Legal Concepts of Insurance Contracts PDF

CHAPTER 3 LEGAL CONCEPTS OF INSURANCE CONTRACTS **Adhesion:  **A contract of adhesion is one that has been prepared by one party (the insurance company) with no negotiation between the applicant and insurer. The applicant adheres to the contract terms on a "take it or leave it" basis when accepted....

CHAPTER 3 LEGAL CONCEPTS OF INSURANCE CONTRACTS **Adhesion:  **A contract of adhesion is one that has been prepared by one party (the insurance company) with no negotiation between the applicant and insurer. The applicant adheres to the contract terms on a "take it or leave it" basis when accepted. (See **Rule Regarding Ambiguities**) **Agent:  **This is the person who represents the insurer during an insurance transaction and has been authorized to act on the insurance company's behalf. Agents have a fiduciary responsibility to both parties---the insurer and the policy owner. **Aleatory:  **This is a legal arrangement in which there's the potential for an unequal exchange of value or consideration between both parties. The insured may never file a claim in an insurance contract, or a claim may be filed after only one or two premiums. **Ambiguities:  **This refers to terms or conditions that are not clearly defined in an insurance contract. (See **Adhesion**) **Apparent Authority:  **This is the appearance of the insurer providing the agent authority to perform unspecified tasks based on the agent-insurer relationship. This perception of authority must stem from the insurer's actions, even if the perception is unintended and the perception is in error. **Broker:  **This is a licensed producer who represents himself and the insured (i.e., the client or customer) during an insurance transaction. However, a broker is different from an agent. A broker doesn't hold an appointment with the insurer in question, and a broker cannot bind coverage on behalf of the insurer. **Competent Party:  **This is a person who's able to understand the contract to which two parties are agreeing. All parties must be of legal competence, which means that they must be of legal age, mentally capable of understanding the contract terms, and not under the influence of drugs or alcohol. **Concealment:  **This is the failure of an applicant to disclose a known material fact when applying for insurance. **Conditional:  **This is an agreement that remains in force if certain conditions are met. The insurer's promise to pay benefits is dependent on the occurrence of an event that's covered by the contract. **Consideration:  **This is the legal description of the items of value that each party to the contract provides to the other. In the case of an insurance policy, the applicant provides material information and the premium. In return, the insurance company agrees to pay the cost of claims that are covered by the policy. **Consideration Clause:  **This clause is part of an insurance contract and sets forth the initial and renewal premiums and frequency of future payments. **Doctrine of Reasonable Expectations:  **This doctrine states that an insurance contract will be interpreted to mean what a reasonable individual would think it means, even if the insurer must pay additional benefits that are not intended by the contract. **Estoppel:  **This is the legal impediment to one party's ability to deny the consequences of its own actions or deeds if such actions or deeds result in another party acting in a specific manner or if certain conclusions are drawn. **Express Authority:  **This is the explicit authority that's granted to the agent by the insurer, as written in the agency contract. **Fiduciary:  **A fiduciary is a person to whom property or power is entrusted for the benefit of another person. A producer is a fiduciary that's in a position of trust regarding the funds of its clients and the insurer. It's the responsibility of an insurance producer to account for all of the premiums collected and to provide sound financial advice to clients. **Fraud:  **An individual commits fraud when he engages in intentional deceit to gain a benefit. Fraud includes having deliberate knowledge of false statements that are made or intended as well as the act of a person making such statements herself. **Implied Authority:  **This is an authority that's not explicitly granted to the agent in the contract of agency, but which common sense dictates the agent has. This authority enables the agent to carry out routine responsibilities. **Indemnity Contract:  **This type of contract attempts to return the insured to his original financial position. **Insurable Interest:  **This is the financial, economic, and emotional impact that's experienced by a person who suffers a covered loss. A person has an insurable interest if she has more to gain by not experiencing the loss. **Insurance Policy:  **This is a written contract in which one party promises to indemnify another against a loss that arises from an unknown event. **Legal Purpose:  **This means that an insurance contract must be legal in nature and not in opposition to public policy. **Material Misrepresentation:  **This is a false statement being made by an applicant that influences either an insurer's decision to accept the risk, or the classification and pricing of a risk that's accepted by the insurer. **Misrepresentation:  **This is a statement being made as a legal representation that's factually incorrect, either totally or in part. **Parole Evidence Rule:  **This rule states that, when the parties agree in writing, all previous verbal statements come together. A written contract cannot be changed or modified by parole (oral) evidence. **Policy Rider or Endorsement:  **This is an amendment which is added to an insurance contract that overrides terms in the original policy. Riders may add or remove coverages, change