2. Basic insurance legal principles and terminology

Question 1

What is an insurance contract?

Answer 1

An agreement, enforceable by law, between an insured and an insurer.

Question 2

What criteria are necessary to ensure a valid and enforceable contract is formed?

Answer 2

1. Offer and acceptance
2. Consideration
3. Intention to create a legal document
4. Possibility of performance
5. Capacity to enter into legal relations
6. Consensus ad idem (meeting of minds)
7. Legality
8. Certainty

Question 3

What does the term ‘good faith’ mean in a contract?

Answer 3

All parties must not mislead one another.

Question 4

What does the term ‘offer and acceptance’ mean?

Answer 4

A contract comes into existence when one party makes an offer which the other accepts unconditionally.

Question 5

Difference between conditional and unconditional acceptance

Answer 5

A contract is only formed when both parties agree to the terms unconditionally.

In the example of postal communication, this is at the point of posting acceptance.

Question 6

Define ‘consideration’

Answer 6

Some right, interest, profit or benefit accruing to one party, or some forbearance, detriment, loss or responsibility given, suffered or undertaken by the other.

Question 7

Define ‘insurable interest’

Answer 7

The legal right to
insure arising out of a financial relationship recognised at law, between the insured and the
subject-matter of insurance.

Question 8

What are 5 features of insurable interest?

Answer 8

1. Subject-matter
2. Need for a legal relationship but not necessarily ownership
3. Financial value
4. Insurer’s own insurable interest
5. Timing of the insurable interest

Question 9

What does ‘subject matter’ refer to within insurable interest?

Answer 9

SM of insurance: What is actually being insured

SM of contract: The relationship of the insured with the subject matter

Question 10

What does ‘legal relationship’ refer to within insurable interest?

Answer 10

The relationship of the insured with the subject-matter must be recognised in law for insurable interest to exist.

Question 11

What does ‘financial value’ refer to with insurable interest?

Answer 11

The idea here is that should something bad happen then the insured may have a financial downside, either because something has been damaged or destroyed, or because they have incurred a legal liability which may result in an award of damages against them.

Question 12

What does ‘insurers own insurable interest’ mean?

Answer 12

Insurers can purchase reinsurance to protect them from the risks they have written.

Question 13

What 3 ways can an insurable interest arise or be created?

Answer 13

Common law - duties and rights given to each other under common law e.g. maintaining pavements

Contract - acceptance of greater responsibility than that given under common law

Statute - laws that give a positive duty or restrict liability under certain circumstances

Question 14

Describe the principle of good faith in pre-contract negotiations

Answer 14

The principle applies equally to both the proposer and the insurer throughout the contract negotiations and essentially means that both parties should be open and transparent with each other in the sharing of key information relating to the risk.

Question 15

Define consumer in insurance

Answer 15

Someone who is buying insurance wholly or mainly for purposes unrelated to their business, trade or profession.

Question 16

When is misrepresentation by the consumer deliberate or reckless?

Answer 16

A misrepresentation is deliberate or reckless if the consumer:
* knew that it was untrue or misleading, or did not care whether or not it was untrue or misleading; and
* knew that the matter to which the representation related was relevant to the insurer, or did not care whether or not it was relevant to the insurer.

Question 17

What are the responsibilities of the consumer under the Consumer Insurance (Disclosure and Representations) Act
2012?

Answer 17

a duty to take reasonable care not to make a misrepresentation to their insurers, and whether they have exercised reasonable care will be considered in light of all the relevant circumstances.

There are two types of misrepresentations under this Act which are:
* careless;
* deliberate or reckless.

Question 18

Define ‘fair representation’ of a risk

Answer 18

One which makes disclosure of every material circumstance which the insured knows or ought to know, or disclosure which gives insurers sufficient information to put a prudent insurer on notice that it needs to make further enquiries.

Question 19

What is material information?

Answer 19

Every circumstance is material which would influence the judgment of a prudent insurer in fixing the premium or determining whether he will take the risk’

Question 20

What information does the insured not need to disclose?

Answer 20

The insured does not need to disclose information:
* that lessens the risk;
* that the insurer knows;
* that the insurer ought to know;
* that the insurer is presumed to know; or
* waived by insurers.

Question 21

Explain the concept of ‘ought to know’

Answer 21

The insurer ought to know something if it is known by an employee or agent of the
insurer and the information ought reasonably to have been passed on to the person making the decision to accept the risk, or if the information is held somewhere within the
organisation and is readily available to the person making the decision.

Question 22

Explain the concept of ‘presumed to know’

Answer 22

The insurer is presumed to know things which are common knowledge and things which an insurer operating in this class of business would reasonably be expected to know

Question 23

Under the duty of fair representation - what are the first two steps in remediation?

Answer 23

1. Determine if the breach was deliberate or reckless (or neither)
2. Determine if the breach took place as part of the original risk placement or in relation to contract variation

Question 24

What remedy can be used if the breach was deemed deliberate or reckless?

Answer 24

The insurer can avoid the policy from the start (ab initio) and they can retain the premium.

The insurer has the burden to prove that the breach was deliberate or reckless.

Question 24

If the breach was not deliberate or reckless, what options are there for remedy?

