What Does Large Loss Principle Mean?
The large loss principle refers to the rationale behind purchasing insurance for considerably big risks and prioritizing this over insuring small ones.
The large loss principle explains the popularity of "big ticket" insurance products such as life insurance, homeowners insurance, and property insurance. According to the principle, smaller losses are best covered by dipping into the individual's own savings instead of purchasing an insurance policy.
Insuranceopedia Explains Large Loss Principle
People are motivated to buy insurance because of the severity and extent of the losses they might face. Since a house is a very costly expense, an automobile can be very expensive to replace, and liability risks can lead to five- and six-figures in court costs and damages, it makes sense to purchase insurance to protect against these. Most people would simply be unable to set aside enough money to cover these damages and losses out of pocket.
It makes less sense to invest in insurance to cover for small losses like a torn t-shirt or broken cooking utensils. Filing claims for these smaller expenses would be inconvenient and they can easily be covered by setting aside a bit of money.