Essay Networks

Frequently Used Insurance Terms

1. What is a “Risk”?

Risk is nothing but a possibility of adverse results arising from any occurrence. Therefore Risk arises out of uncertainty.

In Insurance business, the term risk is used to mean: either a peril to be insured against (fire is a risk to which property is exposed) or a person or property protected by insurance, (miners are not considered as good risk for accident insurance)

2. What is a peril?

A peril is the cause of loss in a situation i.e. fire, storm, flood or theft etc. By taking an insurance cover, one protects himself or his property against certain perils.

3. What is a cover note?

It is not always possible on the part of the Insurance Company to issue an actual policy document immediately as soon as the proposal is signed and premium is paid. There may be a need for the insured to prove that the cover is in force, for instance in motor insurance, there is a legal requirement. In such cases as a temporary measure, a document which is known as ‘cover note’ is issued to the insured which briefly gives the details of the cover. Subsequently, cover note is replaced by the policy document.

4. What is utmost Good Faith?

This is one of the basic principles of insurance. When a person comes to the Insurance Company for any Insurance, he knows everything about the property or the person to be insured whereas the insurance company knows nothing. Hence it is the duty of the insured to make a full disclosure to the insurance company without being asked of all material circumstances. This is expressed by saying it is a contract of the utmost good faith.

5. What is insurable interest?

The existence of insurable interest is an essential ingredient of any insurance contract.

In an insurance contract, it is not the house or machinery or the ship that is insured, but it is the pecuniary interest of the insured in that house, machinery or shop etc. which is insured.

The insured must stand in a relationship with the subject matter of insurance whereby he benefits from its safety or well-being and would be prejudiced by its loss or damage. And this relationship must be recognized by law.

6. What is indemnity?

‘Indemnity’ for the purpose of insurance contracts, is a mechanism by which insurers provide financial compensation sufficient to place the insured in the same financial position after a loss as he enjoyed immediately before it occurred. In layman’s language, if your old property is totally damaged or lost, insurance company will normally, reimburse the present market value of the old property and not the value of a brand new property of similar nature. But there are certain exceptions to this principle.

7. What is reinstatement?

As a method of providing indemnity, reinstatement refers to property insurance where an insurer undertakes to restore or rebuild a building or piece of machinery damaged by any specified perils or by breakdown under an engineering policy.

Under a ‘reinstatement value policy’ if the Sum Insured is chosen for the new value of the property, in case of a loss, the insured can be reimbursed the current replacement value of the property without any deduction for wear and tear or depreciation.

8. What is Sum Insured?

Sum insured is nothing but the value for which a property or a person is insured. There is no system which makes you to determine the exact value of property to be insured. In fire or engineering insurance, insured has the option to select the new replacement cost of the Building / Property or machinery as the Sum Insured and in case of a loss; they may get reimbursed the said cost under the principle of “new for old”.

For covering a person, there is no set formula and the insurance companies normally accept maximum 3 to 5 times of annual income of the person as the Sum Insured under accident policy.

9. What is a valued policy?

Sometimes the insured may not be in a position to determine the exact value of the property to be insured. The reasons for this may be various. Let us take an example of a piece of jewelry or a vintage car whose value may be much more than the real pecuniary value of the property. Even in case of marine Insurance with exchange fluctuations and the time taken for transit the value of the property also varies. Under such circumstances both insured and the insurer agree for a basis of valuation which may be more or sometimes less than the actual value of the property. Such policies are called “valued policies”.

10. What are the consequences of Non receipt of Policy Document?

Sometimes there is a delay in issuance of policies by insurance companies. Once the insurance company has issued the receipt on payment of full premium you can be rest assured about the coverage of your property. In such cases, it is better to remind the company to issue the policy for your records.

11. Last year I have covered my building against fire Insurance. The policy has already lapsed and I did not receive any renewal notice from the Insurance Company. What shall I do now for covering the risk? Shall I have to pay any penalty?

Though it is the normal practice of any Insurance Company to send the renewal notices to their customers, sometimes they do fail to issue such notices. However, these days, with greater thrust on customer service the companies are trying their best to remind their client’s for renewals. However it is not mandatory and the onus lies on the insured to renew their policies. But in this case, no penalty need be paid and all you have to do is to contact the Insurance Office and you may be asked to fill up one more proposal form and pay the premium to cover the risk afresh. However you must note that in the event of a loss before the payment of the premium, the Insurance Company would not be responsible and the claim would be repudiated.

Insurance

Insurance, in law and economics, is a form of risk management primarily used to hedge against the risk of potential financial loss. Insurance is defined as the equitable transfer of the risk of a potential loss, from one entity to another, in exchange for a premium and duty of care.

