Short & long term insurance. What’s the difference?

So what’s the difference? Before we look at the fundamental difference between these two common types of insurance covers, let’s first define the term “insurance”. We don’t want to put the cart before the horse.

Insurance is simply the transfer of the risk. You transfer your risk of loss to an insurer and pay a premium to have that risk insured. It could be the risk of dying, while owing a lot of money on your bond or the risk of having your new expensive LCD TV blow up after a lightning bolt slams into your house. Whatever it is, this risk of loss transference to an insurer is the basis of insurance.

That’s why each and every month you part with some of your hard earned cash to have that brand spanking new silver BMW insured. You can’t afford to run the risk of having your car stolen while still owing the bank R350 000. I mean could you imagine finding yourself strapping on a pair of old dusty Nike running shoes during a particularly freezing Highveld winter and jogging 50km to work every morning while you still pay off a luxury German car you no longer have the pleasure of driving? Forget sheer driving pleasure – that sounds more like sheer hell to me.

You can’t imagine the scenario either, so you transfer the risk of vehicle theft to an insurer and they charge you a premium for undertaking the risk. If you car gets nicked and is not recovered, the insurer pays out the R350 000 and you square off with your bank before get yourself a new car.

Ok, transfer of risk idea is enough to understand, but are there any specific differences between types of insurance? I mean what is the difference between my motor & household insurance contract and my life insurance policy? When guys talk about long and short term insurance, what do those terms mean?

Insurance can be divided into two basic categories. Short and long term insurance. Within each category are a number of different types of insurance. The major, but not defining difference would be that with a long term insurance policy, as the name suggests you are looking to cover an item for the long term and with a short term insurance policy you are covering possessions for the shorter term. Remember that with any type of insurance cover, you are covering either a specific item or a specific eventuality for a period of time.

Ok, so am I suggesting that any item I insure for a long period of time is deemed to be long term insurance? I mean if I insured my house for thirty years does that mean it’s covered under a long term insurance contract because of the time frame it’s been insured for? Long term, means a long period right and 30 years would qualify.

No, not exactly. The time period you are insured for is not what defines the type of insurance. Below is the fundamental distinction between long and short term insurance.

When there is a life being insured it’s deemed to be long term insurance. That’s what you need to remember. When it’s any other item besides a human being that’s being insured, it’s deemed to be short term or general insurance. So while you might have the same house insured under your short term home owners policy for 20 years, because you are not insuring a life, its short term cover even though you might have been paying premiums for 30 years.

Let’s take a look at examples of long & short term insurance policies so you get a better understanding:

John Blogg calls in an insurance consultant because while he has a current motor & household policy in place, he feels that he needs to save some extra money and would like to insure his own life.

John takes out a life insurance policy on his own life that pays out a specified amount of money to his wife should he pass away. This would be deemed to be long term insurance. John himself is the life being insured.

At the same time John decided to take out a 10 year endowment savings policy for his kid’s education. This is a fixed term investment. The endowment savings policy is taken out through the same life insurance company and is also deemed to be a long term insurance product because John is the insured life (a natural person) and again because of the nature of the investment there is a long fixed premium paying term involved.

So even though the endowment policy is an investment through a life insurance company, and John is not actually insuring his life it’s still deemed to be long term insurance because it involves John being the insured party and should he pass away the accumulated monies in the investment will pay out to the nominated beneficiary on the policy.

Let’s look at John’s current motor & household insurance policy. The items currently insured are a BMW (his vehicle) and couches, fridge, television sets, crockery and cutlery (household contents). So you would agree that we are not talking about a person’s life here, but rather general items and therefore this type of cover is going to fall under the short term insurance category.

Now that you know how to determine between long and short term insurance, feel free to comment on this post and look out for my next blog post which deals with a pertinent insurance principle called Indemnity.

Bye for now

Brendan

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Tagged as: Long Term Insurance, Short Term Insurance