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Insurance Percy Spring 2012 BOOM

Insurance Percy Spring 2012 BOOM

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Published by Jason Aivaz
Insurance
Insurance

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Published by: Jason Aivaz on Apr 17, 2013
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04/17/2013

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 1
Laurel99
 
INTRODUCTION TO INSURANCE
 
 
Types of Insurance
First party vs. third party insurance
o
Third party is essentially liability insurance. Insured might have to pay damages to P in tort lawsuit.
Commercial liability, med mal, etc.
First party, example, house is fired by fire and you collect under your homeowner’s policy. The insured is theone that is damaged. Collision, etc.
o
Homeowners – first party, something happens to your property. Also liability part of coverage, coversthe insured for liability claims.
o
Auto – first: collision and comprehensive. Comprehensive, damage to car. Liability. And thenuninsured motorist.
Types
o
Property/Casualty
o
Lines of Insurance – medical malpractice, products liability, homeowners, multiple peril, commercialproperty insurance, commercial liability insurance, auto
o
Life, health, and disability
o
Group vs. individual
Group – i.e., State of MS health insurance. Lots of health is group.
Individual – auto, umbrella policy.
o
Reinsurance
When an insurance company, they sell insurance and will purchase reinsurance from anreinsurer, will obligate reinsurer if first company is obligated.
o
Excess Insurance
Lots of commercial entities will buy layers of coverage.
Primary insurers – duty to defend.
Excess – in addition to primary, only pay if judgment or settlement above limit on primary.
Types of Insurers
o
Stock companies
Owned by shareholders
o
Mutual companies
Owned by policyholders
Mutual companies don’t have to generate a profit for shareholders, in regular corporations,shareholders will want dividends. Doesn’t make much of difference otherwise.
o
Lloyd’s of London
Different insurers insure a percentage of risk. Underwrite percentage.
o
Government as insurer 
Medicare, Medicaid, federal crop, federal flood (all flood insurance is sold through the federalflood program, but private companies may sell).
 
Functions of Insurance
 
Risk Transfer 
o
Liability insurance, transferring risk to liability insurance company that you might be sued and have topay.
o
1% chance of suffering a $10,000 loss
Expected loss = $100
A lot of people would transfer the risk of this loss rather than the second.
o
10% chance of suffering a $1,000 loss
Expected loss = $100
o
A risk neutral person would treat these risks the same. A risk averse person would prefer the latter risk and might pay $105, $110, or even more to obtain insurance to transfer the latter risk.
Risk Pooling
o
Larger the pool is, the more certain the insurance company can be that it has guessed right. Variantis not going to be as great the larger the number of people insured.
o
By insuring many insureds, an insurance company can more accurately predict the risks involved.Thus, by pooling a large # of insureds, an insurer can reduce the cost of insurance to each insured.For example, it might cost $110 to transfer a $100 risk to a company that insures 1,000 policyholders,but only cost $105 to transfer the risk to an insurance company that insures 2,000. Pooled risks thatare independent are the ones that reduce risk.
 
 2
Risk Allocation
o
Insurance companies try to figure out what risks you pose so they can charge you the right premium.
o
Risk allocation refers to the insurer’s attempt to classify the risk posed by the insured and to price thecoverage accordingly.
o
Problems Caused by Imperfect Information
Adverse selection
Insured know they pose a higher risk than the insurance co. believes.
Or think you are getting a bad deal. Would drop out of the pool. As low risk peopledrop out of pool, higher risk people left, so will have to keep raising premiums, andlow risk people will keep dropping out.
Want insurance co. to be able to allocate risk appropriately.
If higher risk, want them to be solvent enough to pay when you have a claim.
Could be that co. has more info than you do. I.e. know the chance your house isgoing to burn down. Know more about general risks.
Moral hazard
Used to refer to someone intentionally causing a loss that was covered.
Insurance has tried to combat by requiring an insurable interest.
Modern kind of moral hazard, fear that b/c you have insurance, you won’t be carefulas you might be.
B/c you know you have insurance, might be a little more negligent.
Product’s liability – might be a little more risky in design of a product b/c you haveliability insurance.
How do insurance companies deal with these policies? Methods of Addressing AdverseSelection and Moral Hazard
Lengthy application/screening process to determine the degree of risk and to screenout those who pose too much risk.
Classify insureds according to risk and set premiums accordingly.
Experience rate when policy is renewed.
Deductibles, co-insurance, co-pays
If you have to pay, less likely to abuse your insurance or consume more thanyou need.
Coverage limits
You will be risk averse at some level.
Require insurable interest
Cover unusual risk separately or exclude them
Skydiver, pilot
Earthquake, b/c not independent risk. Hard to calculate.
o
Healthcare reform
One provision – can’t exclude coverage for preexisting conditions.
In the absence, why would they exclude coverage for preexisting conditions? Adverse selection problem. Gives people the incentive to opt-in at any time, whywould you buy coverage now when you could get it in 30 years when you get sick?Not transferring a risk, transferring a known risk. But they will charge more.
Individual mandate – if you make everyone buy insurance now, can’t have adverse selection. Also in reform. Judges have said these two go together. So if everyone has to buy today,people can’t adversely select.
 
