Insurance & Risk Management

Insurance & Risk Management

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INSURANCE AND RISK MANAGEMENT

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 COURSE DESIGN COMMITTEE

TOC Reviewer Content Reviewer

Ms. Dimple Pandey Ms. Dimple Pandey
Visiting Faculty, NMIMS Global Access - Visiting Faculty, NMIMS Global Access -
School for Continuing Education School for Continuing Education
Specialization: Banking, Finance & Specialization: Banking, Finance &
Insurance Insurance

Chief Academic Officer

Dr. Sanjeev Chaturvedi
NMIMS Global Access – School for Continuing Education

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Author: Dr. Anuradha Monga
Reviewed By: Ms. Dimple Pandey
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Copyright:
2015 Publisher
ISBN:
978-93-5119-857-4
Address:
4435/7, Ansari Road, Daryaganj, New Delhi–110002
Only for
NMIMS Global Access - School for Continuing Education School Address
V. L. Mehta Road, Vile Parle (W), Mumbai – 400 056, India.

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 C O N T E N T S

CHAPTER NO. CHAPTER NAME PAGE NO.

1 An Introduction to Insurance and Risk 1

2 Risk Management 35

3 Operations of Insurance Companies 53

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4 Insurance Principles and Contracts 77

5 Life Insurance 99
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6 Annuities and Retirement Benefits 119

7 Health Insurance 141

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8 Property Insurance: Home Insurance Policy 167

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9 Commercial Property Insurance 187

10 Liability Insurance 205

11 Personal Auto Insurance 221

12 Commercial Liability Insurance 237

13 Case Studies 259

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I N S U R A N C E A ND R ISK MA N A G E ME N T

C U R R I C U L U M

An Introduction to Insurance and Risk: Concept of Risk, Concept of Insurance, Types of Insur-
ance, Costs of Insurance, Buying Insurance, Alternatives to Traditional Insurance

Risk Management: Concept of Risk Management, Techniques of Risk Management, Process of

Risk Management, Advantages and Disadvantages of Risk Management, Significance of Insurance
and Risk Management

Operations of Insurance Companies: Functions of Insurers, Concept of Rate Making, Production/

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Marketing Agency, Underwriting, Loss Adjustment, Miscellaneous Functions – Legal Functions,
Accounting Functions, Engineering Functions, Reinsurance
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Insurance Principles and Contracts: Principles of Insurance, Requirements for Insurance Con-
tract, Special Features of Insurance Contracts, Relation between Insurance and Economic Growth,
Insurance Regulatory and Development Authority (IRDA) Act, 1999
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Life Insurance: Concept of Life Insurance, Types of Life Insurance Policies/Products, Tax Incen-
tives for Life Insurance, Computation of Life Insurance Premium, Life Insurance Contractual Pro-
visions
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Annuities and Retirement Benefits: Concept of Annuities, Example of Annuity P;ans in India,
Retirement Risk

Health Insurance: Introduction to Health Insurance, Health Insurance Policy Provisions, Current
and Future Aspects of Health Insurance Market in India, Disability Income Insurance, Medical
Expense Coverage

Property Insurance – Homeowners Policy: Home Insurance, Types of Home Insurance, Coverage
Classification of Home Insurance, Home Insurance Claim Process

Commercial Property Insurance: Commercial Property Coverage, Commercial Property Direct

Loss Coverage, Commercial Property Coverage Policies, Commercial Property Indirect Loss Cov-
erage, Boiler and Machinery Insurance, Transportation Coverage, National Flood Insurance Pro-
gram

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Liability Insurance: Introduction to Liability Insurance, Comprehensive Personal Liability Coverage,

Professional Liability Insurance (Malpractice Insurance), Umbrella Liability Policy

Personal Auto Insurance: Personal Auto Policy, Liability Coverage, Medical Payments Coverage, Un-
insured Motorist Coverage, Physical Damage Coverage, Policy Conditions

Commercial Liability Insurance: Workers Compensation Insurance, General Liability Insurance,

Commercial Automobile Insurance, Aviation Insurance, Commercial Umbrella Policy

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 C H A
1 P T E R

AN INTRODUCTION TO INSURANCE AND RISK

CONTENTS

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1.1 Introduction
1.2 Concept of Risk
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1.2.1 Categories of Risk
Self Assessment Questions
Activity
1.3 Concept of Insurance
1.3.1 Features of Insurance
1.3.2 Requirements for Insurable Risk
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1.3.3 Comparison between Insurance and Gambling

Self Assessment Questions
Activity
1.4 Types of Insurance
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1.4.1 General Insurance or Non-life Insurance

1.4.2 Life Insurance
1.4.3 General Structure of the Insurance Market
Self Assessment Questions
Activity
1.5 Cost of Insurance
1.5.1 Costing of Life Insurance
1.5.2 Costing of General Insurance
Self Assessment Questions
Activity
1.6 Buying Insurance
1.6.1 Common Errors in Buying Insurance
1.6.2 Need for an Insurance Plan
1.6.3 Selection of an Agent
Self Assessment Questions
Activity

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CONTENTS

1.7 Alternatives to Traditional Insurance

Self Assessment Questions
Activity
1.8 Summary
1.9 Descriptive Questions
1.10 Answers and Hints
1.11 Suggested Readings for Reference

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INTRODUCTORY CASELET
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STATE OF GENERAL INSURANCE IN INDIA

Recently in India, Chennai has been devastated by floods, which

have led to nearly 270 deaths according to official figures. Daily
News and Analysis (DNA) is an Indian news broadcasting compa-
ny which has attempted to collect data for insurance claims made
and their subsequent payments. There has been an extensive loss
of life, property and spread of diseases.

Bajaj Allianz General Insurance, one of the India’s largest general

insurance companies, has declared that it has already received
more than 1000 general insurance claims with the majority con-
cerning home insurance. Sasi Kumar Adidamu, the Chief Tech-
nical Officer of Bajaj Allianz General Insurance, revealed that

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despite most people being aware about the availability of insur-
ance products, they do not tend to insure their homes against nat-
ural disasters.
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Adidamu shared his reservations about the discouraging pene-
tration of home insurance in India. Despite awareness, majority
of households are uninsured against these risks. Under these cir-
cumstances, we can only urge the general public to be adequately
insured. The lack of insured homes is reflected every time there is a
natural calamity in the country, he says.
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He also reiterated about the recent major flood-related incidents

in Chennai, India, The economic losses for that region are much
higher than the insured losses, owing to the poor penetration of in-
surance in the country.
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The same trend is seen for losses to property and homes, he says.
Home insurance penetration in India is below 1%. In fact, of the
total premium written by the General Insurance industry, less than
3% accounts for home insurance or cover for dwellings, Adidamu
says.

This discouraging statistic is largely due to the insistence of banks

and financers to take a cover while giving out home loans, he added.

A recent study by the Federation of Indian Chambers of Com-

merce and Industry (FICCI) has revealed that there were com-
parable trends for floods, which affected Mumbai, Surat and
Uttarakhand. Only 11 per cent of total losses that occurred in
these regions had insurance cover. This reaffirms the fact that the
penetration of insurance is dismal despite there being awareness
about the increased exposure to risks due to natural calamities, said
Adidamu.

Adidamu has highlighted another trend revealed by the FICCI

report that people who get insurance cover for their commercial

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INTRODUCTORY CASELET
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assets like industrial plants do not take out insurance cover for
their homes. Adidamu further reiterated that due to the frequen-
cy of the occurrences of natural disasters in India, the need of the
hour is to improve penetration of home insurance in the country by
increasing awareness, using unique distribution network to reach
out to the remotest corners, and offer simple products to ensure that
more people are inclined to avail a home insurance, easily, he said.

The general insurance industry of India provides a diverse range

of home insurance cover to protect homes against natural disas-
ters such as floods, earthquakes, etc. These insurance covers pro-
vide protection to homes against:
‰‰ Any damage to the structure of houses like its walls or foun-
dations.

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‰‰ Any damage or loss of furniture and electrical appliances like
refrigerators, televisions, air conditioners, etc.
‰‰ Compounded wall breakdown leading to collapse of the house
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LEARNING OBJECTIVES

After studying this chapter, you will be able to:

>> Explain the concept of risk
>> Explain the concept of insurance
>> Describe various types of insurance
>> Explain how to determine the cost of insurance
>> List the measures to be considered while buying insurance
>> Discuss various alternatives to traditional insurance

1.1 INTRODUCTION
There are a number of things that a person values in his or her life.

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These may be tangible assets, such as property, vehicle and jewellery;
or intangible assets, such as health of oneself and family and one’s
professional reputation. Damage to any of these valuables leads to a
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financial loss as well as causes anxiety and stress. Similarly, in the
business context, organisations invest a huge amount on their infra-
structure, products in transit, machines, etc. If damage is caused to
these assets, organisations have to bear heavy losses. Although a loss
cannot be avoided, its harmful effects can be mitigated through a tra-
ditionally used approach called insurance.
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Insurance works as a safeguard mechanism to reduce the effect of loss

caused by various risks. It is due to the unpredictability of risks that
insurance has come up as the paramount risk management tool. Thus,
insurance nowadays has become one of the most critical components
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of an individual’s life or the financial planning or organisations. The

main objective of any insurance contract is to give financial security
and protection from unwarranted expenses to individuals or organi-
sations. However, with the development of the insurance industry, in-
surance plans nowadays are not only used as a tool to cover risks but
as an instrument for savings and investment.

An individual or organisation that wants coverage against a particular

loss pay a specific amount called premium on a monthly or yearly ba-
sis. The amount of premium to be paid by a policyholder is decided as
per the nature and extent of risk. To calculate such amount, insurance
companies use various statistical techniques to forecast the expected
future losses.

The chapter begins by explaining the concept of risk and insurance.

The chapter also describes various types of insurance. Next, it explains
the measures to determine the cost of life and non-life insurance. It
also discusses the process of buying an insurance plan. Towards the
end, the chapter elaborates on various alternatives to traditional in-
surance.

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1.2 CONCEPT OF RISK

Risk refers to a particular situation that takes place due to an uncer-
tainty or unexpected event. Every activity undertaken by individuals
or organisations involves some kind of risk, which can lead to either
positive or negative results for them. Negative results can incur heavy
losses; thus need to be taken care and insured. Risks can vary in de-
gree and cannot be measured in advance. Some risks can be avoided,
while some can be controlled. However, most risks are beyond control
of individuals and organisations. When it comes to insurance, it is im-
portant to understand:
‰‰ What type of risk is applicable to which situation?
‰‰ What is the probability of a risk?

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‰‰ What will be the degree of the risk?
‰‰ What can be the consequences of the risk?

No one can foresee the future. Therefore, the above questions are an-
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swered hypothetically. Negative as well as positive outcomes are antic-
ipated and the situation which can result in a negative effect is insured.

1.2.1  CATEGORIES OF RISK

Risk is diverse in nature and every kind of risk cannot be insured.

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Broadly, there are two types of risks, as shown in Figure 1.1:

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Figure 1.1: Categories of Risks

Let us discuss these risk types in detail in the next sections.

BUSINESS RISKS

A business is a commercial activity in exchange for which a business

owner earns money. Every commercial activity carries a certain level
of risk. However, every business owner needs to take risks to grow and
survive in the competitive world. Avoiding risk is possible but elimi-
nating it may keep the business far away from the success. Moreover,
the more is the risk taken, the better are the prospects of growth. Risk
management deals with understanding the possibilities and severity
of risk and then developing a methodology to handle that risk effi-
ciently. If the potential risk is recognised before time, it is possible to
take precautions and plan economic ways to deal with it.

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A business owner is generally not interested in taking any risk when

it comes to the survival of business. There can be many various types
of risks in a business. Thus, to reduce the degree of risk, it is of utmost
importance for an organisation to identify the type of risk that it can
be exposed to. Figure 1.2 shows the kinds of risks that can come ahead
when business activities are undertaken:

Figure 1.2: Types of Business Risks

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Let us discuss these two types of business risks as follows:
‰‰ Internal risks: Risks that emerge due to the internal operations of
a business are called internal risks. In other words, internal risks
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arise while carrying out a business activity. Generally, these risks
are foreseeable if there is history relating to that risk in a business
enterprise. The probability of internal risk can be determined to a
certain extent. Thus, they can be managed and controlled to a con-
siderable extent. Internal risks arise due to internal factors. These
internal factors are:
 Human factor: It is just impossible to run a business without
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the presence of human. However, it is the most significant cause

of internal risks. Strikes by trade unions, accidents, careless
attitude towards work and dishonesty are some major factors
that affect work. In addition, managerial disability and failure
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in following the appropriate methods of implementing various

tasks and non-payment by creditors and debtors may also lead
to unfavourable conditions to a business.
 Technological factor: Technological factors relate to the type
of technology used in a business. The technique can become
obsolete to give the expected results or can be too expensive to
be implemented. This may increase the chances of internal risk.
 Physical factor: These factors can pose risks pertaining to
physical elements, like goods, machinery and equipment, etc.
Fire, robbery and damage during transportation come under
such type of risks as they may harm the physical asset of the
company severely. Apart from this, compensation paid to a
third party due to any kind of unintentional loss also comes
under physical factors to bring internal risk.
‰‰ External risks: Such risks originate due to the events arising out
of a business organisation and are beyond the control of the or-
ganisation. Being uncontrollable in nature, external risks cannot
be predicted in advance. There can be a large number of external
factors causing risk for the business. Some of these factors are:

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 Economic factors: These factors are related to the economy

and the current market condition. Examples of economic fac-
tors include changes in demand and supply in the market, fluc-
tuating prices of raw material, increasing competition, changes
in the preferences of consumers and buyers, inflation, unem-
ployment, changes in the global economy, etc.
 Natural factors: These factors are related to events that occur
naturally in the environment. Mostly, these factors are natural
disasters like flood, cyclone, tornadoes, earthquake, lightening
or various other unknown changes in the environment.
 Political factors: These factors are related to the changes oc-
curring in the political environment. These changes may occur
in the policies for operating businesses, guidelines, market en-
try barriers, budget constraints, political scenarios, etc.

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PERSONAL RISKS

Personal risks directly impact an individual and his/her state of be-

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ing and are pertaining to the existence and survival of an individual.
Personal risks may be associated with the possibility of losing job, re-
duction in the income, risk of death or disability (that may make an
individual unable to earn or take responsibilities), risk of poor health,
etc. Broadly, there are four personal risks that can affect an individual
on a personal level:
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‰‰ Death: An unfortunate event of death of a person can be devastat-

ing for his/her family. It is not only a loss for the family members,
but also affects their financial well-being.
‰‰ Old age: Old age may cause the risk of unemployment for an indi-
vidual. This may be due to the physical inability of a person that
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makes it difficult for him/her to work in the old age.

‰‰ Poor health: The state of illness also causes the risk of expending
a huge amount of medical bills. The risk is directly related to the
financial well-being of an individual. Any kind of influence on an
individual’s financial state may cause personal risk. Besides med-
ical expenditure, the state of poor health for a long duration can
cause the risk for unemployment as well.
‰‰ Unemployment: The state of unemployment is one of the major
causes of personal risk. Unemployment restricts the way for liveli-
hood that may further bring financial problems in the family.

SELF ASSESSMENT QUESTIONS

1. __________ refers to a particular situation that takes place due

to an uncertainty or unexpected event.
2. A business owner is generally not interested in taking any risk
when it comes to the survival of business. (True/False)

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3. Which of the following factors can pose risks pertaining to

elements, like goods, machinery and equipment, etc.?
a. Human factors
b. Technological factors
c. Physical factors
d. Economic factors

ACTIVITY

Using various sources, find information on the approach adopted

by some renowned organisations to handle a business risk.

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1.3 CONCEPT OF INSURANCE
Insurance basically means protection against future losses arising
from unexpected possible risks. Technically, insurance is a course of
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action through which an individual manages the potential risk and
transfers it efficiently to the structure that is capable of handling it.
Though insurance neither reduces the severity of risk for an individu-
al or organisation nor does it reduce the probability of an occurrence
of an event in the future, it definitely compensates the financial loss
related to the event.
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An individual can get protection in exchange for a particular amount

called premium. The minimum amount promised by the insurer at the
time of maturity of the policy is called sum assured. An organisation
that provides insurance policies to people is called insurer and a cus-
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tomer who buys these policies from the insurer is known as insured
or policyholder. It is important that the insurer communicates all fea-
tures, terms and conditions of the policy to the insured. On the other
hand, the insured should go through all terms and conditions before
buying the policy.

The concept of insurance in India dates back to almost 200 years. The
ancient writings, such as Manusmrithi, Yagnavalkya (Dharmasastra)
and Kautilya (Arthasastra) provide a description of the act of resource
pooling by the community and its redistribution amongst the affected
at the time of famines and floods. This in its raw form is the underlying
principle of modern-day insurance.

In the past, the insurance practices in India were heavily influenced

by countries, such as England. Marine trade loans and carrier’s con-
tracts are some of the earliest forms of insurance contracts. However,
the business of life insurance started with the establishment of Orien-
tal Insurance Company in Calcutta. General Insurance in India was
born with the establishment of Triton Insurance Company Ltd., in
1850 in Calcutta by the British rulers.

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In 1993, a committee under the chairmanship of R.N. Malhotra, the

Former Governor of Reserve Bank of India (RBI), was set by the gov-
ernment to propose recommendations for reforms in the insurance
sector. The committee submitted its report in 1994 recommending
that the private sector should be permitted to enter the insurance in-
dustry. In addition, the committee recommended that foreign compa-
nies should be allowed in India preferably through joint ventures with
Indian partners.

In 1999, IRDA was formed as an autonomous body for regulating and

developing the insurance industry as recommended by the Malhotra
Committee. It was incorporated as a statutory body in April, 2000.
IRDA finally opened up the market in August 2000 with the invitation
for the application for registration. Since then, IRDA frames various
regulations for the insurance industry. These regulations can be re-

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lated to the registration of companies for carrying on insurance busi-
ness, protection of policyholders’ interests, and so on.

Let us discuss the features and requirements of an insurance policy in

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the next sections.

1.3.1  FEATURES OF INSURANCE

Insurance protects individuals against potential financial loss that

may cause due to the occurrence of uncertain events. Suppose an in-
dividual is the sole breadwinner for a family. His/her untimely death
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can create a financial hardship for his/her family members. In such a

case, an insurance policy can compensate the family members with
the insured amount. Similarly, an organisation can go for an insur-
ance policy to get protection against various tangible risks, such as
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fire, spillage or various other accidents. Therefore, the main feature of

any insurance policy is to provide financial security to the insured and
his/her family even after the insured’s death. In addition, the following
are some other important features of insurance:
‰‰ Sharing of risk: As a tool, insurance shares the financial losses of
an insurer, occurred due to some specific course of events. These
events may include death in the case of life insurance; marine per-
ils in the case of marine insurance; fire in the case of fire insur-
ance; and other events in general insurance like theft in burglary
insurance, accident in motor insurance, etc.
‰‰ Co-operative device: It is one of the most important features of ev-
ery insurance plan. Insurance is a device that works in the co-op-
eration of a large number of people who agree to share the finan-
cial loss arising due to a particular insured risk. The underlying
principle behind using insurance as co-operative devices is that it
helps in pooling funds from a large number of people and compen-
sating for losses incurred by some people within the pool.
‰‰ Value of risk: While insuring an entity, the risk is assessed to de-
termine the consideration or premium that is charged from the

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insured. The premium, in other words, denote to the value of risk.

The higher the risk, the higher would be the premium amount.
‰‰ Payment at contingency: The insurance amount is paid to the in-
sured if the contingency occurs. For example, general contracts
are usually the contract of uncertainty where events like fire or
marine perils may or may not occur. Therefore, the payment is
made only if these events or contingencies occur. On the other
hand, the life insurance contract is usually a contract of certainty,
where the contingency of death or the expiry of the term will sure-
ly occur. In such insurance contracts, the payment is certain.
‰‰ Amount of payment: It depends upon the value of the loss oc-
curred due to the certain insured risk. However, the maximum
amount of payment depends upon the amount insured at the time
of insurance by the insured.

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‰‰ Insurance differs from charity: Insurance is not charity as it pro-
vides security and safety to an insured in turn of fixed premium
paid by him/her. Charity, on the other hand, is given as an act of
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goodwill. It does not provide security and safety to the donor. In-
surance is a business industry that provides insurance services by
charging a nominal premium.

1.3.2  REQUIREMENTS FOR INSURABLE RISK

Insurable risk can be defined as conditions and circumstances of the

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insurance seeker that match with the terms of the insurer to accept
and underwrite risks. There are broadly two conditions of risks that
make them insurable:
‰‰ An insurer should be able to measure the risk and loss associated
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and to ascertain the cost in terms of premium.