deductibles, or revise any other policy feature. In general, a policy owner must pay an additional premium to add a policy rider that enhances policy benefits. **Reasonable Expectations:  **This indicates that the insured is entitled to coverage under a policy that any sensible and prudent person would expect it to provide. **Representations:  **These are statements made by the applicant that he considers true and accurate to the best of his belief. **Rule Regarding Ambiguities:  **This rule applies to contracts of adhesion. Courts will interpret the terms of an insurance contract in favor of the insured if there's a legal dispute and the court holds the terms of the contract to be ambiguous. The insurer is responsible for ensuring that the contract is clear since it creates the policy terms as a contract of adhesion. **Subrogation:  **This is the right for an insurer to pursue a third party that caused an insurance loss to the insured. **Unilateral:  **This is a type of contract in which only one party---the insurer---makes any kind of enforceable promise. The promises remain in force for as long as the insured pays the required premium. **Utmost Good Faith:  **This statement is based on the belief that both the policy owner and the insurer must know all of the material facts and relevant information. As such, they will provide each other with all material facts and relevant information. **Valued Contract:  **This type of contract pays a stated sum regardless of the actual loss incurred. Life insurance contracts are valued contracts. **Void Contract:  **This contract is an agreement that has never really been in force because it lacks one of the essential elements of a contract. For example, if a third party (rather than the applicant for insurance) provides a urine sample for analysis, this act of impersonation deprives the insurer of the information it needs. In effect, the applicant is withholding necessary consideration; therefore, any policy is void from the day it's issued. In other words, it never really goes into effect. (See **Voidable Contract** for contrast.) **Voidable Contract:  **This type of contract is an agreement that may be set aside by one of the parties in the contract for a reason that's satisfactory to the court. (See **Void Contract** for contrast.) **Waiver:  **This is the voluntary giving up of a legal, given right. **Warranty:  **This is a statement made by the applicant that's guaranteed to be true in every respect and also becomes a part of the contract. The discovery that a warranty is untrue can be grounds for revoking the agreement. In general, all statements that are made by an applicant are representations, rather than warranties Contracts of insurance are binding legal agreements and are enforceable by law. [There are two parties to an insurance contract---the **policy owner **(or applicant) and the **insurer**]. In most cases, the policy owner is also the **insured**; however, third parties own some life insurance policies. The insurer (or insurance company) makes a promise to pay benefits to the policy owner (the insured) under certain circumstances that are dictated in the contract. For a contract to be legally valid and binding (enforceable), the following four essential elements must be included: - **C**ompetent parties: For a person to be considered competent, he must possess such a capacity. This requirement may also be referred to as legal capacity. The insurer is considered competent if it has been licensed or authorized by the state(s) in which it conducts business.  - INCOMPETENT PARTIES INLCUDE: - Minors are not considered competent, except those who are entering into agreements for necessities (e.g., food). State laws will vary as far as determining the "age of majority" or the age at which a person may enter into an insurance agreement. - Insane or mentally incompetent individuals - Individuals who are under the influence of alcohol or drugs at the time of application - Persons who are forced or coerced into a contract - Enemy aliens - Convicts (based on state law) - **L**egal purpose - Contractual arrangements cannot be contrary to public policy and must be created in the public's best interest. - The object of the contract and the reason for the parties to be entering into the agreement must be lawful. - **O**ffer and acceptance (agreement) - often referred to as the **agreement**. An offer is a proposal by one party that will create an agreement if accepted by another. - If the insurer accepts the offer, it will issue the requested policy, and the producer will deliver it. At that point, the parties have arrived at an agreement. [Therefore, the acceptance can be demonstrated by the insurer issuing, or the producer delivering, the policy]. - There must be a genuine agreement between the parties, which means that neither party must be under duress or any undue influence. - If the insurer makes a **counteroffer**, the original offer that was made by the applicant has been rejected by the insurer and that initial offer is void. No contract will exist unless the applicant accepts the insurer's counteroffer, usually by paying an additional premium or agreeing to benefit limitations. - **C**onsideration - For any agreement to be binding, both parties must provide each other with some item of value. Or, put another way, there must be an exchange of valuables between the parties to make the agreement binding. - The insurer's consideration is the promise to pay legitimate claims for the coverage that's provided during the policy period. In some cases, consideration is referred to as a bargained-for exchange. - For coverage to remain in effect, the consideration must be perpetual. Therefore, the *consideration clause* also contains information related to the schedule and amount of premium payments. Use the mnemonic device "C, L, O, C" to remember the four elements. *\[EXAM TIP: An insurance contract consists of two parties---the policy owner (applicant) and the insurer (company).