Principles of insurance

The timing or occurrence of the loss must be uncertain.

The rate of losses must be relatively predictable: In order to set premiums (prices) insurers must be able to estimate them accurately. This is done using the Law of Large Numbers which states that: The larger the number of homogenous exposures considered, the more closely the losses reported will equal the underlying probability of loss. If the coverage is unique, the insured will pay a correspondingly higher premium. Lloyd’s of London often accepts unique coverage. (e.g., the insuring of Tina Turner’s legs and Jennifer Lopez’s butt)

The losses must be predictable on a macro level: Insurers need to know how much they would be required to pay when the insured-for event occurs. Most types of insurance have maximum levels of payouts, but not all do, notably health insurance.

The loss must be significant: The legal principle of De minimis dictates that trivial matters are not covered. Furthermore, rational insurance uses existing insurance when the transaction costs dictate that filing a claim is not rational.

The loss must not be catastrophic: If the insurer is insolvent, it will be unable to pay the insured. In the United States, there is a system of Guaranty Funds run at the state level to reimburse insured people whose insurance companies have become insolvent. [1] This program is run by the National Association of Insurance Commissioners (NAIC). [2] To avoid catastrophic depletion of their own capital, insurers almost universally purchase reinsurance to protect them against excessively large accumulations of risk in a single area, and to protect them against large-scale catastrophes.

Insurance Contract Principles

A property or liability insurance policy is a “personal contract,” a “conditional contract,” a “unilateral contract,” a “contract of adhesion,” a “contract of indemnity,” and a contract which requires that the person insured have an insurable interest at the time of the insured-against contingency.

Personal Contract

Property and liability insurance policies cover persons and not property or operations. Although the terms “insured my house” or “insured my motorcycle” are used commonly, they are not technically correct. The contract between the insurer and the insured is a personal contract between an insuring entity and a person(s) and not the object being insured. In other words, the question of whether payment is due upon the occurrence of a contingency, and how such payment will be measured, depends upon economic loss suffered by the person(s).

Conditional Contract

Property and liability insurance policies are said to be “conditional contracts” because the obligation of the insurer to perform may be conditioned upon the insured satisfying certain conditions.

Unilateral Contract

Only one party is legally bound to contractual obligations after the premium is paid to the insurer. Only the insurer has made a promise of future performance, and only the insurer can be charged with breach of contract.

Contract of Adhesion

Property and liability insurance policies are said to be “contracts of adhesion” because the insurer and insured parties are of unequal bargaining power where the insured party cannot negotiate the terms of the contract and must take the offer of the insurer as made. Importantly, the rule of law regarding “contracts of adhesion” is that any ambiguities resolve in favor of the insured

Contract of Indemnity

Property and liability insurance policies are said to be “contracts of indemnity” because the purpose of insurance is to indemnify the insured. The principle of indemnification is that the insured should not profit nor incur an economic loss from the response provided by the policy.

Insurable Interest

Insurable interest is one wherein economic loss would be suffered from an adverse occurrence to the person(s) insured.

Indemnification

An entity seeking to transfer risk (an individual, corporation, or association of any type) becomes the ‘insured’ party once risk is assumed by an ‘insurer’, the insuring party, by means of a contract, defined as an insurance ‘policy’. This legal contract sets out terms and conditions specifying the amount of coverage (compensation) to be rendered to the insured, by the insurer upon assumption of risk, in the event of a loss, and all the specific perils covered against (indemnified), for the term of the contract.

When insured parties experience a loss for a specified peril, the coverage entitles the policyholder to make a ‘claim’ against the insurer for the amount of loss as specified by the policy contract. The fee paid by the insured to the insurer for assuming the risk is called the ‘premium’. Insurance premiums from many clients are used to fund accounts set aside for later payment of claims – in theory for a relatively few claimants – and for overhead costs. So long as an insurer maintains adequate funds set aside for anticipated losses, the remaining margin becomes their profit.

How an insurance company makes money

A customer might pay one or more premium payments over time. The company collects these payments from one or more customers. If something happens, which triggers a claim, the company then pays out a certain amount of money. If, during the lifetime of all of the company’s insurance contracts, it pays out less than it has taken in, it makes what is known as an underwriting profit. One measure of an insurance company’s performance is their loss ratio (incurred losses and loss-adjustment expenses divided by net earned premium). The loss ratio is added to the expense ratio (underwriting expenses divided by net premium written) to determine the company’s combined ratio. The combined ratio is a reflection of the company’s overall underwriting profitability. A combined ratio of less than 100 percent indicates a profit, while anything over 100 is a loss. One company that is famous for achieving underwriting profit is American International Group. Berkshire Hathaway, by contrast, is famous for making its money on “float” rather than underwriting profit. Float is the concept that as insurance premiums are collected up front, and claims paid over time (sometimes up to periods of 10 years or more), the insurance companies are able to collect investment income on the money they have reserved for claims that have not occurred yet, or have not yet been paid. Over time, this interest is compounded into significant dollars, particularly for a company as large as Berkshire Hathaway.

