| Principles of Insurance (Part 1) | |||
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Characteristics of insurance policies as contracts All insurance policies are contracts that exhibit certain characteristics in common. We'll take a closer look at each of the following facets that together define an insurance policy as a special type of contract: Personal contract An insurance policy is a "personal contract", meaning it is written for a specific person or organization (and their legal representatives). For example, an insurance policy insures the person or company who own a property as to their specific financial interest in that property. Conditional contract Insurance contracts are conditional in that the contract responds to specific events. If those events do not occur, then there is no performance required under the contract. For example, a policy written on a home for the peril of fire will only respond if, in fact, the home catches on fire. In a nutshell, if the conditions insured on the policy do not occur, the policy does not perform. Contract of adhesion One of the distinctive features of an insurance contract is that the language of the contract is prepared and controlled by only one party to the contract: the insurance company. Of course the insured can elect to add endorsements and participate in the creation of the policy, but the language that is used is strictly in the power of the insurer. The insured must "adhere" to the contract as prepared by the insurer, which is why the contract is referred to as a "contract of adhesion". You probably take this characteristic of insurance policies for granted, but think about this one-sidedness for a moment and consider why insurance policies are contracts of adhesion. In fact, aren't there instances when adhesion works against the insurer, since fingers can be pointed to them as the owner of the document wording? Despite any disadvantages from having a contract of adhesion, it is clearly to the benefit of the insurer - and the insurance industry at large - to have standardized, professionally scripted language in insurance policies to avoid ambiguities and inconsistencies of wording and to have wording that is recognized by the insurance industry and the courts. Aleatory contract An "aleatory contract" is one in which equal value is not given to both parties of the contact. The term "aleatory" refers to the concept of "bad luck". If there is a loss, the insured receives much more value than the dollar amount of the insurance premium paid. For example, you buy a $100,000 fire policy on your home for a premium of $350 per year. If in the first week that the policy is in effect your home burns to the ground, you receive $100,000 from a total of $350 in paid premiums. Unilateral contract An insurance contract is referred to as a "unilateral contract" because only one party to the contract, the insurer, makes an enforceable promise to perform. The insured pays a premium but makes no promises in the contract to perform. Only the insurance company makes a promise to perform - that is, to pay a claim as covered in the insurance. If both parties to the contract have to perform, the contract would be termed "bilateral". Contract of good faith The insured relies on the good faith promise that an insurance company can and will pay claims as promised in the insurance contract. As means to determine is an insurer can live up to its promise: The insurance company, likewise, relies on the good faith and truthfulness of the insured in purchasing insurance protection. The insurer requires complete honesty and disclosure of all relevant facts between the parties. Let's go over some key terms and concepts in regards to contracts of good faith: Representation A "representation" is a statement that is true to the best knowledge of the party making the representation. In insurance contracts representations are often statements made before entering into the contract. Representations can be found in the insurance policy application. The insurance company relies on these representations for acceptance, rating, and issuance of the policy. Misrepresentation A "misrepresentation" is a false statement. Note that not all misrepresentations are significant to the insurance company. Material misrepresentation In general, you can determine if a representation is "material" or not by whether or not it would have made any difference to the insurance company as relates to acceptance, rating, or policy terms available. A "material misrepresentation" could be sufficient cause to rescind coverage and void the insurance contract. Concealment "Concealment" is the withholding of facts that should have been presented to the insurance company. Concealments are unspoken. Concealments can also be material or non-material. A material concealment may entitle the insurance company to rescind coverage even if it is unintentional, such as the insured honestly claiming that he didn't tell the insurance company about two previous DUI tickets because he didn't think that it mattered in his auto claim. Warranties A "warranty" is a guarantee that the fact or statement is true. A warranty can either be express (written) or implied (oral). An example of an express warranty is an insured stating a fact in writing about a fire claim upon which the company relied. An example of an implied warranty is the insured telling the insurance company that the boat they wish to insure is seaworthy as a pre-requisite to issuing coverage. The insurance company may very well deny coverage based on a breach of warranty. Fraud "Fraud" is similar to material misrepresentation in that it is a false statement. Fraud is an intentional misstatement of fact made by the insured with the intention of unfairly applying for insurance or inducing the insurer to pay an unjustified claim. Common frauds include "padding" or inflating actual claims, misrepresenting facts on an insurance application, submitting claims for injuries or damage that never occurred, and staging accidents. The Insurance Information Institute estimates that property and casualty fraud (excluding life and health insurance fraud) cost insurers about $21 billion in l998. The total cost of all kinds of insurance fraud is estimated to be between $85 billion and $120 billion a year. The Coalition Against Insurance Fraud estimates that insurance fraud is the equivalent of a hidden tax of more than $1,000 per family on the cost of goods and service in the United States. Property and casualty insurers spent an estimated $650 million to fight fraud in l996 based on a survey of 150 insurers by the Insurance Research Council (IRC). If the insurance company finds out that fraud has been committed, coverage can be rescinded and the insured can be criminally prosecuted. Insurance companies have separate departments to investigate fraud and take the legal action necessary. Contract of indemnity Another distinctive characteristic of an insurance policy is that it is a "contract of indemnity". The intent of the insurance contract is to put the insured back to the financial position that they were prior to the loss in order to make the insured "whole" again. A contract of indemnity thereby "indemnifies" the insured for their financial loss: no more and no less. |
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Not only are policy forms, clauses, rules and court decisions constantly changing, but forms vary from company to company and state to state. This material is intended as a general guideline and might not apply to a specific situation. The authors, LunchTimeCE, Inc., CEfreedom, and Insurance Skills Center, and any organization for whom this course is administered will have neither liability nor responsibility to any person or entity with respect to any loss or damage alleged to be caused directly or indirectly as a result of information contained in this course.
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