‰‰ The risk should be similar in the nature of risk of those pooling
with the insurer to fulfil their protection need.

The decision whether a risk is insurable or not is taken by the insurer.

Therefore, insurable risk perceives the situation from the insurer’s
point of view. The insurer has to fulfil the needs of other insurance
seekers who have pooled with the insurer; therefore, it is not possible
for him/her to underwrite the risk with unlimited liability. Owing to
this fact, the insurer sets certain requirements or standards as per
which they determine the acceptability of the risk. These require-
ments or standards include:
‰‰ Risk should be quantifiable: The risk that cannot be quantified;
cannot be insured. When an insurance seeker or the applicant ap-
proaches the insurer with a set of risks, the insurer asks for vari-
ous details that help him/her to determine the insurability of risk.
If it is possible for the insurer to underwrite the risk within the
guidelines to identify the risk, it is likely to get insured.

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‰‰ Similarity of the nature of risk with the risk of other people

availing insurance: The second condition is that the risk should
be similar in nature with the risk of those people who are already
in the process of availing the insurance coverage from the insur-
er. When the nature of the risks is similar for a large number of
people, it is possible to determine a methodology to provide insur-
ance. It also enables the insurer to decide on the premium factor.
‰‰ Acceptability of insurance by the insurer as well as the appli-
cant: It becomes easy for the insurer to provide services to a large
number of people in which each person has a similar kind of risk.
If the premium charged is suitable to the applicant and the insurer,
the risk can be insured. In short, any risk can be insured; however,
it should be quantifiable and there should be sufficient demand for
the insurance for such kind of risk.

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1.3.3 COMPARISON BETWEEN INSURANCE AND
GAMBLING
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Risk is often in the form of uncertainty, which may result into loss or
profit. To minimise the uncertainty and negative consequences of the
risk, people buy insurance. As mentioned earlier, insurance does not
decrease the severity of risk rather it reduces the probability of finan-
cial loss pertaining to certain events like fire, death, accident, marine
peril, etc. However, these events may or may not occur and the pay-
ment is made only if these events or contingencies occur. Due to this,
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many people consider that buying insurance is the same as gambling

where there is no certainty of payment. However, there is significant
difference in between the two. Table 1.1 distinguishes between insur-
ance and gambling:
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TABLE 1.1: COMPARISON BETWEEN INSURANCE

AND GAMBLING
Parameter Insurance Gambling
Nature of risk Insurance is ‘pure’ risk as The risk associated with
it deals with the possibility gambling is ‘hypothet-
that particular events, like ical’ risk as it offers an
accident or fire, which are opportunity for gain
covered under an insurance as well as for loss. So,
contract, will occur. There- the gambler may hope
fore, in the case of insur- to win the gambling
ance, the insured under- amount.
stands that he/she will get
the insurance payment only
if the insured entity meets
with the risk.

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Parameter Insurance Gambling

Coverage The major aim of insurance A gambler gambles
is to re-establish the insured with the hope of gaining
to his/her original position. something or earning
Insurance does not cover profit.
the possibilities of making a
profit, which is in the case of
gambling.
Objective As an industry, insurance Gambling does not in-
aims at increasing the crease the economic pro-
economic productivity of a ductivity of a country.
country. It minimises the
probability of financial loss
by eliminating worry and
increasing initiatives. It gen-
erates a pool of insurance

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fund that is used to support
projects necessary for eco-
nomic growth.
Purpose
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Insurance buyers are risk Gamblers are risk seek-
avoiders. People buy insur- ers. They take risk to
ance to reduce exposure to earn profit.
large losses.

SELF ASSESSMENT QUESTIONS

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4. __________ basically means protection against future losses

arising from unexpected possible risks.
5. The maximum amount promised by the insurer at the time of
maturity of the policy is called sum assured. (True/False)
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ACTIVITY

Using the Internet, find how different factors affect the insurability
of risks. Prepare a report based on your findings.

1.4 TYPES OF INSURANCE

Insurance means the assurance of financial aid when there is any
contingency. It is a promise made by an insurance service provider to
cover an individual against loss in the exchange of a premium. Life is
always uncertain and these uncertainties can cause losses for which
an individual may not be prepared. The insurance service provides
the guarantee that the individual will be compensated against those
losses. Insurance services are broadly classified into two types—gen-
eral insurance and life insurance.

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The different kinds of insurance companies are show in Figure 1.3:

Types of Insurance
Companies
Life Insurance

General Insurance

Figure 1.3 Types of Insurance Companies

1.4.1  GENERAL INSURANCE OR NON-LIFE INSURANCE

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General insurance is a contract between a policyholder and gener-
al insurance company where insurance coverage is taken for non-life
assets. Through general insurance, a person can protect himself/her-
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eral insurance can provide coverage against risks pertinent to crops,
homes, motor, equipment, shops, offices and travel.

Health insurance also comes under the general insurance category.

In this way, general insurance typically comprises any insurance but
coverage against life. It is called property and casualty insurance in
M

the U.S. and non-life insurance in Continental Europe. A general in-

surance company provides coverage against risk in consideration of a
premium paid by the policyholder. For example, National Insurance
Company is a public sector company while Bajaj Allianz General In-
surance is a private sector company which provides general insurance
N

in India.

Typically, general insurance can be categorised into various types, as

shown in Figure 1.4:

Crop Insurance

Motor Insurance
General Insurance

Home Insurance

Travel Insurance

Health Insurance

Fire Insurance

Marine Insurance

Figure 1.4: Types of General Insurance

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The different types of general insurance are explained as follows:

‰‰ Crop insurance: Under this type of general insurance, farmers
can protect their crops against the risk of damage caused due to
unfavourable weather, pests, fire, etc. The government at national
and state levels runs various crop insurance schemes in order to
protect the financial interests of farmers.
‰‰ Motor insurance: In India, the Motor Vehicles Act, 1988 makes it
mandatory for vehicle owners to buy motor insurance. On buying
a new vehicle, a person needs to buy insurance in order to get the
vehicle registered with the Regional Transport Office. Thereafter,
every year, the person has to renew his/her motor insurance, to
cover risks. Also, there are provisions of penalties if a vehicle own-
er does not renew his/her policy. Motor insurance can also cover
damages caused to the third party in an accident.

S
‰‰ Home insurance: Like any other tangible asset, a person can also
insure his/her house against damages caused by fire, theft, terror-
ist activities, riots and natural calamities such as floods, hurricanes
IM
and thunderstorms.
The home insurance industry is still at a nascent stage in India and
the percentage of people opting for home insurance is far less than
that of home owners. However, with the rise of the home loan mar-
ket in India, the demand for home insurance is also growing. This
is because banks and housing finance institutions making home
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insurance mandatory for home owners before granting loans.

‰‰ Travel insurance: As travel also involves a certain degree of risk,
travel insurance is one of the fastest-growing industries in India.
More and more travellers, especially people travelling abroad, are
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opting for travel insurance to cover their baggage against the risk
of loss, theft, robbery, etc.
‰‰ Health insurance: Inflation and ever-rising costs of quality health-
care signify the importance of health insurance. In India, a large
number of people in urban areas are now aware of the benefits that
health insurance offers. Due to multiple reforms in the insurance
sector in India, there is a wide range of health insurance plans cov-
ering accidents to critical illnesses, for different age groups.
Considering the high risk profile and special requirements of se-
nior citizens, Insurance Regulatory and Development Authority
(IRDA) has issued specific guidelines for insurance companies to
offer specific health insurance plans for senior citizens. Before that,
insurance companies used to avoid senior citizens because of high-
er chances of health disorders and related expenditure. The premi-
um paid towards health insurance is eligible for tax exemption to
the limit of ` 15,000 a year, under section 80D of the Income-tax Act,

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1961. Further, senior citizens can claim exemption of up to ` 20,000

a year, under this provision.
‰‰ Fire insurance: Fire insurance is a form of insurance that protects
the properties of people against the damage caused due to fire.
When any kind of infrastructure or property is covered by fire in-
surance, the insurance policy will compensate for the loss in the
event that the property is damaged or destroyed by fire.
‰‰ Marine insurance: Marine insurance covers the loss or damage to
ships, cargo and terminals. It also covers the damage to any trans-
port by which property is transferred, acquired or held between
the point of origin to the point of final destination. There are two
broad categories of marine insurance:
 Ocean marine insurance: The ocean marine insurance may
comprise the following:

S
99 Hull: This covers physical damage to vessels, including
their machinery and fuel but not their cargo.
IM 99 Cargo: This covers the loss, damage or theft of commodi-
ties while in transit.
99 Freight: This covers the policyholder against loss of the
freight money in case the shipowner cannot complete his
contract of carriage because of unavoidable peril.
 Inland marine insurance: This is a broad type of coverage for
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shipment that does not involve ocean transport. This type of

insurance covers articles in transit by all forms of land and air
transportation. In addition, it includes property held by bailees
and floaters that cover expensive personal items such as fine
art and jewellery.
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1.4.2  LIFE INSURANCE

As the term suggests, life insurance covers the risk of life. A life in-
surance policy is a contract between the insured person and the life
insurance company to provide a pre-determined sum of insurance to
the nominee/s in case of injury or death of the policyholder. Life insur-
ance is expected to provide financial security to the dependents of the
policyholder. The insured amount should be sufficient to replace the
income of the policyholder. However, there is no compulsion to equate
one’s income to the sum insured under the policy. For example, Life
Insurance Corporation is a public sector company, while Aegon Re-
ligare Life Insurance is a private sector company which provides life
insurance in India.

In India, life insurance policies can be of five types, as shown in

Figure 1.5:

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Life Insurance Term Insurance Policy

Whole Life Insurance Policy

Endowment Policy

Unit Linked Insurance Plan

Group Insurance Policy

Figure 1.5: Types of Life Insurance

The different types of life insurance can be briefly explained as fol-

lows:

S
‰‰ Term insurance policy: Under this type of insurance policy, one
is expected to pay the premium amount against consideration of a
certain sum of insurance coverage. The premium amount is treat-
ed as expenditure because a term insurance plan does not give any
IM
returns or money back. Term insurance plans can be taken for a
period ranging from 5 to 30 years.
‰‰ Whole life insurance policy: A life insurance policy that protects
the insured for the entire life is called a whole life insurance policy.
‰‰ Endowment policy: Under an endowment policy, the policyholder
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receives the whole of his/her money paid as the premium amount

back after the expiry of a pre-determined policy period. In the case
of death of the policyholder, his/her nominee receives the full sum
insured under the plan.
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‰‰ Unit Linked Insurance Plan (ULIP): As the term suggests, ULIP

are purchased in units. The price per unit is announced by an in-
surance company as per the Net Asset Value (NAV). ULIPs pro-
vide the dual benefit of life insurance and investment. The amount
of premium paid towards a life insurance plan is invested in equity
markets, which work on the principle of risk and rewards.
‰‰ Group insurance policy: These policies are taken for a group of
people. Generally, organisations provide group insurance policy
benefits to their employees. Governments also provide group in-
surance schemes to citizens. The recently launched Pradhan Man-
tri Jan Dhan Yojana is an example of a group insurance scheme.

1.4.3  GENERAL STRUCTURE OF THE INSURANCE MARKET

The year 2000 also saw restructuring of the subsidiaries of the Gen-
eral Insurance Corporation of India (GIC) as independent companies
and conversion of GIC national re-insurer. Today, there are 28 general
insurance companies including the Export Credit Guarantee Corpo-
ration (ECGC) and Agriculture Insurance Corporation of India and 24

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life insurance companies operating in the country. By the year 2000,

the Indian Government paved the way for private insurance firms by
passing the IRDA Act. A number of global insurers emerged into the
Indian life insurance business. There was a significant growth in the
first year premiums from 2002 to 2009. The total amount, collectively
for LIC as well private firms, rose from 198.6 billion rupees in 2002 to
871.08 billion rupees in 2009, which is shown in Figure 1.6:

Rs bn
700.00
600.00
500.00
400.00

S
300.00
200.00
100.00
IM 0.00
FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09
 LIC   Private Players

Figure 1.6: Growth in First Year Premiums of Life

Insurance from 2002-09
M

(Source: https://www.dnb.co.in/BFSISectorInIndia/images/LifeInsChart2.1.gif)

As shown in Figure 1.6, competition increased among insurance com-

panies. Each came up with a better underwriting of policies in favour
of policyholders so that the maximum number of policies can be sold
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out. This included better risk management and retirement plans that
were the priority of people in general. Some of the important aspects
of the insurance market of this phase are depicted in Figure 1.7:

Number of private players

Unit Linked Insurance Plans (ULIPS)

Innovative distribution plans

Competition

Insurance penetration

Insurance density

Figure 1.7: Important Aspects of the Insurance Market

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‰‰ Number of private players: In India, the number of private play-

ers was 10 in FY01 and by the end of FY08, there were 18 life in-
surance companies operating in the country. Subsequently, Aegon
Religare Life Insurance Company Limited, HSBC, Oriental Bank
of Commerce, Life Insurance Co. Ltd. and DLF Pramerica Life
Insurance Company Limited were given the Certificate of Regis-
tration by the Authority. There was an increase in growth by 65%
in the number of offices of life insurers in FY08 as calculated in the
beginning and at the end of the year. LIC offices increased by 10%,
while the private sector offices became double in number.
‰‰ Unit-linked insurance plans (ULIPs): Various ULIPs were intro-
duced by private players. There were individuals who were will-
ing to opt for these plans for the purely investment purpose. This
helped private players to compete against LIC also. These plans
became popular as they were of interest to people. The success

S
of private players was based on these ULIPs, which were able to
generate a high income for the respective company. Even today,
ULIPs continue to dominate and the income coming from ULIPs
IM
remains large.
‰‰ Innovative distribution channels: New and innovative ideas in-
troduced in distribution channels made it easier to introduce prod-
ucts in those segments which were not covered earlier. Moreover,
all insurance companies started training programmes for staff
members especially advisors. This helped in better productivity
M

through a better customer approach. SBI Life developed a website

and invited people to interact through the website.
‰‰ Competition: There was fierce competition in the insurance busi-
ness. LIC introduced new products like ‘Jeevan Anurag’ and ‘Je-
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evan Nidhi’ insurance policies. LIC also depended upon ULIPs,

which grew by 29.76% (y-o-y) in FY06. To face competition posed
by private firms, LIC focussed more on ULIPs and made a number
of sales.
‰‰ Insurance penetration: The main concept of insurance penetra-
tion is all about expanding business by private life insurance play-
ers in uncovered market segments. By applying new and innova-
tive ideas to distribution channels, life insurance companies have
been able to target markets that were not discovered earlier. This
in turn contributed to an increase in the level of penetration. The
level of penetration has a strong positive correlation to the income
levels of people. With its middle-class families with fairly good in-
come, India has great potential for the insurance industry. More-
over, markets have become saturated in many developed econo-
mies and insurers all over the world are in search of a new and
fresh market. Global insurance majors found India to be a good
field where they can establish themselves.
‰‰ Insurance density: The amount spent on insurance by an average
consumer could be determined with the help of per capita income.

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Analysis of this measure shows that India is one of those nations,

which spend the least while purchasing insurance. But the eco-
nomic condition of people in India is improving day by day. This
has led to a growth in per capita income in the last few years. In-
crease in per capita income has resulted in people showing more
interest and spending more on insurance. The total insurance
spend of the country was US$ 9.1 in 2001. Over the next six years,
the total amount rose to US$ 40.4.

SELF ASSESSMENT QUESTIONS

6. ___________ insurance can provide coverage against risks

pertinent to crops, homes, motor, equipment, shops, offices
and travel.
7. ___________insurance is expected to provide financial security

S
to the dependents of the policyholder.
8. Which of the following life insurance policy protects the
insured for the entire life?
IM
a. Term insurance policy
b. Whole life insurance policy
c. Endowment policy
d. Group insurance policy
M

ACTIVITY

Using the Internet, find information on a famous insurance provid-

er in the Indian insurance market. Study the types of policies pro-
N

vided by it and terms and conditions associated with these policies.

Prepare a report based on your findings.

1.5 COST OF INSURANCE

Determining the cost of insurance is one of the important aspects of
underwriting. The cost of insurance is not determined on the basis of
the cost of production and distribution or demand and supply, but by
assessing the risk in an apt manner. As discussed earlier, insurance
can be classified as life insurance and general insurance.

The cost would also depend on the type of insurance to be provided.

As the value of humans cannot be estimated as in the case of the val-
ue of any non-living object, the procedure to set the cost of insurance
would also be different. Let us understand how to calculate the cost of
life insurance and general insurance in the next sections.

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1.5.1  COSTING OF LIFE INSURANCE

Various factors are taken into consideration to determine the cost of

life insurance. Some of these factors are explained as follows:
‰‰ Mortality table: Insurers deal with the probability of risk or death
under the life insurance segment. The probability of risk is esti-
mated on the basis of the historical data. To understand the prob-
ability of death, insurers look at the mortality table of a particular
period. A mortality table can be either census mortality table or
insured lives mortality table. The census mortality table provides
information on the general population and it is constructed on the
basis of births and deaths in the 10-year period. Another is the
insured lives mortality table, which provides numerical data on
the deaths of insured people. The insured lives mortality table is
formed by life insurance providers as it is their basic requirement

S
to comprehend the probability of death.
The matrix of the mortality table is based on the selected group.
Grouping can be done on the basis of standard lives and substan-
IM
dard or impaired lives. The grouping of the population is required
to assess the equality of risk. An individual added to the group
should have similar risk as the risk of other listed individuals. In-
surers generally like to qualify for standard lives as the risk in-
volved is lesser than the risk of substandard lives. To determine
whether it is a standard life proposal or substandard one, the fol-
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lowing points are noted:

 The life to be insured is healthy.
 It does not have any physical impairment.
 It is not addicted to anything.
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 It is not involved in a risky occupation.

 It does not get engaged in risky activities as a hobby.
 Itdoes not have any unfavourable medical history, i.e. surgery,
operations or critical disease.
 Itdoes not reside at a location which can be hazardous to
health.
 It carries a normal physical stature.
If the life to be insured does not adhere to the abovementioned
points, it may be called impaired or substandard life.
‰‰ Proposal form: It is the main source of pricing insurance as it
contains the details of the applicant with key risk areas. The form
helps the insurer to ascertain possible events of risks and the se-
verity of those risks.
‰‰ Insurable interest: The insurer should have the insurable inter-
est in the life he/she wants to insure. If the insurable interest is

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missing, the proposal cannot proceed and it is rejected. Insurable

interest signifies that the proposer would be in the state of finan-
cial loss if something unfortunate happens to the life insured. The
amount of insurance sought should also be appropriate as the cost
of insurance would be determined on the basis of this amount.
‰‰ Medical reports: Reports pertaining to the health conditions of
the applicant from the authorised medical examiner are attached
to the proposal form. These reports are necessary to record partic-
ulars like age, weight and other measurements to verify the iden-
tity of the person. These records are required to ascertain possible
health issues the applicant might be suffering from. Any difference
in the details provided by the applicant and the medical reports
can call for further investigation through laboratory tests to re-
move any kinds of doubts. Any pre-existing disease or possibility
of a disease is counted as significant risk and taken into consider-

S
ation to ascertain the cost of insurance.
‰‰ Confidential reports from other sources: Other sources can in-
clude agents and third parties that can help to find information
IM
about the applicant. Given that the insurer has to follow the prin-
ciples of insurance, he/she calls for confidential reports of the ap-
plicant through other sources. The insurer has to ensure that the
funds are managed efficiently and when the sum insured is high
enough, he/she may investigate even the minute details of the case.
‰‰ Financial status: Even if all other aspects are acceptable, the fi-
M

nancial status of the applicant cannot be ignored in the pricing of

insurance. The applicant would only be able to avail any insurance
service if he/she is able to pay the cost of insurance. To ascertain
this, not only the information about the income of the applicant is
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required but his/her need for the insurance, the proposed nom-
inee, estimated human value and the sources of income are also
taken into account.

COSTING METHOD USED IN LIFE INSURANCE

Cost to be paid by an applicant for purchasing a life insurance pol-

icy is determined by the level of risk the applicant carries. Insurers
generally use the numerical rating system to estimate the cost in an
efficient and timely manner. The numerical rating system originated
when medical experts from various countries engaged in investigation
with actuaries and developed valuable data. They worked on various
factors like insurability, life expectancy and mortality rates. Values
were assigned to these factors and their correlation and impact on
each other was studied. The outcome of these studies evolved in a
method to calculate the risks and costs.

