Principles of an Insurance Policy

What are the Principles of an Insurance Policy?

By RC Agarwal

1. Insurable Interest:

The person getting an insurance policy must have an insurable interest in the property or life insured. A person is said to have an insurable interest in the property if he is benefited by its existence and be prejudiced by its destruction. Without insurable interest the insurance contract is void. The ownership of a property is not necessary for establishing insurable interest. A banker has an insurable interest in the property mortgaged to it against a loan.
An employer can insure the lives of his employees because of his pecuniary interest in them, hi the same way a creditor can insure the life of his debtor. A person cannot insure the property of a third party, because he does not have an insurable interest in it. In case of fire insurance, insurable interest must exist both at the time of contract and at the time of loss. In marine insurance, however, insurable interest must exist at the time of loss. It may or may not exist at the time of contract.
In case of life insurance, the person taking up a policy should have insurable interest in the life of insured person at the time of taking up the policy. It is not necessary that he should have insurable interest at the time of maturity also. Suppose a person gets an insurance policy on the life of his wife. Later on the wife is divorced. The policy will not become void because the husband ceases to have an insurable interest.
Insurable interest in different policies can be explained as follows:
Life Insurance:
Following persons have insurable interest in life insurance contract:
(i) An employer in the life of an employee during the course of employment.
(ii) A partner is the life of other partners in case of partnership.
(iii) Husband in the life of his wife or vice-versa.
(iv) A creditor in the life of his debtor to the limit of the amount of his debt.
(v) A son in the life of his father on whom he is dependent.
(vi) A dependent to the extent of support he is getting.
(vii) A surety in the life of his principal to the extent of his guarantee.
Fire and Marine Insurance:
Under these contracts, following persons have insurable interest:
(i) Mortgagee to the extent of amount of loan he has given,
(ii) Owner of the property in his property.
(iii) Wife and husband in each other’s property.
(iv) An agent in the goods of his principal.

2. Utmost Good Faith:

The insurance contract is founded on the basis of utmost good faith on the part of both the parties. It is obligatory on the part of the proposer (one who wants to get an insurance policy) to disclose all material facts about the subject to be insured. If some material facts come to light later on then the contract can be avoided at the discretion of the insurer.
The amount of premium is fixed on the basis of all the facts supplied to the insurance company. If some facts are withheld, then the amount of premium will not be properly settled. The insurer should also disclose the facts of the policy to the proposer. So utmost good faith on the part of both the parties is a must.

3. Indemnity:

The principle of indemnity is applicable to all types of insurance policies except life insurance. Indemnity means a promise to compensate in case of a loss. The insurer promises to help the insured in restoring the position before loss. Whenever there is a loss of property, the loss is compensated. The compensation payable and the loss suffered should be measurable in terms of money.
The insured will be compensated only up to the amount of loss suffered by him. He will not earn profit from the contract. The maximum amount of compensation will be up to the value of the policy. The value of the policy undertaken is fixed at the time of contract. The actual amount of loss suffered is compensated and the value of policy is only the maximum limit.

4. Principle of Contribution:

The principle of indemnity is not applicable in case of life insurance contracts, because it is not based on the principle of compensation. The loss of life cannot be compensated by any amount of money. Sometimes a property is insured with more than one company.
The insured cannot claim more than total loss from all the companies put together. He cannot claim the same loss from different companies. In this case he will be benefited by the insurance which runs counter to the principle of indemnity.
A person cannot be restored to a better position than before the loss occurred. The total loss suffered by the insured will be contributed by different companies in the ratio of the value of policies issued by them. So companies make a contribution to restore the previous position of the insured.
For example, A has a property of one lakh rupees. He gets an insurance policy for Rs. 50,000 from R & Co. and Rs. 50,000 from S & Co. Because of fire, property is destroyed to the extent of Rs. 40,000. A cannot claim Rs. 40,000 from Rs. & Co. and Rs. 40,000 from S & Co. He can claim a total sum of Rs. 40,000 from either of the companies or from both companies to the extent of Rs. 20,000 from each. In case he claims Rs. 40,000 from R & Co. then S & Co. will pay Rs. 20,000 to R & Co. So this is known as the principle of contribution.

5. Principle of Subrogation:

The principle of subrogation is applicable to all insurances other than the life insurance. If the insured party gets a compensation for the loss suffered by him, he cannot claim the same amount of loss from any other party. The rights of claiming the loss are shifted to the insurer (Insurance Company), for example A gets his house insured for Rs. 50,000 with an insurance company.
The house is intentionally destroyed by B. A claims the loss from the insurance company. A cannot sue B for getting the compensation because he has already been compensated by the insurance company. Now, insurance company can sue B on behalf of A because of making good the loss suffered by A, the insurance company steps into the shoes of A.
If the insured claims compensation from both the sides, he will be put in a better position than earlier. It is against the principle of indemnity. The insurance company can also claim only up to the amount it has paid to the insured and not more.
Insurance and Assurance:
Generally, the words insurance and assurance are considered to mean the same thing but their meaning is different. The word assurance is used for life assurance policies. The contract of assurance means that the assured will have to be paid sooner or later. The word insurance is used for fire and marine insurance. Under the contract of insurance the risk is uncertain and the liability may or may not occur.
Under life assurance the payment is made either on maturity or on the death of the insured, whichever is earlier. So the company will have to make the payment of the policy, it is only a question of time. In case of insurance contracts, the sum insured will be payable only if there is a loss. If a factory godown is insured against fire and in case godown is destroyed by fire, then liability under insurance contract will arise.
Re-insurance and Double Insurance:
An insurance company generally undertakes the risks according to its capacity. Sometimes a company undertakes more risks than its capacity. It tries to share the risk with some company in case of its occurrence.
When the insurance company insures the risk with some other insurance company. It is called Re-insurance. The re-insurance may be for the full amount of the policy or for a part of it. In case of loss the first company will get compensation from the second company. The insured will be concerned only with the company from which it purchased insurance policy. Re-insurance is between insurance companies only.
Double insurance means purchasing more than one policy for the same subject. A person may get two or more policies on his life. He can claim the amount of all these policies. The implications of double insurance are different in fire and marine insurance.
When a person purchases two or more policies for his property, he cannot claim the same amount as that of loss from different companies. He will be able to claim only total loss from one or more companies. The loss will be contributed by the insurance companies in proportion to the policies issued by them.