ABMF3273 INSURANCE MANAGEMENT

Chapter 5: Property & Liability Insurance Contracts

Basic Property and Liability Insurance Contracts

• Features of property and liability insurance

• Property and liability insurance policy contract provisions and options

Life insurance versus General Insurance contracts:

SPECIAL FEATURES OF GENERAL INSURANCE CONTRACTS

1. Short-Term Contracts: normally is one year or less.

2. Indemnity Contracts: When a claims arises in a general insurance policy,

insured is usually compensated to the extent of the value of his loss at such
time by taking into consideration of depreciation or wear and tear of the
subject matter of insurance. However, there are Insurance policies which
are not subject to the indemnity principle such as:
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a) Personal Accident and Marine Insurance Policies, where the claims
are paid on a valued contract basis, as per contract sum as stated in
policy.

b) ‘Special Risks’, example antique, art, and other valuable or collectable

items that may be p aid on a valued basis. If machinery, equipments,
special tools and similar items are to be insured against perils
(example fire and theft), insurers may consider a coverage b ased on
replacement or r einstatement basis. Insured is compensated for the
sum equivalent to replace the items with that of a new one, subject to
the maximum sum insured in the policy

3. Insurable Interest: In life insurance, insurable interest need only be

present at the inception of a policy. In general insurance, insurable interest
must exist throughout the duration of the contract. Insured must have an
ownership interest or similar rights on the subject matter of the insurance at
the time of loss for a claim to be considered by the insurer. If the subject
matter has been disposed off by sale or transfer at the time a loss occurs, the
insured has no right to make a claim to the insurer.

4. Co-Insurance: when two or more policies are insured for a particular risk,
this arrangement is referred to as co-insurance. If total sum insured of the
policies does not exceed gross value and a claim should arise, each insurer will
contribute towards payment of claim in proportion to the sum insured by
them accordingly. It is also referred as contribution principle (Principle of
Contribution) with reference to the claim amounts paid by the different
insurers. In some contracts (example medical insurance), some insurers offer
the various benefits such as "deductible” that the insured is expected to bear
a portion of the claim. Insured is deemed to be the co-insurer or self-
Insurance. It helps to lower the premium costs for the policy owner.
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5. Average Condition (Condition of average / Underinsurance / principle of
average / subject to average / pro rata condition of average) is the insurance
term used when calculating a payout against a claim where the policy
undervalues the sum insured. In the event of partial loss, the amount paid
against a claim will be in the same proportion as the value of the
underinsurance.

Average Conditions, Claim Payable = Claim Amount x Sum Insured

Value at the time of Risk

In the purchase of fire insurance on a building: The value of a particular

building with reference to the total construction costs is RM600,000 &
therefore this should be the appropriate insured sum. The owner has
mistakenly effected a fire-insurance coverage of RM400,000, which is
effectively only 2/3 of the value. If the building is damaged due to fire & the
loss is estimated to be RM120,000, Therefore,

The insurer will pay = RM400,000 x RM120,000 = RM80,000

RM600,000

6. Subrogation: a legal right the insurance company holds to legally pursue a

third-party responsible for the damages caused to the insured. It gives an
insurer who is liable to indemnify an insured for a loss, the right to claim from
third parties in respect of such a loss. The insured’s right to deal with third
parties is transferred or subrogate to the insurer. This is to prevent the
insured from making a profit when he has two or more avenues to recover his
loss.

Example: When the subject matter of a policy (e.g. a car) has been damaged in
an accident, the insurer pays out the appropriate claim amount for repairs. The
insured is prohibited by the subrogation principle from proceeding to take
legal action against the third party to further compensate him for the loss.
The right of action is transferred to the insurer, who will attempt to recover
from the third party the amount paid to the insured.
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7. Proximate Cause: In the general insurance contracts, there are situations
whereby a series of events may occur which may lead to a possible claim. In
such circumstances, there is a need to consider what was the main or nearest
event that led to the loss which is a proximate cause.

Example: If someone is seriously injured in a motor vehicle accident and

subsequently treated in a hospital. If death occurs after some weeks during
the hospitalization, an uncertainty may arise whether the victim succumbed
due to injuries or quality of medical treatment or being infected by other
disease. Such disputes may eventually have to resolved by bringing a legal
action in the courts.

