Under the principle of indemnity, what is the main aim of insurance compensation?

The principle of indemnity is fundamental to insurance, establishing that the aim of insurance compensation is to restore the insured party to their original financial position prior to the loss, rather than to provide a profit or additional benefits. This principle ensures that the insured does not profit from their loss; instead, they receive compensation that reflects the actual financial impact of the damage or loss incurred.

In practice, this means that when an insured event occurs—such as property damage, theft, or liability—the compensation paid out by the insurer should correlate with the value of what was lost, up to the policy limits. This maintains fairness and prevents moral hazard, where the insured might take risks because they know they will be compensated regardless of the outcome.

Other options, such as making a profit for the insurer or encouraging more people to take out insurance, do not align with the indemnity principle as they focus on outcomes that go beyond merely restoring the insured's lost value. Similarly, providing additional benefits over the original loss could incentivize dishonest claims, which contradicts the purpose of maintaining equitable insurance practices.