Life & Health Insurance Exam (National Portion)General InsuranceMedium
An insurance company's rating system considers factors like the number of claims filed by similar groups, their health history, and occupational risks to determine premiums. This practice is an example of which principle of insurance?
- ALaw of Large Numbers
- BUtmost Good Faith
- CAdverse Selection
- DPrinciple of Indemnity
Show answer & explanationAnswer & explanation
Correct answer: A. Law of Large Numbers
The Law of Large Numbers states that the larger the number of similar exposure units considered, the more accurately the insurer can predict future losses. This allows for reliable premium determination based on statistical averages.
Why the other options are wrong
- B. Utmost Good Faith requires honesty from both parties in a contract.
- C. Adverse Selection is the tendency for higher-risk individuals to seek insurance more often, which insurers try to avoid, not a principle for rating.
- D. Principle of Indemnity aims to restore the insured to their pre-loss condition, not determine premiums.
Law of Large Numbers
A statistical principle stating that as the number of similar exposure units increases, the actual loss experience will approach the expected loss experience.
- Enables accurate loss prediction.
- Forms the basis for actuarial science.
- Crucial for setting equitable premiums.
Memory trick: I.L.A.U. - Indemnity, Law, Adverse, Utmost