General Insurance Policy Forms & Contents

Provision & Options

1) Heading

This consist of the company’s name, logo, place of incorporation, registration

and address.

2) Recital Clause

This is the preamble to the policy and refers to contracting parties, the
insured and the insurance company ( providing short title for each party) and
to the proposal being the basis of the contract.
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3) Operative Clause

The clause sets out details of the cover and circumstances in which the
insurers will be liable to make payment. The precise wording of the clause will
vary from one class of business to another, and between companies. Operative
consists of :

1) Subject to observance of the policy conditions subject to exclusion or

exceptions

2) Specific risks covered are set out

3) Confined to the period of insurance

4) Subject to the premium being accepted by the company

5) Settlement of a claim (reimbursement, reinstatement or replacement or

pay as per schedule in agreed value)

4) Exclusions or Exceptions

Exclusions are basically risk that are not covered by the insurer.

There are four (4) reasons why exclusion applies in the policy:

1) there are other policies more appropriate to provide the cover

2) Insurer is not prepared to grant the cover without making further enquirer
as to the risk involved
3) Insurer is not prepaid to grant cover unless an additional premium is paid
4) The risks are uninsurable example the two common exclusion which appear
in most policies:-

(1)War Risks Exclusion Clause and

(2)Radioactive Contamination Exclusion Clause

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5) Schedule

The policy schedule sets out the information specifically related to the
policyholder. Schedule allow a policy document to tailor-made to specific
requirements of the insured, which as follows:
1) The insured’s full name and/or any business trading name or other
interested parties such as banks, finance companies etc
2) Insured address
3) The insured’s trade or business or occupation
4) 4)Situation of risk - location of the risk / geographical area
5)Particulars of subject matter - must be adequately described
6)Sum Insured / Limit of Liability - amount to be insureds
7)Period of Insurance - period of cover usually 12 months
8) Premium - initial premium paid plus stamp duty and others appropriate
charges
9) General - example specific variations or extensions, endorsement and
warranties

6) Conditions

These are the general terms governing the contract; the conditions can be in :
1)Express Conditions are conditions which are sets out in the policy document.
Such as breach of condition example premium warranty, claim notification etc

2)Implied Conditions are conditions which do not appear in the policy, such as
Good Faith, Insurable Interest, Existence of the subject matter and identity
of the subject matter where the subject are adequately described.
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7) Attestation Clause

Attestation is a legal acknowledgement of the authenticity (the quality of

being real or true) of a document which has the effect of binding the insurer
to the contact. Example

“ for and on behalf of RW INSURANCE COMPANY LTD Chief Executive

Officer “

What is Property Insurance ?

“Property”

The word “Property” covers every material thing or physical object to which
loss or damage may occur and includes:

(1) Real Property that is immovable property such as land and buildings

(2) Personal Property, that is temporary or movable things

“Insurable Property”

There is no limit to the variety of property that may be insured against loss or
damage, although the Insurance available or required will differ according to
the nature of the property. All property is subject to perils such as fire and
explosion, only movable property would normally be subject to theft and
accidental loss.

Types of Property Insurance

1. Fire Insurance with extended Perils

2. Houseowner and householder Insurance
3. Burglary/theft Insurance
4. All RIsks Insurance
5. Money Insurance
6. Plate Glass Insurance
7. Machinery Equipments Insurance
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Particulars of Property and Sum Insured

In respect of most classes of insurance covered in this subject, it is important

that the subject-matter and the sum insured must be adequately described
and sufficiently insured so that whenever a claim occurs the subject matter can
be clearly identified and the sum insured should represent the current full
market value of the property.

Subject-Matter

Subject- Matter Insured

Subject matter can take two forms:

1) Specific Description - refers to one specific object, example a house, a

factory, a machine etc.