* *The beneficiary and insured (if different from the policy owner) are not parties of an insurance contract and don't have legal capacity.* *If an insurance exam question asks about identifying the party who enters a contract with an insurer, the proper answer is "the policy owner," even if "the insured" is also given as a choice. The policy owner (regardless of whether he's also the insured) has committed to pay the premium. It's also the policy owner who has the right to make changes or exercise policy options.\]* *\[EXAM TIP:  In an insurance contract, consideration (completed application and premium payments) is given by the applicant in exchange for the insurer's promise to pay benefits.\]* SPECIAL FEATURES OF INSURANCE CONTRACTS - Insurance policies also possess additional features and characteristics which distinguish them in the "world of contract law." - An insurance contract is an **aleatory contract** because one party may recover more in value than she has paid. - In other words, an aleatory contract is characterized by an unequal payment or consideration. The value of the policy owner's potential benefit (i.e., the claim payment) is generally higher than the value (i.e., the premium) that's received by the insurer. - no guarantee that the insured will receive a benefit. - A covered loss must occur for any benefit to be paid, and the policy must be in force when it does. Performance is based on an uncertain future event involving unequal bargaining value.  - [Both insurance and gambling contracts are typically considered aleatory contracts]. *For example, an individual who has a disability insurance policy will collect benefits if she becomes disabled. However, if she suffers no disability, benefits are not paid.* *Another example which illustrates the aleatory nature of insurance contracts is a life insurance policy that pays out a \$20,000 death benefit after the insurance company collects only \$100 in premiums.* CONTRACT OF ADHESION Insurance policies are contracts of adhesion because these contracts are prepared by only one of the parties---the insurance company. The applicant and the insurer don't negotiate the terms of the contract. Instead, the applicant adheres to the insurance company's contract terms on a "take it or leave it" basis when accepted. A policy of adhesion can also be described as one which can only be modified by the insurance company. AMBIGUITIES IN A CONTRACT OF ADHESION  In any contract of adhesion, the party that dictates the contract terms has the responsibility to ensure that all of the contract terms are clear and free of ambiguities. The insurance company has this responsibility when it comes to its insurance policies. DOCTRINE OF REASONABLE EXPECTATIONS According to this doctrine, a court will generally interpret an insurance contract to mean what a "reasonable" consumer would expect. Reasonable expectations may be based on what the producer or insurer has indicated or what the consumer interpreted or expected it to mean. The purpose is to correct any advantage that' s gained by the party who prepared the contract. The insurance carrier (INSURERER) is responsible for assembling the policy forms for the insured person(s). However, the insurer is typically required to obtain approval from the state's insurance department before using or modifying any policy forms. *EXAM TIP:  The reasonable expectation is a legal principle that reinforces the rule\ that ambiguities in insurance contracts should be interpreted in favor of the policy holder. It also states that an insured is entitled to coverage under a policy that a sensible and prudent person would expect it to provide.\]* UNILATERAL CONTRACT Insurance policies are also **unilateral contracts**.  [A unilateral contract is one in which only one party (the insurer) makes any enforceable promise]. Therefore, it's often considered to be a one-sided contract. Insurers promise to pay benefits upon the occurrence of a specific event (e.g., death or disability); however, the applicant makes no such promise. In fact, the applicant doesn't even promise to pay premiums. The insurer cannot require the policy owner to pay premiums; instead, the insurer has the right to cancel the contract if premiums are not paid. The payment of premiums is a necessary condition for keeping the insurer's promise in force. PERSONAL CONTRACT Most forms of insurance are **personal contracts.** In other words, they're personal agreements between the insurer and the insured. By referring to an insurance policy as a personal contract, it's understood that a policy insures the owner (person) of the property, and not the property itself. As such, most types of insurance [cannot be transferred] to another person. **Life insurance is an exception to this rule. Life insurance policies are NOT personal contracts because they allow for the transfer of ownership through assignments.** For this reason, people who buy life insurance policies are typically referred to as policy owners rather than policy holders. If a policy owner wants to assign a life insurance policy, he simply notifies the insurer in writing. The company will accept the validity of the transfer without question, and the new policy owner is granted all of the rights of policy ownership. Therefore, [contracts of life insurance are NOT personal contracts]. CONDITIONAL CONTRACT A condition is a requirement that's specified in the contract, which limits the rights provided by the contract. An insurance contract is conditional.   