In many cases a company’s combined ratio is greater than 100 percent; however the company still manages to make money. This is because in between the time the company collects premiums and when it pays out claims, it can invest that money. The return from these investments may offset an underwriting loss resulting in profit. For example, if a company has to pay out 10 percent more than it took in, but made a 20 percent return on its investment, then it made a 10 percent profit. However, since most insurance companies consider it only prudent (and may be mandated to do so by laws controlling insurance businesses in the territory in which they operate) to invest in risk-free government bonds, or other lower risk and lower return forms of investments, it’s important that the extra amount it has to pay out compared to what it has to take in is less than the percent return of these investments. If it isn’t, the company loses money. The extra amount that a company has to pay out can be considered a “cost of funds” and be compared to an interest rate of the same company borrowing money. Because of this, most insurance companies don’t have a goal just to have any amount of profit over the cost of funds, but rather to have this cost of funds be lower than what they would have been able to get by borrowing somewhere else. If this isn’t the case, the insurance company does not add any value to their owners, who theoretically could have borrowed money from somewhere else and made the same investments themselves.

Although insurers traditionally depended upon underwriting profit to provide them with operating profit, market forces now require that insurers earn the bulk of their profit on investment income on premiums held pending claims occurrence. This is a form of financial leveraging.

Determination of rate structures

The insurer uses actuarial science to quantify the risk they are willing to assume. Data is generated to approximate future claims, ordinarily with reasonable accuracy. Actuarial science uses statistics and probability to analyze the risks associated with the range of perils covered, and these scientific principles are used by insurers, in conjunction with additional factors, to determine rate structures.

For example, many individuals purchase homeowner’s insurance policies by signing a contract paying a premium to an insurance company. If a covered loss occurs, the insurer is obliged by the terms of the contract to honor the insured’s claim. For some policyholders, the amount of insurance benefits received from their insurer will greatly exceed the expense of premiums paid. Others may never make a claim or receive any benefit other than the peace of mind rendered by the security of an insurance policy. When averaged, the total claims expense paid by an insurer should be less than the total premiums paid by their policyholders, with the difference allocated to overhead and profit.

Insurance companies also earn investment profits. These are generated by investing premiums received until they are needed to pay claims. This money is called the ‘float’. The insurer may make profits or losses from the value change in the float as well as interest or dividends on the float. In the United States, the underwriting loss of property and casualty insurance companies was $142.3 billion in the five years ending 2003. But overall profit for the same period was $68.4 billion, at the result of float. Some insurance industry insiders, most notably Hank Greenberg, do not believe that it is forever possible to sustain a profit from float without an underwriting profit as well, but this opinion is not universally held.

History of insurance

Early methods of transferring or distributing risk were practiced by Chinese and Babylonian traders as long ago as the 3rd and 2nd millennium BC respectively. Chinese merchants traveling treacherous river rapids would redistribute their wares across many vessels to limit the loss due to any single capsizing. The Babylonians developed a system which was recorded in the famous Code of Hammurabi, c. 1750 BC, and practiced by early Mediterranean sailing merchants. If a merchant received a loan to fund his shipment, he would pay the lender an additional sum in exchange for the lender’s guarantee to cancel the loan should the shipment be stolen.

A thousand years later, the inhabitants of Rhodes invented the concept of the ‘general average’. Merchants whose goods were being shipped together would pay a proportionally divided premium which would be used to reimburse any merchant whose goods were jettisoned during storm or sinking.

The Greeks and Romans introduced the origins of health and life insurance c. 600 AD when they organized guilds called “benevolent societies” which acted to care for the families and funeral expenses of members upon death. Guilds in the Middle Ages served a similar purpose. The Talmud deals with several aspects of insuring goods. Before insurance was established in the late 17th century, “friendly societies” existed in England, in which people donated amounts of money to a general sum that could be used in case of emergency.

Separate insurance contracts (i.e. insurance policies not bundled with loans or other kinds of contracts) were invented in Genoa in the 14th century, as were insurance pools backed by pledges of landed estates. These new insurance contracts allowed insurance to be separated from investment, a separation of roles that first proved useful in marine insurance. Insurance became far more sophisticated in post-Renaissance Europe, and specialized varieties developed.

