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Unformatted text preview: Dr Mariusz Dybał Institute of Economic Sciences [email protected] Insurance market Fundamental legal principles (Based upon: George E. Rejda, PRINCIPLES OF RISK MANAGEMENT AND INSURANCE (10TH EDITION), Addison Wesley, 2007) 1 Mariusz Dybał – Fundamental legal principles Scheme of the Lecture 1. 2. 3. 4. 5. 6. 7. 8. Principle of Indemnity; Indemnity; Principle of Insurable Interest; Interest; Principle of Subrogation; Subrogation; Principle of Utmost Good Faith; Faith; Requirements of an Insurance Contract; Contract; Distinct Legal Characteristics of Insurance Contracts;; Contracts Law and the Insurance Agent; Agent; Case application no. 6. 2 Mariusz Dybał – Fundamental legal principles 1. Principle of Indemnity   The principle of indemnity states that the insurer agrees to pay no more than the actual amount of the loss; loss; Stated differently, the insured should not profit from a loss. 3 1 Mariusz Dybał – Fundamental legal principles 1. Principle of Indemnity  The principle of indemnity has two fundamental purpose urposess:  To prevent the insured from profiting from a loss: loss:   For example, if Kristin’s home is insured for $200,000, and a partial loss of $50,000 occurs, the principle of indemnity would be violated if $200,000 were paid to her; To reduce moral hazard: hazard:  For example, if dishonest insureds could profit from a loss, they might deliberately cause losses with intention of collecting the insurance. 4 Mariusz Dybał – Fundamental legal principles 1. Principle of Indemnity   In property insurance, indemnification is based on the actual cash value (ACV) of the property at the time of loss; loss; There are three main methods to determine actual cash value:    Replacement cost less depreciation; depreciation; Fair market value is the price a willing buyer would pay a willing seller in a free market; 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. property. 5 Mariusz Dybał – Fundamental legal principles 1. Principle of Indemnity  There are some exceptions to the principle of indemnity:     A valued policy pays the face amount of insurance if a total loss occurs; 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; law; Replacement cost insurance means there is no deduction for depreciation in determining the amount paid for a loss; loss; A life insurance contract is a valued policy that pays a stated sum to the beneficiary upon the insured’s death. death. 6 2 Mariusz Dybał – Fundamental legal principles 2. Principle of Insurable Interest  The principle of insurable interest states that The insured must stand to lose financially if a loss occurs; occurs;  For example, you have an insurable interest in your car because you may lose financially if the car is damaged or stolen. 7 Mariusz Dybał – Fundamental legal principles 2. Principle of Insurable Interest  The principle of insurable interest has three fundamental purpose purposess:  To prevent gambling: gambling:   To reduce moral hazard: hazard:   For example, you could insure the property of another and hope for a loss occur; For example, a dishonest person could purchase a property insurance contract on someone else’s property and deliberately cause a loss to receive the proceeds; To measure the amount of loss: loss:  If the loss payment cannot exceed the amount of one’s insurable interest, the principle of indemnity is supported. 8 Mariusz Dybał – Fundamental legal principles 2. Principle of Insurable Interest  Examples of an insurable interest:  Property and casualty insurance:  Ownership of property can support an insurable interest because owners of property will lose financially if their property is damaged or destroyed;  Potential legal liability can also support the insurable interest. For example, a drydry-cleaning firm has an insurable interest in the property of the customers;  Secured creditors have an insurable interesty as well. A commercial bank that lands money to buy a house has an insurable interest in the property;  A contractual right can support an insurable interest. 9 3 Mariusz Dybał – Fundamental legal principles 2. Principle of Insurable Interest  Examples of an insurable interest:  Life insurance:  The question of an insurable interes does not arise when you purchase life insurance on your own life;  If you wish to purchase a life insurance policy on the life of another person you must have an insurable interest in that person’s life (close family ties or marriage). 10 Mariusz Dybał – Fundamental legal principles 2. Principle of Insurable Interest  When must insurable interest exist?  Property insurance: at the time of the loss: loss:   For example, if Mark sells his home to Susan, and a fire occurs before the insurance on the home is canceled, Mark can not collect because he no longer has an insurable interest in the property. Susan can not collect either because she is not named an insured under Mark’s policy. Life insurance: only at inception of the policy: policy:  Life insurance is not a contract of indemnity but is a valued policy that pays a stated sum upon the insured’s death. 11 Mariusz Dybał – Fundamental legal principles 3. Principle of Subrogation   The principle of subrogation states that 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; insurance; Stated differently, the insurer is entitled to recover from negligent third party any loss payments. 12 4 Mariusz Dybał – Fundamental legal principles 3. Principle of Subrogation  The principle of subrogation has three fundamental purpose purposess:  To prevent the insured from collecting twice for the same loss: loss:   To hold the negligent person responsible for the loss: loss:   In the absence of subrogation, the insured could collect from the insurer and from the person who caused the loss; By, exercising its subrogation rights, the insurer can collect from the negligent person who caused the loss; To hold down insurance rates: rates:  Subrogation recoveries tend to hold rates below where they would be in the absence of subrogation. 13 Mariusz Dybał – Fundamental legal principles 3. Principle of Subrogation  You should keep in mind several important conclusions of the principle of subrogation: subrogation:     The insurer is entitled only to the amount it has paid under the policy; policy; The insured cannot worsen the insurer’s subrogation rights;; rights Subrogation does not apply to life insurance and to most individual health insurance contracts; contracts; The insurer cannot subrogate against its own insureds. insureds. 