When insurers employ the numerical rating system, they assign a

standard mortality rate of 100% to the applicant. Then debits or cred-
its are given as per the risks which increase or decrease the mortality

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rate. Debits are given when there are unfavourable factors which de-
crease the life expectancy; credits are given when factors are found
to be favourable. Combining and deducting the rates result in the net
rate. The excess of rates above 100 are termed as extra mortality rates.

1.5.2  COSTING OF GENERAL INSURANCE

Before the cost is determined and the final insurance contract is hand-
ed over to the proposer, the insurer examines various factors through
documents like proposal form and the certificate of insurance submit-
ted by the proposer. Let us discuss about these two major documents
in brief:
‰‰ Proposal form: It contains a set of questions regarding the asset or
the liability that the applicant needs to insure. The proposal form
for each class of asset or liability differs as per the possible risks

S
and losses. For example, while proposal form is being filled for fire
insurance, questions will be related to the construction, location
and occupancy as well as the details regarding other buildings in
IM
the area. On the other hand, for personal accident insurance, que-
ries are regarding age, gender, height, weight and impairments if
any.
‰‰ Certificate of insurance: It is the basic requisite for purchasing a
motor insurance policy. By law, a motor policy will not come into
effect until the proposer has the certificate of insurance. It con-
M

tains the details of the insured vehicle, such as registration num-

ber, engine number, model and manufacturing of the vehicle and
cubic capacity. These details are mentioned in the certificate along
with the details of the insured and the effective period for which
the certificate will be valid.
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General insurance business in India is undertaken in compliance with

Insurance Act, 1938. The Tariff Advisory Committee (TAC) is empow-
ered to regulate the pricing of general insurance products. Thus, gen-
eral insurers cannot charge the rates on their own instead they have to
comply with the statutory standards. However, in any case, the rates
are reasonable enough and insurers do not have to suffer losses due
to regulations. Pricing encompasses claims cost, administrative costs,
margin for fluctuations in claims and margins for profits for the in-
surer. Rates under the general insurance sector are subject to change
from time to time as insurers take their past experience under consid-
eration to fix the prices for the future.

COSTING METHOD OF GENERAL INSURANCE

Insurers can apply three methods to determine cost in the general

insurance segment. These methods include:
‰‰ Class rating: Rating that is based on a class or on assets of simi-
lar characteristics is called class rating. The cost is determined by

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taking an average loss into account. Similar kinds of risks result in

similar kind of losses. Moreover, factors that can cause loss are also
similar. It is easy to identify the risk as there is reliable statistical
data is available. The rates are specified in rating manuals. Thus,
the class rating method is also called the manual rating method.
‰‰ Judgement rating: The method is applicable where risk is individ-
ually evaluated as it is not easily quantifiable due to the absence of
historical data. The exposure of risk is also diverse and loss from
each type of risk needs to be measured.
‰‰ Merit rating: Merit rating is based on the risk taking and claim
raising propensity of an applicant. The premium is charged as per
the applicant’s paying capacity.

SELF ASSESSMENT QUESTIONS

S
9. The census mortality table provides information on the
general population and it is constructed on the basis of births
and deaths in the 10-year period. (True/False)
IM
10. The ______________ method is applicable where risk is
individually evaluated as it is not easily quantifiable due to
the absence of historical data.
a. Class rating b.  Judgement rating
c. Merit rating d.  Mortality table
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ACTIVITY

Assume you are an insurance agent. An individual having interest

N

in buying a life insurance policy has contacted you. The individual

is exposed to high risk as he/she works as a lathe operator. How
would you decide the cost of life insurance policy for the individual?

1.6 BUYING INSURANCE

An insurance policy acts as a safeguard mechanism for an individual/
organisation to reduce the effect of loss caused by various risks. There
are different ways for buying an insurance policy. For example, some
may call agents for buying insurance or may buy it themselves online.
However, buying insurance is a critical decision to be made on the
part of an individual or organisation. The following are the prerequi-
sites for buying an insurance policy:
‰‰ Judging the actual need: It is one of the crucial decisions that an
individual/organisation needs to make while buying an insurance
policy. The sum of insured amount should be defined by the indi-
vidual/organisation as per his/its needs and capacity to pay.

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‰‰ Examining the claim settlement record of the insurer: After

deciding whether to buy an insurance plan, the individual needs
to shortlist the best insurance companies to buy insurance from.
There are several insurance companies or insurers in the market.
However, depending upon the need, the individual should careful-
ly select the insurer. In addition, the claim settlement record of the
insurer should be checked while buying an insurance plan.
‰‰ Deciding the type of policy: The next important decision while
buying an insurance policy is to decide the purpose of purchasing
the insurance policy. For example, if an individual needs an insur-
ance plan for protection purpose, he/she may go for a term plan.
However, if he/she needs to buy an insurance plan for both invest-
ment and protection purposes, he/she may use various other pol-
icies, such as money back, endowment, whole life, annuity, ULIP,
etc. In this way, an insured should buy a policy that is according to

S
his/her need.
‰‰ Assessing previous purchase experience: If an individual had
already purchased life insurance earlier, he/she must consider its
IM
usefulness. Previous experience helps in making better purchase
decisions in the future. 
‰‰ Deciding whether to buy insurance online or offline: Deciding
the source of purchasing insurance is also one of the important
points of consideration. The online insurance industry is emerg-
ing speedily in the last few years due to advancement in technol-
M

ogy. People are becoming aware and instead of taking the help of
agents, they prefer online buying of insurance policies on their
own. In addition, an individual can opt for an offline route to buy
an insurance policy. He/she may take the help of agents that not
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only help in buying a suitable insurance plan, but also assist the
insured at the time of claim settlement.

1.6.1  COMMON ERRORS IN BUYING INSURANCE

Buying a wrong insurance policy may bring financial loss to the in-
sured. Some common errors while buying an insurance policy are: 
‰‰ Not assessing multiple companies: The rates of premium differ
across insurance companies as premium rates are usually based
on statistical data collected by insurance companies to predict
the likeliness of a claim. An individual, by analysing the market
carefully, can find multiple companies that may save a significant
amount of money for him/her. Therefore, it is necessary to assess
multiple insurance companies and their offerings before purchas-
ing an insurance policy. 
‰‰ Not comparing agents: Agents are the front-line people who help
individuals in finding the best policy. However, not all agents are
equally capable in assessing risk and providing desirable guidance
to the individuals. Therefore, an individual must ensure that the

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agent is properly licensed to give insurance advice. In addition,

an agent should also have a good market reputation and sound
experience in the insurance field. Therefore, while selecting an in-
surance agent, an individual must consider all important factors
related to the agent. 
‰‰ Not understanding the policy: An insurance policy may consist
of several technical terminologies that an individual requires to
understand before purchasing a policy. For example, full tort or
limited tort, uninsured and underinsured motorist, etc., are some
terms that may appear confusing to an individual who is not aware
of such terms. Lack of clarity on these terms can make it ambig-
uous for the individual to understand the terms and conditions
of the policy. Therefore, it is very important for an individual to
understand every term clearly before purchasing any insurance
product.

S
‰‰ Not buying enough insurance: Insurance is often considered an
extra financial burden as it includes spending money to cover a
risk that actually has not happened yet. Therefore, most of the
IM
people do not spend much on buying insurance, which is not a
sensible practice. Insurance works as a financial safety net and
therefore, an individual needs to spend a proper amount to pur-
chase a policy that can cover all potential risks.
‰‰ Not updating coverage: It is another mistake that people make
while buying an insurance policy. An individual must assess
M

his/her present conditions from time to time and make changes in

the insurance policy accordingly. This is necessary because, with
the changing phases of life, the circumstances of an individual’s
life also change. For example, the insurance need of a college-go-
N

ing student must be different from an aged professional, having a

wife and children to take care of. However, people often underesti-
mate their insurance needs and try to escape from buying enough
insurance policies that could cover their changing needs. It may
prove to be country productive. Therefore, an individual, while
buying an insurance policy, must estimate his/her current insur-
ance needs and purchase a policy accordingly.
‰‰ Not choosing a reputable carrier/insurance company: The in-
surance industry falls under the service industry wherein cus-
tomer satisfaction plays an important role in the profitability of
the industry. An individual, while purchasing an insurance poli-
cy, should perform proper research to identify the best insurance
service provider in the industry. For this, an individual consults
people who have already purchased the policy of a particular car-
rier and asks them about their experience with that carrier. He/she
may also take the help of the Internet and check for customer re-
views about a specific carrier. In addition, it is important to check
the financial stability of the carrier to ensure that it would settle
the claims in the event of a loss.

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1.6.2  NEED FOR AN INSURANCE PLAN

A person needs insurance to cover unforeseen risks and ensure fi-

nancial security. In the primitive age, security was all about getting
protection against environmental factors. The need of protection has
evolved by multiple folds now. In the era of technology, it is about get-
ting security against various types of risks, be it a life or any asset with
an insurable interest. An individual buys an insurance policy to pro-
tect him/her against unforeseen risks. The following points show the
requirements of insurance for society:
‰‰ It brings a protection element: The prime purpose of insurance
is to provide protection against unforeseen financial contingencies
for businesses and humans. Insurance brings a sense of security. It
helps to hedge against the uncertainties of life.

S
‰‰ It brings a disciplined saving approach: Acquiring insurance
coverage calls for a fixed amount to be invested regularly by the
policyholder. This develops a disciplined approach to saving as the
policyholder is required to compulsorily pay a particular amount as
IM
premium, at regular intervals. It thus cultivates a habit of savings,
which ultimately helps in accumulating wealth over a period of time.
‰‰ It supports risk-taking capacity: Insurance coverage, be it for
personal or for commercial purpose, supports the risk-bearing ca-
pacity of individuals and organisations. It enables them to focus on
constructive activities with the hope that any kind of financial loss
M

will be taken care of by the insured.

‰‰ It brings social stability for individuals: Insurance companies
provide certain plans, which focus on the well-being of commu-
nities through group schemes. Group schemes are provided to
N

employers for their employees, to people below the poverty line

and to various associations and societies. This strengthens the re-
lations between business entities and their employees and brings
a number of benefits for society as a whole.
‰‰ It assembles resources for economic development: Insurance
fund available with insurance companies plays a significant part
in economic development. Money is used to fund projects that can
enhance basic amenities pertaining to transport, housing, elec-
tricity, water supply and communication. Insurance companies
channelise a vast pool of savings contributed by organisations and
individuals and employ it for productive purposes, which further
ensures social well-being.

1.6.3  SELECTION OF AN AGENT

After understanding insurance needs, an individual needs to select a

competent agent who could help him/her in finding policies as per the
requirement. The selection of an agent can be done by the following
ways:

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‰‰ Referrals from family and friends: As per a National Association

of Insurance Commissioners (NAIC) survey, 79% of the insured
take help of their family and friends to select an insurance agent
for insurance advice. Family and friends give reliable advice and
information regarding why they like the agent, what is the exper-
tise of that agent, whether the agent is reliable and whether the
company that the agent represents is good at handling a claim.
Such information may help an insured in selecting an agent. 
‰‰ Internet: The internet is another important source of finding and
selecting an agent. It provides almost all the required information
about prominent companies dealing in the insurance industry and
their licensed agents. Therefore, an individual can easily find the
required information about an agent from the Internet.

However, while selecting an agent, an individual must consider the

S
following aspects about the agent:
‰‰ Credentials and knowledge: An individual must check the desig-
nation or credential the agent has earned from various insurance
IM groups or associations. In addition, an individual must have a con-
versation with prospective agents. It could give him/her a fair idea
about the knowledge and expertise of the agent.
‰‰ Licensing: An individual must ensure that the agent and the com-
pany he/she is representing is licensed as per the country’s law.
‰‰ Complaints: While selecting an agent, an individual must check
M

whether he/she and the company he/she represents have com-

plaints filed against them.
‰‰ Financial stability of the company: While selecting an agent, an
individual must check whether the company that the agent is rep-
N

resenting is financially stable to pay the claims.

‰‰ References: The reliability of an agent can also be checked through
references he/she has provided to the company at the time of ap-
plying for the job. An individual may talk to those referrals while
selecting a credible agent.

SELF ASSESSMENT QUESTIONS

11. ___________ are the front-line people who help individuals in

finding the best policy. 
12. Acquiring insurance coverage calls for a fixed amount to be
invested regularly by the policyholder. (True/False)

ACTIVITY

Go through a life insurance plan of an insurance company and list

down its basic features. Relate those features with the need for an
insurance plan in our lives. Prepare a report of the same.

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ALTERNATIVES TO TRADITIONAL
1.7
INSURANCE
Over the years, many alternatives to traditional insurance have
emerged. Some of these alternatives are self-insurance programs,
captive insurers, risk retention groups and risk-sharing pools. These
alternatives have emerged due to various reasons, such as economies
of scale, perceived failure of the commercial insurance market, es-
calating insurance costs, inability to obtain various types of liability
insurance, etc. Let us discuss about some major alternatives to tradi-
tional insurance, as follows:
‰‰ Self-insurance program: It is a risk management technique used
by organisations, where a calculated amount of money is kept
aside to bear a potential future loss. The technique uses actuarial

S
and insurance information to calculate the amount that could be
needed to cover the uncertain future losses. Such programs are
usually adopted by an organisation as they help in achieving econ-
omies to a large extent.
IM
‰‰ Captive insurance: It is an alternate type of traditional insurance
that is offered by captive insurance companies. These insurance
companies are usually established by a parent group or compa-
ny with an objective of covering risks to which the parent group
or company is exposed. In this way, it is a kind of self-insurance
for the parent group or company. Captive insurance works as a
M

cost-savings tool for large corporations as it helps parent compa-

nies in getting coverage for operations and liabilities in inexpen-
sive ways. Companies opt for captive insurance as they get insur-
ance benefits at relatively lower premium rates.
N

‰‰ Risk retention groups: Created under the federal Liability Risk

Retention Act (LRRA), a Risk Retention Group (RRG) is an alter-
native risk transfer body. As an entity, RRG is owned by its mem-
bers and retains the risk and financial output among its members
only. In other words, the members of the RRG are also the owners
of the body and the membership is limited to the organisations or
persons belonging to same businesses or activities. In this way, all
the members of the RRG are exposed to similar kinds of risks and
liabilities.
‰‰ Risk-sharing pools: It is a risk-management technique most-
ly practiced by insurance companies, where they come together
to form a pool that may provide protection to the insured (com-
panies) against disasters such as floods, earthquakes, etc. As the
term suggests, a risk-sharing pool refers to the pooling of similar
risks underlying insurance needs. It protects the members from
increasing insurance rates and providing them loss prevention
services and savings. However, it is difficult to pool all risks effec-
tively at one place.

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SELF ASSESSMENT QUESTIONS

13. ____________is a risk management technique used by
organisations where a calculated amount of money is kept
aside to bear a potential future loss.
14. A risk-sharing pool refers to the pooling of similar risks
underlying insurance needs. (True/False)

ACTIVITY

Suppose you have insured your vehicle. However, if you drop this
coverage and opt for a self-insurance program, you can save the
premium. After collecting enough money, you can replace your
vehicle from these funds (if it meets with a certain event of loss).

S
This is one advantage of self- insurance program. However, if your
vehicle meets with an accident before you have enough money in
your fund, it may result as a disadvantage. Find more examples to
illustrate the advantage and disadvantages of using alternatives to
IM
traditional insurance. Prepare a report based on your findings.

1.8 SUMMARY
‰‰ Risk refers to a particular situation that takes place due to an un-
certainty or unexpected event.
M

‰‰ Broadly, there are two types of risks, business risks and personal
risks.
‰‰ Business risks can be again categorised as external risks and in-
ternal risks.
N

‰‰ The four personal risks that can affect an individual on a personal

level are:
 Death

 Old age
 Poor health
 Unemployment

‰‰ Insurance basically means protection against future losses arising

from unexpected possible risks.
‰‰ The following are some other important features of insurance:
 Sharing of risk
 Co-operative device
 Value of risk
 Payment at contingency

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 Amount of payment
 Insurance differs from charity
‰‰ Insurable risk can be defined as conditions and circumstances of
the insurance seeker that match with the terms of the insurer to
accept and underwrite risks.
‰‰ Insurance services are broadly classified into two types—general
insurance and life insurance.
‰‰ General insurance is a contract between a policyholder and gener-
al insurance company where insurance coverage is taken for non-
life assets.
‰‰ General insurance can be categorised into various types, includ-
ing:

S
 Crop insurance
 Motor insurance
 Home insurance
IM
 Travel insurance
 Health insurance
 Fire insurance
 Marine insurance
M

‰‰ A life insurance policy is a contract between the insured person

and the life insurance company to provide a pre-determined sum
of insurance to the nominee/s in case of injury or death of the pol-
icyholder.
N

‰‰ In India, life insurance policies can be of five type:

 Term insurance policy
 Whole life insurance policy
 Endowment policy
 Unit Linked Insurance Plan (ULIP)
 Group insurance policy
‰‰ The cost of insurance is not determined on the basis of the cost of
production and distribution or demand and supply, but by assess-
ing the risk in an apt manner.
‰‰ Various factors that are taken into consideration to determine the
cost of life insurance, include:
 Mortality table
 Proposal form
 Insurable interest
 Medical reports

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 Confidential reports from other sources

 Financial status
‰‰ Before the cost is determined and the final insurance contract is
handed over to the proposer, the insurer examines various factors
through documents like proposal form and the certificate of insur-
ance submitted by the proposer.
‰‰ The prerequisites for buying an insurance policy include:
 Judging the actual need
 Examining the claim settlement record of the insurer
 Deciding the type of policy
 Assessing previous purchase experience
 Deciding whether to buy insurance online or offline

S
‰‰ Some of the alternatives to traditional insurance are self-insurance
programs, captive insurers, risk retention groups and risk-sharing
pools.
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KEY WORDS

‰‰ Claim settlement: An agreement involving two or more parties

to settle a legal claim through compensation.
‰‰ Life expectancy: A statistical measure used to determine how
M

long a person may live based on various genetic features and

demographic factors.
‰‰ Mortality cost: The cost determined by using information on
the probability of death from mortality table.
N

‰‰ Underwriting: A process of assessing the risk and deciding the

terms on which the risk is to be accepted.
‰‰ Unit Linked Insurance Plan (ULIP): An insurance product
that gives an insured, the benefit of both insurance and invest-
ment under a single integrated plan.

1.9 DESCRIPTIVE QUESTIONS

1. Explain various types of risks.
2. List some important features of insurance.
3. What are different types of general insurance?
4. Write short notes on any two methods of determining cost in the
general insurance segment.
5. List common errors made while buying an insurance policy.
6. Explain the major alternatives to traditional insurance.

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1.10 ANSWERS AND HINTS

ANSWERS FOR SELF ASSESSMENT QUESTIONS

Topic Q. No. Answers

Concept of Risk 1. Risk
2. True
3. c.  Physical factors
Concept of Insurance 4. Insurance
5. False
Types of Insurance 6. General
7. Life
8. b. Whole life insurance

S
policy
Cost of Insurance 9. True
10. b.  Judgement rating
IM
Buying Insurance 11. Agents
12. True
Alternatives to Traditional 13. Self-insurance program
Insurance
14. True
M

HINTS FOR DESCRIPTIVE QUESTIONS

1. The two major types of risks are business risks and personal
risks. Refer to Section 1.2 Concept of Risk.
N

2. The main feature of any insurance policy is to provide financial

security to the insured and his/her family even after the insured’s
death. Refer to Section 1.3 Concept of Insurance.
3. General insurance can be categorised into various types,
including crop insurance, motor insurance, home insurance,
travel insurance, health insurance, fire insurance and marine
insurance. Refer to Section 1.4 Types of Insurance.
4. Class rating and judgement rating are two important methods
to determine cost in the general insurance segment. Refer to
Section 1.5 Cost of Insurance.
5. Not assessing multiple companies, not comparing agents, not
understanding the policy and not buying enough insurance are
some common errors made while buying an insurance policy.
Refer to Section 1.6 Buying Insurance.
6. Some of the alternatives to traditional insurance are self-
insurance programs, captive insurers, risk retention groups
and risk-sharing pools. Refer to Section 1.7 Alternatives to
Traditional Insurance.

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SUGGESTED READINGS FOR

1.11
REFERENCE

SUGGESTED READING
‰‰ Elliott,C., & Vaughan, E. (1972). Fundamentals of risk and insur-
ance. New York: Wiley.
‰‰ Rejda, G. (2008). Principles of risk management and insurance. Bos-
ton: Pearson/Addison Wesley.
‰‰ Trieschmann, J., Gustavson, S., & Hoyt, R. (2001). Risk manage-
ment & insurance. Cincinnati, Ohio: South-Western College Pub.
‰‰ Williams,C., & Heins, R. (1976). Risk management and insurance.
New York: McGraw-Hill.

