with higher probability of loss seeking to purchase and maintain insurance than the risks who present lower probability. Underwriters must guard against this.

Which statement regarding insurable risks is NOT correct? A. Insurance cannot be mandatory. B. The insurable risk needs to be statistically predictable. C. An insurable risk must involve a loss that is definite as to cause, time, place and amount. D. Insureds cannot be randomly selected.

D. Insureds cannot be randomly selected. - Granting insurance must not be mandatory, selecting insureds randomly will help the insurer to have a fair proportion of good risks to poor risks. All other statements are true.

A contract which one party undertakes to indemnify another against loss is called A. Indemnity. B. Insurance. C. Adverse Selection. D. Risk.

B. Insurance. - Insurance is a contract whereby one undertakes to indemnify another against loss, damage, or liability arising from a contingent or unknown event.

A tornado that destroys property would be an example of which of the following? A. A peril B. A pure risk C. A loss D. A physical hazard

A. A peril - A peril is the cause of loss insured against in an insurance policy.

Which of the following is a term for a person who seeks insurance from an insurer? A. Insured B. Beneficiary C. Applicant D. Agent

C. Applicant - The applicant is the person who is seeking insurance from an insurer.

To achieve the profitable distribution of exposures, A. Poor risks and average risks make up the majority of coverage. B. A majority of coverage goes to preferred risks. C. Preferred risks and poor risks are balanced, with average risks in the middle. D. The most coverage goes to average risks and preferred risks, while less goes to poor risks.

C. Preferred risks and poor risks are balanced, with average risks in the middle. - Balancing poor risks and preferred risks with average risks in the middle creates a profitable distribution of exposures.

Following a career change, an insured is no longer required to perform many physical activities, so he has implemented a program where he walks and jogs for 45 minutes each morning. The insured has also eliminated most fatty foods from his diet. Which method of dealing with risk does this scenario describe? A. Retention B. Reduction C. Transfer D. Avoidance

B. Reduction - The insured's change in lifestyle and habits would likely reduce the chances of health problems.

Which law is the foundation of the statistical prediction of loss upon which rates for insurance are calculated? A. Law of large numbers B. Law of masses C. Law of averages D. Law of group evaluation

A. Law of large numbers - The law of large numbers, which states that the larger a group is, the more accurately losses reported will equal the underlying probability of loss, is the basis for statistical prediction of loss upon which rates for insurance are calculated.

The growing tendency of individuals to file lawsuits and to claim tremendous amounts for alleged damages is known as A. Fraud. B. Legal hazard. C. Double indemnity. D. Legal risk.

B. Legal hazard. - Legal hazards arise from court actions which increase the likelihood or size of a loss.

Which of the following is considered to be a morale hazard? A. Working as a firefighter B. Engaging in illegal activities C. Driving recklessly D. Smoking

C. Driving recklessly - Morale hazards arise from a state of mind that causes indifference to loss, such as carelessness.

The risk of loss may be classified as A. Named risk and un-named risk. B. High risk and low risk. C. Pure risk and speculative risk. D. Certain risk and uncertain risk.

C. Pure risk and speculative risk. - Pure risks involve the probability or possibility of loss with no chance for gain. Pure risks are generally insurable. Speculative risks involve uncertainty as to whether the final outcome will be gain or loss. Speculative risks are generally uninsurable.

Hazard is best defined as A. Neglect to communicate a material fact. B. A deliberate attempt to deceive. C. Something that increases the risk of loss. D. The uncertainty of loss.

C. Something that increases the risk of loss. - Hazards are conditions or situations that increase the probability of an insured loss occurring.

The risk management technique that is used to prevent a specific loss by not exposing oneself to that activity is called A. Transfer. B. Reduction. C. Sharing. D. Avoidance.

D. Avoidance. - Risk avoidance is elimination of risk of loss by avoiding any exposure to an event that could give rise to such loss.

Which of the following individuals must have insurable interest in the insured? A. Beneficiary B. Underwriter C. Producer D. Policyowner

D. Policyowner - The policyowner must have an insurable interest in the insured (his/her own life if the policyowner and the insured is the same person), or in the life of a family member or a business partner.

A situation in which a person can only lose or have no change represents A. Speculative risk. B. Adverse selection. C. Hazard. D. Pure risk.

D. Pure risk. - Pure risk refers to situations that can only result in a loss or no change. Pure risk is the only type insurance companies are willing to accept.

Installing deadbolt locks on the doors of a home is an example of which method of handling risk? A. Avoidance B. Transfer C. Self-insurance D. Reduction

D. Reduction - Steps taken to prevent losses from occurring are called risk reduction.

Which insurance principle states that if a policy allows for greater compensation than the financial loss incurred, the insured may only receive benefits for the amount lost? A. Reasonable expectations B. Indemnity C. Stop-loss D. Consideration

B. Indemnity - The principle of indemnity stipulates that the insured can only collect for the amount of the loss even if the policy is written with greater benefit limits.

For the reported losses of an insured group to become more likely to equal the statistical probability of loss for that particular class, the insured group must become A. More active. B. Larger. C. Smaller. D. Older.