14 Mariusz Dybał – Fundamental legal principles 4. Principle of utmost good faith  An insurance contract is based on the principle of utmost good faith – that is, a higher degree of honesty is imposed on both parties to an insurance contract than is imposed on parties to other contracts. contracts. 15 5 Mariusz Dybał – Fundamental legal principles 4. Principle of utmost good faith  The principle of utmost good faith is supported supported by three legal doctrines:    Representations; Representations; Concealment; Warranty. 16 Mariusz Dybał – Fundamental legal principles 4. Principle of utmost good faith  The principle of utmost good faith is supported supported by three legal doctrines:  Representations are statements made by the applicant for insurance – for example, if you apply for life insurance, you may be asking questions concerning your age, weight, height, occupation, state of health, family history;   A contract is voidable if the representation is material, false, and relied on by the insurer; insurer; An innocent misrepresentation of a material fact, if relied on by the insurer, makes the contract voidable. voidable. 17 Mariusz Dybał – Fundamental legal principles 4. Principle of utmost good faith  The principle of utmost good faith is supported supported by three legal doctrines:   A concealment is intentional failure of the applicant for insurance to reveal a material fact to the insurer; 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: respects:  For example, in exchange for a reduced premium, a bank may warrant that a guard will be on the premises twentytwentyfour hours a day. 18 6 Mariusz Dybał – Fundamental legal principles 5. Requirements of an Insurance Contract To be legally enforceable, an insurance contract must meet four requirements:      Offer and acceptance of the terms of the contract; contract; Consideration – the values that each party exchange exchange;; Legally competent parties, parties, with legal capacity to enter into a binding contract; contract; The contract must exist for a legal purpose purpose.. 19 Mariusz Dybał – Fundamental legal principles 6. Distinct Legal Characteristics of Insurance Contracts Insurance contracts have distinct legal characteristics that make them different from other legal contracts; Several distinctive legal characteristics have already been discussed:    Most property and casualty insurance contracts are contracts of indemnity;  All insurance contracts must be supported by an insurable interest;  Insurance contracts are based on utmost good faith. 20 Mariusz Dybał – Fundamental legal principles 6. Distinct Legal Characteristics of Insurance Contracts Other distinct legal characteristics are as follows: follows:   Aleatory contract: contract: values exchanged are not equal: equal:   Unilateral contract: contract:   That is, the insurer’s obligation to pay a claim depends on whether the insured or the beneficiary has complied with all policy conditions; Personal contract contract::   Only the insurer makes a legally enforceable promise to pay a claim or provide other services to the insured; Conditional contract: contract:   For example, assume that Jessica pays a premium of $600 for $200,000 of homeowners insurance. If the home were totally destroyed by fire shortly thereafter, she would collect an amount that greatly exceeds the premium paid; Property insurance policy cannot be validly assigned to another party without the insurer's consent; consent; Contract of adhesion: adhesion:  Since the insured must accept the entire contract as it is written, any ambiguities are construed against the insurer. insurer. 21 7 Mariusz Dybał – Fundamental legal principles 7. Law and the Insurance Agent   An agent is someone who has the authority to act on behalf of a principal (the insurer); insurer); Several laws govern the actions of agents and their relationship to insureds: insureds:    There is no presumption of an agency relationship; relationship; An agent must be authorized to represent the principal;; principal A principal is responsible for the acts of agents acting within the scope of their authority:  In addition, knowledge knowledge of the agent is presumed to be knowledge of the principal with respect to matters within the scope of the agency relationship. relationship. 22 Mariusz Dybał – Fundamental legal principles 7. Law and the Insurance Agent  Waiver is defined as the voluntary relinquishment of a known legal right: right:   For example, an insurer receives an incomplate application for insurance. Nevertheless, the policy is issued. The insurer later could not deny payment of a claim on the basis of an incomplate application; Estoppel occurs when one person makes a statement of fact to another person who then reasonably relies on the statement to his or her detriment, the first person cannot later deny the statement was made:  For example, an applicant for health insurance tells the agent of a health problem, and the agent assures the applicant that the health problem does have to be stated in the application. The insurer could be estopped from denying benefits on the grounds that this information was not included. 23 Mariusz Dybał – Fundamental legal principles  8. Case application no. 6 Jeff is a book dealer who purchased a building from Richard. Jeff obtained a loan from Gateway Bank to purchase the building, which held a mortage on the building. Jeff planed to store his inventory of books in the building. He also planned to use part of the building for a fastfast-food restaurant. When Jeff applied for property insurance on the building, he did not tell the agent about the fastfastfood restaurant because premiums would be substantially higher. Eight months after the policy was issued, a fire occured in the restaurant that caused substantial damage to the building. 1. Do any of following parties have an insurable interest in the building at the time of loss? Explain your answer. 1. Jeff 2. Richard 3. Gateway Bank 2. Richard told Jeff he could save money by taking over Richard’s insurance instead of purchasing a new policy. Can Richard validly assign his existing property insurance policy to Jeff without notifying the insurer? Explain your answer. 3. Could Jeff’s insurer deny coverage for the fire loss based on a material concealment? Explain your answer. 4. Investigation of the fire revealed that an electrician improperly wired an electrical outlet in the restaurant, which caused the fire. Explain how subrogation might apply in this case. 24 8 Mariusz Dybał – Fundamental legal principles Thank You ;) 25 9 ...
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  • Spring '16
  • Aebli,Fred
  • Microeconomics, insurance contract, Fundamental Legal Principles, Mariusz Dybał

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