If the event doesn't materialize, no benefits are paid. Additionally, the insurer's obligations under the contract are conditioned on the performance of specific acts by the insured or the beneficiary. *For example, the timely payment of premiums is a condition for keeping the contract in force. If premiums are not paid, the company is relieved of its obligation to pay a benefit. The requirement to notify the insurer of a loss is another necessary condition, as is the insured's need to provide "proof of loss.". An insurer will not pay the benefits if the insured doesn't notify the company of the loss or cannot prove that the loss occurred.* Life and health insurance policies fall into one of two categories---they're either **valued contracts** or **indemnity** **contracts**. VALUED VS. INDEMNITY Valued contracts set a value on certain losses independent of a specific loss, while indemnity contracts replace identified economic losses. [A valued contract pays a stated sum regardless of the actual loss incurred]. Life insurance contracts are valued contracts. There's no attempt to calculate a death benefit at the time of death; instead, the parties established the death benefit when the policy was first issued. Accidental death and dismemberment policies, which are a form of health insurance, also fall into this category. *For example, if an individual acquires a life insurance policy to insure her life for \$500,000, that's the amount payable at death.* [An indemnity contract pays an amount that's equal to a loss]. A contract of indemnity specifies that insurance should restore an individual to the same or a similar financial position in which he existed prior to the loss.  *For example, let's assume that an individual is covered by a reimbursement type of plan with a maximum hospital benefit of \$500,000. She's hospitalized due to an illness and the bill is \$25,000. The policy will pay or reimburse her or the hospital for the amount equal to the expenses incurred (i.e., \$25,000).* Other indemnity contracts define their benefits as a certain amount of money per day, week, or month to offset a loss of revenue as in a disability policy. *For example, an individual earns \$600 per week and has a disability insurance policy that pays \$400 per week. When he becomes disabled, the policy pays the stated benefits, which replaces two-thirds of his lost income while he's disabled. Although the policy doesn't reimburse the insured for specific expenses, it does restore his income to the extent that's defined in the policy.* **Insurable interest** can be defined as the type of financial interest that a person must have in themselves or another person to purchase legally enforceable insurance coverage.  To have "an insurable interest" in oneself or another person, an individual must have a reasonable expectation of benefiting from the other person's continued life and well-being.  Conversely, the individual will suffer a loss (financial or economic) if the other person becomes ill, suffers an injury, or dies.  [Life and health insurance policies assume that insureds have an "insurable interest" in themselves. This assumption is necessary and explains the need for suicide exclusions and exclusions for intentionally self-inflicted injuries]. [Ultimately, a policy obtained by a person who doesn't having an insurable interest in the insured is a type of wager. Such a policy is not valid and cannot be enforced]. Any person who purchases life insurance on his own life possesses an unrestricted or unlimited insurable interest in himself. Insurable interest also exists automatically in marital relationships, between parents and children, in a business situation between a business and a key employee, or in a debtor-creditor relationship. *For example, it's assumed that a husband and wife have an insurable interest in each other's life as there are financial and emotional benefits to the continuation of each life. An individual even possesses an insurable interest in a nephew or niece if either lived in the individual's household or was their guardian. A person does not have an insurable interest in the life of his mail carrier since there's no expectation of benefiting from the mail carrier's continued life.*  insurable interest is only required at the time of the application. Insurable interest doesn't need to continue throughout the duration of the policy, and it doesn't need to exist at the time of claim. *For example, two individuals are married and take out an insurance policy on each other's life. There's no issue if the individuals later get divorced but keep the life insurance policies they own on each other. Although insurable interest no longer exists, the policies remain valid because insurable interest existed when the policies were bought.* For property and casualty insurance, an insured must prove that she has a legitimate interest in preserving the property she seeks to insure when the insurance is purchased and when a loss occurs. *For example, Bob owns the house next door to Tiffany, who also owns her house. Bob can purchase a homeowner's policy on his home, and Tiffany can buy a homeowner's policy on her house. However, they're not allowed to purchase a homeowner's policy on each other's property because they each only have an insurable interest in their own home.* [To reiterate, an **insurance policy** is a written contract in which one party promises to compensate another against loss from an unknown event. Therefore, an insurance policy is also referred to as an **insurance contract**].   [A **policy rider** or endorsement is a legal attachment which amends a policy]. The rider often incorporates additional benefits into a policy. Some riders limit policy benefits to allow coverage for high-risk situations. An insurance policy (contract) will include the policy form, any riders or endorsements, and a copy of the completed application.  [Therefore, the **application** is a part of the insurance contract]. Insurance is a contract of **utmost good faith**, which means that both the policy owner and the insurer must know all material facts and relevant information.  [Insurance applicants must make a full, fair, and honest disclosure of the risk to the agent and insurer]. Concepts related to utmost good faith include **warranties**, **representations**, and **concealment**. These represent grounds through which an insurer may seek to avoid payment under a contract. - Warranty - A warranty is [a statement that's guaranteed to be true] in every respect. -  A warranty can be expressed or implied and may relate to the past, present, future, or any combination.  - Generally, applicant statements that are treated as warranties appear in some lines of property and casualty coverage rather - Representation - A representation is a statement that's made by the applicant and [considered to be true and accurate to the best of the applicant's belief].  - **[The insurer uses the representation to evaluate whether to issue a policy.]** - representations are not a part of a contract and need to be true only to the extent that they're material and related to the risk. Statements that are made by applicants for insurance are representations and not warranties. - A representation cannot qualify an express provision in a contract of insurance, but it may qualify as an implied warranty. - **[A false statement that's made by an applicant which would influence an insurer in determining whether to accept the risk is considered a material misrepresentation.]** - Concealment - **[Concealment is defined as the failure or neglect by the applicant to disclose a known, material fact when applying for insurance.]** - Regardless of whether concealment is intentional, the injured party has the right to rescind the insurance contract. - **[*Rescission* means that the contract is made null and void.]** - THE INSURER HAS TO BE ABLE TO PROVE CONCEALMENT AND MATERIALITY - Materiality means that the insurer would not have issued the same policy with the exact same terms had the insurer known the concealed facts at the time of application. [A void contract is simply an agreement without legal effect]. In essence, it's not a contract at all because it lacks one of the elements that are specified by law for a valid contract. Neither party can enforce the terms of a void contract. *For example, a contract that has an illegal purpose is void, and neither party to the contract can enforce it.* [An insurer may void an insurance policy if a misrepresentation on the application is proven to be material]. A voidable contract is an agreement that may be set aside by one party to the contract for reasons that are satisfactory to the court. It's binding unless the party with the right to reject it chooses to do so. *For example, a policy holder fails to comply with a condition of the contract when he stops paying his insurance premium. As a result, the contract is now voidable, and the insurance company has the right to cancel the contract and revoke the coverage.* [The voluntary act of terminating an insurance contract is referred to as cancellation. The policy owner may voluntarily cancel an insurance contract for any reason at any time].   insurance policies have a due date on which the required premium is paid, but also a grace period (after the due date) during which the payment may be made without penalty. **Fraud** involves deliberate or intentional deceit with the objective of making false statements in order to be compensated by an insurance contract (e.g., filing a false claim). [Contracts may be rescinded if one or more of the parties engages in fraudulent activities]. Under most types of contracts (other than life and health insurance), fraud is a reason to void a contract. With insurance contracts, an insurer may only have a limited period to challenge the validity of a contract. In most states, insurers cannot void life insurance contracts after they have been in force for two years Guaranteed renewable health insurance policies typically have two or three years, depending on state law. After this period of two or three years, life and health insurers cannot contest the policy or deny benefits based on application errors resulting in material misrepresentations or concealment. Parole evidence is oral or verbal evidence or that which is given verbally in a court of law. The legal principle of the **parole evidence rule** limits a contract to its written terms. This rule minimizes the use of oral or written documents that are outside of the written policy. In general, oral statements cannot be used to counteract or nullify insurance contract provisions. In other words, if a litigious dispute arises, oral statements that are made before the formation of a contract, if not made a part of the written contract, will not be admitted in court in the future. Additionally, only that which is written in the contract is enforceable. [A **waiver** is the voluntary surrendering (giving up) of a known right]. A waiver is also defined as "the deliberate, voluntary, or intentional abandonment of a known right by the insurer." It usually involves the conduct of an insurer or its sales representative, which intentionally relinquishes a defense against a claim.  [If an insurer fails to enforce (waives) a contract provision, it cannot later deny a claim based on a violation of that provision]. *For example, let's assume that a life insurer issues a policy which states the policy is void if the insured enters the military. The insured joins the army and is killed during a battle. A company officer informs the insured's beneficiary that, since the insured died in defense of his country, the insurance company will waive its defense of military service death. Later, the insurer denies the claim. However, the company will need to pay the claim since the company officer's communication (written or verbal) constitutes a waiver and prevents the insurer from denying the claim.