2. Insurance Planning. 3. Legal Aspects of Insurance Flashcards
Module Introduction
All insurance purchases involve contracts. Insurance is a distinct branch of contract law. To understand popular personal insurance contracts like homeowners (HO) and the personal auto policy (PAP), you should be familiar with the legal aspects of insurance.
The Legal Aspects of Insurance module will explain commonly used contract terminology & types and characteristics of contracts.
The online portion of this module takes the average student approximately two and a half hours to complete.
Upon completion of this module, you should be able to:
* Discuss various contract terminology
* List the essential elements of a valid contract
* Explain three exceptions to the rule that insurance contracts are contracts of indemnity, and
* Identify the ways an insurance contract may be ended.
To ensure that you have an understanding of the legal aspects of insurance the following lessons will be covered in this module:
* Insurance Contracts
* Contract Characteristics
Section 1 - Insurance Contract
Insurance purchases involve contracts. Insurance is a distinct branch of contract law. A general knowledge of contract law that is essential to understanding insurance is covered in this lesson.
The following topics will be covered in this lesson:
* Contract terminology
* Valid elements of a contract
Upon completion of this lesson, you should be able to:
* Explain the term contract,
* Discuss voidable contract,
* Define a void contract,
* Describe a binder,
* Discuss conditional receipt, and
* Describe the valid elements required for a contract.
Describe Conditional Receipt
and Errors & Omissions Insurance
A conditional receipt can provide temporary coverage, contingent on an applicant’s ability to present evidence of insurability.
Life insurance agents give applicants a conditional receipt when the applicants submit a premium payment with the application. With one common type of conditional receipt, if evidence of insurability exists, coverage begins from the date of the receipt. Evidence of insurability always includes, but is not limited to, good health. Occupation would be another factor.
Practitioner Advice: The conditional receipt affords the life insurance applicant temporary coverage during the underwriting process. Agents should always encourage an applicant to submit an initial premium payment with the application in order to receive such a receipt. If the agent does not educate the applicant of this when a conditional receipt is available, and the applicant dies in an accident after all medical testing had been completed, the agent could be sued by the deceased applicant’s heirs for failure to provide advice that is expected of a licensed professional. Such mistakes of agents are why errors & omissions insurance exists and should be maintained.
Each of the following elements are required in acceptance of an offer EXCEPT:
* Unconditional
* Unequivocal
* Communicated Clearly
* Well-documented
Well-documented
* The acceptance must be unconditional, unequivocal, and communicated clearly.
What are the four elements that all valid contracts must have?
- Offer and acceptance
- Consideration
- Capacity
- Legal purpose
Define Unilateral and Bilateral Contracts
In unilateral contracts, only one party makes an enforceable promise. Insurance contracts are unilateral in that only the insurer makes a binding promise. The insured can cancel the policy at any time without recourse, while the insurer is limited to specific situations (such as failure of the insured to pay premiums) when it may cancel a policy. The insured does not promise to pay the premiums and cannot be sued for failure to do so. Insureds cannot collect for losses if they do not pay premiums, because timely payment of the premium is a condition of the contract.
Contracts in which both parties make enforceable promises are called bilateral contracts.
Insurance is not considered a bilateral contract.
Practitioner Advice: The most popular term insurance policies these days are those that come with a premium guarantee period, for example, 20-year level term. The insurance company is committed to honoring the contract and not raising the premium for 20 years. The policyholder however, is not committed to keeping the policy for 20 years, and can cancel at any time.
Section 1 - Insurance Contract Summary
A general knowledge of contract law is essential to understanding insurance. In this lesson, we have covered the following:
* Contract: A legally binding agreement creating rights and duties for those who are parties to it.
* Voidable contract: Allows one party the option of breaking the agreement because of an act or omission of an act (a breach) by the other party.
* Void contract: A contract that a court will not enforce because from it lacks one or more features of a valid contract.
* Binder: A temporary contract in property insurance, and is often used before the issuance of the formal insurance policy.