2) General Description - refers to a subject matter that must be described

as a class, example stock-in-trade

Location

Location which the subject-matter is situated can be divided into two:

1)Risks at a specific situation – located at name location – example “at Jalan

TAR, Kuala Lumpur”

2)Risks NOT restricted to a specific situation (without causing unreasonable

inconvenience to the insured) - example “within Malaysia” (these is for
Insured business which having stock at various locations with value
fluctuating widely)

Insurable Interest

Whenever we consider the subject -matter of Insurance, it must be linked to

Insurable interest
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Type of Policy

(1) Valued Policy

A valued policy is one which provides that if the property insured

becomes a total loss by the happening of an insured peril, then the amount
payable shall be the sum Insured which was agreed between the insurer and
the insured at the time of effecting the policy. Commonly issued for items
such as painting, antiques etc

(2) Unvalued Policy

Most of general insurance policies are unvalued. The value only will be
determined at the time of Loss and not when the Insurance was
arranged. The sum insured are merely the limit of the insurance company’s
liability.

(3) First Loss Policy

The “first-loss" basis means that the policyholder and the insurance
company agreed on a maximum sum insured per loss event for a certain peril
of an insurance. This amount is much smaller than the general sum insured
and only be practical for risk, in an event a loss due to a certain peril, the
loss amount will only be a fraction of the value at risk.

Sum Insured

The underlying principle of property insurance is that in exchange for

premium payment, the insurer undertakes to indemnify the insured against
any financial loss he may directly sustain as a result of the happening of an
insured event to the subject-matter of the insurance

“Sum insured is the amount of money that an insurance company is obligated

to cover in the event of a covered loss.”
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Calculation of Value (Sum Insured)

The value of the subject-matter of Insurance is its value:

1) at the time of Loss

2) at the place of Loss

In the event of a claim, the value of the subject- matter will be determined
differently based on the class of property:

1) Building: the normal basis for buildings is the cost of repair or

reinstatement. If the damage is not extensive a builder’s estimate is
obtained. If extensive work is necessary, the insured usually instructs an
architect to compile a specification, and bill of quantities with details
measurements may be drawn up.
2) Machinery: where repair of machinery is required, the basis of indemnity
is the cost of restoring it to its previous condition. If the machine is
damaged beyond economic repair, the most common practice is (1) the
cost of replacing it by second-hand machinery of the same age, type,
capacity and condition or (2) replacement can be done by purchasing the
same type of machinery but must be “new for old”, and depreciation must
be taken into account.
3) Stock-in-trade: for stock depends on whether is retailer’s stock or
manufacturer’s stock. (1) For retailers based on wholesales price paid by
the insured and (2) for manufacturers unsold goods manufactured will be
based on cost of production (cost of raw material, labour, factory
overheads and administration cost excluding profit)
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Unvalued Policy subject to Under-Insurance, Average Conditions &
Depreciation

(1) Under-insurance

Under-insurance is a situation whereby the sum insured is below the value of

the insured property. In event of a claim, the insured would stand to suffer
because the insured would not be able to recover the full loss. Similarly,
under-Insurance would also affect insurers to the extent that as insurer would
not receive an equitable contribution of premium into common fund, which all
claims are paid, where the insurer might find their reserves eroded if the
underinsured continues

Under-Insurance may arise from:

1) Neglect to review insurance regularly

2) Failure to recognize an alteration to the risk that increases its value,

example in renovation or purchase of new expensive machinery

3) Failure to recognize the effect of inflation on the cost of

reinstatement

4) Insured seeking to reduce premium costs

(2) Average Conditions

Condition of Average is the insurance term used when calculating a payout

against a claim where the policy undervalues the sum insured. In the event of
partial loss, the amount paid against a claim will be in the same proportion as
the value of the underinsurance. The formula used is as follows:

Average Conditions,

Claim Payable = Claim Amount x Sum Insured

Value at the time of Risk

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1) Value at the time of Risk or Current Market Value or Current Value is the
value the policy should be insured for. Underinsurance occurs when Sum
Insured is less than Current Value.

2) Claim Payable or Payout is the actual amount paid by the Insurance

company or or amount payable out by the policy.

3) Claim Amount is the amount that an insured claimed against the policy
after a loss.

4) Sum Insured is the maximum amount that can be paid out by the policy
and is only paid out in cases of total destruction. Where partial
destruction occurs (a more common occurrence than total destruction),
Payout is pro rata in line with the underinsurance. This is due to
insurance companies basing the premiums on their risk of losing the full
Sum Insured against total destruction events.

Depreciation

Depreciation is calculated by evaluating an item’s Replacement Cost Value (RCV)

and its life expectancy. RCV represents the current cost of repairing the item
or replacing it with a similar one, while life expectancy is the item’s average
expected lifespan.
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What is Liability Insurance ?