B. Larger. - According to the law of large numbers, the larger a group becomes, the easier it is to predict losses. Insurers use this law in order to predict certain types of losses and set appropriate premiums.

All of the following are insurable events as defined in the Insurance Code EXCEPT A. An insured goes to the hospital for a broken arm. B. An insured is sued for libel and slander. C. An insured loses a large sum in a poker game. D. A guest trips and breaks his leg in the insured's house.

C. An insured loses a large sum in a poker game. - Any event, whether past or future, which may damnify a person having an insurable interest, or create a liability against him/her, may be insured against. Speculative losses are uninsurable.

When must insurable interest exist in a life insurance policy? A. At the time of loss B. At the time of application C. At the time of policy delivery D. When there is a change of the beneficiary

B. At the time of application - In life insurance, insurable interest must exist at the time of application.

A set of legal or regulatory conditions that affect an insurer's ability to collect premiums commensurate with the level of risk incurred would be considered a(n): A. Fiduciary risk. B. Legal hazard. C. Underwriting gamble. D. Legal peril.

B. Legal hazard. - Legal hazard is defined as a set of legal or regulatory conditions that affect an insurer's ability to collect premiums commensurate with the level of risk incurred.

Which of the following factors is NOT considered by an underwriter when determining the premium rates for an individual seeking insurance? A. Sex B. Race C. Age D. Medical history

B. Race - Age, medical history, and sex provide sound statistical data for determining the probability of loss. Race, religion, sexual orientation, etc., are some of the factors that cannot be used because there is not sound statistical data to show that they effect the probability of loss; therefore, they are considered to be discriminatory.

All of the following actions by a person could be described as risk avoidance EXCEPT A. Never flying in an airplane. B. Not driving after being in an accident. C. Investing in the stock market. D. Refusing to scuba dive.

C. Investing in the stock market. - Investing in the stock market is not an example of risk avoidance; it creates a possibility of a loss.

An individual was involved in a head-on collision while driving home one day. His injuries were not serious, and he recovered. However, he decided that in order to never be involved in another accident, he would not drive or ride in a car ever again. Which method of risk management does this describe? A. Avoidance B. Reduction C. Sharing D. Retention

A. Avoidance - Avoidance is a method of risk management by which a person tries to eliminate risk of loss by avoiding any exposure to an event that could give rise to such loss. Risk avoidance is effective but seldom practical.

Which of the following is NOT a characteristic of pure risk? A. The loss exposure must be large. B. The loss must be catastrophic. C. The loss must be due to chance. D. The loss must be measurable in dollars.

B. The loss must be catastrophic. - In order to be characterized as pure risk, the loss must be due to chance, definite, measurable, and predictable, but not catastrophic.

Not all losses are insurable, and there are certain requirements that must be met before a risk is a proper subject for insurance. These requirements include all of the following EXCEPT A. The loss must not be catastrophic B. There must be a sufficient number of homogeneous exposure units to make losses reasonably predictable. C. The loss produced by the risk must be definite. D. The loss may be intentional.

D. The loss may be intentional. - To insure intentional losses would be against public policy.

According to California Insurance Code, which of the following can be classified as an insurable event? A. Pure risks B. Unpredictable losses C. Speculative risks D. Extreme levels of loss

A. Pure risks - Any event, whether past or future, which may damnify a person having an insurable interest, or create a liability against him/her, may be insured against. The more predictable a loss, the more insurable it becomes. Only pure risks are insurable. Speculative losses are uninsurable.

In case of a loss, the indemnity provision in insurance policies A. Allows the insured to collect 20% more than the actual loss. B. Pays the insured a percentage of the loss above and beyond the loss. C. Pays the insured as much as 95% of the loss. D. Restores an insured person to the same financial state as before the loss.

D. Restores an insured person to the same financial state as before the loss. - Indemnity (sometimes referred to as reimbursement) is a provision in an insurance policy that states that in the event of loss, an insured or a beneficiary is permitted to collect only to the extent of the financial loss, and is not allowed to gain financially because of the existence of an insurance contract.

Peril is most easily defined as A. Something that increases the chance of loss. B. The cause of loss insured against. C. An unhealthy attitude about safety. D. The chance of a loss occurring.

B. The cause of loss insured against. - Perils are the causes of loss insured against in an insurance policy.

If a loss occurs, insurance policies pay the proceeds to A . Beneficiary B. Applicant C. Insurer D. Agent

A . Beneficiary - The beneficiary is the person who receives the benefits from the insurance policy.

What do individuals use to transfer their risk of loss to a larger group? A. Insurable interest B. Exposure C. Indemnity D. Insurance

D. Insurance - Insurance is the mechanism whereby an insured is protected against loss by a specified future contingency or peril in return for the present payment of premium. Because many other individuals with the same or similar risk of loss are paying premiums, funds are available to indemnify those who actually suffer that loss.

Insurance is the transfer of A. Loss. B. Hazard. C. Peril. D. Risk.

