Chapter 8: Insurance Contracts
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Transcript of Chapter 8: Insurance Contracts
![Page 1: Chapter 8: Insurance Contracts](https://reader035.fdocuments.net/reader035/viewer/2022062217/56812c6d550346895d9103f5/html5/thumbnails/1.jpg)
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458
Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman 1
Chapter 8:Insurance Contracts
Chapter 8:Insurance Contracts
![Page 2: Chapter 8: Insurance Contracts](https://reader035.fdocuments.net/reader035/viewer/2022062217/56812c6d550346895d9103f5/html5/thumbnails/2.jpg)
Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 2
Legal Framework of InsuranceLegal Framework of Insurance
• Requirements of a valid contract
• Characteristics of contracts
• Legal principles underlying insurance contracts
![Page 3: Chapter 8: Insurance Contracts](https://reader035.fdocuments.net/reader035/viewer/2022062217/56812c6d550346895d9103f5/html5/thumbnails/3.jpg)
Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 3
Requirements of a Valid Insurance Contract
Requirements of a Valid Insurance Contract
• Legality
• Capacity
• Offer and acceptance
• Consideration• In most states contracts can be oral or written
![Page 4: Chapter 8: Insurance Contracts](https://reader035.fdocuments.net/reader035/viewer/2022062217/56812c6d550346895d9103f5/html5/thumbnails/4.jpg)
Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 4
Valid Insurance Contract - Legality
Valid Insurance Contract - Legality
• Needs to be for a legal purpose
• Must not encourage or protect illegal activities
![Page 5: Chapter 8: Insurance Contracts](https://reader035.fdocuments.net/reader035/viewer/2022062217/56812c6d550346895d9103f5/html5/thumbnails/5.jpg)
Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 5
Valid Insurance Contract - Capacity
Valid Insurance Contract - Capacity
• The legal ability to enter into a contract
• Capacity is assumed except:• Minors
• Insane
• Intoxicated
• Corporation acting outside the scope of its charter
![Page 6: Chapter 8: Insurance Contracts](https://reader035.fdocuments.net/reader035/viewer/2022062217/56812c6d550346895d9103f5/html5/thumbnails/6.jpg)
Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 6
Valid Insurance Contract - Offer and Acceptance
Valid Insurance Contract - Offer and Acceptance
• A meeting of the minds between the parties of the contract
• Who makes the offer?• Applicant always makes the offer
• Property insurance:• Agent solicits offer, applicant offers, agent accepts
(binds)• If the company does not want the contract, it may
cancel the contract according to the contract’s cancellation clause
![Page 7: Chapter 8: Insurance Contracts](https://reader035.fdocuments.net/reader035/viewer/2022062217/56812c6d550346895d9103f5/html5/thumbnails/7.jpg)
Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 7
Valid Insurance Contract - Offer and Acceptance
Valid Insurance Contract - Offer and Acceptance
• Life insurance:• Agent solicits offer
• Applicant offers
• Insurance company accepts, rejects, or counter offers
• Counter offer may be accepted or rejected by the applicant
![Page 8: Chapter 8: Insurance Contracts](https://reader035.fdocuments.net/reader035/viewer/2022062217/56812c6d550346895d9103f5/html5/thumbnails/8.jpg)
Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 8
Valid Insurance Contract - ConsiderationValid Insurance Contract - Consideration
• Property: monetary payment and an agreement to abide by conditions and stipulations in the contract
• Life: monetary payment and making truthful statements in the application• Checks must be honored by bank before they
are “consideration”
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Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 9
Insurance by Type of ContractInsurance by Type of Contract
• Aleatory - dollar outcome is unequal
• Conditional - performance is conditional upon the occurrence of an uncertain event
• Adhesion - ambiguities are construed against the contract’s writer
• Personal - requires privity of contract
• Unilateral - only one party has to perform - the insurer
![Page 10: Chapter 8: Insurance Contracts](https://reader035.fdocuments.net/reader035/viewer/2022062217/56812c6d550346895d9103f5/html5/thumbnails/10.jpg)
Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 10
Legal PrinciplesLegal Principles
• Principle of Insurable Interest
• Principle of Indemnity
• Principle of Subrogation
• Principle of Utmost Good Faith
![Page 11: Chapter 8: Insurance Contracts](https://reader035.fdocuments.net/reader035/viewer/2022062217/56812c6d550346895d9103f5/html5/thumbnails/11.jpg)
Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 11
Legal Principles - Principle of Insurable Interest
Legal Principles - Principle of Insurable Interest
• 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
![Page 12: Chapter 8: Insurance Contracts](https://reader035.fdocuments.net/reader035/viewer/2022062217/56812c6d550346895d9103f5/html5/thumbnails/12.jpg)
Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 12
Legal Principles - Principle of Insurable Interest
Legal Principles - Principle of Insurable Interest
• 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
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Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 13
Legal Principles - Principle of Insurable Interest
Legal Principles - Principle of Insurable Interest
• When must the insurable interest exist?• Property insurance - must exist at the time of
the loss
• Life insurance - must exist at the inception of the policy; continuing insurable interest is not necessary
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Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 14
Legal Principles - Principle of Indemnity
Legal Principles - Principle of Indemnity
• Principle of insurable interest determines if a loss is suffered; the principle of indemnity measures the loss.
