Insurance Principles PDF

1 CHAPTER 2 THE APPLICATION OF INSURANCE PRINCIPLES  INSURANCE PRINCIPLES 2  Utmost good faith  Insurable interest  Indemnity  Subrogation  Contribution  Arbitration  Proximate cause  PRINCIPAL OF UTM...

1 CHAPTER 2 THE APPLICATION OF INSURANCE PRINCIPLES  INSURANCE PRINCIPLES 2  Utmost good faith  Insurable interest  Indemnity  Subrogation  Contribution  Arbitration  Proximate cause  PRINCIPAL OF UTMOST GOOD FAITH 3  A higher degree of honesty is imposed on both parties to an insurance contract than is imposed on parties to other contracts  Commercial contract- the doctrine of Caveat de emptor (let the buyer beware)  Insurance contract – a duty of Uberrima Fides or Utmost Good faith (on both insurer and insured)  Insurers are required  Not to accept an insurance which they know is unenforceable at law  To issue the policy in unambiguous terms  To make no untrue statement in the negotiations with the proposer.  Supported by three legal doctrines: 4  Representations are statements made by the applicant for insurance A contract is voidable if the representation is material, false, and relied on by the insurer  An innocent misrepresentation of a material fact, if relied on by the insurer, makes the contract voidable 5  A concealment is intentional failure of the applicant for insurance to reveal a material fact to the insurer  A warranty is a statement that becomes part of the insurance contract and is guaranteed by the maker to be true in all respects  Statements made by applicants are considered representations, not warranties  PRINCIPAL OF INSURABLE INTEREST 6  The insured must stand to lose financially if a loss occurs  Relationship to the subject matter, recognised by law, by reason of which he will benefit by its continued safety or be prejudiced by its loss.  Principle of Insurable Interest 7  Must demonstrate a ‘loss’ to collect  Would be gambling or intentional loss if an insured could collect with no personal loss  Insurance is a ‘personal’ contract  Follows the person - not the property  Principle of Insurable Interest 8 Purpose:  To prevent gambling  To reduce moral hazard  To measure the amount of loss  When must insurable interest exist?  Property insurance: at the time of the loss  Life insurance: only at inception of the policy  Principle of Insurable Interest 9  What constitutes insurable interest?  Ownership  Leases (in some cases)  Secured creditors (not general creditors)  Legal liability  Care, custody, and control  Life insurance - exists for person voluntarily insuring ones own life - others must have insurable interest  PRINCIPAL OF INDEMNITY 10  The insurer agrees to pay no more than the actual amount of the loss  Compensation for a loss sustained.  Purpose:  To prevent the insured from profiting from a loss  To reduce moral hazard  All contracts of property are contract of indemnity but not life assurances.  Principle of Indemnity 11  Principle of insurable interest determines if a loss is suffered; the principle of indemnity places a limit on the amount of the loss.  A person may not collect more than the actual loss sustained - cannot make a profit  The best that one can hope for is to be placed in the same financial position after the loss compared to before  Principle of Indemnity 12  In property insurance, indemnification is based on the actual cash value of the property at the time of loss  There are three main methods to determine actual cash value:  Replacement cost less depreciation  Fair market value is the price a willing buyer would pay a willing seller in a free market  Broad evidence rule means that the determination of ACV should include all relevant factors an expert would use to determine the value of the property  Principle of Indemnity 13  There are some exceptions to the principle of indemnity:  A valued policy pays the face amount of insurance if a total loss occurs  Some states have a valued policy law that requires payment of the face amount of insurance to the insured if a total loss to real property occurs from a peril specified in the law  Replacement cost insurance means there is no deduction for depreciation in determining the amount paid for a loss  A life insurance contract is a valued policy that pays a stated sum to the beneficiary upon the insured’s death  PRINCIPAL OF SUBROGATION 14  Substitution of the insurer in place of the insured for the purpose of claiming indemnity from a third person for a loss covered by insurance.  The right of the insurer who has granted an indemnity to receive, after payment of a loss, the advantage of every right of the insured, arising previously or in the future, including rights in contract or in tort, which may diminish the insured’s loss.  