Answer 24

1. If the insurer would not have entered the contract, they can avoid the contract but must return the premium.
2. If the insurer would have entered under different terms, then the different terms apply.
3. If the insurer would have charged a higher premium, any claim can be reduced on a proportionate basis

Question 25

When does duty of disclosure begin and end?

Answer 25

Starts when negotiations begin and ends at inception.

No requirement for disclosure until renewals unless it affects the policy cover.

The exception would be a specific policy condition which extended the duty of disclosure.

Question 25

What duty of disclosure applies to renewal?

Answer 25

All general (non-life) policies usually have renewal terms. A new contract is formed if accepted and a duty of disclosure is opened during the period of negotiation.

Question 25

What is a ‘slip’ in the London Market formally known as?

Answer 25

A Market Reform Contract

Question 26

What is proximate cause?

Answer 26

Proximate cause means the active, efficient cause that sets in motion a train of events which brings about a result, without the intervention of any force started and working
actively from a new and independent source.

Question 27

In the case of one causal peril being excluded from policy - what happens during a claim? What about if it is not mentioned?

Answer 27

If one causal peril is excluded, no claim shall be paid.

If one peril is not mentioned, then the whole claim shall be paid.

Question 28

Define indemnity

Answer 28

Indemnity can be defined as ‘financial compensation sufficient to place the insured in the same financial position after a loss as they enjoyed immediately before the loss occurred.’

Question 29

What are the four settlement options for indemnity?

Answer 29

1. Cash
2. Repair
3. Reinstatement
4. Replacement

Question 30

In the case of liability insurance - who is paid?

Answer 30

The injured party, not the insured.

Question 31

What is the difference between reinstatement and repair?

Answer 31

Reinstatement would apply only to buildings (and occasionally machinery) and is concerned with bringing the property back to its pre-loss condition. To achieve this purpose the insurer effectively takes occupation of the premises (or what is left of them) to reinstate. The option to repair does not carry with it the ‘occupation’ aspect.

Question 32

What does basic cover mean with regards to buildings?

Answer 32

The cost of repair or reconstruction at the time of loss.

Question 33

For anything that cannot be repaired and has to be replaced as new, what is this called?

Answer 33

Betterment

Question 34

What is a reinstatement memorandum?

Answer 34

The sum insured must represent the full value at the time of reinstatement.

This means that
the insured pays a premium based on the higher amount.

A margin of error is allowed but states the insured value must be at least 85% of the actual value.

Question 35

What is meant by Day One Reinstatement?

Answer 35

Requires the insured to state the reinstatement amount on the first day of the cover.

Insurers provide an automatic uplift to allow for inflation.

Question 36

Describe how you would measure indemnity for marine insurance

Answer 36

In a valued policy (agreed value policy), the insurable value is agreed between insurer and insured.

The insurable value of an unvalued policy must be calculated using the formula in the Marine insurance Act 1906.

In both cases, there is an identifiable, insurable value, effective from the start of the period of insurance and is unaffected by subsequent market price variation.

Question 37

Describe how you would measure indemnity for property insurance

Answer 37

Value at the date and place of loss

Question 38

Describe how you would measure indemnity for machinery and contents insurance

Answer 38

Basic cover:
- If there is a second hand market then it is the second hand price + costs
- if no second hand market, cost of repair / replacement less any wear and tear

Question 39

Describe how you would measure indemnity for manufacturers / retailers & wholesalers stock in trade

Answer 39

Manufacturers - raw materials + incurred cost of labour / other costs
Retailers & wholesalers - cost of replacing the stock

Question 40

Describe how you would measure indemnity for household goods

Answer 40

Basic cover - cost of replacement less wear and tear
New for old - cost of replacement

Question 41

Describe how you would measure indemnity for farming stock

Answer 41

Local market price is basis of indemnity

Unique as insured is entitled to potential profit on sale as market price is both buying and selling price simultaneously

Question 42

Describe how you would measure indemnity for liability insurance

Answer 42

Measured as the amount of any court award plus costs and expenses

Question 43

What are 3 typical modifications seen in indemnity agreements?

Answer 43

• Agreed value policies: value of the subject matter is agreed initially and and the sum insured is fixed
• First loss policies: lower limit addressing certain perils facing a subject matter. The sum insured may be considerably less than overall risk (ie theft for all tools at a large factory)
• New for old: replacement at current cost

Question 44

What is the maximum amount that can be recovered under property, liability, or other policies?

Answer 44

Max for property is sum insured

Max for liability is indemnity limit + agreed costs

Question 45

What is meant by inner or item limits?

Answer 45

Limits within the overall sum insured ie max value to be paid for loss of a single item in contents insurance.

Question 46

What is meant by the term underinsurance?

Answer 46

If the insured understates the value of subject-matter of the insurance when taking out their policy, there is said to be underinsurance. The intention is that everyone who contributes to the pool pays a premium that is based on the full value of the subject-matter of the insurance.

Question 47

What is meant by the term ‘average condition’?

Answer 47

this term means that the
insured is considered to be their own insurer for the amount they have chosen not to insure
if there is underinsurance at the time of any loss. It means that even partial losses will be
shared between the insurer and the insured in proportion to the amount of underinsurance

Question 48

What is an excess?

Answer 48

An amount that is deducted from each claim and is paid by the insured.