Question

Insurance firms earn profits by taking in more premium income than they pay out in policy payments. Firms can increase their spread between premium income and policy payouts in two ways. Discuss two ways that insurance companies earn profits.

Answer 1

Insurance companies earn profits with the help of followings two ways;

1.

First way of is by decreasing future payout for any given level of premium. Under this way an insurance company can decrease the covered risk pool, so that future payout can be minimized or decreased. Hence it will help in maximizing earnings of the insurance companies. Under this way an insurance company will reduce chances of payout with the help of reducing covered risk and quantum of insured money.

2.

Second way is through maximizing interest revenues or dividends revenues on the invested money. As we know that an insurance company makes investment of received premium amount in various securities hence with the help of maximizing returns on such investment insurance company can maximize it profitability.

As insurance company receives premiums normally for long-term, in other words we can say that insurance company does not need to pay whole amount very quickly or in very near future that is why these companies can make investment for long-term and in the higher yield securities, which ultimately will widen the gap between earnings and payout. So as a result these companies can maximize profitability.