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E-REFERENCES
‰‰ Allbankingsolutions.com,. (2015). Type of Insurance in India - Life,
IM
General Insurance Policies - Term Life, Endowment policies. Re-
trieved 3 November 2015, from http://www.allbankingsolutions.
com/Top-Topics/Types-of-insurance.shtml
‰‰ Bank, B. (2015). BMOHarrisBankVoice: Why Companies Are Opting
For Captive Insurance Arrangements. Forbes. Retrieved 3 November
2015, from http://www.forbes.com/sites/bmoharrisbank/2013/01/28/
M

why-companies-are-opting-for-captive-insurance-arrangements/
‰‰ Bartlettactuarialgroup.com,. (2015). Captive Insurance/Risk Re-
tention Groups | Bartlett Actuarial Group. Retrieved 3 November
2015, from http://www.bartlettactuarialgroup.com/services/alter-
N

native-risk-finance-programs/
‰‰ Budgeting Money - The Nest,. (2015). Life Insurance Vs. General
Insurance. Retrieved 3 November 2015, from http://budgeting.the-
nest.com/life-insurance-vs-general-insurance-26823.html
‰‰ Insuranceinfo.com.my,. (2015). Insurance Info - Types of Insurance.
Retrieved 3 November 2015, from http://www.insuranceinfo.com.
my/learn_the_basics/types_of_insurance.php?intPrefLangID=1
‰‰ Lexisnexis.com,. (2015). Workers Comp 20/20: The Future Of Self-In-
surance And Other Alternative Risk Funding Options. Retrieved 3
November 2015, from http://www.lexisnexis.com/legalnewsroom/
workers-compensation/b/workers-compensation-law-blog/ar-
chive/2010/11/09/workers-comp-20-20-the-future-of-self-insur-
ance-and-other-alternative-risk-funding-options.aspx
‰‰ The Economic Times,. (2015). Insurance Definition | Insurance
Meaning - The Economic Times. Retrieved 3 November 2015, from
http://economictimes.indiatimes.com/definition/insurance

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 C H A
2 P T E R

RISK MANAGEMENT

CONTENTS

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2.1 Introduction
2.2 Concept of Risk Management
IM
2.2.1 Objectives of Risk Management
Self Assessment Questions
Activity
2.3 Techniques of Risk Management
Self Assessment Questions
Activity
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2.4 Process of Risk Management

2.4.1 Identifying Loss Exposures
2.4.2 Analysing the Loss Exposures
2.4.3 Selecting the Right Techniques
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2.4.4 Implementing and Monitoring the Risk Management Programme

Self Assessment Questions
Activity
2.5 Advantages and Disadvantages of Risk Management
Self Assessment Question
Activity
2.6 Significance of Insurance and Risk Management
Self Assessment Questions
Activity
2.7 Summary
2.8 Descriptive Questions
2.9 Answers and Hints
2.10 Suggested Readings for Reference

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INTRODUCTORY CASELET
N O T E S

RISK MANAGEMENT IN COASTAL AREAS

Insurance companies have to be extra cautious while issuing in-

surance policies in coastal areas as these areas face high risk of
floods and hurricanes. The cities that are located on the shores
of a sea or a river fall in the high risk category. However, given
the social impact of insurance, organisations cannot ignore the
responsibility of providing adequate risk coverage to people liv-
ing in such areas.

The intensity of a flood can be much larger in areas that have poor
drainage systems and high population density.

General insurance companies in such areas generally look for as-

sets that can meet the challenge of floods and hurricanes. For in-

S
stance, buildings that are located in well-maintained open areas
are less susceptible to damages caused by floods. Similarly, quali-
ty of construction is also one of the factors evaluated by a general
IM
insurance company. In the case of earthquakes, it is preferred that
buildings are earthquake resistant. All this is done to ascertain in-
surability of risks and avoid over-exposure to catastrophic risks.

It is not possible to gauge the level of damage that any natural ca-
lamity can cause; however, insurance companies attempt to limit
their exposure. For instance, in case of massive floods in Jammu
M

and Kashmir, the state High Court ordered insurance companies

to analyse the volume of losses so that compensation could be
provided to the victims.
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LEARNING OBJECTIVES

After studying this chapter, you will be able to:

>> Describe the concept of risk management
>> Explain the techniques of risk management
>> Describe the process of risk management
>> Explain the advantages and disadvantages of risk manage-
ment
>> Describe the significance of insurance and risk management

2.1 INTRODUCTION
The previous chapter discussed the concepts of insurance and risk.

S
This chapter relates to the risk management concepts and techniques.

Risk management is the process of managing risk efficiently in various

IM
ways. The approach to mitigate the risk depends on the type of risk
and its overall impact on an individual or organisation. Important risk
management techniques include risk avoidance, risk reduction, risk
transfer and risk retention. Organisations also follow the risk man-
agement process that involves identifying loss exposures, analysing
loss exposures, selecting the right techniques and implementing and
monitoring the risk management programme.
M

Risk management through insurance helps in protection from finan-

cial loss, better reputation and improved liability.

This chapter explains the concept of risk management and techniques

N

of risk management. The process of risk management is discussed in

detail. This chapter also explains the advantages and disadvantages of
risk management and importance of insurance and risk management.

2.2 CONCEPT OF RISK MANAGEMENT

As discussed in the previous chapter, risk can be defined as uncer-
tainity concerned with the loss. For example, in the case of cigarettee
smokers, the risk of lung cancer is always present. In terms of insur-
ance, risk pertains to uncertainty of loss and the chances or the prob-
ability of loss that can be measured in monetary terms, for the insured
and the insurer.

Unexpected and unpredictable in nature, risk usually manifests in the

form of events, such as collapse of a building, damage to office files,
financial losses due to theft or an injury to an employee. Thus, it is
necessary to manage risks.

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Risk management is the process of identifying, evaluating and priori-

tising risks defined on various parameters. It also involves mitigating
and monitoring the causes of risks to achieve the risk management
objectives. Risk management is a systematic process of pre-empting
the possible risks, problems or disasters even before they occur. It
also involves taking precautionary measures to ward off the risk, or
at least minimise its impact, or prepare the organisation to deal with
its impact. Risk management also involves a realistic evaluation of the
severity level of risk. The probability of a tsunami during an annual
beach picnic is bleak but the probability of a bus being involved in a
road accident is more probability.

Following are the three fundamental questions with which the risk
management process begins:
1. What can go wrong?

S
2. What can be done to prevent it?
3. What needs to be done if it cannot be avoided?
IM
Worldwide demographic changes and natural calamities, such as the
hurricanes, tsunami, swine flu, dengue, etc., keep occurring from time
to time. These have made the insurers, both domestic and interna-
tional, to focus not only on the kind of products they offer but also
take steps to improve their asset and liability management, along with
their financial risk management processes and systems.
M

Some of the characteristics of risk management are as follows:

‰‰ Risk management is a continuous process
‰‰ It is especially undertaken for pure loss circumstances
N

‰‰ It needs to be followed as a step-by-step procedure

‰‰ The potential loss should be measurable
‰‰ Historical data of events should be available
‰‰ Proposer should have an insurable interest in the event

2.2.1  OBJECTIVES OF RISK MANAGEMENT

Each organisation/entity has its unique interest in the event or the

task to be performed. Risk management revolves around that activi-
ty or the event. The objectives of risk management are purely linked
with the kind of activity to be performed. The main objectives of risk
management are as follows:
‰‰ Identifying risks: This is the most crucial step because if one fails
to recognise the key risk areas, the entire process of risk manage-
ment fails. In order to understand the potential losses, it is neces-
sary to understand the areas where risk is apparent. The causes of
risk can be identified on the basis of historical events.

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‰‰ Measuring risks: Measurement or assessment of possible risk in-

volves quantifying the loss in monetary terms. This lets the risk
manager to comprehend the level or degree of risk. Eventually, it is
after the measurement of risk that the manager is able to compre-
hend the severity of loss and decide the subsequent steps.

SELF ASSESSMENT QUESTIONS

1. _______________ involves mitigating and monitoring the

causes of risk to achieve the risk management objectives.
2. To understand the potential losses, it is necessary to
understand the areas where risk is apparent. (True/False)
3. Measurement or assessment of possible risk involves
quantifying the loss in _____________

S
ACTIVITY

Visit any organisation and list down the risk areas where it has ma-
IM
jor chances of failure. Can those risk areas be covered through in-
surance? Make a report on it.

2.3 TECHNIQUES OF RISK MANAGEMENT

In the previous topic, we have studied that to manage risks, it is im-
M

portant to identify and measure those risks. The approach to manag-

ing the risk depends on the type of risk and its overall impact on an
individual or organisation.

Figure 2.1 shows the various techniques of risk management:

N
Techniques of Risk Management

Risk Avoidance

Risk Reduction

Risk Transfer

Risk Retention

Figure 2.1: Techniques of Risk Management

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The different techniques of risk management are discussed as follows:

‰‰ Risk avoidance: The objective here is to either eliminate the risk
or withdraw from business activity. In other words, it means that
the organisation decides not to perform an activity that carries a
risk. It is the easiest method to get rid of the risk. Nonetheless,
eliminating the task will also eliminate the chances of accomplish-
ing the attainable goals. For example, an organisation contemplat-
ing to venture into the supply chain business may decide to avoid
it due to the risk involved in road accidents of commercial vehi-
cles. Though it appears that avoidance is the answer to all risks,
it also means that a business opportunity is lost. This lost oppor-
tunity could have enabled the company to achieve profits had it
accepted the risk.
However, business operations cannot be implemented without any

S
risk element in them and this is not a practicable solution for any
business entity.
‰‰ Risk reduction: The process of risk reduction or ‘optimisation’ is
IM
meant to reduce either the severity or the possibility of the loss
from happening. For example, in case of a fire hazard, it may be
impossible to eliminate all causes of fire and make the building
100% fireproof. However, methods are designed to put off a fire so
as to decrease the risk of loss arising out of fire. This includes the
use of water sprinklers, fire alarms, etc.
M

Risks can have positive or negative outcomes. Hence, optimising

risks means to strike a balance between the loss due to negative
risk and the benefit of business; and the risk reduction and effort
applied.
N

Outsourcing its non-core activities by an organisation is an exam-

ple of risk reduction if it is evident that the organisation to which
the activity is being outsourced, possesses superior management
capabilities for managing or reducing risks. For instance, insurers
often outsource many activities, such as call centre, claims man-
agement, etc., to other organisations while handling the business
management itself. In this way, an insurer can focus on business
development and sales without having to worry about the claims
process or finding a location for the call centre.
However, risk reduction approach needs to be evaluated in terms
of returns. If the returns are not high enough and the cost of risk
reduction is more, it is not prudent to move forward with the
method. Moreover, if limiting the activity does not ensure sensible
returns, the use of this method needs to be reconsidered.
‰‰ Risk transfer: Transferring or sharing of risk is the best possible
way to manage the risk. This also means insurance. Transferring
risk is the method of passing on the risk or sharing it with the oth-
er entity. However, transferring or sharing is possible if the other
entity is willing to accept it and is able to deal with it. One thing

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that cannot be ignored is that in case the insurer or contractor go

bankrupt, the risk is likely to revert to the first party. Though in
financial or economic parlance, purchase of an insurance policy is
called as transfer of risk, when seen technically, loss responsibility
still lies with the insured in legal terms. The meaning of ‘trans-
ferred’, in insurance necessarily means a post-event compensato-
ry mechanism. For example, a person who owns a car and takes a
personal accident insurance policy does not transfer the risk of a
car accident to the insurer. The risk lies with the insured who is
involved in the accident. The liability of the insurer is only to the
extent of compensation for the expenses incurred on treatment or
damage repair due to the accident.
‰‰ Risk retention: Not transferring or sharing the risk is called reten-
tion of risk. This approach is acceptable when the loss sustained is
minimal and does not have any hazardous effects. This method is

S
adopted when the cost of transferring or reducing the risk is exces-
sive and goes beyond the returns expected. When an organisation
decides to retain risk, it is prepared to bear the loss, or benefit of
IM
gain in business arising due to a risk as and when it occurs. Cat-
astrophic events, such as man-made or natural disasters, such as
war, terrorist attack, earthquake, etc., are not covered by insurers.
Thus, any loss arising out of this shall have to be borne by the busi-
ness/individual.
M

SELF ASSESSMENT QUESTIONS

4. ________________ means that the organisation decides not to

perform an activity that carries a risk.
5. The process of risk reduction or ‘optimisation’ is meant to
N

reduce either the severity or the possibility of the loss from

happening. (True/False)
6. Not transferring or sharing the risk is called_________.
7. Transferring risk is a method of passing on the risk or sharing
it with the other entity. (True/False) 

ACTIVITY

Suppose you are the risk manager of an insurance firm. Prepare a

strategy on how to mitigate risk using different techniques of risk
management.

2.4 PROCESS OF RISK MANAGEMENT

Management of risk can be formal with standardised processes and
informal with no defined processes or methods. The process of risk
management should be formal in nature with specific processes, stan-

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dards and reports. This would help in identifying and mitigating the
risks easily.

There are four steps of risk management. These are shown in Figure
2.2:

Identifying Loss Analysing Loss

Exposures Exposures

Implementing and
Selecting Right Monitoring the
Techniques Risk Management
Programme

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Figure 2.2: Process of Risk Management
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The process of risk management is discussed in the next sections.

2.4.1  IDENTIFYING LOSS EXPOSURES

This is the first step in risk management. It categorises all the major
and minor risk exposures implying it identifies the property that is
M

vulnerable to risk. Figure 2.3 shows the different types of loss expo-
sures:

Property Loss Exposures

N

Liability Loss Exposures

Business Income Loss Exposure

Types of Loss Exposures
Human Resource Loss Exposures

Crime Loss Exposure

Employee-Benefit Loss Exposure

Figure 2.3: Types of Loss Exposures

The different types of loss exposures are as follows:

‰‰ Property loss exposures: Any condition or situation that creates
some kind of damage or loss to a property. Property loss exposures
include the following:

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 Building, plants and other structures

 Furniture, equipment, supplies
 Computers, data inventory
 Accounts receivable and records
 Company vehicles, planes, mobile equipment
A property is exposed to losses because of accidents or catastro-
phes, such as floods or hurricanes. There are two types of loss in
property loss exposure:
 Direct loss: It is the upfront damage caused to the asset.
 Indirect loss: It is a complete loss of revenue or an increase in
expenses, which is commonly known as net income loss. Insur-
ers also offer cover for net income loss.

S
Example: In a fire accident, a shop gets destroyed. In such case,
the direct loss is the money spent by the owner on re-establishing
the building. The indirect loss in this case is the expense for an
IM
alternative place that is used for continuing the business.
Therefore,
Net income loss = Amount used to restore the building + Amount
spent on alternative shop during renovation + Business income
loss.
M

Property owners face the possibility of both direct and indirect

losses. Indirect losses are intangible losses, such as loss of busi-
ness.
‰‰ Liability loss exposures: Liability loss exposures relate to the fol-
N

lowing:
 Defective products
 Environmental pollution
 Liability arising from company vehicles
 Discrimination against employees
Liability loss exposure is an event that creates the possibility of
a claim by a person or business for injury or damage suffered by
another person or party. This claim is generally made for financial
damages because of injury to another party or damage to another
party’s property. For example, a five-star hotel property located in
city X catches fire. If the hotel business is covered against liability
loss, then the losses incurred by employees, guests, visitors, etc.,
would be borne by the insurer. Losses include medical expenses,
rehabilitation costs, etc.
‰‰ Business income loss exposure: Organisations that depend on
specific type of buildings or specialised equipment are typically
subject to income loss exposure. In the event of disaster, such or-

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ganisations would probably have to shut down their operations

until the buildings/equipment get repaired. Such shutdown would
cause a further loss of income. Manufacturers of a product are clas-
sic example of businesses in this category because of their depen-
dence on specialised production equipment and factory. The in-
surance that addresses loss of exposure is called business income
coverage. This plan promises to replace the income that would
otherwise have been earned by the business during the time when
repairs are being made.
The business income loss exposures relate to:
 Loss of income from a covered loss
 Extra expenses
 Continuing expenses after loss

S
‰‰ Human resource loss exposures: These include losses related to
worker injuries, disabilities, death, retirement and employee turn-
over, etc. These include the losses related to:
IM
 Death of employees
 Retirement of employees
 Job-related injuries
Organisations mostly take insurance to compensate the em-
ployees or beneficiaries in this case.
M

‰‰ Crime loss exposure: This loss exposure results from criminal

acts. It is related to the following:
 Robberies and employee theft
N

 Fraud

 Internet crimes
 Intellectual property theft
Organisations purchase crime insurance that help in filing
claims for employee theft or other offenses.
‰‰ Employee-benefit loss exposure: This involves loss of an em-
ployee when the employer mistakenly or deliberately makes an
error or omission in the administration of an employee benefit
programme. These include failure to advise employees of benefit
programmes. This relates to the following:
 Failure to comply with government regulations
 Violation of fiduciary responsibilities
 Failure to pay the promised benefits
Coverage of this exposure is usually provided by a fiduciary
liability insurance policy.

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All these exposures can be identified with the help of questionnaires,

inspection, financial statements, historical data, etc.

2.4.2  ANALYSING THE LOSS EXPOSURES

This step involves analysing the loss exposures. The frequency of ex-
posures and loss from that exposure is analysed. Frequency implies
probable number of losses occurred during a specific time period.
Loss refers to the size of the losses that may occur. After analysis, the
risk manager ranks the type of loss exposure according to the impor-
tance. For example, the loss exposure that leads to a major financial
loss to the organisation would be much more severe than the loss ex-
posure of employee turnover. The relative frequency of each loss ex-
posure should also be estimated so that an appropriate technique can
be selected for handling the exposure.

S
The analysis should include maximum possible loss and maximum
probable loss for estimation. Maximum possible loss is defined as the
worst loss that could happen to the firm during its lifetime. Maximum
IM
probable loss can be defined as the worst loss that is likely to happen.
The result of the analysis is the primary input to risk management
where it is analysed whether to accept, reduce, share or avoid risks.
Thus, a strategy is formulated along with a response plan.

2.4.3  SELECTING THE RIGHT TECHNIQUES

M

This step involves selecting the most appropriate method for treating
the loss exposures. There are generally two techniques for selecting
the appropriate method, namely, risk control techniques and risk fi-
nancing techniques.
N

Risk control techniques are divided into risk avoidance, risk reduc-
tion, risk transfer and risk retention. These techniques have already
been covered in Section 2.3 of the chapter. Thus, let us study another
technique of treating the loss exposure, i.e., risk financing technique.

Risk financing techniques help in providing fund for the losses in-
curred by individuals/organisations. The important risk financing
techniques are non-insurance transfers and commercial insurance.
‰‰ Non-insurance transfers: These are those transfers in which the
pure risk is transferred to another party. For example, contract
of construction in which the construction company that is build-
ing the plant specifies that it is responsible for any damage to the
plant. Following are the advantages of non-insurance transfers:
 Costs less than the insurance
 Shifts the non-commercial loss that is not insurable
The disadvantage of non-insurance transfers is that the firm will
be responsible for claim, if the party is unable to pay the loss.

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‰‰ Insurance: It is an important technique of risk exposure. It in-

volves low probability of loss, but the effect of loss is more. When
insurance is taken, the following areas need to be emphasised:
 Selection of the insurer
 Selection of insurance coverage
 Negotiation of terms
 Periodic review of the programme

The advantages of the insurance programme are as follows:

‰‰ The organisation is indemnified after the loss occurs
‰‰ Insurers can provide valuable risk management services, such as
loss exposure analysis

S
2.4.4 IMPLEMENTING AND MONITORING THE RISK
MANAGEMENT PROGRAMME
IM This is the last step in the risk management process. In this, a risk
management policy statement is necessary for the risk management
programme to be effective. This involves devising plans and taking
action for communicating and implementing the risk management
decision.

The implementation of risk management techniques should include:

M

‰‰ How and when the risk management strategy will be carried out
‰‰ Roles and responsibilities of individuals and organisations
‰‰ Plans for communication
N

‰‰ Requirement for training, staffing and financing

A risk management policy statement involves the objective of risk

management related to loss exposures. This policy helps the top-level
executives in judging the performance of a risk manager. Risk man-
agement manual is also maintained that involves details of the risk
management programme.