D. Risk. - Insurance is the transfer of financial responsibility associated with a potential of a loss (risk) to an insurance company.

The legal definition of "person" would NOT include which of the following? A. A corporation B. A family C. An individual human being D. A business entity

B. A family - A person is a legal entity which acts on behalf of itself, accepting legal and civil responsibility for the actions it performs and making contracts in its own name. Persons include individual human beings, associations, organizations, corporations, partnerships, and trusts.

What is the term for the fee a policyowner must pay to the insurance company to maintain coverage? A. Premium B. Installment C. Commission D. Benefit

A. Premium - The premium is what a policyholder pays the insurance company for insurance coverage.

Profitable distribution of exposures serves the purpose of A. Preventing the insurer from being estopped. B. Helping the insurer determine payable benefits. C. Protecting the insurer against adverse selection. D. Helping the insurer select only the ideally insurable risks.

C. Protecting the insurer against adverse selection. - A profitable distribution of exposures exists when poor risks are balanced with preferred risks, with the standard risks in the "middle." The purpose behind distributing risks in this manner is to protect the insurer from adverse selection.

Units with the same or similar exposure to loss are referred to as A. Law of large numbers. B. Homogeneous. C. Catastrophic loss exposure. D. Insurable risks.

B. Homogeneous. - The basis of insurance is sharing risk between a large homogeneous group with similar exposure to loss.

Which of the following insurance options would be considered a risk-sharing arrangement? A. Reciprocal B. Stock C. Mutual D. Surplus lines

A. Reciprocal - When insurance is obtained through a reciprocal insurer, the insureds are sharing the risk of loss with other subscribers of that reciprocal.

The insurer must be able to rely on the statements in the application, and the insured must be able to rely on the insurer to pay valid claims. In the forming of an insurance contract, this is referred to as A. Utmost good faith. B. Reasonable expectations. C. A warranty. D. Implied warranty.

A. Utmost good faith. - The insurer must be able to rely on the statements given by the insured in the application. The insured must be able to rely on the insurer's promise to pay covered losses.

Which of the following is the most common way to transfer risk? A. Name a beneficiary B. Purchase insurance C. Increase control of claims D. Lessen the possibility of loss

B. Purchase insurance - The most effective way to handle risk is to transfer it so that the loss is borne by another party. Insurance is the most common method of transferring risk from an individual or group to an insurance company.

If an applicant for a life insurance policy and person to be insured by the policy are two different people, the underwriter would be concerned about A. Which individual will pay the premium. B. Whether an insurable interest exists between the individuals. C. The gender of the applicant. D. The type of policy requested.

B. Whether an insurable interest exists between the individuals. - An insurable interest must exist at the time the policy is issued. Some relationships are automatically presumed to qualify as an insurable interest, e.g., spouses, parents, children and certain business relationships.

Which of the following statements is NOT true concerning insurable interest as it applies to life insurance? A. A husband or wife has an insurable interest in their spouse. B. An individual has an insurable interest in his or her own life. C. A debtor has an insurable interest in the life of a lender. D. Business partners have an insurable interest in each other.

C. A debtor has an insurable interest in the life of a lender. - A lender has an insurable interest in the life of a debtor, but only to the extent of the debt. The debtor does not have an insurable interest in the life of the lender.

Which of the following is NOT an example of insurable interest? A. Employer in employee B. Child in parent C. Debtor in creditor D. Business partners in each other

C. Debtor in creditor - The three recognized areas in which insurable interest exists are as follows: a policyowner insuring his or her own life, the life of a family member (relative or spouse), or the life of a business partner, key employee, or someone who has a financial obligation to them. A debtor does not have an insurable interest in the creditor.

An individual's tendency to be dishonest would be indicative of a A. Pure hazard. B. Physical hazard. C. Moral hazard. D. Morale hazard.

C. Moral hazard. - An applicant that is dishonest in completing an application for insurance or submitting fraudulent claims would be deemed a moral hazard and could be uninsurable from an underwriting standpoint.

What describes a situation when poor risks are balanced with preferred risks, and average risks are in the middle? A. Equitable spread of risk B. Ideally insurable risk C. Profitable distribution of exposures D. Adverse selection

C. Profitable distribution of exposures - The profitable distribution of exposures is achieved when poor risks are balanced with preferred risks, and average risks are in the middle.

Which of the following is NOT a goal of risk retention? A. To increase control of claim reserving and claims settlements B. To fund losses that cannot be insured C. To minimize the insured's level of liability in the event of loss D. To reduce expenses and improve cash flow

C. To minimize the insured's level of liability in the event of loss - Retention usually results from three basic desires of the insured: to reduce expenses and improve cash flow, to increase control of claim reserving and claims settlements, and to fund losses that cannot be insured.

What describes a situation when poor risks are balanced with preferred risks, and average risks are in the middle? A. Adverse selection B. Equitable spread of risk C. Ideally insurable risk D. Profitable distribution of exposures

D. Profitable distribution of exposures - The profitable distribution of exposures is achieved when poor risks are balanced with preferred risks, and average risks are in the middle.