What Is Life Insurance?

Purpose of life insurance

What is life insurance and where did it come from? Today we’re going to answer that and why you should care, because it might be the most important purchase you make for your family or business.

What is life insurance?

Life insurance can be defined as a type of insurance that will pay a death benefit when someone dies. It’s that simple.

Now you need to understand that simple explanation is a bit more complicated today. To understand how life insurance is used today, we need to look how it all started. Why? Well life insurance might be the oldest kind of insurance or financial products available to you. It got its start from an old time principle of helping your neighbor. Centuries ago, when someone’s house was destroyed- the village helped their neighbor and came together to build a new home.

How life insurance started

Life insurance started out using this same concept which was called the tontine annuity system. You probably never heard of this system, but it got its name from a banker named Lorenzo Tonti. He was a banker born in Italy in 1602, the Tontine System was a new concept that used the law of averages and life expectancy in order to set up annuities.

With the tontine system, individuals came together and formed associations. These associations were created without mentioning ages, but each member paid into the overall fund with an equal contribution. The contribution total was placed into an investment which produced interest and a dividend for the surviving members each year. This dividend would occur annually until there was one remaining survivor. They would receive not only the dividend, but also what was left or remaining of the principal.

A life insurance change was needed

The initial tontine system was great, but it was soon realized that there were some flaws with how it worked. The sum of money that members wanted to insure was starting to rise. This was potentially very risky for everyone. To help decrease this risk potential- the law of large numbers was implemented. This was the beginning of actuaries.

Actuary beginnings

The need to decrease risk brought about the profession of an actuary. An actuary can be defined as a professional who measures and manages uncertainty, risk, premiums, dividends and a bunch of other variables. The actuarial science that they implement helps them to create actuarial tables. These tables show them the likelihood that a person of a specific age dying before their next birthday.

By using the law of large numbers, the risk would not be as great for the insurers. So when you factor in a bigger number of people insured to the risk of dying – there will be less risk because it is spread out over the number of people insured. In other words, more people buying insurance means more money collected in premiums. In theory, when someone eventually dies- it won’t be a big deal financially to all the other people who bought the insurance.

What Is Life Insurance?

The purpose of life insurance

It’s important to remember that the main purpose of a life insurance policy is to protect you (or your family) from financial disaster. When you and everyone else buys life insurance, you’re protected against this potential disaster. This happens because when the loss from the unfortunate few (the minority that have died)- a death benefit is paid by the majority (the remaining members paying premiums).

This is the main principal of insurance. Spreading the risk over a large pool of members to cover the loss of a few.

Life insurance is a tool

Like many other financial products that are available to you, life insurance is a tool to help you with a goal or specific problem. There are many goals that life insurance can now help solve.

The most popular goal is to help protect your beneficiary from a major financial loss when the insured dies. It helps protect your family from things such as:

  • Final expenses
  • Medical treatment
  • Your debts
  • Possible estate taxes
  • Your future income

If you’re the breadwinner in your family, life insurance will help make sure your family’s lifestyle can remain stable. Without it, your family’s way of life would be turned upside down not just from your death, but also because of the loss of your income. This can have a significant effect on your family. Your life insurance policy will help make an instant financial resource for your family to pay for all of the issues listed above.

Buying life insurance

Now you have a better understanding of life insurance, where it started and why you should have it. The next step is understanding the easiest way to buy it.

For most, buying life insurance is an uncomfortable purchase for a couple reasons. You have to think about your mortality and you have to figure out which company and product is best. Life Insurance Blog can help you find the best companies and all of your options.

About Life Insurance Blog

At Life Insurance Blog, our focus is to provide you the best life insurance options. We help shoppers like you find an affordable life insurance policy with the best life insurance companies. We have access to dozens of the best companies & saved shoppers thousands of dollars over the life of their policies.

Thank you for reading our post, What is life insurance? If you’d like to learn more please read our other articles from our Life Insurance 101 page.

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Michael Quinn

Michael Quinn

Michael Quinn is the owner of Life Insurance Blog. Please email or call us at 888-411-1329. We're here to answer your questions & help you get the best policy available.