Risk monitoring involves a periodic review and evaluation that deter-

mine whether the objectives have been attained or not. This review is
essential for correction and change in risk priorities and management
plan, if required. Monitoring of the following takes place:
‰‰ Risk management costs
‰‰ Safety programmes
‰‰ Loss prevention programmes

The advantages of monitoring in risk management include:

‰‰ Identifying changes in the nature of risk

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‰‰ Gathering proof for supporting assumptions and results of analysis

‰‰ Developing accurate picture of the risks

‰‰ Controllingcosts associated with incorrect or redundant risk con-
trol measures

SELF ASSESSMENT QUESTIONS

8. ______________ is any condition or situation that creates some

kind of damage or loss to a property.
9. Which type of loss causes an upfront damage to an asset?
10. ______________ are those transfers in which pure risk is
transferred to another party.
11. Risk monitoring involves periodic review and evaluation.

S
(True/False)

ACTIVITY
IM
Research on the Internet about the employee-benefit loss exposure
in organisations. List down the measures on how these risks are
managed.

ADVANTAGES AND DISADVANTAGES OF

2.5
M

RISK MANAGEMENT
Risk management refers to the procedure of transferring the risk to
another entity that is capable of handling it, avoiding it or reducing
its effect consequently. The advantages of risk management are as fol-
N

lows:
‰‰ Reduces the cost of risk, which leads to increase in company’s
profit
‰‰ Reduces the adverse financial impact of pure loss exposures
‰‰ Allows
the implementation of enterprise risk management pro-
gramme
‰‰ Benefits society as both direct and indirect losses are reduced
‰‰ Helps the organisation to provide reliable service to its customers
with effective risk management
‰‰ Maintains confidence in the top management to control the risks
associated with various activities
‰‰ The disadvantages of risk management are as follows:
‰‰ Leads to time wastage while dealing with losses that are unlikely
to occur

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‰‰ Leads to wastage of resources that could be used more profitably

‰‰ Increases costs for the organisation as more research and develop-
ment activities occur

SELF ASSESSMENT QUESTIONS

12. Risk management reduces the adverse financial impact of

pure loss exposures. (True/False)

ACTIVITY

Visit some hospital and study the benefits that it can avail by follow-
ing the risk management technique.

S
SIGNIFICANCE OF INSURANCE AND
2.6
RISK MANAGEMENT
IM In order to keep the business running, it is better to share the risk or
transfer it. The organisation needs to spend some amount on insur-
ance and in turn, it gets protection. Moreover, this enhances the ca-
pacity of the organisation to take risks and earn profits. It is beneficial
to insure a business in case of shareholder diversification. This is ow-
ing to the fact that it would give additional security to the sharehold-
ers in the sense that the loss will not be borne by only one person. The
M

shareholders will incur a lesser amount of loss than expected because

of the claim amount that they will get from the insurer.

Insurance is in demand among those people who are averse to risk.

The reason is simple; they do not want to take any risk with their finan-
N

cial position. Therefore, they would like to give an additional amount

as the premium for an insurance policy. The level of risk aversion de-
pends on the size of the wealth and needs of a person. Risk aversion
can be understood in a better way if we factor in utility. Utility is de-
fined as the state of being useful. There is a higher level of utility, if
the person is in need. When the person is not wealthy, he/she becomes
needy, and an additional marginal amount can help the person to fulfil
his/her needs. Hence, a lesser amount of wealth means an increase in
utility, and the higher the level of wealth goes, the lesser is the utility.

Risk is unforeseen and can be controlled in certain ways. Diversifica-

tion is one of the most popular strategies to manage risks. In common
business parlance, organisations opt for geographical and product
diversification to spread risks. Risks can be reduced through a pool-
ing process between persons. When the arrangement of pooling is ex-
tended to more people, it becomes a group pooling arrangement. The
costs go down with each individual. This is exactly what the insurance
companies do.

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The premium paid by an individual or an organisation towards cover-

ing a certain type of risk is pooled by the premium paid by other policy
holders. Since not all of them raise claims during the year, the pool
of financial resources is utilised to settle losses of those who do come
across untoward incidents.

Protecting risks through insurance saves an individual from unfore-

seen losses. Of course, any kind of insurance compensates only when
the damage has already been done. However, it enables an individual
to claim the losses and return to the original state that existed before
the loss had occurred.

For instance, Mr. A bought insurance to protect his car. In an accident,

he lost his car. He can now claim the insurance amount. The claim
amount would be the actual value of the car, i.e., the amount at which
the car was bought minus the depreciation amount. However, car in-

S
surance saved him from incurring loss of the entire amount and is
able to get at least the actual value of the car.
IM
SELF ASSESSMENT QUESTIONS

13. Diversification is one of the most popular strategies to manage

risks. (True/False)
14. ______________ is in demand among those people who are
averse to risk.
M

ACTIVITY

Visit any insurance agent. Discuss and make a report on how insur-
ance organisations manage the risks of their clients.
N

2.7 SUMMARY
‰‰ Risk management is a process of identifying, evaluating and prior-
itising risks defined on various parameters. It also involves miti-
gating and monitoring the causes of risks to achieve risk manage-
ment objectives.
‰‰ The various techniques of risk management are risk avoidance,
risk reduction, risk transfer and risk retention.
‰‰ The process of risk management includes identifying loss expo-
sures, analysing loss exposures, selecting the right techniques and
implementing and monitoring the risk management programme.
‰‰ Risk management reduces the cost of risk, which leads to increase
in company’s profit, reduces the adverse financial impact of pure
loss exposures and allows the implementation of enterprise risk
management programme.
‰‰ Riskscan be reduced through the pooling process of insurance.
When the arrangement of pooling is extended to more people, it

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becomes a group pooling arrangement. The costs go down with

each individual. This is exactly what the insurance companies do.

KEY WORDS

‰‰ Direct loss: It encompasses the costs incurred towards replace-

ment, repair of the damages, compensation being paid to the
victims and the cost of litigation.
‰‰ Indirect loss: It results from the reduction in productivity of
assets being damaged.
‰‰ Insurance: It is the forward planning by a common man to ar-
range against the possible unexpected contingencies that can
arise in future.
‰‰ Pure risk: It is the risk that will result in either loss or no loss.

S
‰‰ Risk:It is the possibility of something going wrong and causing
damage or injury and resulting in loss.
‰‰ Risk manager: The person who has been assigned a duty to as-
IM
sess the risk and manage it through the defined ways.
‰‰ Risk reduction: It is the measure taken by an individual or or-
ganisation to reduce the uncertainty-related risk.
‰‰ Risk retention: It is the acceptance of a risk that cannot be
transferred and its severity is not too high that it cannot be re-
M

tained.

2.8 DESCRIPTIVE QUESTIONS

1. What is risk management? Explain its objectives.
N

2. Discuss the techniques of risk management.

3. Describe the process of risk management.
4. What are the advantages and disadvantages of risk management?
5. Explain the significance of insurance and risk management.
6. Describe different types of loss exposures.

2.9 ANSWERS AND HINTS

ANSWERS FOR SELF ASSESSMENT QUESTIONS

Topic Q. No. Answers

Concept of Risk Management 1. Risk management
2. True
3. Monetary terms
Techniques of Risk Management 4. Risk avoidance

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Topic Q. No. Answers

5. True
6. Retention of risk
7. True
Process of Risk Management 8. Property loss exposures
9. Direct loss
10. Non-insurance transfers
11. True
Advantages and Disadvantages of 12. True
Risk Management
Significance of Insurance and 13. True
Risk Management
14. Insurance

S
HINTS FOR DESCRIPTIVE QUESTIONS
1. Risk management is a process that manages the risk efficiently in
IM
various ways. Refer to Section 2.2 Concept of Risk Management.
2. The technique to manage risk depends on the type of risk and its
overall impact on an individual or organisation. Refer to Section
2.3 Techniques of Risk Management.
3. The process of risk management includes identifying loss
M

exposures, analysing loss exposures, selecting the right

techniques and implementing and monitoring the risk
management programme. Refer to Section 2.4 Process of Risk
Management.
4. Risk management reduces the adverse financial impact of
N

pure loss exposures. Refer to Section 2.5 Advantages and

Disadvantages of Risk Management.
5. Protection against risks through insurance saves an individual
from unforeseen losses. Refer to Section 2.6 Significance of
Insurance and Risk Management.
6. The different types of loss exposures are property loss exposures,
liability loss exposures, business income loss exposures, human
resource loss exposures, etc. Refer to Section 2.4 Process of Risk
Management.

SUGGESTED READINGS FOR

2.10
REFERENCE

SUGGESTED READINGS
‰‰ Agrawal R. (2009). Risk management (1st ed.). Jaipur, India: ABD
Publishers.

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‰‰ Arunajatesan S., Viswanathan T. (2009). Risk management & in-

surance: Concepts and practices of life and general insurance (1st
ed.). Macmillan.

E-REFERENCES
‰‰ Aig.com (2015). K&I article: Role of insurance in managing corpo-
rate risk—AIG. Retrieved 6 November 2015, from http://www.aig.
com/role-of-insurance-in-corporate-risk_3171_631381.html.
‰‰ Bus.wisc.edu (2015). Risk management & insurance. Retrieved 6
November 2015, from https://bus.wisc.edu/bba/academics-and-pro-
grams/majors/risk-management-and-insurance.
‰‰ Whereswinky.wordpress.com (2015). Disadvantages of risk man-
agement | What’s the Story Morning Glory? Retrieved 6 Novem-

S
ber 2015, from https://whereswinky.wordpress.com/tag/disadvan-
tages-of-risk-management/.
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M
N

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 C H A
3 P T E R

OPERATIONS OF INSURANCE COMPANIES

CONTENTS

S
3.1 Introduction
3.2 Functions of Insurers
IM
Self Assessment Questions
Activity
3.3 Concept of Ratemaking
3.3.1 Methods for Calculating Premium Rate
Self Assessment Questions
Activity
M

3.4 Production/Marketing Agency

Self Assessment Questions
Activity
3.5 Underwriting
N

3.5.1 Role of an Agent in Underwriting

3.5.2 Process of Underwriting
3.5.3 Post-Selection Underwriting
3.5.4 Credit Scoring
Self Assessment Questions
Activity
3.6 Loss Adjustment
3.6.1 Adjusters
3.6.2 Courses of Action in Claim Settlement
3.6.3 Adjustment Process
3.6.4 Difficulties in Loss Adjustment
Self Assessment Questions
Activity
3.7 Miscellaneous Functions
Self Assessment Questions
Activity

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CONTENTS

3.8 Reinsurance
3.8.1 Application Areas of Reinsurance
Self Assessment Questions
Activity
3.9 Summary
3.10 Descriptive Questions
3.11 Answers and Hints
3.12 Suggested Readings for Reference

S
IM
M
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INTRODUCTORY CASELET
N O T E S

RISK ASSESSMENT OF AN APPLICANT BY

AN UNDERWRITER

A 26-year old assistant manager in a store gave her medical his-

tory revealing that she once had a benign tumour diagnosed and
subsequently removed from her brain in 2009. The pre-insurance
medical tests were normal. However, on extensive scrutiny of her
medical records, a pathology report revealed that the tumour was
caused by an inflammatory condition known as pseudo-tumour.
However, subsequent follow-up tests were all normal.

It was a dilemma for the underwriter of the insurer as the appli-

cant had stated that she had a benign tumour, but the pathology
report indicated that it was an inflammatory pseudo-tumour. The
underwriter was not sure whether an initial assessment and rou-

S
tine medical tests would help him in arriving at a decision. Thus,
the underwriter decided to investigate further about the condi-
tion.
IM
A research on the Internet revealed two landmark studies with
helpful information. The study mentioned that this kind of tumour
carries a risk of recurrence and also a distant metastasis. The un-
derwriter then discussed this case with the medical experts of the
insurer. After a detailed discussion, it was determined that even
though the tumour did not have a prognosis like a malignant tu-
M

mour, it was still associated with a high degree of mortality. In

most institutions, a tumour board discusses and records such cas-
es. Availability of tumour records was helpful for developing an
insurance offer for the applicant as the underwriter would assess
N

the risk of recurrence of the tumour.

It was discovered that a medical report of this benign-appearing

tumour was misleading. Even though malignant cells were not
detected, the tumour still exhibited a high rate of mortality. By
consulting with medical experts, the underwriter was able to ac-
curately assess the risk and provide a fair rate for both the appli-
cant and the insurance company.

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LEARNING OBJECTIVES

After studying this chapter, you will be able to:

>> Describe the functions of insurers
>> Explain the concept of ratemaking
>> Discuss production/marketing agency
>> Describe the concept of underwriting
>> Explain the concept of loss adjustment
>> List other miscellaneous functions of insurers
>> Describe the concept of reinsurance

3.1 INTRODUCTION

S
In the previous chapter, you studied the concept of risk management
and its techniques. You also studied the process of risk management
and its advantages and disadvantages. In this chapter, you will study
IM
about various functions of insurers and the concept of ratemaking and
reinsurance.

An insurer bears the legal responsibility of settling a claim after veri-

fying its authenticity. The insurer performs several functions such as
ratemaking, production, underwriting and loss adjustment. Ratemak-
ing is an act of appropriating rates or premiums that are charged by
M

the insurer. The production function deals with the sale of insurance
policies by an agent, which comes under the purview of production
in an insurance company. Moving on, in the underwriting function,
exposures are selected and classified in order to reduce the severity
N

and number of losses resulting from bad risks. Lastly, the function of
loss adjustment is concerned with the cost borne by the insurer at the
time of settlement of claims.

There are other miscellaneous functions as well that are critical to the
successful operation of an insurance company, such as legal, account-
ing and engineering functions.

In the recent years, the concept of reinsurance has gained popularity.

It is a type of insurance that an insurance company purchases from
one or more other insurance companies (called reinsurer) directly or
indirectly (through a broker) for sharing risks. The company and the
reinsurer enter into a reinsurance agreement stating the conditions
based on which the reinsurer shares a risk. In return, the company
pays a reinsurance premium to the reinsurer.

In this chapter, you learn the functions of insurers. These functions

are ratemaking, production, underwriting and loss adjustment. Fur-
ther, the miscellaneous functions of insurers, such as legal, accounting

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and engineering, are discussed. In the end, the concept of reinsurance

is explained in detail.

3.2 FUNCTIONS OF INSURERS

As discussed in the previous chapters, insurance is a contract wherein
an individual is entitled to get protection against financial losses from
an insurance company. An insurer is an entity that undertakes to in-
demnify losses through a contract of insurance. It is legally bound to
pay the insured at the time of claim settlement, provided the insurer is
satisfied with the authenticity of the claim filed by the insured.

The Indian insurance sector was opened for privatisation in the year
1999 with the passing of the Insurance Regulatory and Development
Authority (IRDA) Act, 1999. At the time when the insurance sector

S
was opened, there were only six insurers operating in India. Since
then, the number has shot up to 52 insurers that are operating in life,
non-life and insurance divisions. Table 3.1 depicts the insurers oper-
ating in India:
IM
TABLE 3.1 INSURERS IN INDIAN INSURANCE SECTOR
Insurers Private Sector Public Sector Total No. of Insurers
(Public and Private)
Life insurers 23 1 24
General insurers 21 6 27
M

Reinsurance - 1 1
companies
Total 44 8 52
N

The main role of insurers is to assist policyholders in managing var-

ious risks by offering insurance products as per their requirements.
Apart from this, an insurer is also responsible for performing various
other functions, which are shown in Figure 3.1:

Ratemaking

Production/Marketing Agency

Underwriting

Loss Adjustment

Figure 3.1: Functions of an Insurer

Let us discuss these functions of an insurer in detail in the next sec-

tions.

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SELF ASSESSMENT QUESTIONS

1. An __________ is an entity that undertakes to indemnify losses

through a contract of insurance.
2. The main role of insurers is to assist policyholders in managing
various risks by offering insurance products as per their
requirements. (True/False)

ACTIVITY

Using the Internet, prepare a report on different insurance policies

offered by insurance companies.

3.3 CONCEPT OF RATEMAKING

S
Ratemaking is a process of deciding the amount of the premium for
insurance. Thus, it is also known as insurance pricing. As an insur-
IM
ance company is a profit business, the rate of premium charged for
insurance must be sufficient enough to provide for losses and expens-
es while at the same time earning profit for the company. The main
objectives of determining the rate of premium are to:
‰‰ Ensure the profitability of an insurer
‰‰ Maintain competitive prices in relation to other insurers
M

‰‰ Create a corpus that allows the insurer to pay claims and expenses
as they occur

However, the rate of premium differs across insurance companies

N

depending on the laws of the state in which it operates and vari-

ous other factors related to the proposer. Rates and premiums in
insurance are determined by an actuary. An actuary is a skilled
mathematician who is a part of the different phases of an insur-
ance company, such as operations planning, research and pricing.
Apart from deciding the rate of premium, an actuary also helps in de-
termining annuities and legal reserves, which are needed by an insur-
ance company for the payment of future obligations. This is achieved
by studying vital statistical data related to birth, marriages, deaths,
disease, retirement, employment and accidents.

3.3.1  METHODS FOR CALCULATING PREMIUM RATE

In the insurance sector, underwriters or actuaries use various meth-

ods to determine the rates of premium. However, it must not be for-
gotten that calculation of an insurance rate can never be an absolute
or a completely scientific process in nature. Partly scientific methods
used in insurance help in narrowing the areas of ambiguity. Some of
the commonly used methods are listed in Figure 3.2:

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Class or Manual Method

Loss Ratio Method

Merit Rating/Individual Method

Schedule Rating

Experience Rating

Retrospective Rating

Figure 3.2: Different Types of Rate Methods

Let us discuss these methods in detail:

S
‰‰ Class or manual method: In this method, rates set apply uniform-
ly to each exposure unit that belongs to the same class or group.
In simple words, the same rate of premium is charged from indi-
IM
viduals under the same situation. Such groups are usually prede-
termined so as to collect and manage claims data in an organised
manner. This method is commonly used in determining the rate
of premium for life insurance, workers’ compensation insurance,
automobile insurance, health insurance, etc. For example, in case
of motor insurance, the rate of premium is decided on the basis of
M

the type of vehicle, age of driver, gender of driver, and category of

the vehicle used like commercial, personal, etc.
‰‰ Loss ratio method: Loss ratio is calculated by adding losses and
loss-adjusted expenses over the premium charged from the in-
N

sured. Thus, this method is applied to adjust the premium on the

basis of the actual loss happened rather than deciding the rate of
the premium.
‰‰ Merit rating/individual method: This method identifies the
unique features of a particular risk and a rate that reflects the se-
verity of the risk. Moreover, in this method, actuaries develop spe-
cial rating classes based on the individual attributes of proposers.
In a nutshell, the merit rating method is based on a class rating;
however, the rate of premium is calculated as per the individual
customers and the actual losses suffered by them.
‰‰ Schedule rating: This method is used frequently by commercial
fire insurance companies. A building proposed to be covered un-
der the insurance is considered to be a unique identity, and a rate
is established for it. The representative of the insurer does infra-
structure audit, and the building is rated. Rate credits are given
based on the good features of the structure.
‰‰ Experience rating: This method takes into consideration the
amount of actual loss in previous policy periods, generally in the

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past 3 years, for deciding the rate of premium in the next policy
period. In situations wherein the exposure that affects policy ad-
ministration of the insurer is reasonably within the span of control
of the policyholder, the individual risk may be given a special con-
sideration through experience rating. In such situations, one can
expect a reduction of losses through special interventions.
Often, once a loss reduction is demonstrated through past expe-
rience, the policyholder may be passed on the benefit of reduced
cost of insurance on the pretext that the policyholder promises to
demonstrate his/her ability to keep the loss low.
‰‰ Retrospective rating: In the retrospective rating method, the pre-
mium is adjusted according to the losses suffered by the insurance
company instead of the whole insurance industry itself. It helps
an insurance company to keep control of its losses due to limiting

S
risk exposure of the insured. Moreover, the values of the insurance
premium can be adjusted within a certain range of minimum and
maximum values.
IM
SELF ASSESSMENT QUESTIONS

3. ____________ is a process of deciding the amount of a premium

for insurance.
4. In which method are the rates set applied uniformly to each
exposure unit that belongs to the same class or group?
M

a. Experience rating
b. Schedule rating
c. Loss ratio method
N

d. Class or manual method

ACTIVITY

Prepare a report on methods used for calculating premium rates of

policies provided by Indian insurance companies.

3.4 PRODUCTION/MARKETING AGENCY

In literal terms, the act of converting or transforming raw inputs into
finished products is known as production. The sales and marketing
division of an insurance company is its production department. It se-
lects and trains the agents in order to boost sales. The activity of sales
and marketing is called production in the insurance industry. Insur-
ance is an intangible product that does not come into existence till
the time a proposer purchases a policy. Thus, the act of selling can be
compared to an insurer’s production in its true sense.