Toward the end of the seventeenth century, the growing importance of London as a center for trade led to rising demand for marine insurance. In the late 1680s, Mr. Edward Lloyd opened a coffee house which became a popular haunt of ship owners, merchants, and ships’ captains, and thereby a reliable source of the latest shipping news. It became the meeting place for parties wishing to insure cargoes and ships, and those willing to underwrite such ventures. Today, Lloyd’s of London remains the leading market for marine and other specialist types of insurance, but it works rather differently than the more familiar kinds of insurance.

Insurance as we know it today can be traced to the Great Fire of London, which in 1666 devoured 13,200 houses. In the aftermath of this disaster Nicholas Barbon opened an office to insure buildings. In 1680 he established England’s first fire insurance company, “The Fire Office,” to insure brick and frame homes.

The first insurance company in the United States provided fire insurance and was formed in Charles Town (modern-day Charleston), South Carolina, in 1732.

Benjamin Franklin helped to popularize and make standard the practice of insurance, particularly against fire in the form of perpetual insurance. In 1752, he founded the Philadelphia Contributionship for the Insurance of Houses from Loss by Fire. Franklin’s company was the first to make contributions toward fire prevention. Not only did his company warn against certain fire hazards, it refused to insure certain buildings where the risk of fire was too great, such as all wooden houses.

In the United States, regulation of the insurance industry is highly Balkanized, with primary responsibility assumed by individual State insurance departments. Whereas insurance markets have become centralized nationally and internationally, state insurance commissioners operate individually, though at times in concert through a national insurance commissioner’s organization. In recent years, some have called for a federal regulatory system for insurance similar to that of the banking industry.

In the State of New York, which has unique laws in keeping with its stature as a global business center, Attorney General Eliot Spitzer has been in a unique position to grapple with major national insurance brokerages. Spitzer alleged that Marsh & McLennan steered business to insurance carriers based on the amount of contingent commissions that could be extracted from carriers, rather than basing decisions on whether carriers had the best deals for clients. Several of the largest commercial insurance brokerages have since stopped accepting contingent commissions and have adopted new business models.

Types of insurance

Any risk that can be quantified probably has a type of insurance to protect it. Among the different types of insurance are:

Automobile insurance – also known as auto insurance, car insurance and in the UK as motor insurance, is probably the most common form of insurance and may cover both legal liability claims against the driver and loss of or damage to the vehicle itself. Over most of the United States purchasing an auto insurance policy is required to legally operate a motor vehicle on public roads. Recommendations for which policy limits should be used are specified in a number of books. In some jurisdictions, bodily injury compensation for automobile accident victims has been changed to No Fault systems, which reduce or eliminate the ability to sue for compensation but provide automatic eligibility for benefits.

Boiler insurance – (also known as Boiler and Machinery insurance or Equipment Breakdown Insurance)

Casualty insurance – insures against accidents, not necessarily tied to any specific property.

Credit insurance – pays some or all of a loan back when certain things happen to the borrower such as unemployment, disability, or death.

Financial loss insurance – protects individuals and companies against various financial risks. For example, a business might purchase cover to protect it from loss of sales if a fire in a factory prevented it from carrying out its business for a time. Insurance might also cover failure of a creditor to pay money it owes to the insured. Fidelity bonds and surety bonds are included in this category.

Health insurance – covers medical bills incurred because of sickness or accidents.

Liability insurance – covers legal claims against the insured. For example, a homeowner’s insurance policy provides the insured with protection in the event of a claim brought by someone who slips and falls on the property, and brings a lawsuit for her injuries. Similarly, a doctor may purchase liability insurance to cover any legal claims against him if his negligence (carelessness) in treating a patient caused the patient injury and/or monetary harm. The protection offered by a liability insurance policy is two-fold: a legal defense in the event of a lawsuit commenced against the policyholder, plus indemnification (payment on behalf of the insured) with respect to a settlement or court verdict.

Life insurance – provides a cash benefit to a decedent’s family or other designated beneficiary, and may specifically provide for burial and other final expenses.

* Annuities provide a stream of payments and are generally classified as insurance because they are issued by insurance companies and regulated as insurance. Annuities and pensions that pay a benefit for life are sometimes regarded as insurance against the possibility that a retiree will outlive his or her financial resources. In that sense, they are the complement of life insurance.

Total permanent disability insurance – provides benefits when a person is permanently disabled and can no longer work in their profession, often taken as an adjunct to life insurance.