Principle of Subrogation The principle of subrogation states that an insurer who has indemnified an insured for a loss may exercise the insured's rights to claim from the third party in respect of the loss. In this case, insured parties receive compensations from the third party through the insurance company. The principle of subrogation strongly supports the principle of indemnity. Why? It basically reinforces the principle of indemnity by preventing the insured from collecting twice for the same loss and profiting from the loss. The insurer is entitled to recover from a negligent third party any loss payments made to the insured. Subrogation does not apply unless the insurer makes a loss payment.  Principle of Subrogation 16  Implied in all contract of indemnity.  Purpose:  To prevent the insured from collecting twice for the same loss  To hold the negligent person responsible for the loss  To hold down insurance rates  Principle of Subrogation 17  The insurer is entitled only to the amount it has paid under the policy  The insured cannot impair the insurer’s subrogation rights  Subrogation does not apply to life insurance and to most individual health insurance contracts  The insurer cannot subrogate against its own insureds  Principle of Subrogation 18 If insurance did not exist injury Negligent Injured suit party  Principle of Subrogation 19 One who indemnifies another’s loss is entitled to recovery from any liable third parties Negligent Injured party causes insured injury Insurer Insurer subrogates pays against negligent party  Principle of Subrogation 20 Example 1 Insured has $10,000 loss and injury Negligent Party recovers $7,000 pays $5,000 from insurer Insurer pays subrogates $8,000 less $1,000 $3,000 to insured Deductible $2,000 to insurer  Principle of Subrogation Example 2 21 For example, let us suppose that a house has been damaged in a fire started by the negligence of a plumber who has come to repair a pipe. The damage amounts to S$10,000 and the house owner has a household policy which covers fire damage. The house owner has. twomeans of recovering this loss. Firstly, he can claim under his own household policy. Secondly, he can make a claim against the plumber based on negligence. Figure below illustrates the choices that the house owner has.  Principle of Subrogation Example 2 (Contd.) 22 The easiest course is to claim against the household insurer. However, if the house owner receives an indemnity from his insurer (in other words, the insurer pays the claim), he will lose the right to recover from the plumber. This right is now transferred to the household insurer, who can sue the plumber in the name of the insured to recover the claim payment In the above example, the insurer has indemnified the insured, and the insured has not enforced his alternative rights to compensation. Thus, the insurer may “step into his shoes” and pursue any right of action available to the insured to reduce the loss insured against.  Principle of Subrogation Example 2 (Contd.) 23  PRINCIPLE OF CONTRIBUTION 24  The apportionment of liability as between insurers in the event of double insurance.  Rule that concerns the distribution of the aggregate Surplus among the policies in the same proportion as each respective policy has contributed to the surplus How Contribution May Arise Contribution will apply only where the following conditions are met:  Two or more policies of indemnity exist.  The policies cover a common interest.  The policies cover a common peril  The policies cover a common subject matter.  Each policy must be liable for the loss.  ARBITRATION 26  Alternative to litigation  If the parties agree, the dispute may be heard by and adjudicated upon a single arbitrator.  If they fail to agree on who should act, then it is provided that each party shall appoint his own arbitrator, in which event an independent umpire will also be appointed.  It is the task of the umpire to deal with any point on which the two arbitrators fail to agree.  PROXIMATE CAUSE 27  Loss must be caused as the result of a peril covered by the policy.  Direct relationship of cause and effect, of which the cause must be proximate in efficiency though not necessarily in point of time.  PROXIMATE CAUSE 28  Takes into account that a particular effect may be the result of a chain of causes in which each cause is a natural result of the preceding cause, but the chain of causation may be broken by the intervention of anew and independent cause.  Principles of causa proxima non remota spectatur (it is the immediate and not the remote cause which is to be considered).  Example Example 1  Lightning damaged a building and weakened a wall.  Shortly afterwards, the wall was blown down by high winds. Example 2  Fire damaged a wall and left it weakened.  Several days later a gale blew the wall down.