Difference Between Insurance and Reinsurance Explained

Both insurance and reinsurance policies are critical risk management tools that provide significant coverage to individuals and companies against insured products. Though in both cases, the policyholder must pay premiums, their primary difference lies in their applicability. 

This article will discuss the difference between insurance and reinsurance and try to understand which will be better for hedging substantial financial losses.

Insurance involves a contract duly signed by a person or firm to hedge against financial loss ushered by an unforeseen event. For instance, you may buy life insurance to safeguard your family’s future in case of an untimely death. Similar to life insurance, there are other insurance policies, like health insurance, car insurance, etc., all of which fall under the general insurance category. 

These are a few general insurance policies:

1. Health Insurance

You can buy health insurance plans for yourself or to safeguard each family member. The insurer promises to pay for the medical expenses arising out of illness, abrupt injury, etc., as long as you pay the defined premiums. 

Moreover, apart from medicinal costs, insured individuals are eligible to receive aid against hospital bills and doctor consultancy charges as and when applicable. 

2. Home Insurance

3. Motor Insurance

Active comprehensive motor insurance bears the incidental damage costs of your vehicle and that of the other involved party for a period during which you pay premiums. It is recommended to buy one comprehensive policy as driving on Indian roads is full of risk and uncertainty. 

However, per the Motor Vehicles Act, one must buy third-party vehicle insurance mandatorily to ensure that the insurer can furnish compensation immediately if they inflict damage on someone else. 

Reinsurance plans are designed to manage the probable risks of insurance companies. Reinsurers are separate companies with traditional insurance providers as clientele, whose business models are susceptible to high risk and may even bring a situation of bankruptcy. 

Some common forms of reinsurance include the following:

1. Reinsurance Treaty

2. Facultative Coverage

As per potential risks in a business, a primary insurance company can purchase facultative reinsurance and later share the premiums with companies offering the same protective tools. Here, the reinsurer can allocate the coverage among multiple companies. Though the ceding company decides the value of insured risks, the reinsurer is also actively involved in the decision-making process.

As we have developed an underlying concept of these protective tools, it will be easier to understand the difference between reinsurance and insurance.