* *Another example of a waiver could involve an insurer that mistakenly accepts an incomplete application and issues a policy. Later, the insurer attempts to rescind the policy or deny a claim because the application was incomplete. In this case, the insurer will be prevented from doing so since it has engaged in a waiver. The company's mistake prevents it from denying the claim or attempting to take back or rescind the policy. A waiver can also occur if an insurer fails to enforce a provision in the policy. After an insurer issues a policy, if it discovers that an individual lied about her health and the insurer doesn't inform her within a reasonable time that the contract will be void or rescinded, it has engaged in a "waiver by silence."* ESTOPPEL The legal principle of estoppel involves a broken promise. Estoppel prohibits an insurer from denying a claim due to specific actions (or inactions) by the insurer or its representatives. Typically, estoppel applies when an agent makes a false or misleading representation to a consumer. The consumer bases his decision to purchase or alter coverage based on the agent's representation. When a situation arises that tests the validity of the inaccurate representation, the insurance company denies the consumer's claim based on the actual policy language. The insured consumer then experiences financial harm. If the consumer challenges the decision in court, the law will stop the insurer from relying on the contract language to deny the claim. The insurer's agent made a representation, and an act of the agent is legally considered an act of the insurer. Therefore, the insurance company must honor its agent's representation and pay the claim. This legal doctrine of estoppel applies when ALL of the following elements are present: - An agent or legal representative, who's acting within their authority, makes an inaccurate representation on behalf of the insurance company. - A consumer relies on the veracity of the information that's provided to make legally binding decisions. - When a circumstance arises that tests the validity of the questionable representation, the insurance company refuses to honor it by citing the terms of the contract as written. - The decision of the insurer causes financial harm to the consumer. If all four conditions are present, the insurer will be estopped or prevented from denying the claim and is legally bound to honor the promise rather than abide by the written contract. THE LAW OF AGENCY As noted earlier, an insurance agent is authorized to sell, solicit, negotiate, and effect contracts of insurance on behalf of an insurer through a contractual arrangement. An agent's role involves the following duties: - Describing the company's insurance policies to prospective buyers - Soliciting applications for insurance - Collecting premiums from policy owners - Rendering service to prospects and currently insured consumers [When acting within the scope of the authority granted, an agent is considered to be the insurance company. The relationship between an agent and the company being represented is governed by agency law]. PRINCIPLES OF AGENCY LAW For insurance purposes, [the insurer is referred to as the **principal**]. The agent represents the principal in dealings with third parties that concern contractual arrangements. Authorized agents have the power to bind the principal to contracts (and to the rights and responsibilities of those contracts). From this description, the four essential principles of agency law can be identified: 1. The acts of an agent (within the scope of his authority) are the acts of the principal (insurer). 2. A contract that's completed by an agent on behalf of the principal is a contract of the principal. 3. Payments received by an agent on behalf of the principal are payments made to the principal. 4. An agent's knowledge regarding a business matter of concern to the principal is presumed to be known by the principal. AGENT AUTHORITY "[Authority" is what an insurer grants a licensee for this person to transact insurance on its behalf]. Technically, only authorized actions can bind a principal. In reality, an agent's authority can be quite broad. There are three types of agent authority---*express, implied,* and *apparent*. 1. Express a. [Express authority is the authority a principal deliberately gives to its agent]. b. *For example, an agent has the express authority to solicit applications for insurance on behalf of the company.* 2. Implied c. Implied authority is the unwritten authority that's not expressly granted in writing; instead, it's the authority that can be assumed an agent needs to transact the principal's business as expressed in the contract. Implied authority is incidental to express authority because not every single detail of an agent's authority can be spelled out in the agent's contract. d. *For example, an agent's contract may not explicitly state that he can print business cards which contain the company's name, but the authority to do so is implied.* 3. Apparent e. Apparent authority is the appearance authority based on the actions, words, or deeds of the principal. f. *For example, if an insurer provides an individual with a rate book, application forms, and sales literature, the insurance company has created the impression that an agency relationship exists between itself and the individual. The law will not allow the company to later deny that such a relationship existed, even if no signed agency agreement is in force.