“Liability”

“Liability means legal responsibility for one's acts or omissions.”

Failure of a person or entity to meet that responsibility leaves him/her/it open

to a lawsuit for any resulting damages or a court order to perform (as in a
breach of

contract or violation of statute). In order to win a lawsuit, the suing party

(plaintiff) must prove the legal liability of the defendant if the plaintiff's
allegations are shown to be true. This requires evidence of the duty to act, the
failure to fulfill that duty, and the connection (proximate cause) of that
failure to some injury or harm to the plaintiff. Liability risk exposures of an
individual are pure risks and as such insurers may be willing to indemnify losses
incurred by an individual as a result of such actions where liability is
established. In the area of tort, the risks which insurers are willing to
underwrite is that which concerns the negligent act of an insured. Although
insurers are willing to accept risks due to negligence, they will not deal with
intentional torts.

Common Law Duties of Care

• The Common Law Duties of Care that comes under the civil law is known
as law of tort. The tort is a civil wrong or also known as private wrong
that violates public or private rights that caused an individual to suffer
a loss / injury / in any way disadvantaged by the actions of another
person and consequently is subject to compensation. Torts include
assault, battery, libel, slander, intentional infliction of mental distress,
and damage to property. The same act or omission that makes a tort may
also be a breach of contract, due to negligence. For example, if a lawyer
is negligent in representing his client, the lawyer may be sued for
malpractice, which is a tort. The most common of action in tort is
Negligence and to certain extent Nuisance and Trespass
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Negligence

Negligence as a tort is breach of a legal duty to take care which results in

damage.

“Negligence is the omission to do something which a reasonable man, guided

upon those considerations which ordinarily regulate the conduct of human
affairs would do, or doing something which a prudent and reasonable man would
not do”.

Essentials of Negligence

Unintentional tort (similar to carelessness) falls under the wide area of the law
of tort. The law will deem an act to be negligent if the following circumstances
are present:

a. Duty of Care: the duty of care must first be a legal duty of care and
not just a moral duty. Duty of care is not owned to a community but to
those persons who may be affected. A plaintiff must:

(1) Establish the circumstances in which the damage was caused, they
could give rise to duty of care.

(2) the individual (defendant) owned him (the plaintiff) the duty
to exercise reasonable care of his actions or conduct with
reference to others around him on the particular facts of the case;

b. Breach of that Duty: The defendant had breached of that

legal duty of care and;

c. Consequential Damage (foreseeable and not remote): Such a breach

had caused injury or loss or harm or suffer to the plaintiff or damaged to
his property.
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Types of Liability Insurance

1. Public Liability

2. Product Liability

3. Professional Liability

4. Workmen’s Compensation

5. Motor Insurance

6. Personal Liability

Professional Negligence

These are wrongs intentionally carried out by individuals and would include acts
like slander and assault. Insurers are also willing to underwrite risk of
professional negligence. Example:

• Professionals (e.g. lawyers, engineers) are expected to provide a duty of

care to their clients which commensurate with their expertise &
qualifications.

• If circumstances are such that they have fallen below the standard
required or expected of them, they may be deemed to be negligent.

• If a civil action is brought against them in such circumstances, they may

be found liable and ordered to pay compensation to the plaintiffs.

• Insurers are willing to indemnify professionals who would be required to

pay such compensation.

• Such professional indemnity insurance policies are issued by general

insurers.
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Contributory Negligence

This arises where both the defendant and plaintiff are negligent. In
circumstances where negligence is alleged against another party. There is
always the possibility that the person who has suffered a loss may have acted
in a manner which had partly contributed to the loss or damage..

Example:

A motorist knocks & injures a person when crossing a road. The motorist may
be found liable in negligence. If, however, the pedestrian crossed the road
when he was forbidden to do so because of a ‘red light’, then the law will deem
that his actions had contributed to his own injury and loss. Thus, there is also
a general principle that every person has a duty for his own safety and cannot
allege negligence by others because of losses resulting from his own
negligence. These are the circumstances that a defendant in a civil suit will
attempt to prove in court. If he is successful, the courts will reduce the
compensation due to the plaintiff in proportion to his contributory negligence.