- Conditional receipt: Provides temporary coverage, contingent on an applicant’s ability to present evidence of insurability.
- Offer and acceptance: When one person makes a proposal to exchange something of value with another person. The proposal to make an exchange is called the offer. If the second person agrees to the exchange, this is called acceptance.
- Consideration is the value exchanged between the parties to the contract.
- Capacity: Not every person legally has the capacity to enter into a contract. Minors, those who are legally incompetent, and those who are intoxicated cannot enter into a binding agreement, for reasons of social welfare.
- Legal purpose is a requirement of a contract. It is an end or intention permitted by law.
Match the contract-related terms with the correct definition.
Void Contract
Voidable Contract
Binder
Conditional Receipt
* A temporary contract in property insurance. Often used before the issuance of the formal insurance policy.
* Provides temporary life coverage, contingent on an applicant’s ability to present evidence of insurability.
* Not legally enforceable because it lacks one or more features of a valid contract.
* A valid contract that allows one party the option of breaking the agreement because of an act or omission of an act by the other party.
- Void Contract - Not legally enforceable because it lacks one or more features of a valid contract.
- Voidable Contract - A valid contract that allows one party the option of breaking the agreement because of an act or omission of an act by the other party.
- Binder - A temporary contract in property insurance. Often used before the issuance of the formal insurance policy.
- Conditional Receipt - Provides temporary life coverage, contingent on an applicant’s ability to present evidence of insurability.
Which one of the following statements about conditional receipts is true?
* Used only in property insurance.
* Provides permanent coverage when accompanied by first premium payment.
* Used only in life insurance.
* Used mainly when insuring minors.
Used only in life insurance.
* A conditional receipt is used in life insurance. Life insurance agents give applicants a conditional receipt when the applicants submit a premium payment with the application.
What would happen if the insured were injured because of having unknowingly dealt with an unauthorized insurer?
* The insured would lose money paid for premiums.
* The insurer would be subject to fines and penalties by court.
* The insurer would obtain a license later and avoid fines.
* None of the above.
The insurer would be subject to fines and penalties by court.
* The unauthorized insurer would be subject to fines and penalties by court if an insured were injured because of having dealt unknowingly with an unqualified insurer. They must have a license to operate in each state in which they do business.
Section 2 - Contract Characteristics
This lesson provides you with an overview of the characteristics and principles involved with insurance contracts.
To ensure that you have an understanding of insurance contracts the following topics will be covered in this lesson:
* Principles of indemnity
* Discharge of contracts
Upon completion of this lesson, you should be able to:
* Discuss the principles of indemnity,
* Explain the three exceptions to the rule that insurance contracts are contracts of indemnity,
* Define actual cash value,
* Define subrogation, and
* Discuss discharge of contracts, including rescission and reformation.
Describe Life Insurance
In life insurance, the policy owner must show a recognized interest in having the insured’s life continue. This interest must be shown when the policy is purchased. People are presumed to have an unlimited insurable interest in their own lives and may purchase any amount of insurance on their own lives that an insurer will issue. The law presumes a husband and wife have an unlimited interest in each other’s life. Beyond close family relationships, an insurable interest must be demonstrated. Interests that generally can be demonstrated include creditors in the lives of their debtors, partners in each other’s lives, and employers in the lives of their key employees.
Exam Tip:
A life insurance policy owner must have insurable interest in the insured’s life when a policy is purchased (inception of the policy). The interest does not have to exist at the insured’s death.
On the other hand, an owner of a property & casualty (P & C) policy must have insurable interest at the time of purchase AND at the time of loss.
Audio:.
* .Ex. Employer purchased life insurance on a key employee. If they leave, technically, company can continue to pay premiums and collect when key employee dies.
Describe Owner in a Life Insurance Contract
It is the applicant who must demonstrate the insurable interest at the time of application. The insurer needs to know that the person who will be receiving the death benefit has an adequate relationship to the person being insured.