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There may be numerous insurance products that may have different

objectives, benefits and costs for which an insurer may adopt a variety
of ways for marketing these policies. Figure 3.3 shows the commonly
used methods by insurers for marketing different types of insurance
products:

Direct Response System

Non-Building Agency System

Agency Building System

S
Mass Merchandising
IM
Figure 3.3: Methods for Marketing Insurance Products

Let us discuss these methods in detail:

‰‰ Direct response system: One of the commonly used methods in
life insurance or term policies is the direct response system. This
method seeks to generate business by telemarketing or the Inter-
net. Consumers can easily draw comparisons between different
M

products for their benefits and prices by making use of the Inter-
net. This is one of the most cost-effective methods of marketing
because there is no involvement of a network of marketing agents.
Moreover, an insurer can reach a large population provided they
N

are connected via Internet or telephone. The direct response sys-

tem of selling is more limited when selling general insurance pol-
icies because of their complex nature, such as motor or property
insurance.
‰‰ Non-building agency system: Insurers also make use of non-build-
ing agency system where independent agents are engaged in sell-
ing insurance policies. These independent agents are also known
as Personal Producing General Agents (PPGAs). The remunera-
tion model in this system is such that insurers appoint agents as
contractors who conduct independent business and pay the agents
a fixed amount of commission usually in the percentage of pre-
mium. The non-building agency system is typically made up of
agents who can manage their own affairs without any intervention
or subsequent supervision from the insurer. Furthermore, the in-
surer is not liable to pay any expenses to such agents. This system
is extremely useful where the insurer wants to quickly establish a
market in a targeted geographic area where the insurer can legally
sell.

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‰‰ Agency building system: This system involves recruiting new

agents that represent only the insurer and subsequently training
them as per the insurer’s requirements. This is beneficial as the
newly recruited and trained agents help in augmenting the sales
of the insurer. The agency building system is of two types, which
differ on the extent of financial support provided by the insurer.
These two types are as follows:
 General agency system: In a general agency system, the insur-
er hires an independent insurance salesperson who is usually
experienced in the field of selling. He/she acts as the sole rep-
resentative of the insurer. A territory is usually allocated to this
agent, who, in turn, hires and trains new agents. The agent, in
return for the extent of business generated by his/her team,
receives a commission. Most or all of the expenses related to
recruiting and training new agents, and certain miscellaneous

S
expenses, are borne by the insurer.
 Managerial system: This is an expensive proposition for the
insurer. In most cases, a branch office of the insurer is man-
IM
aged and run by a branch head or a manager, who is the in-
surer’s employee. The manager recruits, trains and manages
new agents and other relevant staff to run the branch office.
The manager is paid a salary and incentives for the amount of
business generated by his/her sales team. All the expenses for
the branch office are borne by the insurer.
M

‰‰ Mass merchandising: In mass merchandising, an insurance com-

pany sells policies to a group of people such as employees belong-
ing to a company. A single customised policy at discounted premi-
ums is offered, and the premiums can be deducted directly from
N

the salary of employees. Depending on the company’s human re-

source policy, employees usually pay the entire premium; there is
no contribution from the employer, or the employer may bear a
part of the premium. Insurance is offered to employees who satisfy
the underwriting conditions of the insurer.

SELF ASSESSMENT QUESTIONS

5. The manufacturing division of an insurance company is its

production department. (True/False)
6. ________________________ method seeks to generate business
by telemarketing or the Internet.

ACTIVITY

Using the Internet, find some recent marketing techniques used by

insurance agencies to promote their products.

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3.5 UNDERWRITING
Underwriting is a process of assessing the creditworthiness or risk
associated with a potential customer. The objective of underwriting
is to decrease the number of losses resulting from risks. Underwrit-
ing starts when the company has established its underwriting policy,
which states the criteria to be used for insuring applicants based on
their credit history. This enables an underwriter in decision making.
The main purpose of underwriting is to classify clients in a proper
manner into relevant risk classes. Moreover, it helps to protect insur-
ance companies from clients who are more likely to make fraudulent
claims.

An individual who decides to accept or reject an application is known

as an underwriter.

S
An insurer’s underwriting policy is usually decided by the top-level
management and the insurer’s chief underwriter. Generally, the in-
surer has their internal underwriting guide in which the underwriting
IM
policy is stated in detail. This guide generally specifies:
‰‰ Terms of insurance to be written
‰‰ Territories to be developed in the insurance market
‰‰ Forms and rating plans to be used by agents
M

‰‰ Amounts of insurance premium to be written

‰‰ Policies requiring approval by a senior underwriter

As a rule of thumb, underwriters should select only those cases where

the actual loss experienced is unlikely to exceed the loss experience
N

forecasted in the rating structure. Underwriters should aim to de-

crease adverse selection of proposals.

3.5.1  ROLE OF AN AGENT IN UNDERWRITING

During the underwriting process, the proposer and agent are in direct
contact with each other. This kind of underwriting is also known as
primary underwriting. The primary functions of an agent that are re-
lated to underwriting are:
‰‰ Ensuring that the proposal form is completely filled without any
mistakes by the proposer
‰‰ Checking whether the questions have been answered honestly by
the proposer without any prejudice. Any elements of misrepresen-
tation or incomplete information must be avoided.
‰‰ Ensuring that the answers given by the proposer are recorded as
objectively as possible

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Since an agent is in direct contact with the proposer and also acts as
his/her advisor, he/she is in a good position to assess the proposer’s
purpose of buying insurance. Based on the discussion and personal
interview of the proposer and family members, the agent is in a po-
sition to assess the responses provided by them. Any contradictory
information given by the proposer should be checked further.

The underwriting process is facilitated when the required documents

and the proposal form are submitted by the agent in a timely man-
ner. In case of any additional pre-policy medical check-ups, the agent
usually helps the proposer with the necessary appointment in the net-
worked diagnostic centres and ensures quick submission of reports.

In many instances, the policy in the case of accepted proposals may

be given to the agent for delivery. In the case of proposals that get re-
jected, the agent can personally explain the reason(s) for the rejection

S
along with the insurer’s official letter citing reasons for the same. The
agent may also advise on alternatives to such proposers.
IM
3.5.2  PROCESS OF UNDERWRITING

Although the guidelines for underwriting insurance vary across insur-

ance companies, the process of underwriting insurance is the same
for all of them. It is a systematic process that comprises a number of
steps, which are listed in Figure 3.4:
M

Collecting data
N

Analysing the data

Identifying alternatives

Figure 3.4: Process of Underwriting

Let us discuss these steps in detail:

1. Collecting data: For evaluating a potential risk, an underwriter
needs to collect data related to the nature of risk to be covered,
previous records of the proposer, etc. For example, in the case of
health insurance, the underwriter needs to collect data such as
the past medical history of the prospective insured, medical test

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reports, loss history of the previous insurance company and any

other information that may apply.
2. Analysing the data: Once the required data has been gathered,
the underwriter scrutinises the data to convert it into meaningful
information. An insurer may have different levels of authority
among underwriters. Depending on the level of authority
possessed by an underwriter, the case may be referred to the
next in authority for final opinion.
3. Identifying alternatives: Once information is analysed, the
underwriter makes a decision to select options available to him/
her for disposal of applications of the proposer. These options
are generally related to the type of risk class to which potential
policyholders are assigned and are described as follows:
 Accept the proposal when the policy is issued

S
 Reject the proposal for coverage
 Accept the proposal with specific conditions for coverage
IM
Once an application is accepted, it is forwarded to the policy process-
ing department for completion. In the case of rejection of the appli-
cation, the agent or the client receives a letter of rejection. In case
any further information is required, the application is sent back to the
insurance agent for review.
M

3.5.3  POST-SELECTION UNDERWRITING

Sometimes, it may be possible for an insurer to review and re-evalu-

ate policyholders by analysing the lines of business where the insured
risk can be cancelled or renewed at the discretion of the insurer. In
N

post-selection underwriting, the insurer decides whether or not to

continue a policy further. In cases where losses have been exception-
ally high, the underwriter may mandate an increase in premium or
co-payment on claim. The extent of usage of the post-selection under-
writing may vary from insurer to insurer.

RESTRICTIONS

Post-selection underwriting can be exercised only in cases where an

insurer has an option to cancel or decide whether or not to renew
the insurance policy. Due to the newer laws that have been imposed
recently, an insurer is restricted to exercise this option. This has been
done because it imposes a hardship on the policyholder. Some laws
mandate the insurer to give adequate notice period before cancella-
tion of the policy, whereas some laws prevent the insurer from mid-
term cancellation once the policy completes a specific duration of
time. Furthermore, there are laws that prevent the insurer from can-
celling a policy on the basis of caste, age, sex, gender, etc. This kind of

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a restriction may prove to be detrimental in the long run as insurers

become increasingly selective about the risks they accept.

3.5.4  CREDIT SCORING

Credit scoring is used as a tool by insurers for underwriting the in-

surance policies of vehicle owners and homeowners. In earlier times,
credit scoring was used by lenders who would develop credit risk for
mortgage, credit cards and car loan applications. Commercial bu-
reaus, also known as credit bureaus, provide lenders with information
related to the credit history of loan applicants. For example, Choice-
point, an Atlanta-based company, is a credit bureau operating in the
United States. It maintains a database known as CLUE (Comprehen-
sive Loss Underwriting Exchange) that serves as the basis of credit
scores generated.

S
There is a controversy in the use of credit scoring since it is thought
that credit history and the current status of an individual or his/her
loan paying capabilities are unrelated. Insurers argue that credit scor-
IM
ing enables them to classify applicants according to the risk of loss
posed by them in order to price a policy with greater precision.

SELF ASSESSMENT QUESTIONS

7. The main purpose of underwriting is to classify clients in a

proper manner into relevant risk classes. (True/False)
M

8. During the underwriting process, the __________ and _________

are in direct contact with each other.
N

ACTIVITY

Find information on the instances of underwriting services provid-

ed by ICICI Lombard in India.

3.6 LOSS ADJUSTMENT

Loss adjustment is a process of settling claims at a particular cost
against the loss caused. An insurer needs to verify an insurance claim
made by the insured before its settlement. This is because in the ab-
sence of the verification process, the insurer is at the risk of suffering
losses. For example, an insurance company hires a surveyor in order
to ascertain the extent of damage a car has suffered. Based on the
inspection done by the surveyor, the insurer settles the claim with the
insured. The cost accrued in the hiring of the surveyor is a part of the
loss adjustment expense.

Loss adjustment is the amount that is used for giving compensation

to policyholders. Such amount is given from the reserves of an insur-

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ance company that are kept for the settlement of claims. This reserve
is considered a liability as the money kept in it is for future settlement
of claims. Insurers generally have a separate department for claim set-
tlement, and employees who settle claims are known as benefit repre-
sentatives in life insurance and claim adjusters in general insurance.
It is important for insurers to pay fair and restrict unfair or fraudulent
claims. Prompt and fair claim settlements are in fact a competitive
edge for an insurer.

3.6.1 ADJUSTERS

An adjuster can be defined as a person who assesses and investigates

losses for an insurer. He/she decides the admissibility of a claim and
determines the extent of payment to be made. In some cases, especial-
ly small properties, agents are granted draft authority by the insurer

S
and they function as adjusters. This indicates that they have authority
to issue cheques on behalf of the insurer to a specified limit of amount.
In cases where the draft authority does not allow the extent of pay-
ment, the agent may still settle the claim and forward the details to
IM
the insurer for payment. In cases where the underwriting volume is
high in a particular geographical location, the insurer may employ his/
her own salaried claim adjusters, whereas in areas of low business
volume, this function may be outsourced to an independent adjuster
or a bureau.
M

Adjustment bureaus were originally owned by insurers themselves,

specifically for fire insurance policies. Even though the original owner-
ship has been dissolved, such organisations still continue to be known
as bureaus. Sometimes, insurers appoint independent adjusters who
may not belong to any bureau. Rather, they are individual experts who
N

may be associated with a number of insurers at a time and bill them

directly for the services rendered. Generally, the insurers who do not
have an in-house adjuster team or a bureau may take the services of
independent adjusters.

A special category of adjusters is known as public adjusters, who, in

contrast to the adjusters explained earlier, represent a policyholder.
The above categories of adjusters are the representatives of insurers.
Many a time, policyholders find it difficult to prepare documents and
lodge a claim with the insurer. In such a situation, they have an option
to take services of the public adjuster who performs the function of
claim preparation, filing and negotiation with the insurer.

In most of the situations, the payment method for the adjuster is con-
tingency-based, which is typically a percentage of the claim amount
generally around 10 per cent. The National Association of Public In-
surance Adjusters grants a professional designation to these adjusters.
The designations are Certified Professional Public Adjuster (CPPA) or
Senior Professional Public Adjuster (SPPA).

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3.6.2  COURSES OF ACTION IN CLAIM SETTLEMENT

In the case of a loss or a claim lodged by a policyholder, the outcome

is usually either a denial or a payment of the claim. In the majority of
cases, the liability is admissible and the claim is covered by the insur-
er, resulting in the payment of the claim. However, there are situations
where the insurer opines that the claim cannot be paid. In such a sit-
uation, the insurer denies and contests the claim. Payment in such
cases is usually denied on two grounds:
‰‰ The occurrence of loss is questionable.
‰‰ The loss falls outside the scope of the policy.

In both the situations, the insurer notifies the policyholder of the deni-
al of a claim through a denial letter stating the reason for denial.

S
3.6.3  ADJUSTMENT PROCESS

In the event of a claim being reported, the adjuster needs to perform a

IM number of steps. These steps are depicted in Figure 3.5:

Notice of the Claim of Loss

M

Scrutiny or
Investigation
N

Proof of Loss

Payment or Denial of Claim

Figure 3.5: Adjustment Process

Let us discuss these steps in detail:

1. Notice of the claim of loss: This is the foremost step in the
claim procedure where the policyholder notifies the insurer of
the occurrence of a loss. The timeline of the notice and other
technical requirements may vary from insurer to insurer.
2. Scrutiny or investigation: Often known as adjudication, this is
a process of assessing claim documents in order to determine
the admissibility and extent of payment in the case of admissible
claims. This can be done based on the following parameters:

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 Whether the policy was in force at the time of the loss

 If it was a newly issued policy, whether the loss occured be-
fore it became effective or later.
 If the policy was old, whether the loss occurred before the
policy expired.
 Was the contract valid when the loss occurred?
Once the timing of loss is confirmed to be within the policy period,
it is determined if the peril that caused the loss is covered under
the policy or not. The adjuster then determines if the person
making the claim under the policy is covered or not. Once these
factors are confirmed, the claim is deemed payable.
3. Proof of loss: In most cases, the insured needs to submit a proof
of loss within the stated period of time of occurrence of the loss,

S
which is usually 60 days. As discussed earlier, a public adjuster
helps a policyholder in preparing documents that serve as the
proof of loss.
IM
4. Payment or denial of claim: Once the admissibility is determined,
the insurer draws a draft for reimbursing the claimant. In case
the claim is not admissible, the insurer sends a denial letter to the
claimant that mentions the reason for denial, which is usually:
 The adjuster is not satisfied that the loss occurred
 The loss is not covered under the policy
M

 The amount being asked is exaggerated

3.6.4  DIFFICULTIES IN LOSS ADJUSTMENT

N

Due to the complex nature of insurance policies and a large number

of stakeholders, disputes at the time of claim settlement are bound to
happen. It would be excellent if the insurer was to pay all claims to
the maximum limit, but that is never the case. A claim can be paid in
full, paid after deductions or denied. Many a time, there is a discord
between the insured and the insurer when a claim is restricted or de-
nied. Such discord may happen because either the insured is under
the impression that the claim is wrongfully denied or there is a mis-
take on the adjuster’s end.

In the case of a disagreement on the amount of deduction in a claim,

most of the insurers provide for a compulsory arbitrator at the behest
of either of the parties. In the case of denial, the insured can approach
the state regulatory authority for dispute resolution. The state reg-
ulatory authority is responsible for safeguarding the policyholder’s
interest. Ultimately, the insured can also approach the court as a last
recourse.

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SELF ASSESSMENT QUESTIONS

9. _________________ is the amount that is used for giving

compensation to policyholders.
10. The National Association of Public Insurance Adjusters grants
a professional designation to the adjusters. (True/False)

ACTIVITY

Suppose you have joined a publicly traded insurance company as

an adjuster. What steps would you take while settling a claim?

3.7 MISCELLANEOUS FUNCTIONS

S
Apart from the functions discussed in the previous sections, there
are other miscellaneous functions that are crucial for the successful
operation of an insurance company. These functions supplement the
IM
primary and secondary functions that an insurance company already
performs. These functions are listed in Figure 3.6:

Legal Functions
M

Accounting Functions

Engineering Functions
N

Figure 3.6: Miscellaneous Functions of an Insurance Company

Let us discuss these functions as follows:

‰‰ Legal functions: Insurance being a financial entity often requires
legal advice and aid for adhering to regulatory requirements and
attending cases of dispute in the court of law. A majority of insur-
ers have a separate legal department as a part of their operational
support functions. This department provides legal assistance to
the insurer in selecting and contacting with outside attorneys for
the insurer’s defence against suits by a policyholder on any kind of
liability claim covered under the insurer’s policies as well as deter-
mining and drafting the legal language of the insurance contract.
‰‰ Accounting functions: In an insurance company, the accounting
department is responsible for the periodic filing of the insurer’s
statutory financial statements. Accountants also develop budgets
and analyse expenses of the company. In addition, in publicly trad-
ed companies, the accounting department has to prepare financial

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statements as per the Generally Accepted Accounting Principles

(GAAP) and submit to investors.
‰‰ Engineering functions: In the running and operations of an in-
surance company, the engineering department is responsible for
inspecting the business premises of the insurance company in or-
der to ascertain their acceptability. Moreover, the engineering de-
partment is beneficial to the insured of the company as it makes
recommendations for preventing losses.

SELF ASSESSMENT QUESTIONS

11. In an insurance company, the ___________ department is

responsible for the periodic filing of the insurer’s statutory
financial statements.

S
12. The legal department is beneficial to the insured of the
company as it makes recommendations for preventing losses.
(True/False)
IM
ACTIVITY

Suppose you have joined an insurance company as an accountant.

What duties would you perform in the course of checking the ac-
counts of the company?
M

3.8 REINSURANCE
Reinsurance is a contract between two in which one insurance com-
pany transfers either all or a portion of its risk of insurance to another
N

company known as a reinsurer. The company that transfers the risk

in the reinsurance arrangement is called the ceding insurer, and the
company that acquires the risk in the arrangement is called the as-
suming reinsurer. The insurance company looks for security from the
reinsurer. Generally, the reinsurer pays only a part of the losses in-
curred in an insurance contract, but in some cases, the reinsurer pays
the full amount of the insurance contract.

Reinsurance is quite similar to insurance and involves risk distribu-

tion (the payment of insurance premium by many to cover the losses
of the few), risk transfer (the shifting of the risk from one party to an-
other) and diversification of risk (the sharing of risk from one insurer
to several insurers) among a large number of insurance companies.

3.8.1  APPLICATION AREAS OF REINSURANCE

Reinsurance nowadays is practised by several insurance companies.

The main objective behind reinsurance is to transfer a part of the ex-
pected loss to the reinsurer. The areas where reinsurance can be ap-
plied are shown in Figure 3.7:

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Transferring risk

Smoothening the flow of income

Ensuring surplus relief

Handling claims

Calculating premium rate

Providing ideas and advice

Figure 3.7: Areas of Application of Reinsurance

S
Let us discuss these areas in detail:
‰‰ Transferring risk: An insurer can issue policies with higher lim-
its by procuring reinsurance, which otherwise is not possible for
IM
insurance companies. Since reinsurance is practised by insurance
companies, it involves transferring some part of a risk to another
insurance company.
‰‰ Smoothening the flow of income: By sharing the risk, the compa-
ny has more funds available for investment purposes. This ensures
a smooth flow of income. Moreover, the need of capital of insur-
M

ance companies for providing coverage is reduced.

‰‰ Ensuring surplus relief: An insurer can provide insurance poli-
cies only up to the limits of the company’s solvency margin. Once
the solvency margin is achieved, an insurance company has to ei-
N

ther stop obtaining new business or increase its capital flow. How-
ever, by getting reinsurance, it can keep on expanding its business.
‰‰ Handling claims: In the insurance industry, it is a general practice
to settle every claim. However, sometimes, it is only the reinsur-
er who possesses the necessary expertise for handling particular
claims or unique classes of insurance such as classes belonging to
insurance related to engineering.
‰‰ Calculating premium rate: Reinsurance is also applicable when
the premium rate of insurance policies has to be calculated. Only
reinsurers possess the necessary experience needed to determine
the premiums required for deciding big risks. Moreover, reinsur-
ers get to decide the method of calculating the risks as they are
taking over the responsibility for the payment of a bigger part of
indemnity.
‰‰ Providing ideas and advice: A favourable balance needs to be as-
certained in reinsurance between the expenses of reinsurers and
those of the insured. In order to supplement this endeavour, ideas
and specific programmes need to be implemented for data collec-

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tion. This is beneficial in simplifying and improving the insurer’s

administration. Moreover, reinsurance advice is given by reinsur-
ers for compiling reinsurance programmes in relation with differ-
ent kinds of reinsurance.