* g. Please note, apparent authority relies on company actions. If the agent stole the items described in the above example, then it would be a case of fraud since the insurance company had no role in providing or not reclaiming the material in question. The law will view the agent and company as identical when the agent acts within the scope of his authority. Additionally, an insurer may be liable to an insured for unauthorized acts of its agent when the agency contract is unclear about the authority granted. BROKERS VERSUS AGENTS 1. A broker cannot bind coverage 2. An agent's contract and appointment with one or more insurance companies grants that agent the authority to bind an insurer to an insurance contract 3. A BROKER MUST WORK WITH AN AGENT OR COMPANY REP WHO CAN BIND AN INSURER AGENT VERSUS SOLICITER AUTHORITY **agent **has the authority to seek out applicants, present product solutions to meet insurance needs, complete applications, and bind coverage. Some states also allow for licensed **solicitors**. [Solicitors have the authority to seek out insurance applicants for a company, but don't have any authority to bind coverage on behalf of a company.] Solicitors arrange for prospective clients to meet with agents who can sell and bind insurance coverage that meets the clients' needs. AGENT AS A FIDUCIARY A fiduciary is a person who holds a position of financial trust and confidence. Agents act in a fiduciary capacity when they accept premiums on behalf of the insurer or offer advice that affects a person's financial security. SUBROGATION\ Represents the right for an insurer to pursue action against a third party that caused an insurance loss to the insured. Subrogation is used to recover the amount of the claim paid to the insured for the loss. Generally, in most subrogation cases, an individual's insurance company pays its client's claim for losses directly, then seeks reimbursement from the other party's insurance company. (at fault car accident? NOT THE ACCIDENT ITSELF, BUT THE REPAYMENT) TORT LAW [Remember, contract law deals explicitly with contracts---whether written, oral, express, or implied. Issues related to the validity of a contract (including an insurance policy) are handled through contract law. On the other hand, Tort law involves private wrongs that are independent of contracts]. Criminal courts have jurisdiction over crimes, while civil courts preside over torts. Lawsuits involving contracts fall under contract law; however, most civil court claims fall under tort law. The concept of **tort law** is to provide compensation for proven harms, or put another way, to right a wrong that's been done to a person and provide relief from the wrongful acts of others by awarding monetary damages as compensation. Negligent acts that result in a loss or damage can create a tort. There are several types of negligence, including: - **Simple negligence** is a failure to act (or not act) in a reasonable or prudent manner. - **Gross negligence** results from a reckless disregard for the need to act in a reasonable manner, regardless of the potential for harm. - **Willful and wanton negligence** occurs when a person recklessly disregards reasonable care standards and is aware that bodily injury or property damage will probably occur. This borders on being an intentional act, which liability insurance doesn't cover. INSURANCE AGENT ERRORS AND OMISSIONS (E&O) PROFESSIONAL LIABILITY INSURANCE [Insurance agents need errors and omissions (E&O) professional liability insurance]. Under this insurance, the insurer agrees to pay sums that the agent is legally obligated to pay for injuries resulting from professional services that he rendered or failed to render.  Typical losses that are covered for the producer under an E&O policy include: - Not effecting insurance coverage when requested - Creating an administrative error - Premium calculation errors - Misstating insurance coverages - Not effecting a policy change as requested by the customer - Not properly explaining policy provisions - Incorrect identification of client loss exposures - Forwarding inaccurate or incomplete information about a client to a carrier - Failing to recommend coverage - Improperly handling a claim TYPICAL EXCLUSIONS Intentionally harming another person is always excluded in any liability insurance policy. This exclusion includes: - Criminal acts - Illegal acts - Dishonest acts - Malicious acts - Libel and slander - Intentional violation of any law, regulation, statute, or ordinance   CHAPTER SUMMARY **General Law of Contracts** - Insurance contracts are binding legal agreements between two parties---the policy owner and the insurer. - If offered a choice of parties contracting with an insurer, choose the policy owner rather than the insured. - The only time "insured" is the correct answer is when "policy owner" (or "policy holder") is not given as a possible answer. - The beneficiary is not a party to the contract. - The Four Essential Elements of Every Contract (C.L.O.C.) - **Competent Parties** - The parties to a contract must be legally competent, which means mature, mentally sound, and sober. - State law may bar certain other categories of individuals (unlikely to be tested). - **Legal Purpose** - The object of the contract and the reason for the parties to enter into an agreement must be legal. - **Offer and Acceptance (Agreement)** - Both parties must agree to the contract terms. The first party to ratify the contract terms makes an offer, while the second party to ratify the terms provides her acceptance. - OFFER + ACCEPTANCE = AGREEMENT - **Consideration** - For an agreement to be binding, each party must provide the other with some item of value or "consideration." - An insurance applicant provides the premium and information on the completed application. - The insurer promises to pay legitimate claims. **Special Features of Insurance Contracts** - An insurance contract is an **aleatory **contract because one party may recover more in