What is cryptocurrency insurance, and how does it work?

Cryptocurrency insurance, explained

Cryptocurrency insurance is a way to protect yourself and recover financial losses if your digital currencies, such as Bitcoin and Ether, are lost or stolen.

Cryptocurrency insurance provides protection against losses that can happen from exchange breaches, hacks or theft. Traditional insurance, also termed regular insurance, often fails when it comes to cryptocurrencies, so it is important to take extra precautions.

If your cryptocurrencies were to be stolen, subject to a security breach, or even lost due to a problem with a smart contract, cryptocurrency insurance would help you restore those lost funds.

In the world of cryptocurrency, you may wonder who ensures this protection. Just like in traditional insurance, the insurer or underwriter (typically a company) provides this coverage. But what about you? In this process, you (the policyholder) are insured and benefit from this safety net.

Insurance specific to cryptocurrencies such as Bitcoin (BTC) and Ether (ETH) reduces the risks of handling digital assets and protects individuals, businesses and institutional investors against losses.

Again, much like traditional insurance, it is funded by a premium, which is the payment a policyholder makes for this coverage. These premiums go into a fund that automatically compensates investors if a loss occurs.

Generally, digital asset insurance policies cover organizations, and users get protection only when their losses result directly from a failure of the company’s infrastructure, such as the hacking of private keys.

How does cryptocurrency insurance work?

Cryptocurrency insurance involves steps like assessing risk, creating a custom plan, calculating premiums, signing an agreement and paying out in case of a loss. 

Cryptocurrency insurance deals with the specific risks associated with digital assets. Here’s a simple way to understand how crypto insurance works:

• Assessing risk: The insurance provider assesses how risky it is to insure you by checking the value of your digital assets, security measures, trading habits and whether you follow regulations.
• Creating a custom plan: Based on this assessment, the insurance provider makes a custom crypto insurance plan for you, setting the terms of your loss coverage.
• Calculating premiums: Digital assets insurance providers figure out how much you’ll pay in premiums based on market conditions, past breaches, asset values, coverage limits and security measures.
• Signing the agreement: You both sign a contract that details the terms and conditions. You agree to pay the premiums on time, and they promise to cover your losses if something goes wrong.
• Claiming the insurance: If you suffer a loss, notify the insurance provider and share the required documents. Once they verify everything, they pay you the agreed amount to cover your loss.

Types of crypto insurance and what is covered

Depending on the coverage, cryptocurrency insurance may cover losses due to exchange hacks, issues with smart contracts or even theft from one’s own wallet.

The industry is still evolving, and new types of coverage may arise based on different needs. Here are some common types:

• Exchange insurance: Protects crypto exchanges from losses due to technical issues, theft, fraud or hacking.
• Custody insurance: Safeguards projects holding digital assets for clients from losses.
• Smart contract insurance: Covers developers if their smart contract code has errors or malfunctions.
• Decentralized finance (DeFi) insurance: DeFi insurance involves self-executing smart contracts, which eliminates the need for human resources to decide on claims.
• Crime insurance: Shields projects from criminal activities like theft, fraud and employee dishonesty involving crypto assets.
• Directors and officers insurance: Protects company directors and officers from personal risk in lawsuits over their decisions or actions, such as misuse of crypto assets.
• Transit insurance: This insurance can assist in covering any damage sustained during the relocation of mining equipment or any other crypto hardware.
• Storage insurance: Offers coverage for assets held online or offline.

Insurance coverage details and exclusions vary between providers, so reviewing policy specifics carefully is important before deciding on a preferred one.

Traditional insurance vs. crypto insurance

Traditional insurance covers physical assets and liabilities, while crypto insurance focuses on protecting digital assets and blockchain-related risks.

As you might expect, crypto fraud insurance could take some time to catch up with traditional insurance. While the latter has a well-established process for claims, digital assets insurance is still developing. 

Crypto insurance is much less common than traditional insurance. For example, Swiss Re estimates the global insurance penetration rate for 2023–2024 will be around 6.5%. 

In contrast, crypto insurance is a newer and quickly changing market. According to Chicago-headquartered cryptocurrency insurer Evertas, as of May 2023, only 1% of the $1.2-trillion market is insured.

Here’s a comparison of traditional insurance and crypto insurance:

How to protect against cryptocurrency insurance fraud

As more people get into crypto, there’s also a growing risk of scams involving insurance. This means both investors and insurance companies need to be careful.

Rising incidents of scams are likely to involve fake claims or even fraudulent insurance companies. To stay safe, everyone involved needs to take multiple steps to protect themselves.

Conduct adequate research

If you’re looking for crypto insurance, it’s important to do your research on the insurance providers to ensure they are reliable. This means looking into a bunch of different things:

• Money matters: Check if the insurance company is financially strong enough to pay you if something goes wrong.
• Following rules: Ensure that the company follows all the rules and regulations in the country where it operates.
• Paying out claims: Look into how quickly and fairly the company has paid out claims.
• Reputation: See what other people say about the company and if it has a good reputation in the industry.

Strong systems of security

Insurance providers and users must have strong security measures to keep digital money safe:

• Strong passwords: Industry practice should be to use hard-to-guess passwords to protect sensitive information.
• Multisignature wallets: For large amounts, it’s better to use multisignature wallets that require multiple people to approve transactions so that no one can steal the money easily.
• Offline storage: If digital assets are to be stored for a longer duration, it’s better to keep them in cold wallets, which are offline and away from the reach of hackers.
• Stay vigilant: Insurance companies and users must constantly check for any weird activity or unusual patterns.

Dealing with risks

Insurance providers must have a good plan for handling different risks:

• Spotting problems: Insurance companies should figure out what could go wrong, like security breaches or breaking the rules.
• Fixing problems: They need to have solutions in place, like effective security measures and backup plans.

Regular checking of work: They should check how well their solutions are working to ensure customers feel assured.

The future of crypto insurance

The need for crypto insurance will also grow as more people get into crypto. This will likely attract big insurance companies that want a piece of the pie.

The future of crypto insurance remains uncertain. While there is significant potential for growth due to the increasing popularity of cryptocurrencies, it faces challenges such as regulatory uncertainty, high volatility and the need for robust security measures. 

Big insurance companies might join the game and start offering digital assets insurance. As the crypto market grows, one can expect more specialized insurance providers focused on areas like wallet protection, smart contract coverage and cybercrime. It requires crypto firms to follow evolving regulations and create innovative cryptocurrency insurance policies.

Growing awareness and education about crypto insurance will also drive its adoption. New technologies, such as artificial intelligence, will further improve risk assessment and fraud detection. The future of crypto insurance depends on the industry’s ability to innovate and adapt to emerging regulations and technologies like AI.