SELF ASSESSMENT QUESTIONS

13. ______________ is a contract between two in which one

insurance company transfers either all or a portion of its risk
of insurance to another company known as a reinsurer.
14. An insurer can provide insurance policies only up to the limits
of the company’s solvency margin. (True/False)

ACTIVITY

S
Using the Internet, discuss the companies that provide reinsurance
services in India.
IM
3.9 SUMMARY
‰‰ An insurer is an entity that undertakes to indemnify losses through
a contract of insurance. It is legally bound to pay the insured at the
time of claim settlement, provided the insurer is satisfied with the
authenticity of the claim filed by the insured.
M

‰‰ The functions of an insurer are ratemaking, production/marketing

agency, underwriting and loss adjustment.
‰‰ Ratemaking is a process of deciding the amount of the premium
for insurance. Thus, it is also known as insurance pricing.
N

‰‰ The methods used for calculating premium rate in ratemaking are

class or manual method, loss ratio method, merit rating/individual
method, schedule rating, experience rating and retrospective rating.
‰‰ The sales and marketing division of an insurance company is its
production department. It selects and trains the agents in order to
boost sales. The activity of sales and marketing is called produc-
tion in the insurance industry.
‰‰ The commonly used methods of insurers for marketing different
types of insurance products are direct response system, non-build-
ing agency system, agency building system and mass merchandising.
‰‰ Underwriting is a process of assessing the creditworthiness or risk
associated with a potential customer. The objective of underwrit-
ing is to decrease the number of losses resulting from risks.
‰‰ The process of underwriting is a systematic process that compris-
es a number of steps, which are collecting data, analysing the data
and identifying alternatives.

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‰‰ Loss adjustment is a process of settling claims at a particular cost

against the loss caused.
‰‰ An adjuster can be defined as a person who assesses and investi-
gates losses for an insurer.
‰‰ In the event of a claim being reported, the adjuster needs to per-
form a number of steps. These steps are notice of claim of loss,
scrutiny or investigation, proof of loss and payment or denial of
claim.
‰‰ The miscellaneous functions that are crucial for the successful op-
eration of an insurance company are legal, accounting and engi-
neering functions.
‰‰ Reinsurance is a contract between two in which one insurance
company transfers either all or a portion of its risk of insurance to

S
another company known as a reinsurer.
‰‰ The areas where reinsurance can be applied are transferring risk,
smoothening the flow of income, ensuring surplus relief, handling
IM claims, calculating premium rate, and providing ideas and advice.

KEY WORDS

‰‰ Annuities and legal reserves: These refer to the minimum

amount of assets kept by an insurance company as part of its
reserves.
M

‰‰ Corpus: It comprises the funds generated and stored for the

sustenance of an insurance company.
‰‰ Loss adjustment: A case where an insurer determines the
amount for settling insurance claims of an insured in case of
N

loss.
‰‰ Reinsurance: A practice wherein an insurance company pur-
chases insurance from one or more other insurance companies
directly or through a broker for managing risks.
‰‰ Solvency margin: It refers to the amount by which the assets
exceed the liabilities of an insurance company.

3.10 DESCRIPTIVE QUESTIONS

1. What is ratemaking? Describe the different methods used for
calculating premium rates.
2. Briefly discuss the functions of production/marketing agency of
an insurer. What are the commonly used methods of insurers for
marketing different types of insurance products?
3. What is underwriting? Describe the underwriting process in
detail.

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4. What is loss adjustment? Discuss its process.

5. Discuss the miscellaneous functions that are performed by an
insurance company to ensure its successful operation.
6. Describe the concept of reinsurance. Discuss the areas of
application of reinsurance.

3.11 ANSWERS AND HINTS

ANSWERS FOR SELF ASSESSMENT QUESTIONS

Topic Q. No. Answers

Functions of Insurers 1. Insurer
2. True

S
Concept of Ratemaking 3. Ratemaking
4. d.  Class or manual method
Production/Marketing Agency 5. False
IM
6. Direct response system
Underwriting 7. True
8. Proposer, agent
Loss Adjustment 9. Loss adjustment
10. True
Miscellaneous Functions 11. Accounting
M

12. False
Reinsurance 13. Reinsurance
14. True
N

ANSWERS FOR DESCRIPTIVE QUESTIONS

1. Ratemaking is a process of deciding the amount of the premium
for insurance. The methods used for calculating premium rate in
ratemaking are class or manual method, loss ratio method, merit
rating/individual method, schedule rating, experience rating and
retrospective rating. Refer to section 3.3 Concept of Ratemaking.
2. The sales and marketing division of an insurance company is
its production department. It selects and trains the agents in
order to boost sales. Refer to section 3.4 Production/Marketing
Agency.
3. Underwriting is a process of assessing the creditworthiness or
risk associated with a potential customer. Refer to section 3.5
Underwriting.
4. Loss adjustment is a process of settling claims at a particular cost
against the loss caused. Refer to section 3.6 Loss Adjustment.

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5. The miscellaneous functions that are crucial for the successful

operation of an insurance company are legal, accounting and
engineering functions. Refer to section 3.7 Miscellaneous
Functions.
6. Reinsurance is a contract between two in which one insurance
company transfers either all or a portion of its risk of insurance
to another company known as a reinsurer. Refer to section 3.8
Reinsurance.

SUGGESTED READINGS FOR

3.12
REFERENCE

SUGGESTED READINGS

S
‰‰ Booth, P. et al (2005). Modern Actuarial Theory and Practice. Lon-
don, Chapman & Hall.
‰‰ Briys, E. and de Varanne, F. (2001). Insurance: From underwriting
IM to Derivatives. John Wiley.
‰‰ Vaughan, E.J., Vaughan, T. (2003). Fundamentals of Risk and In-
surance. New Delhi, John Wiley.

E-REFERENCES
‰‰ CoverHound.com, ‘What Is Insurance Underwriting?’
M

‰‰ Spaulding, William. ‘Rate Making: How Insurance Premiums Are

Set’. Thismatter.com
‰‰ Spaulding, William. ‘Reinsurance’. Thismatter.com
N

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 C H A
4 P T E R

INSURANCE PRINCIPLES AND CONTRACTS

CONTENTS

S
4.1 Introduction
4.2 Principles of Insurance
IM
4.2.1 Principle of Utmost Good Faith
4.2.2 Principle of Insurable Interest
4.2.3 Principle of Indemnity
Self Assessment Questions
Activity
4.3 Requirements for Insurance Contract
M

Self Assessment Questions

Activity
4.4 Special Features of Insurance Contracts
Self Assessment Questions
N

Activity
4.5 Relation between Insurance and Economic Growth
4.5.1 Life and General Insurance Industry in India
Self Assessment Questions
Activity
4.6 Insurance Regulatory and Development Authority (IRDA) Act, 1999
Self Assessment Questions
Activity
4.7 Summary
4.8 Descriptive Questions
4.9 Answers and Hints
4.10 Suggested Readings for Reference

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INTRODUCTORY CASELET
N O T E S

VIOLATION OF INSURANCE PRINCIPLES

Mr. Arun, the owner of XYZ Pvt. Ltd, insured his property against
fire for ` 7,40,000. The property included the warehouse and var-
ious other offices. A fire broke out in the property, which resulted
in damage to the building, furniture, fixtures, fittings and other
operating systems.

An inspector was appointed by the insurer. During investigation,

it was observed that only 40% of the property belonged to XYZ
Ltd. and 60% was allotted to M/s ABC Pvt. Ltd. This implied that
insurable interest of only 40% is attached to XYZ Pvt. Ltd. Based
on these facts, the authorities responsible for settling the claim ob-
served, “It does not mean that by virtue of this deed the insurable

S
interest of the complainant was to the degree of 40%. While taking
the premium, the insurance company has charged the complete
insurance amount and therefore, to say at the end of the day that
insurable interest of the complainant was to the extent of 40% is
IM
complicated and hard to digest. It is the insurer to convince itself
with reference to insurable interest before granting an insurance
policy. An insurance policy has been issued by the insurer post
investigation but there was no insurable interest present in this
case. This means that the policy is taken out of gaining profit and
not for the sheer purpose of insurance.”
M

In the absence of an insurable interest in the life or the asset in-

sured, the insurance contract will be a wagering contract and
therefore the contract is voidable. The insurable interest is essen-
tial to the legality of the insurance policy. Also, the policyholder
N

also misrepresented the fact that the property belonged to him

rather it was only 40%, which was in his scope of insurable interest.

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LEARNING OBJECTIVES

After studying this chapter, you will be able to:

>> Explain the principles of insurance
>> Discuss the requirements of insurance contract
>> Relate insurance and economic growth
>> Describe Insurance Regulatory and Development Authority
(IRDA) Act, 1999

4.1 INTRODUCTION

In the previous chapter, you have studied about the operation of insur-
ance organisations. An insurer needs to abide by various principles

S
while signing an insurance contract with the insured. In this chapter,
you will study about insurance principles and contracts.

Insurance means the assurance of financial aid when there is any con-
IM
tingency. It is a promise made by an insurer to provide coverage to the
insured against loss in exchange of a premium paid on a monthly or
yearly basis. An insurance contract is signed between an insurer and
the insured based on certain principles. These principles are the prin-
ciple of utmost good faith, principle of insurable interest, principle of
indemnity, principle of subrogation and principle of contribution.
M

In India, the Insurance Regulatory and Development Authority (IRDA)

is a body that regulates the functioning of insurance companies and
protects the interests of policyholders. It has the power to issue reg-
istration certificates and licenses, laying down the code of conduct,
N

supervising the performance of the insurer and making recommenda-

tions for the growth of the Indian insurance sector.

In this chapter, you will study about the principles and special features
of insurance in India. Further, the role of insurance in economic growth
with emphasis on life and general insurance in India is discussed in de-
tail. Towards the end, the chapter discusses the IRDA Act, 1999.

4.2 PRINCIPLES OF INSURANCE

When an insurance company insures an individual or an organisation,
there are certain legal requirements that need to be fulfilled other
than the insurance contract. There are certain principles of insurance
which need to be abided by both the insurer and the insured. These
principles help the insurer to settle claims and enforce regulations
on which insurance agreements are built upon. Figure 4.1 shows the
principles of insurance:

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Principle of
Insurable
Interest

Principle of
Principles of Principle of
Utmost Good
Insurance Indemnity
Faith

S
Figure 4.1: Principles of Insurance
IM
The principles are explained in detail in the next sections.

4.2.1  PRINCIPLE OF UTMOST GOOD FAITH

The principle of utmost good faith is a fundamental principle of in-

surance. As per this principle, an insurance contract must be duly
M

signed by both the contracting parties in a supreme good faith or be-

lief or trust. As per this principle, it is a contractual obligation on the
part of a customer to completely disclose facts asked in the proposal
form or other additional information asked by the insurance company.
Similarly, it is the duty of an insurance company to disclose all infor-
N

mation regarding the premium charges, policy terms, claim payments

and procedures to customers. This principle advocates that both the
parties, the insured and the insurer, are bound together in a bond of
honesty and fairness. It originates from the doctrine of ‘Uberrimae
Fides,’ which is a Latin phrase and means ‘utmost good faith’. This
phrase is essential for a valid insurance contract.

The term ‘material fact’ means every piece of information, which may
impact decisions with respect to the evaluation of the severity of risk
involved and the amount of premium to be charged. The disclosure
of material facts determines the terms of coverage of the policy. Any
concealment of material facts is considered intentional and if it is later
on discovered, the policy may be considered void. This may lead to
a negative effect on the company’s normal business. The intention-
al non-disclosure amounts to fraud and unintentional non-disclosure
amounts to void contract.

For example, disclosure in health insurance can be pertaining to age,

history of medication, history of pre-existing diseases, etc. Similarly,

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in the case of property or general insurance, material facts pertain

to the details of the property (vehicle) such as year of make, usage,
model, seating capacity, etc. The insurance company in the case of
health may always not be in a position to identify if an individual is
suffering from any ailment and it relies solely on the facts provided
by the insured. Hence, it is the duty of insured to disclose all the facts
voluntarily. Utmost good faith principle holds true for responsibility of
disclosure on both the insurance agent and the company authorities
also. Any laxity at this point may lead to judgments in favour of the
insured in the case of a dispute. The facts that must be disclosed are
as follows:
‰‰ External factors that will enhance the degree of risk
‰‰ Earlier losses and claims under other insurance policies

S
‰‰ Any decline of the risk or insurance granted on special terms by
other insurers
‰‰ Particularrisks that represent higher exposure to the class of in-
IM
surance applied for
‰‰ Complete facts and information pertaining to the subject matter of
insurance whether asked or not

However, not all facts need to be disclosed all the time. Such facts
include:
M

‰‰ Any precautions taken by the insured to diminish the risk (meth-

ods of preventive care like yoga, etc.)
‰‰ Facts that are common knowledge and expected to be known to
the insurer in his/her ordinary course of business
N

‰‰ Facts about conditions which are waived by the insurer

‰‰ Facts of public knowledge
‰‰ Facts of law
‰‰ Facts covered by policy conditions

BREACH OF DUTY OF UTMOST GOOD FAITH

Any or both of the following shall be considered as the breach of duty

of utmost good faith:
a. Misrepresentation that can be either innocent or fraudulent with
reference to falsification and alteration of facts to make the risk
insurable.
b. Non-disclosure that may be either innocent or fraudulent,
which implies avoidance to disclosing certain facts within the
knowledge of the first party to the second party.

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EXHIBIT

Material Facts Pertaining To

Different Class Of Insurance
Class of Insurance Material Fact
Fire insurance Construction of building, fire detection equip-
ment, fire fighting equipment, nature of its
use, location of the subject matter, etc.

Theft insurance Nature of stock, worth of the stock, nature of

security precautions, etc.
Motor insurance Type of the vehicle, previous claim history,
number of passengers, registration zone, etc.

Life insurance Age of the life assured, previous medical his-

S
tory, occupation, avocation details, smoking/
drinking habits, family history, etc.
Marine insurance Cargo insurance – in terms of sale, mode of
carriage, containerised or not, etc.
IM
Personal accident Age, height, weight, previous medical history,
insurance occupation, etc.

4.2.2  PRINCIPLE OF INSURABLE INTEREST

M

The principle of insurable interest implies that an individual getting

insured must have an insurable interest in the subject matter of insur-
ance. An insurable interest shall arise when an individual will obtain
some type of financial benefit from the preservation of the object to be
insured or will sustain pecuniary loss from its destruction or damage
N

in the event of a catastrophe.

An individual is said to have an insurable interest when the substan-

tial existence of the insured object provides an individual more gain
and the individual is better off with its existence whereas its non-ex-
istence will make an individual worse off and the loss will be gigantic.
Therefore, the essentials of insurable interest include:
‰‰ Existence of some asset, interest or liability capable of being in-
sured
‰‰ Asset, interest or liability etc. must be the subject matter of insur-
ance
‰‰ The insured must have a valid and legal relationship with the sub-
ject matter of insurance
‰‰ The individual should benefit from the well-being of the subject
matter and should be interested in its upkeep
‰‰ Damage to the subject matter may result into a pecuniary loss to
the insured

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Insurable interest will arise or be limited in a number of ways, which

can be:
a. By common law: Insurable interest gets automatically created
by ‘ownership’ rights. For example, a shop owner may incur a
financial loss if the shop gets destroyed by a fire as his business
will come to a standstill. Thus, the owner has an insurable
interest in the asset, i.e., his shop. In this case, the shop forms
the subject matter when if an insurance is purchased on it.
b. By contract: Sometimes, insurable interest arises as the by-
product of a contract between two parties. For example, a lease
agreement between a landlord and a tenant may make a tenant
responsible for the maintenance or repair of the building. The
tenant acquires a legally recognised relationship with the building.
c. By statute: Sometimes, a legislative decision creates an insurable

S
interest which may be either by granting a benefit or imposing a
duty.
IM
A few examples of insurable interest include:

‰‰ A merchant has an insurable interest in his business of trading.

‰‰ A creditor has an insurable interest in his debtor.

‰‰ An individual has an insurable interest in the house he lives.

M

‰‰ An individual will have an unlimited insurable interest in his or

her own life.
N

‰‰ A person will have an insurable interest in the life of his or her

spouse.

‰‰ Employers have insurable interest in the lives of their employees.

‰‰ Partners have insurable interest in the lives of each other.

4.2.3  PRINCIPLE OF INDEMNITY

As per the principle of indemnity, an insurance contract is signed only

for getting safety against unexpected monetary losses erupting due
to potential uncertainties. Here, indemnity means safety, shield and
payment granted and it is aligned with damage, loss or injury. In other
words, indemnity can be defined as a legal commitment given by an
insurer to provide protection against injury, loss, incurred penalties
and contingent liability by compensating financial losses.

The amount to be paid to the insured in the event of damage is deter-

mined by the insurance company on the basis of the value and condition

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of the asset before the damage. In other words, the insured is liable to
pay up to the amount of loss and not more than that. It also implies that
insurance should not be used as a tool to derive profits or make money.

The principle of indemnity is important because it ensures that the in-

sured does not derive any undue benefit from the loss. The following
are the payments made under the principle of indemnity:
‰‰ Cash payment: It is the amount payable under the policy and is
subject to maximum limitation of the sum insured.
‰‰ Repair: An insurance company pays for the repair of an asset. It is
the most extensively used method of providing indemnity (motor
claims).
‰‰ Replacement: An insurance company pays for parts that cannot
be repaired. For example, car mirrors.

S
‰‰ Reinstatement: An insurance company pays for the restoration of
the building affected.
IM The principle of indemnity is divided into two parts, namely the prin-
ciple of subrogation and the principle of contribution. Let us discuss
these two principles in detail.

PRINCIPLE OF SUBROGATION

Subrogation is the right of an insurer to follow up with a third party

M

that was responsible for the insurance loss to the insured. As per the
principle of subrogation, the insurer has a right to recover the amount
of the claim paid to the insured for the loss from the third party (which
actually caused the damage).
N

In the event of damage to a subject matter, an insured can either sue

the party who has caused the damage to claim compensation for the
loss or the insured can seek compensation from the insurance compa-
ny. In case, the insured chooses to claim the loss from the insurance
company, he shall lose the right to sue the party, who has caused the
damage for compensation. The insurer shall acquire the right to sue
the third party to compensate for the loss inflicted.

There are three important aspects of the principle of subrogation:

‰‰ In case, the recovered amount from the third party is more the
compensation paid, the insurance company shall return it back
after deducting the expenses in curred on administration.
‰‰ In case the insured takes action against the third party, the insur-
ance company gets absolved from its liability to compensate.
‰‰ In case the insured absolves the third part of the loss, he/she loses
the right to claim compensation from the insurer.

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The following are the benefits under the principle of subrogation:

‰‰ Itprevents an individual to make profits out of losses by limiting
an individual from making a claim or suing the third party for
causing damage.
‰‰ It ensures that guilty be made to pay for wrongdoing.
‰‰ It helps the insurer to partially or fully recover the amount paid
for the loss.
‰‰ With reimbursement from the concerned third party, the insur-
ance company’s losses go down. As a result, the incurred claim’s
cost reduced, the benefit of which in turn is passed on to the final
policyholder by the way of reduction in premium.

Limitations of subrogation are as follows:

S
‰‰ Not applicable to life insurance policies and the insurer has no
right to claim compensation against third parties responsible for
the death.
‰‰ The
IM
doctrine becomes operative only after the insured has been
indemnified.
‰‰ The insurer may not be able to necessarily recover the same
amount as indemnity from the third party.
‰‰ Subrogation cannot be exercised where the insured is not in a po-
sition or does not want to take action against the damaging party.
M

Let us understand the principle of subrogation with the help of an

example.

M/s. AB Corporation takes the transport services of M/s. XY Trans-

N

porters. The corporation has asked XY to send a consignment of ma-

chinery with a value of `1 million from Mumbai to Guwahati. Due
to the negligence of the transporter, the consignment gets completely
damaged in transit. The insurance company shall settle the claim of
AB Corporation for `1 million. At the same time, the insurance com-
pany can file a law suit against XY for `1 million since at the time
of settling of claims, they have subrogated recovery rights from the
transporter. If the insurance company wins the case, it will collect `1
million in addition to other expenses such as court fees from XY.

