What is Assurance?

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Definition:

Assurance most often refers to financial protection that covers an event that is certain to happen, although it is unclear when the event will happen.

🤔 Understanding assurance

In finance, assurance usually refers to a select type of policy that protects the covered individual from something sure to happen. Conventionally, it is a permanent policy that pays a death benefit. Because everyone eventually dies, an assured payment will occur at some point. The word assurance can also refer to a service provided by professionals who double-check someone's work. In some situations, a financial assurance might mean that a parent company or financial backer is providing a guarantee that an inevitable obligation will be completed. In other cases, a letter of assurance is a pledge or guarantee of some future action.

Example

The most common type of assurance is called a whole life policy. When you take out such a plan, your beneficiary receives a sum of money at the end of your life. Because no one lives forever, the company selling your policy is assured that they will be called upon to make the payment as long as premiums (payments) are made per contract. The only question the company has is when that will happen.

Takeaway

Assurance is like skydiving…

When you get up in the air, you can rest assured that gravity still works. So, when you jump out of an airplane, there is no question that you will end up on the ground. Hopefully, your parachute opens, and the fall is controlled, so that when you reach the ground, you do so safely.

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What is the difference between assurance and insurance?

With insurance products, you pay a premium so that someone else takes a risk for you. For example, the financial risk of a fire burning down your house gets shifted to an insurance company in exchange for a monthly payment.

As long as your policy is up to date, the insurance company will pay to rebuild your home. But your insurance needs are only met during the life of the plan. If you don't take out a new policy after the old one expires, you have no coverage. The premiums you paid don't entitle you to anything after expiration.

Similarly, you probably have auto insurance. It might protect you from the financial consequences of hitting someone else's car. Or it might cover the repairs to your vehicle if someone without insurance hits it. The same is true with health insurance. If you get sick, the insurance company covers the bill and protects you from the financial difficulty that would result if you had to pay for it yourself.

Insurance coverage provides financial protection from things that you hope don't happen. But the risk is there. And, without insurance, suffering a loss would likely be catastrophic to your finances.

However, whether it is a house fire, car accident, or health problem, everyone hopes it doesn't happen. You don't want to deal with the displacement, destruction, or devastation that comes with a covered event. And the insurance industry hopes that they can keep your premiums without ever paying for anything on your behalf.

Assurance policies are a little different. With insurance, you might not ever make a claim. With assurance, someone certainly will. The only question is when it will happen. While insurance shifts risk from you to a provider, assurance mostly deals with the timing of the payments.

An insurance premium is compensation for taking a risk. An assurance premium contributes toward the eventual remuneration the company will make. The monthly payments of an assurance policy are generally much higher since a payout is guaranteed.

How do life assurance policies work?

There are two general types of policies that pay a benefit when someone dies. One is called a term life policy, and the other is called a whole life, or permanent policy. A term life policy is an insurance against an untimely death. A whole life policy is an assurance against the inevitable end (although many refer to it as whole life insurance).

With a term life insurance policy, your beneficiary receives a payment if you die while the plan is active. These policies are usually issued in 10-, 20-, or 30-year intervals. The younger you are, the lower the chances are that you will pass away during the term. Therefore, they are generally cheaper if you are younger. At the end of the term, the policy expires, and there is no more coverage.

The insurance carrier hopes you survive and that they never have to pay your beneficiary. You also desire to outlive the policy. But, if you don't, the coverage ensures your family will be able to pay the bills without your income.

With a whole life (assurance) policy, your beneficiary receives a payment when you die. The coverage never expires (although it can be canceled for non-payment). You typically pay a premium every month for the rest of your life (some providers will offer a single premium plan). When you die, the plan pays out the death benefit to your spouse, children, or estate.

Because there is no chance of the company getting to keep the premiums without making a payment, assurance policies are much more expensive. The company is usually trying to leverage your premiums into assets that make a return on investment. It profits by using your premiums to make money before having to pay out the death benefit.

Since assurance has an eventual payment attached to it, most whole life plans allow policyholders to borrow against that benefit, with some interest rates comparable to what they could earn with that money.

The fact that a whole life policy has a cash value you can borrow against is one of the distinguishing characteristics of it versus a term life policy. You should probably talk to your financial advisor about how your insurance, assurance, and retirement planning work together.

What are assurance services?

In some cases, the term assurance describes a professional service provided by experts to review financial reporting. Most often, it means an independent certified public accountant (CPA) who looks over a company's financial statements and signs off on them. This third-party verification offers some assurance in accounting, which helps investors and other interested parties feel comfortable the company's financial reports are accurate. Assurance in accounting is sometimes part of a company's internal controls and may be part of an internal audit; or, it may include an external audit.

This type of service is common during business acquisitions. By validating the correctness of the financial records, the CPA is viewed as a reliable outsider who can help find a middle ground in negotiating a company's sales price, risk assessment, and other financial information during the decision making process.

Naturally, the business would like the sales price to be as high as possible. Meanwhile, the acquiring company wants to minimize the amount. Conducting due diligence through a neutral professional can ensure that all parties are using the same numbers and that those numbers are not slanted toward the desired result.

Not all assurance services are related to accounting. Some other types of assurance services include an attorney to review the terms of a contract, an engineer to assure the structural soundness of an asset under consideration, subject matter experts on nonfinancial information, and many other professionals providing financial services, or risk management.

What is a financial assurance?

A regulating agency may require financial assurance when an applicant doesn't meet specific financial strength tests. For example, reclaiming a mine or oil development site at the end of the project's life is often an obligation of the contract that permits development.

The regulator may question the ability of the company to meet that obligation once the resources — the source of the company's revenues — are depleted. The regulator may ask for financial assurance to satisfy its concern.

Because the obligation is absolute, it cannot be insured. Instead, an assurance must come in the form of a parent company guarantee, a bond, or a letter of credit. Any of these options assures that the money will be available when it is needed to meet the obligation.

What is a letter of assurance?

A more general use of the term "assurance" includes making a promise. In certain business transactions or government contracts, one of the parties may want assurance that an undesirable outcome will not occur.

For example, a business making a purchase order may desire assurance that the products were not manufactured with child labor. Or a government agency may want a guarantee that the contractor will not resell old equipment to a hostile nation.

This type of promise is made in writing via a letter of assurance. That letter may be attached to the contract and become legally binding.

What is quality assurance?

In project management, quality assurance (QA) is a process designed to prevent mistakes in manufacturing. Because mistakes lead to low-quality products, a poor quality assurance program can lead to waste or the devaluation of a brand.

Over the last several years, quality assurance has become an increasingly important part of the project management field.

The goal behind quality assurance is to avoid low-quality production in the first place. Ensuring that unacceptable products are not sold to customers is called quality control — Which happens after the production is complete.

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