Breach of Warranty – Common Law Rule
CL Rule – any breach by insured voids coverage.
o
We’re not required to prove breach of the warranty led to the loss.
Judicial Methods of Mitigating Harsh Effects of the Rule
o
Treat as representation – insurer must prove material
o
Treat as affirmative rather than promissory
Affirmative – what is true on the day K is made
Promissory – warrant that it will always be true
o
Contra proferentum (construed against drafter)
Legislative Regulations – treat warranty as representation
o
Breach voids policy only if it is material
Different tests for materiality
Breach caused or contributed to loss
Breach increased risk
 
 3
Even if die in a car wreck and you lied about smoking, breach still increasedthe risk.
Misrepresentation was fraudulent (some states)
Even if it doesn’t increase risk
In other states, intent doesn’t matter, so even if innocent misrepresentation, if material, then breach.
State statutes not uniform. Could define materiality as any of the above.
 
Vlastos
o
The court said affirmatory, not promissory. Relevant date is date policy is issued, not the date of thefire.
o
Could require a promissory warranty, but language has to be clear.
o
Two reasonable interpretations. Warranted that it was a janitor’s residence only or that was a janitor’sresidence but could have other stuff. When two reasonable interpretations, the insured wins.
The Transformation of Warranty Law
Misrepresentation
o
Most jurisdictions: if a term is a representation, the representation must be material in order to voidcoverage.
o
To void coverage, insurer must prove:
1. The insured made a false/misleading statement
2. That was material
3. That induced justifiable reliance
4. That caused insurer damage
o
False Statement
Statement is not false as long as it is substantially true
Majority Rule – intent is not relevant unless it is a statement of opinion
If intent is required, will make everyone’s costs go up.
So majority doesn’t require a fraudulent misrepresentation, the risk of a good faithmisrepresentation is on the insured.
Minority Rule – intent is always relevant, whether fact or opinion
o
Materiality
When is a representation material? Varies by jurisdiction:
1. If it contributed to the loss OR
2. If it increased the risk OR
3. If disclosed, the insurer would have denied coverage OR
4. If disclosed, the insurer would have either charged a higher premium or offeredless coverage
POV – majority – objective – is this a fact that would be reasonably material to an insurer inthis line of business?
Even if subjective standard – 99% of things that are relevant to one insurer will bematerial to all insurers.
o
Justifiable Reliance
Closely related to materiality b/c insurers aren’t going to rely on immaterial representations.
Prevents insurer from voiding policy if they knew that the representation was false.
 
Neill v. Nationwide Mutual Fire Insurance Company
 
If insured answers agents truthfully but agent makes misrepresentation, insurer cannot rely onmisrepresentation unless insured engaged in fraud or collusion with agent.
o
Absent fraud or collusion – agent’s knowledge is commuted to the insurance co. and since they knowthe answer, can’t rely.
o
If agent tells you it’s immaterial, no reason to doubt the agent.
Duty to read application?
o
Most courts will take a similar position to the one taken in this case, even if signed andmisrepresentation in application, not dispositive. Jury could still find that the insured wasn’tresponsible for misrepresentation. Some courts will be more conservative.
 
Concealment/Duty to Disclose
Should you have an affirmative duty to disclose if they don’t ask and you know it is material?
o
Common Law – had a duty and could void coverage.
Applicant knew a fact to be material and failed to disclose it.
o
Modern Rule – not fair. So relaxed standard. If they don’t ask, led to believe that not material. Wary of insurer’s argument that you knew it was material and didn’t disclose. Insurers should be in the

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