What is the purpose of insurance?

While insurance can indirectly reduce the financial impact of certain risks, its primary function is not to decrease the likelihood of loss. Instead, it provides a safety net that mitigates the economic consequences of those risks when they materialize. Thus, reduction of risk is an outcome rather than the core purpose of insurance.

Avoidance of risk involves taking measures to eliminate exposure to potential losses entirely, such as not engaging in certain activities. Insurance does not eliminate risk; rather, it provides a mechanism to deal with losses that occur. Therefore, avoidance is not aligned with the purpose of insurance.

Retention of risk refers to the strategy of keeping the risk and its associated costs within an organization or individual. While some may choose to self-insure or retain certain risks, this approach contrasts with the purpose of insurance, which is to transfer those risks to another party, namely the insurance provider.