Locked Funds Insurance – is a little known hybrid insurance policy jointly issued by governments and banks. It is used to protect public funds from tamper by unauthorized parties. In special cases, a government may authorize its use in protecting semi-private funds which are liable to tamper. Terms of this type of insurance are usually very strict. As such it is only used in extreme cases where maximum security of funds is required.

Marine Insurance – covers the loss or damage of goods at sea. Marine insurance typically compensates the owner of merchandise for losses sustained from fire, shipwreck, etc., but excludes losses that can be recovered from the carrier.

Nuclear incident insurance – damages resulting from an incident involving radioactive materials is generally arranged at the national level. (For the United States, see Price-Anderson Nuclear Industries Indemnity Act.)

Political risk insurance – can be taken out by businesses with operations in countries in which there is a risk that revolution or other political conditions will result in a loss.

Professional Indemnity Insurance – is normally a mandatory requirement for professional practitioners such as Architects, Lawyers, Doctors and Accountants to provide insurance cover against potential negligence claims. Non licensed professionals may also purchase malpractice insurance, it is commonly called

Errors and Omissions Insurance – covers a service provider for claims made against them that arise out of the performance of specified professional services. For instance, a web site designer can obtain E&O insurance to cover them for certain claims made by third parties that arise out of negligent performance of web site development services.

Property insurance – provides protection against risks to property, such as fire, theft or weather damage. This includes specialized forms of insurance such as fire insurance, flood insurance, earthquake insurance, home insurance, inland marine insurance or boiler insurance.

Terrorism insurance – insurance purchased by property owners to cover their potential losses and liabilities that might occur due to terrorist activities

Title insurance – provides a guarantee that title to real property is vested in the purchaser and/or mortgagee, free and clear of liens or encumbrances. It is usually issued in conjunction with a search of the public records done at the time of a real estate transaction.

Travel insurance – is an insurance cover taken by those who travel abroad, which covers certain losses such as medical expenses, lost of personal belongings, travel delay, personal liabilities.. Etc.

Workers’ compensation insurance – replaces all or part of a worker’s wages lost and accompanying medical expense incurred due to a job-related injury.

A single policy may cover risks in one or more of the above categories. For example, car insurance would typically cover both property risk (covering the risk of theft or damage to the car) and liability risk (covering legal claims from say, causing an accident). A homeowner’s insurance policy in the US typically includes property insurance covering damage to the home and the owner’s belongings, liability insurance covering certain legal claims against the owner, and even a small amount of health insurance for medical expenses of guests who are injured on the owner’s property.

Potential sources of risk that may give rise to claims are known as “perils”. Examples of perils might be fire, theft, earthquake, hurricane and many other potential risks. An insurance policy will set out in details which perils are covered by the policy and which are not.

Types of insurance companies

Insurance companies may be classified as:

Life insurance companies who sell life insurance, annuities and pensions products

Non-life or general insurance companies who sell other types of insurance

In most countries, life and non-life insurers are subject to different regulations, tax and accounting rules. The main reason for the distinction between the two types of company is that life business is very long term in nature – coverage for life assurance or a pension can cover risks over many decades. By contrast, non-life insurance cover usually covers a shorter period, such as one year.

Insurance companies are generally classified as either mutual or stock companies. This is more of a traditional distinction as true mutual companies are becoming rare. Mutual companies are owned by the policyholders, while stockholders, (who may or may not own policies) own stock insurance companies.

Reinsurance companies

Are insurance companies that sell policies to other insurance companies, allowing them to reduce their risks and protect themselves from very large losses. The reinsurance market is dominated by a few very large companies, with huge reserves.

Captive Insurance companies

They can be defined as limited purpose insurance companies established with the specific objective of financing risks emanating from their parent group or groups. This definition can sometimes be extended to include some of the risks of the parent company’s customers. In short terms, it is an in-house self-insurance vehicle. Captives may take the form of a “pure” entity (which is a 100% a subsidiary of the self-insured parent company); of a “mutual” captive (which insures the collective risks of industry members) and of an “association” captive (which self-insures individual risks of the members of a professional, commercial or industrial association). Captives represent commercial, economic and tax advantages to their sponsors due to the reductions on costs they help create the ease for insurance risk management and the flexibility for cash flows they generate. Additionally, they may provide coverage of risks which are neither available nor offered in the traditional insurance market at reasonable prices.

The types of risk that a captive can underwrite for the parent include property damage, public and products liability, professional indemnity, employee benefits, employers’ liability, motor and medical aid expenses. The captive’s exposure to such risks may be limited by the use of reinsurance.

