When buying an insurance policy, is it necessary to analyze the credit risk of the insurance company?

Question

When saving money in a bank, one does not have to worry about credit risks of the bank because there is deposit insurance. When buying insurance, do I have to worry about the credit risk of the insurance company?

Do I have to pore over an insurance company's financial statements to determine whether or not it is safe for me to buy an insurance policy? How can I be assured that the insurance company will be able to honor its agreements if I do not inspect its financial statements? My fear is that when the insurance company goes bust, I lose the premium I paid along with the insurance coverage.

Answer 1

When buying an insurance policy in the USA, the state has mechanism to guarantee $100,000 to $500,000 payout depending on the type of policy.

https://www.nolhga.com/policyholderinfo/main.cfm/location/insolvencyprocess

The practice is similar in other jurisdictions around the world.

Furthermore, there is Re-insurance involved, i.e. your insurance company actually buys part of your policy from other insurance company (e.g. Swiss Re, Munich Re, Gen Re, Lloyd's, China Re). Your insurance company is mainly responsible for marketing and customer service.

In the event of a catastrophic failure of a (re)insurance company, the government may voluntarily bail out, see AIG Bailout 2008.

Answer 2

I think, to be on the safer side, you should look into the company's financial statement before you make a decision. There are three important indicators that you can look at to help determine an insurance company’s financial strength and stability. These factors are net income, combined ratio and policyholder surplus. Net income is a company’s total earnings. It is calculated by subtracting total expenses from total revenues. If the number is positive, there is profit. If the number is negative, there is a loss. A combined ratio is a measure used by insurance companies to help determine their profitability. The ratio is calculated by taking both losses and expenses and then dividing them by the premium. To make it a bit easier to understand, all you really need to know is that a ratio below 100 percent indicates the company is making an underwriting profit. In comparison, a ratio above 100 percent means the company is paying out more in claims than the premiums it is taking in. Policyholder surplus is the difference between an insurance company’s assets and its liabilities. In the simplest of terms, it’s an insurance company’s net worth. Also, seek the guidance of a qualified insurance broker who is open for a free consultation before you make your decision.