The owner of the policy is the party who can enforce the contractual rights such as naming the beneficiary, assigning the policy, taking out loans from the insurer, and designating the dividend options.
Practitioner Advice: In most situations, the person being insured will be the owner of the contract. For estate planning purposes, a spouse or a trust may be the owner. In business situations, the company or the partners could be the owner of the life insurance. contract.
Exam Tip: Beware of contract titling that places different individuals as the owner, insured, and beneficiary. For example, a life insurance contract on which one parent is the owner, the other parent is the insured, and the child is the beneficiary. This creates circumstances where a gift is made to the child from the surviving parent.
Audio:
* Review life insurance policies to see who is the owner, insured, and beneficiary.
* Avoid “the unholy triangle”. Three different parties: owner, insured, and beneficiary.
* At the death of the insured, the owner is deemed to have made a gift to the beneficiary in the amount of the life insurance proceeds. Significant gfit tax for large policies.
Describe Beneficiary in a Life Insurance Contract
The beneficiary is the party receiving the funds at the insured’s death. It is the beneficiary who must demonstrate the insurable interest at the time of application. The insurer needs to know that the person who will be receiving the death benefit has an adequate relationship to the person being insured.
Insurable Interest Beneficiaries Example:
* Insurable interest is commonly assumed for immediate family members such as a spouse, children, or grandchildren.
* Conversely, insurable interest would be needed from a beneficiary if he or she were an extended family member (e.g., second cousin), friend, or co-worker.
Practitioner Advice: Most often, the primary beneficiary is the spouse. Some divorce agreements now require that life insurance be maintained to provide for the children, naming the ex-spouse as beneficiary for the benefit of the children. To minimize estate taxes, the insured’s estate should not be named as beneficiary
Define Subrogation
Subrogation is the legal substitution of one person in another’s place. Subrogation is supported by the theory that if a person must pay a debt for which another is liable, such payment should give the person a right to collect the debt from the liable party.
Subrogation prevents insureds from profiting on their insurance by collecting twice for the same loss. Subrogation also prevents negligent parties from escaping payment for their acts.
**Exam Tip: In insurance, subrogation gives the insurer the right to collect from a third party after paying its insured’s claim. A typical case of subrogation arises in automobile insurance collision claims.
Audio:
Insured gives subrogation rights to the insurance company
Ex. In an automobile accident and you’re not at fault. Your insurance company pays for damages.
Subrogation rights in the contract give the insurance company the right to seek collection from the negligent party that caused the accident. **
How can Contracts be Discharged?
Contracts can be discharged on the grounds of the following conditions:
* Performance
* Condition precedent
* Condition subsequent
* Rescission
* Reformed
Describe how insurance contracts would be ended by rescission?
Insurance contracts also may be ended by rescission. Rescission is an agreement (contract) by both parties to end a contract. All the requisites of a contract are required. If rescission is mutual, both parties voluntarily relinquish their rights and duties under contract. If one party feels it was the victim of fraud, it may ask the court to rescind the contract. Rescission is a well-recognized equitable remedy from English common law.
Practitioner Advice: Applicants for life insurance are sometimes tempted to lie about their cigarette smoking because the premiums are so much lower for non-smokers. If the insured dies within the contestable period, and the insurance company discovers the person smoked, the company will rescind the contract and the only payment to the survivors will be the return of premiums.
Section 2 - Contract Characteristics Summary
All insurance purchases involve contracts. Each contract has certain characteristics and principles involved.
In this lesson, we have covered the following:
Principles of indemnity: The insured should be in the same financial position after as before the insured loss
Insurable interest applies to property insurance and life insurance.
Exceptions to the rules: The three exceptions to the rule that insurance contracts are contracts of indemnity are:
* life insurance
* Replacement-cost insurance, and
* Valued insurance.
Discharge of contracts may be done on the grounds of the following conditions:
* Performance
* Condition precedent
* Condition subsequent
* Rescission
* Reformed