Captives are becoming an increasingly important component of the risk management and risk financing strategy of their parent. This can be understood against the following background:

Heavy and increasing premium costs in almost every line of coverage

Difficulties in insuring certain types of fortuitous risk

Differential coverage standards in various parts of the world

Rating structures which reflect market trends rather than individual loss experience

Insufficient credit for deductibles and/or loss control efforts

There are also companies known as ‘insurance consultants’. Like a mortgage broker, these companies are paid a fee by the customer to shop around for the best insurance policy amongst many companies.

Similar to an insurance consultant, an ‘insurance broker’ also shops around for the best insurance policy amongst many companies. However, with insurance brokers, the fee is usually paid in the form of commission from the insurer that is selected rather than directly from the client.

Third Party Administrators are companies that perform underwriting and sometimes claim handling services for insurance companies. These companies often have special expertise that the insurance companies do not have.

Life insurance and saving

Certain life insurance contracts accumulate cash values, which may be taken by the insured if the policy is surrendered or which may be borrowed against. Some policies, such as annuities and endowment policies, are financial instruments to accumulate or liquidate wealth when it is needed. See life insurance.

In many countries, such as the US and the UK, tax law provides that the interest on this cash value is not taxable under certain circumstances. This leads to widespread use of life insurance as a tax-efficient method of saving as well as protection in the event of early death.

Size of global insurance industry

Global insurance premiums grew by 9.7% in 2004 to reach $3.3 trillion. This follows 11.7% growth in the previous year. Life insurance premiums grew by 9.8% during the year due to rising demand for annuity and pension products. Non-life insurance premiums grew by 9.4% as premium rates increased. Over the past decade, global insurance premiums rose by more than a half as annual growth fluctuated between 2% and 10%.

Advanced economies account for the bulk of global insurance. With premium income of $1,217bn in 2004, North America was the most important region, followed by the EU ($1,198bn) and Japan ($492bn). The top four countries accounted for nearly two-thirds of premiums in 2004. The US and Japan alone accounted for a half of world insurance, much higher than their 7% share of the global population. Emerging markets accounted for over 85% of the world’s population but generated only 10% of premiums. The volume of UK insurance business totaled $295bn in 2004 or 9.1% of global premiums.

Financial viability of insurance companies

Financial stability and strength of the insurance company should be a major consideration when purchasing an insurance contract. An insurance premium paid currently provides coverage for losses that might arise many years in the future. For that reason, the viability of the insurance carrier is very important. In recent years, a number of insurance companies have become insolvent, leaving their policyholders with no coverage (or coverage only from a government-backed insurance pool with less attractive payouts for losses). A number of independent rating agencies, such as Best’s, provide information and rate the financial viability of insurance companies.

Health insurance

Health insurance, which is coverage for individuals to protect them against medical costs, is a highly charged and political issue in the United States, which does not have socialized health coverage. In theory, the market for health insurance provision should function in a manner similar to other insurance coverages, but the skyrocketing cost of health coverage has disrupted markets around the globe, but perhaps most glaringly in the US. Please see health insurance for a discussion of this category.

Dental insurance

Dental insurance, like health insurance, is coverage for individuals to protect them against dental costs. Dental insurance usually goes hand-in-hand with health insurance, with most people in the United States receiving it included in their health insurance plan from their employer. Along with receiving dental insurance from your employer, there are ways to receive dental insurance through resellers and companies for individuals and families; although this way tends to be too expensive for most people.

Insurance Patents

New insurance products can now be protected from copying with a business method patent. This may lead to the more rapid introduction of new insurance products as insurance companies will invest more heavily in new product development if they can be reasonably assured that their patents will keep those products from being copied.

A recent example of a new insurance product that is patented is telematic auto insurance. It was independently invented and patented by a major US auto insurance company, Progressive Auto Insurance and a Spanish independent inventor, Salvador Minguijon Perez.

The basic idea of telematic auto insurance is that a driver’s behavior is monitored directly while the person drives and this information is transmitted to an insurance company. The insurance company then assesses the risk of that driver having an accident and charges insurance premiums accordingly. A driver that drives a lot of distance at high speed, for example, will be charged a higher rate than a driver that drives small distances at low speed.

Many independent inventors are in favor of patenting new insurance products since it gives them protection from big companies when they bring their new insurance products to market. Independent inventors account for 70% of the new US patent applications in this area.

Many insurance executives are opposed to patenting insurance products because it creates a new risk for them. The Hartford insurance company, for example, had to recently pay US$80 million to an independent inventor, Bancorp Services, in order to settle a patent infringement and theft of trade secret lawsuit for a new type of corporate owned life insurance product invented and patented by Bancorp.