• A person may not collect more than the actual loss sustained - cannot make a profit
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Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 15
Principle of Indemnity - Actual Cash Value
Principle of Indemnity - Actual Cash Value
Actual Cash Value = Replacement Cost Less Depreciation
ACVloss = [RCloss - DEPloss]
RC = the cost to repair or replace with like kind and quality of material
DEP = A measure of “betterment”
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Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 16
Principle of Indemnity Exceptions
Principle of Indemnity Exceptions
• Valued policies
• Valued policy laws
• Replacement cost coverage
• Life insurance - not an indemnity contract
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Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 17
Legal Principles - Principle of Subrogation
Legal Principles - Principle of Subrogation
If insurance did not exist.
Negligentparty
Injuredinjury
suit
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Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 18
Legal Principles - Principle of Subrogation
Legal Principles - Principle of Subrogation
• One who indemnifies another’s loss is entitled to recovery from any liable third parties
Insurerpays
InjuredInsured
NegligentParty causesinjury
Subrogates againstnegligent party
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Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 19
Principle of SubrogationPrinciple of Subrogation
• Reinforces the principle of indemnity - can only collect once
• Holds rates below what they would otherwise be - salvage
• Places burden of the loss on those responsible (i.e. negligence)
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Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 20
Principle of SubrogationPrinciple of Subrogation• Subrogation does not exist where the principle of
indemnity does not apply - life insurance
• Subrogation is ALWAYS waived for AN INSURED
• If an insured violates or destroys insurer’s subrogation rights, insured may forfeit collection rights under the contract
• The insurer is entitled to subrogation dollars only after insured has collected fully for the loss
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Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 21
Principle of Subrogation -Example
Principle of Subrogation -Example
Insured has $10,000 loss andrecovers $7,000from insurer
Insurer pays$8,000 less $1,000Deductible
Negligent Partypays $5,000
subrogates
injury
$3,000 to insured$2,000 to insurer
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Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 22
Principle of Utmost Good FaithPrinciple of Utmost Good Faith
• Higher standard of honesty is imposed on insurance contracts as compared to other contracts
• Categories of abuse:• Material misrepresentation• Concealment• Breach of a warranty• Breach of utmost good faith
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Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 23
Principle of Utmost Good Faith - Representations
Principle of Utmost Good Faith - Representations
• Statements made BEFORE a contract starts to induce a party to enter the contract
• Oral or written statements
• Contract can be avoided if the representation is FALSE and MATERIAL
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Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 24
Material MisrepresentationsMaterial Misrepresentations
• Material Misrepresentation Tests• False - not true at the time of the statement
• Material - would the insurer have declined the contract, changed the wording, or priced it differently if the truth were known
• Statement of opinions are not sufficient to avoid the contract
![Page 25: Chapter 8: Insurance Contracts](https://reader035.fdocuments.net/reader035/viewer/2022062217/56812c6d550346895d9103f5/html5/thumbnails/25.jpg)
Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 25
Principle of Utmost Good Faith - Concealments
Principle of Utmost Good Faith - Concealments
• Silence when there is an obligation to speak
• Utmost good faith imposes duty to voluntarily divulge material information
• When a material fact is concealed the insurer can avoid contract
• Generally involves an element of deception
![Page 26: Chapter 8: Insurance Contracts](https://reader035.fdocuments.net/reader035/viewer/2022062217/56812c6d550346895d9103f5/html5/thumbnails/26.jpg)
Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 26
Tests for ConcealmentTests for Concealment
• Did the insured know of a certain fact?
• Was the fact material?
• Was the insurer ignorant of the fact?
![Page 27: Chapter 8: Insurance Contracts](https://reader035.fdocuments.net/reader035/viewer/2022062217/56812c6d550346895d9103f5/html5/thumbnails/27.jpg)
Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 27
Principle of Utmost Good Faith - Warranties
Principle of Utmost Good Faith - Warranties
• A warranty creates a condition in a contract
• Any breach of warranty, even if not material, will allow the insurer to avoid the contract (strict interpretation)
![Page 28: Chapter 8: Insurance Contracts](https://reader035.fdocuments.net/reader035/viewer/2022062217/56812c6d550346895d9103f5/html5/thumbnails/28.jpg)
Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 28
Types of WarrantiesTypes of Warranties
• Express - written
• Implied - not written
• Promissory - condition to continue throughout contract period
• Affirmative - exists at contract’s inception; promises nothing about the future
![Page 29: Chapter 8: Insurance Contracts](https://reader035.fdocuments.net/reader035/viewer/2022062217/56812c6d550346895d9103f5/html5/thumbnails/29.jpg)
Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 29
Warranties - ExamplesWarranties - Examples
• Implied affirmative
• Implied promissory
• Express affirmative
• Express promissory
![Page 30: Chapter 8: Insurance Contracts](https://reader035.fdocuments.net/reader035/viewer/2022062217/56812c6d550346895d9103f5/html5/thumbnails/30.jpg)
Instructor’s Manual with Transparency Mastersto accompany Introduction to Risk Management and Insurance, 7E - Dorfman
© 2002 by Prentice Hall, Inc.A Simon & Schuster CompanyUpper Saddle, NJ 07458 30
• Commonly referred to as a ‘bad faith claim’
• Used when the insured feels the insurer is not acting in ‘good faith’
• Used to force insurance companies to perform according to the contract
Principle of Utmost Good Faith - Breach of Utmost Good Faith