How Does A Car Insurance Company Make Money?

A car insurance company typically makes money by selling the mandatory policy and the additional types of coverage.

Most American states require some minimum form of auto insurance. Insurance companies don’t make a lot of money off selling liability coverage, as the competition is harsh (everybody sells the minimum insurance these days), prices are low and profit margins are minimum. Insurers do, however, use the liability insurance as a way to attract new customers and up-sell them other products.

Collision and comprehensive coverage, on the other hand, cost a couple of times more than the mandatory liability insurance for technically the same type of protection – a car and its passengers. Margins are much higher, and a huge part of an insurer’s profits comes from these types of insurance.

It may seem that an insurer who pays for a totaled car loses money, because whatever the at-fault party has paid in premiums is much less than the vehicle’s current value. The value of the car, however, is spread across a more customers who never had a claim and probably never will. Let’s assume that one in thirty customers have a total wreck once a year and the average reimbursement is of $25,000. If each customer pays an average of $1,000, which is less than the industry averages, the company still makes a gross profit of $5,000.

Last, but not least, deductibles protect the insurer against minor damages that are both time consuming and frequent. Given the average deductible of around $500 – more than the usual repair cost of a fender bender – the insurance company doesn’t even have to bother with minor accidents. Moreover, a lot of customers choose to pay for slightly more expensive repairs on their own, because filing for a claim might increase their premium.