There are currently about 150 new patent applications on insurance inventions filed per year in the United States. Only about 20 – 30 patents per year, however, are actually issued.

Glossary

‘Combined Ratio’ = loss ratio + expense ratio. Loss Ratio is calculated by dividing the amount of losses by the amount of earned premium. Expense ratio is calculated by dividing the amount of operational expenses by the amount of earned premium. A lower number indicates a better return on the amount of capital placed at risk by an insurer.

Utmost Good Faith

Definition

All contracts of insurance are subject to utmost good faith in that people are obliged to disclose any detail which may be of importance to the insurers whether or not it is requested.

Insurance policies are called “contracts of utmost good faith” because they depend upon each party being completely honest. Insurance applicants must tell the insurer every fact that is relevant to their seeking insurance. This information is needed to determine whether an applicant qualifies for insurance and how much premium should be charged.

An insurance policy is classified in law as a contract of “utmost good faith”. That means that, when you apply for insurance, you must not only answer all questions truthfully. You must also disclose voluntarily any relevant information that might have a bearing on the company’s decision whether or not to accept the risk posed by your application. If you are not truthful, all the premiums you pay may be for naught. The company can and likely will deny your claim when they find out you have been less than truthful.

Only fools lie to insurance adjusters

“Oh, what a tangled web we weave, when first we practice to deceive!” wrote Sir Walter Scott 200 years ago.

An insurance policy is classified in law as a contract of “utmost good faith”. That means that, when you apply for insurance, you must not only answer all questions truthfully. You must also disclose voluntarily any relevant information that might have a bearing on the company’s decision whether or not to accept the risk posed by your application. If you are not truthful, all the premiums you pay may be for nought. The company can and likely will deny your claim when they find out you have been less than truthful.

A life insurance application must therefore disclose whether the applicant has suffered from any of a number of diseases or conditions. It may require you to disclose whether you have participated in dangerous pastimes such as sky-diving or bungee-jumping. The company has the right to truthful answers, as they impact directly upon the kind of risk it is being asked to subject its reserves to, and to the level of premiums we all pay. An untruthful applicant will be wasting his time applying and paying premiums.

The chance of detection has become high. It is critical for travelers and snow birds to have travel health insurance. A typical travel health plan will have a number of options, each characterized by the degree of risk a traveler poses. A person with a clean health history will pay less for coverage than a person, who has had, for instance, a history of heart problems, even though the condition may no longer constitute a problem. That person in turn will pay less than a person who has a heart problem within the recent past. An insurance plan simply cannot operate successfully unless each person discloses truthfully what his medical history is.

That means that questionnaires must be answered very carefully and very truthfully. It is most unwise to try to pinch pennies by playing fast and loose with the truth. The consequences of untruthful disclosure can be severe indeed. The cost of emergency heart treatment in US hospitals is astronomical. I know of one instance of a denial of almost $90,000 coverage. Emergency transportation to bring a sick person home similarly carries a huge price tag.

Consider also the plight of Harry L. of Vancouver. Burglars broke into his home in 1995 and carted off a number of items, including over 7,000 compact disks and some business equipment. He was insured against loss by theft for $150,000. He was advised by the adjuster that the business equipment was not covered by the policy. This upset Harry. He foolishly decided to tell the adjuster that “close to 10,000″ CDs had been stolen. A couple of months later, he informed his insurance agent that he had exaggerated his CD claim by approximately 2,500 CDs. He had valued his CDs at $23 each.

The exaggerated 2,500 CDs meant that Mr Lieber had inflated his claim by $57,500. Fine, said Harry. Just pay me for the 7,500 CDs that were actually stolen. Not so fast, said the insurer. You lied to us. You’ve committed fraud. Even though a burglary had taken place, and even though Harry had a valid, substantial claim for stolen property, the insurance company denied the entire claim.

Harry sued and his action was dismissed in its entirety. He learned the hard way that when one’s a party to a contract of utmost good faith, any false statement material to the claim will forfeit everything his premiums paid for.

In Manitoba, Manitoba Public Insurance pays special attention to automobile theft and damage claims it believes are false, rightfully stating that if false claims are paid, everybody suffers by having to pay higher premiums. The same goes for all forms of insurance. It is a top priority of the insurance industry today in this country to eradicate false claims.

Insurance adjusters are trained to look out for the signs of fraud, such as vague and evasive responses and suspicious substantiation of loss. When such signs appear, a variety of procedures may be utilized by the insurance company in an attempt to get to the truth. Lie detectors, though not infallible, will often bring the true facts to light. The Fire Commissioner employs sophisticated methods to ascertain exactly how a building burned to the ground. Private investigators videotape malingering injury claimants from behind darkened windows of ordinary looking vehicles. Medical and hospital records are available to determine the condition of a person’s state of health at any given time.

