Property and Casualty Insurance Practice Exam

What is a policy limit in insurance?

1. The minimum amount the insurer can charge

2. The maximum payment the insurer will cover for a loss

3. The average claim amount expected over the policy term

4. The deductible amount retained by the insured

The correct answer is: The maximum payment the insurer will cover for a loss

A policy limit in insurance refers to the maximum payment that the insurer will cover for a loss that occurs within the terms of the insurance policy. This limit is critical because it defines the insurer's liability and the extent of financial protection provided to the policyholder. For instance, if an insured event occurs and the loss is valued at an amount above the established policy limit, the insurer will only reimburse up to that limit, leaving the policyholder responsible for any excess costs. Understanding policy limits is essential for customers when evaluating risks and ensuring they have adequate coverage. It informs them about the most they can receive for covered claims, allowing for better financial planning in the event of a loss. In contrast, the other options present different concepts that do not accurately describe policy limits. For example, the minimum amount the insurer can charge refers to pricing rather than coverage. The average claim amount expected relates to estimating potential claims but does not indicate the insurer's maximum liability. Lastly, the deductible is an amount deducted from the claim payment which the insured agrees to pay out-of-pocket before the insurer covers the rest; this does not define the policy limit itself.