value than she has paid. - The value of the policy owner's potential benefit (i.e., claim payment) is generally higher than the value (i.e., premium) that's received by the insurer. - There's no guarantee that the insured will receive a benefit. Performance is based on an uncertain future event involving unequal bargaining value. - Insurance policies are contracts of **adhesion **because they're prepared by only one of the parties---the insurance company and offered on a "take it or leave it" basis. - When the terms in a contract of adhesion are **ambiguous** (unclear), courts rule in favor of the party that did NOT create the contract (i.e., the insured). - The **doctrine of reasonable expectations** interprets contract terms that may be interpreted more than one way by ascertaining what a "reasonable" consumer would interpret them to mean. - Insurance policies are **unilateral contracts** because only one party (the insurer) makes an enforceable promise, which is contingent on the policy owner paying the premium. - Most forms of insurance are **personal contracts **because they're non-transferable, and they insure named individuals as owners, potential defendants (torts), or healthcare consumers. - Life insurance is an exception to this rule. Life insurance is NOT a personal contract since it can be borrowed against or sold like a transferable asset. - Insurance policies are **conditional** because the insurer's promise to pay is contingent on the occurrence of uncertain future events. It also requires the insured or beneficiary to take certain actions. - **Valued contracts** pay a stated sum regardless of the actual loss that's incurred. - **Indemnity contracts** pay an amount that's equal to a loss identified in the policy. - To have "an **insurable interest**" in oneself or another person, an individual must have a reasonable expectation of benefiting from the other person's continued life, and conversely, will suffer a financial loss if the insured party becomes ill, is injured, or dies. - Insurable interest must exist at the time of application but does not need to exist at the time of a claim payment (i.e., the death of the insured). **Negotiating and Issuing Insurance Policies** - **Utmost good faith** means that the policy owner and the insurer disclose material information. - **Reasonable expectations **are the basis for interpreting ambiguous contract terms. - A **warranty** is a statement that's guaranteed to be true in every respect and becomes a part of the contract. - A **representation** is a statement made by the applicant which he considers to be true and accurate to the best of his belief. Statements made on an insurance application by the applicant are considered to representations. - **Concealment** is defined as the failure or neglect by the applicant to disclose a known material fact. - A **void contract** is one that has never really gone into effect because it lacks one of the four essential elements of a contract. - A **voidable contract** is an in-force agreement that may be terminated because one of the parties violates a condition of the policy. - **Fraud** is an intentional misrepresentation regarding a claim or policy application that a consumer makes to obtain benefit payments or policy coverage under false pretenses. - The **parole evidence rule** limits a contract to its written terms. - A **waiver** is the voluntary surrendering (giving up) of a known right. - **Estoppel **requires an insurer to abide by misleading or incorrect statements that are made by one of its agents, even if it can demonstrate that the governing policy form contradicts the agent. - Estoppel applies when ALL of the following elements are present: - An agent is acting within their authority. - The agent makes an inaccurate representation on behalf of the insurance company. - A consumer relies on the information being correct. - When a circumstance arises that tests the validity of the questionable representation, the insurance company refuses to honor the agent's words. - The insurer's decision causes financial harm to the consumer. **The Law of Agency** - The insurer is considered the **principal **of an agent contract. - Acts of an agent are considered acts of the principal. - Payments received by an agent are received by the principal. - If an agent knows something, the principal (insurer) knows it as well. - **Express authority** is the agent's authority expressly granted in his agency contract. - **Implied authority** is the ancillary authority which is assumed that an agent needs to carry out the tasks covered by the express authority conferred by his agent's contract. - **Apparent authority** is the appearance of authority based on the actions, words, or deeds of the principal. It can exist even if no written agreement exists. - Insurance **producers **may be agents or brokers. - **Agents** are appointed by insurers, represent insurers, and can bind coverage on their behalf. - **Brokers** represent the consumer and cannot bind coverage. - Some states license **solicitors** and provide them with the authority to seek out insurance applicants and arrange for prospective clients to meet with a licensed agent. - An agent is a **fiduciary** because they hold a position of financial trust and confidence with both consumers and insurers. **Other Legal Concepts Related to Insurance** - **Subrogation** is an insurer's right to pursue liable third parties for amounts that are paid out in claims made by the insured. - **Torts** are private wrongs which mostly involve negligence and are adjudicated in civil court. Civil courts also decide cases involving contract law. - Insurance agents need **errors and omissions (E&O)** liability insurance, which covers injuries resulting from mistakes that are made rendering or failing to render professional services.