A tangled web indeed; the more questions that are asked of a liar, the more difficult it is for lies to remain plausible. Inconsistencies appear that cannot be explained away. Fraud is also a criminal offence, and in some cases, criminal charges will be laid against wrongdoers. When false insurance claims are made, it’s always the general public that suffers. No one should be allowed to profit from his own wrongdoing.

Indemnity

Definition

Indemnity is the legal philosophy upon which the concept of most insurance policies rests. Strictly speaking, indemnity is protection from loss and damage claims filed by another person. For example, the owner of an amusement park may have indemnity insurance to compensate visitors injured on his or her property. The eventual insurance payout would be enough to restore the injured person back to the financial state he or she was in before the accident, but nothing more. Only a legal lawsuit brought against the park owner could result in additional punitive damages. Indemnity insurance protects the holder from suffering financial loss due to a lawsuit.

The principle behind indemnity is a financial restoration to a level just before the accident or injury or illegal act. Most laws concerning civil court actions also use indemnity as a measuring stick for damages. If a plaintiff is entitled to compensation for the actions of the defendant, the amount awarded should only bring him or her back to a state of wholeness. Whatever actual losses were suffered would be repaid, but punitive damages would be a separate matter.

Many people encounter indemnity situations and don’t even realize it. Many rental agreements contain an indemnity clause which prevents the customer from suing the rental agency for damages caused by use of the equipment. Leases for apartments may also contain indemnity clauses which limit claims against the owners in case of accidents. Whenever a ticket is purchased for a sporting event or concert, part of the condition of admission is an indemnity agreement between the ticket holder and the venue itself. If an errant baseball strikes a fan or a faulty pyrotechnic display burns a concert-goer, the indemnity agreement protects the stadium or hall from a major lawsuit.

Even if the word ‘indemnity’ is nowhere to be found on a document, there may be an agreement to ‘indemnify’ another party. This means that you agree not to hold someone else responsible for any accidents or injuries you may suffer while on his or her property. “Swim at your Own Risk” signs at an unguarded swimming pool are indicators of an implied indemnity.

If you choose to swim and suffer a head injury from diving, you may not be able to sue the owner of the swimming pool for medical expenses. If you understood the sign’s meaning at the time, you agreed to indemnify the owners. Sometimes an indemnity claim will hold up in court proceedings, but not always. Claiming indemnity from damages does not always mean protection from liability. A property owner may still be responsible for injuries on his property, even if the renter signed an indemnity clause as part of the lease.

What is Insurable Interest?

Definition

Insurable interest is the right of the policyholder to effect insurance, arising out of certain relationships that may exist between the policyholder and the insured items. If the policyholder suffers direct losses arising out of the damage or loss to the insured items, insurable interest exists.

In the absence of the insurable interest, the policy would not be enforceable under the law. If insurable interest ceases during the period of insurance, such as the sale of the insured property, the insurance cover automatically ends. The most common example of insurable interest is the ownership of property, the relationship between employer and employees, or a custodian of assets etc.

The Basic Principles of Insurance

There are several principles that govern what is insurance and what isn’t. Here is a list of some of the principles of insurance:

Insurance is a repayment of a loss. The timing or occurrence of the loss must be uncertain. For example, you can’t know your house is going to be destroyed in three weeks by a demolition team and still get home owners insurance.

The rate of insured losses must be relatively predictable: In order to set premiums (prices) insurers (insurance companies) must be able to estimate the losses accurately. If the coverage is unique, the insured will pay a correspondingly higher premium. Lloyd’s of London often accepts unique insurance coverage. (e.g., the insuring of Tina Turner’s legs or famous guitarists hands)

The insured losses must be predictable on a macro (large) level: Insurers need to know how much they would be required to pay when the insured-for event occurs. Most types of insurance have maximum levels of payouts, but not all do, notably health insurance.

The insured loss must be significant: The legal principle of De minimis dictates that trivial matters are not covered. Furthermore, rational insurance uses existing insurance when the transaction costs dictate that filing a claim is not rational. This is often covered by insurance deductible. Any claim less than the deductible is not covered.

The loss must not be catastrophic: If the insurer is insolvent, it will be unable to pay the insured. In the United States, there is a system of Guaranty Funds run at the state level to reimburse insured people whose insurance companies have become insolvent. To avoid catastrophic depletion of their own capital, insurers almost universally purchase reinsurance to protect them against excessively large accumulations of risk in a single area, and to protect them against large-scale catastrophes.