You pay for your auto insurance policy just in case you have an accident. If you do have an accident, then you expect your insurance company to pay for the damages based on your policy terms. With so many auto accidents in the news in California, you may wonder how an insurance company makes its money.
One serious accident can often cost the company much more than what you pay in premiums each year or even for multiple years. If accidents happen too often, you may wonder how the company avoids running out of money. How Stuff Works explains that insurance companies have a model that allows them to make a profit regardless of the number of claims its policyholders make.
The first part of the model is to put limits in place for various payouts. If you get into an accident and make a claim, then your policy determines how much the insurer will pay for your accident. It may not cover all of your expenses. By placing limits, the company can make sure that it never pays out too much on any one accident claim.
Your insurer will group you with similar customers. In your risk group, if one person has an accident, the funds come from everyone in the group to ensure there is enough to pay for the claim. Ideally, the company arranges these groups so they have a low risk that anyone would make a claim.
The last part of the model is investing some of the money from premiums. This allows the company to earn money and develop long-term strategies for making more from the existing finances. Banks do a similar thing to ensure profits.
With this three-step model, your insurance company can make a nice profit from your business. This also allows for you to have an assurance that if you make a claim, the company can afford to pay it.