PRINCIPLE OF CONTRIBUTION

As per this principle, in case an insured holds multiple policies and

a damage occurs, the insurer shall jointly bear the loss at a rateable
proportion provided the total compensation does not exceed the loss
incurred. The principle is applicable in those cases of indemnity when
the insured takes out more than one policy on the same subject mat-
ter. Following are some prerequisites for the principle of contribution
to be applicable:

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i. All the insurance policies of different insurers must be relevant

to the same risk.
ii. The policies concerned must cover the same benefit of the same
member.
iii. The policies concerned must cover the same peril which caused
the loss.
iv. The policies must be in force at the time of loss.

For example: Mr. A has two health insurance policies one with a sum
insured of `1 lac and second with sum insured `2 lac. At an instance of
a health claim, both the policies shall contribute to that health claim in
the same proportion as the sum insured i.e. 1:2 in this case.

The insured has the choice to recover from any insurer on a priori-

S
ty basis and the insurer cannot impose contribution without the in-
sured’s consent.

SELF ASSESSMENT QUESTIONS

IM
1. Suppose a car is insured with company A for `10, 000 and
with company B for ` 20, 000. The damage caused to the car
amounts to `18000. In such a case, company A will apparently
be liable to contribute ` 6000 and company B `12000. Do you
think that the above statement is correct? If no, why? If yes,
which principle of insurance is applicable here?
M

a. Principle of Contribution
b. Principle of Insurable Interest
c. Principle of Indemnity
N

d. Principle of Subrogation
2. The principle of ______________ implies that an individual
getting insured must have an insurable interest in the subject
matter of insurance
3. Insurable interest gets automatically created by ‘ownership’
rights. (True/False)
4. ____________ means safety, shield and payment granted and it
is aligned with damage, loss or injury.
5. Which principle is applicable in those cases of indemnity
when the insured takes out more than one policy on the same
subject matter?

ACTIVITY

Using the Internet, prepare a brief report about real-life cases

where principles of insurance have been enforced and applied.

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REQUIREMENTS FOR INSURANCE

4.3
CONTRACT
An agreement that is enforceable by the law of the land is called a
contract. Any party entering into a contract with another is legally
bound to follow the terms and conditions of the contract. A contract of
insurance comes into existence when there is an offer from the person
facing the risk and the insurer accepts the offer by issuing the policy.
The policy is a detailed description of the terms and conditions of the
contract and the benefits it extends to the insured. A breach of these
terms and conditions between any of the parties involved results in
invalidation of the contract.

An insurance policy is a legal contract whose structure is subject to

the accomplishment of certain fundamentals defined under the Indi-

S
an Contract Act, 1872. Figure 4.2 shows the requirements of an insur-
ance contract:
IM
Offer and Acceptance
Requirements of Insurance

Consideration
Contract

Capacity to Contract
M

Consensus ad idem

Legality of Object
N

Figure 4.2: Essentials of Valid Insurance Contract

Let us discuss these essentials of a valid insurance contract.

‰‰ Offer and acceptance: To start with, there must be an offer or ac-
ceptance of the terms and conditions of a contract. An offer can be
made either by the insurance company or the prospective policy
owner and the acceptance will take place thereafter. There has to
be an offer by one party and an acceptance by the other party.
In insurance, it is the prospective buyer, known as a proposer, who
first offers to accept the terms. The offer by the proposer for insur-
ance should be accompanied by the payment of premium. The ac-
ceptance of an offer to be insured takes place when the insurability
of the applicant has been determined by the insurer.
‰‰ Consideration: It is the monetary payment assigned to each con-
tracting party. Consideration is the act or promise obtainable by
one party of the contract and acknowledged by the other party as
the cost or value of promise of the former party. In insurance con-

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tracts, the consideration is the premium that the policy owner pro-
vides to the insurance company as the cost of the promise that the
insurance company acknowledges to compensate. The insurer’s
consideration is its promise to pay the insured a certain amount in
the event of a peril happening or to perform activities as specified
in the contract.
‰‰ Capacity to contract: As per this requirement, every individual is
proficient to enter into a contract provided he/she is of the age of
majority that is 18 years of age as per the Indian law. Minors, peo-
ple of unsound mind, enemy, aliens and insolvent and bankrupt
people declared by the courts cannot enter into a valid contract.
Parties who have no legal capacity to contract include:
 Insane people who will not be in a position to understand the na-
ture (obligations and liabilities) of the agreement and abide by it.

S
 Intoxicated people who are under the influence of alcohol or
similar intoxicating substance.
 Any corporation that acts outside the scope of its charter, by-
IM
laws, articles of incorporation, or authority
 Minors

‰‰ Consensus ad idem: It is an essential element of the contract,

which clearly signals and proposes that the parties entering into
a contract need to be in sync with the intention and purpose of
M

getting into a contract. ‘Consensus ad idem’ signifies when two or

more people agree on the same thing in the same sense, they are
said to be consented. The parties should have a common under-
standing, consent and must be on same mental equilibrium as far
as the understanding of the purpose is concerned. There should
N

not be a dispute or mismatch of the understanding else the con-

tract will not hold its validity.
‰‰ Legality of object: It implies that the very purpose of the contract
should be legal in nature. The consideration or object of an agree-
ment should be legally recognised. Deliberation or object of an
agreement is considered to be against the law under the following
circumstances:
 Where a contract is illegal by law, or
 Where the contract is of such character that if acceptable, it
should not trounce the provisions of any law or is falsified or
deceptive in nature.
 Where the contract engrosses or entails damage to any individ-
ual or property of another.
 Where the law considers the contract as corrupt or depraved,
or conflicting to the public policy.
 Where the consideration or the purpose is against the law (is to
be termed as void).

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SELF ASSESSMENT QUESTIONS

6. There has to be an offer by one party and an _________________

by the other party.
7. Which of the following is the act or promise obtainable by one
party of the contract and acknowledged by the other party as
the cost or value of promise of the former party?
a. Offer and acceptance
b. Consideration
c. Capacity to contract
d. Legality of object
8. The consideration or object of an agreement should be legally

S
recognised. (True/False)
9. _______________ signifies that when two or more people
agree on the same thing in the same sense, they are said to be
consented.
IM
ACTIVITY

Meet any insurance agent. Discuss with him the requirements to

be considered before entering into any contract with the insured.
Prepare a report based on your findings.
M

SPECIAL FEATURES OF INSURANCE

4.4
CONTRACTS
N

Like any other contract, insurance contracts are also legal in nature.
However, there are some special features of insurance contracts that
differentiate these contracts from other legal contracts. Some special
features of the insurance contract are as follows:
‰‰ Insurance contracts are personal contracts: Some insurance con-
tracts protect the insured and not their property. This is because
insurance contracts cannot be transferred to another party, if the
property is sold to another. However, in the case of life insurance
contracts, ownership can be reassigned.
‰‰ Insurance contracts are aleatory contracts: This implies that in-
surance is a contract type in which the parties involved do not per-
form any action until the event occurs. The insurer does not have
to pay the insured until the event occurs. Aleatory contracts may
be a gain to one party but create a major loss for the other party.
‰‰ Insurance contracts are contracts of adhesion: This implies that
insurance contracts are offered to an insured on a take it or leave
it basis. The policy terms of the contract cannot be negotiated. Be-
cause the insured must accept the terms as stipulated, in disputes

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between the insured and the insurer, this feature leads courts gen-
erally favour the insured where policy ambiguity is concerned.
‰‰ Insurance contracts are conditional contracts: This implies that
insurance contracts are based on conditions. For instance, the pay-
ment of benefits is conditioned upon the premium by the insured. 

SELF ASSESSMENT QUESTIONS

10. Insurance contracts are not the contracts of adhesion. (True/

False)
11. Insurance is a contract type in which the parties involved do
not perform any action until the event occurs. Which special
feature of insurance does it signify?

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ACTIVITY

Using various sources, find the insurance contracts of some Indi-

an insurance companies. Prepare a report on the features of those
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contracts.

RELATION BETWEEN INSURANCE AND

4.5
ECONOMIC GROWTH
There is a direct relationship between insurance and economic growth
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of a country. India has a number of insurers who help in mobilising

domestic funds and managing risks of losses; thereby stimulating the
economic growth in the country. In this way, insurers serve as a means
for long-term financing of a country leading to sustained economic
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growth.

The insurance industry in India has significantly grown over the last
decade, which is evident from the increase in insurance premiums
and number of lives covered. The insurance industry has shown an in-
creased number of players and product innovations. The government is
also taking measures to enhance the insurance regulatory framework.

The growth of the industry has been fuelled by India’s rapidly grow-
ing consumer class, rising consumer awareness, increasing domestic
savings and investments. In India, according to data released in 2014,
the insurance industry is expected to grow at a speedy rate of 12-15%
Compound Annual Growth Rate (CAGR) in the next five years. To-
gether with banking services, insurance services contribute about 7%
of the country’s GDP. A well-developed and evolved insurance sector is
a vital element in economic development. It provides long-term funds
for infrastructure development and at the same time also strengthens
the country’s ability to take risks.

The life insurance sector is considered to be one of the world’s larg-

est sectors with approximately 36 crore policies in circulation. It may

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even overtake the US$ 1tn US insurance industry if it continues to

grow at a similar rate for the next seven years. The market size of the
Indian insurance industry is projected to be US$ 350-400 bn by 2020.
This has increased from US$ 66.4 bn in the year 2013.

Moreover, the general insurance business market of India is valued

at ` 77, 000 crores and is presently growing at a rate of 17 per cent
per annum. While the domestic health insurance business is valued at
`12,606 crores and makes up for a quarter of the total non-life insur-
ance business of India. India currently holds the 11th position in the
life insurance business out of 88 countries surveyed with a share of
around 2% in 2014.

4.5.1 LIFE AND GENERAL INSURANCE INDUSTRY IN

INDIA

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In the previous chapters, you have studied about the life and general
insurance industry. Both types of insurance safeguard the economic
worth of assets or life of an individual. For example, suppose an indi-
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vidual is the sole breadwinner of a family. His untimely death would
lead to financial hardship for survivors. That loss of income has to
be compensated with a considerable amount. The similar case also
applies to other forms of uncertainties such as disease or temporary/
permanent disability. The primary objective of buying a life insurance
policy is to give financial security to an individual and his family even
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after his death.

In India, LIC became the sole insurance provider and represented the
monopoly of the Government of India in the Indian insurance mar-
ket. The insurance industry transformed from a competitive one to
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a well-managed monopoly. The New Industrial Policy was formed in

fiscal year 1991 constituting new reforms in the Indian economy and
openings for foreign investors. The banking and finance industries
were reformed.

By the year 2000, the Indian Government paved the way for private
insurance firms by passing the IRDA Act. A number of global insurers
emerged into the Indian life insurance business. Important aspects of
this phase are as follows:
‰‰ Increase in number of private players such as DLF Pramerica Life
Insurance Company Limited and Aegon Religare Life Insurance
Company Limited
‰‰ Introduction of unit linked insurance plans (ULIPs) were intro-
duced by private players
‰‰ Innovation in distribution centres

With the age of consumerism, insurance requirements have increased.

Now, not only life insurance rules the insurance industry, general in-
surance also plays an important role in the industry. The general in-

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surance industry willingly caters to the increasing demand of individ-

uals and organisations and offers a surplus of insurance covers related
to the following:
‰‰ Insurance of property against fire, terrorism, theft, natural disas-
ters, etc.
‰‰ Personal insurance such as health insurance, liability insurance
‰‰ Errors and omissions insurance for professionals
‰‰ Insurance of motor vehicles against damage, theft or accident
‰‰ Marine insurance that covers goods in transit by sea, air, road, etc.

General insurance products are offered as package policies to house-

holds, doctors, industrialists, entrepreneurs, engineers, etc. In India,
there are four public sector units in the case of general insurance

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namely National Insurance Company Ltd., Oriental Insurance Com-
pany Ltd, The New India Assurance Pvt Ltd and United India Insur-
ance Company Ltd.
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In India, after the opening of the sector to private players, several new
and innovative products have been introduced. Some of these prod-
ucts were liability, corporate cover, professional indemnity policies,
burglary cover, individual and group health policies, weather insur-
ance, credit insurance and travel insurance. Some of these products
were completely new (weather insurance) while others were already
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available through public insurance companies but carried new fea-

tures by private players in India.

SELF ASSESSMENT QUESTIONS

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12. The government takes measures to enhance the insurance

regulatory framework. (True/False)

ACTIVITY

With the help of data available on the Internet, make a comparative

report on the relationship between the growth of life and general
insurance sectors in India.

INSURANCE REGULATORY AND

4.6 DEVELOPMENT AUTHORITY (IRDA)
ACT, 1999
IRDA bill was approved by the Indian Cabinet for liberalising the in-
surance sector in India, on March 16th, 1999. Subsequently, on De-
cember 7, 1999, the government passed the bill and an independent
IRDA was formed as a ten member body with the chairperson and

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nine other members, of whom not more than 5 members will be whole
time members.

IRDA is the authority set up to regulate the working of the insurance

sector in India and has various powers and privileges like issuing reg-
istration certificate and license, laying down the code of conduct, su-
pervising the performance of the insurer and making recommenda-
tions for the growth of the insurance sector in India. IRDA, since its
commencement as an autonomous body in April 2000, has regulated
the opening up of private players. As a result, only 13 life and 13 non-
life private companies initiated their operations in India.

IRDA Act was aimed at regulating, promoting and ensuring the order-
ly growth of the insurance industry. The motive was also to amend the
Insurance Act, 1938, the Life Insurance Corporation Act, 1956 and the
General Insurance Business (Nationalisation) Act, 1972.

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The role, functions and duties of IRDA according to Section 14 of
IRDA Act, 1999 are described as follows:
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‰‰ Issueto the applicant a certificate of registration, renew, modify,
withdraw, suspend or cancel such registration;
‰‰ Protection of the interests of the policy holders in matters concerning
assigning of policy, nomination by policy holders, insurable interest,
settlement of insurance claim, surrender value of policy and other
terms and conditions of contracts of insurance;
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‰‰ Specifying requisite qualifications, code of conduct and practical

training for intermediary or insurance intermediaries and agents
‰‰ Specifying the code of conduct for surveyors and loss assessors;
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‰‰ Promoting efficiency in the conduct of insurance business;

‰‰ Promoting and regulating professional organisations connected with
the insurance and re-insurance business;
‰‰ Levying fees and other charges for carrying out the purposes of this
Act;
‰‰ Calling for information from, undertaking inspection of, conducting
enquiries and investigations including audit of the insurers, inter-
mediaries, insurance intermediaries and other organisations con-
nected with the insurance business;
‰‰ Control and regulation of the rates, advantages, terms and condi-
tions that may be offered by insurers in respect of general insurance
business not so controlled and regulated by the Tariff Advisory Com-
mittee under section 64U of the Insurance Act, 1938 (4 of 1938);
‰‰ Specifying the form and manner in which books of account shall be
maintained and statement of accounts shall be rendered by insurers
and other insurance intermediaries;
‰‰ Regulating investment of funds by insurance companies;

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‰‰ Regulating maintenance of margin of solvency;

‰‰ Adjudication of disputes between insurers and intermediaries or in-
surance intermediaries;
‰‰ Supervising the functioning of the Tariff Advisory Committee;
‰‰ Specifying the percentage of premium income of the insurer to fi-
nance schemes for promoting and regulating professional organisa-
tions referred to in clause (f);
‰‰ Specifying the percentage of life insurance business and general in-
surance business to be undertaken by the insurer in the rural or so-
cial sector; and
‰‰ Exercising such other powers as may be prescribed
(Source: Irda.gov.in. ‘Duties, Powers and Functions Of IRDAI’.)

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SELF ASSESSMENT QUESTIONS

13. _________________ act was aimed at regulating, promoting

and ensuring the orderly growth of the insurance industry.
IM
14. IRDA, since its commencement as an autonomous body in
April 2000, has regulated the opening up of private players.
(True/False)

ACTIVITY
M

Using the Internet, prepare a report about the role played by IRDA
in the increase in Foreign Direct Investment (FDI) limit to 49%
from the earlier 26% in July, 2014.
N

4.7 SUMMARY
‰‰ Insurance principles help an insurer to settle claims and enforce
regulations based on which insurance agreements are built upon.
‰‰ The principles of insurance include principle of utmost good faith,
principle of insurable interest and principle of indemnity.
‰‰ An agreement that is enforceable by the law of the land is called a
contract. Any party entering into a contract with another is legally
bound to follow the terms and conditions of the contract.
‰‰ A contract of insurance comes into existence when there is an of-
fer from the person facing the risk and the insurer accepts the of-
fer by issuing the policy.
‰‰ Requirements of valid insurance contract are offer and accep-
tance, consideration, capacity to contract, consensus ad idem and
legality of object.
‰‰ Insurance contracts are personal contracts, aleatory contracts,
conditional contracts and contracts of adhesion.

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‰‰ The growth of the insurance industry has been fuelled by India’s

rapidly growing consumer class, rising consumer awareness, in-
creasing domestic savings and investments. In India, the insur-
ance industry is growing at a speedy rate of 12-15% Compound
Annual Growth Rate (CAGR) according to latest data released in
2014.
‰‰ IRDA is the authority set up to regulate the working of the insur-
ance sector in India. IRDA Act was aimed at regulating, promot-
ing and ensuring the orderly growth of the insurance industry. The
motive was also to amend the Insurance Act, 1938, the Life Insur-
ance Corporation Act, 1956 and the General Insurance Business
(Nationalisation) Act, 1972.

KEY WORDS

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‰‰ Contract: It refers to an agreement made between two parties
and enforceable by law.
‰‰ Economic growth: It is an increased capacity of an economy
IM
where resources are arranged in a valuable way and more goods
and services can be produced.
‰‰ Indemnity: It means to make good the loss or to compensate
the party who has suffered some loss.
‰‰ Insurance: It is a tool by which the risk of loss can be trans-
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ferred from one source to another by paying the consideration

and getting compensated in the event of loss or mishappening.
‰‰ Risk: It is the possibility of something going wrong that cause
the damage or injury and results in loss.
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4.8 DESCRIPTIVE QUESTIONS

1. Explain the principle of insurable interest.
2. What are the special features of insurance contracts?
3. How is economic growth related to the growth of insurance?
4. Give some highlights of the IRDA Act.
5. Describe the principle of indemnity.
6. Explain the requirements of an insurance contract.

4.9 ANSWERS AND HINTS

ANSWERS FOR SELF ASSESSMENT QUESTIONS

Topic Q. No. Answers

Principles of Insurance 1. a. Principle of
Contribution

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Topic Q. No. Answers

2. Insurable interest
3. True
4. Indemnity
5. Principle of contribution
Requirements for Insurance 6. Acceptance
Contract
7. b. Consideration
8. True
9. Consensus ad idem’
Special Features of Insurance 10. False
Contracts
11. Insurance contracts are

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aleatory contracts
Relation between Insurance and 12. True
Economic Growth
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velopment Authority (IRDA) Act,
1999
Principles of Insurance 14. True

HINTS FOR DESCRIPTIVE QUESTIONS

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1. An insurable interest shall arise when an individual will obtain

some type of financial benefit from the preservation of the object
to be insured or will sustain pecuniary loss from its destruction
or damage in the event of a catastrophe. Refer to Section 4.2
Principles of Insurance.
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2. Insurance contracts are personal contracts, aleatory contracts,

conditional contracts and contracts of adhesion. Refer to Section
4.4 Special Features of Insurance Contracts.
3. The insurance industry has shown an increased number of
players and product innovations. Refer to Section 4.5 Relation
between Insurance and Economic Growth.
4. IRDA is the authority set up to regulate the working of the
insurance sector in India and has various powers and privileges
like issuing registration certificate and license, laying down the
code of conduct, supervising the performance of the insurer
and making recommendations for the growth of the insurance
sector in India. Refer to Section 4.6 Insurance Regulatory and
Development Authority (IRDA) Act, 1999.
5. As per the principle of indemnity, an insurance contract is signed
only for getting safety against unexpected monetary losses
erupting due to potential uncertainties. Refer to Section 4.2
Principles of Insurance.

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6. A contract of insurance comes into existence when there is an

offer from the person facing the risk and the insurer accepts the
offer by issuing the policy. Refer to Section 4.3 Requirements for
Insurance Contract.

SUGGESTED READINGS FOR

4.10
REFERENCE

SUGGESTED READINGS
‰‰ Riegel, R., Miller, J., & Williams, C. (1976). Insurance principles and
practices. Englewood Cliffs, N.J.: Prentice-Hall.
‰‰ Arunajatesan S., Viswanathan R.T. (2009). Risk management and
insurance. 1st ed. New Delhi: MacMillan Publishers India Ltd.

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‰‰ Rejda E.G. (2011). Principles of risk management and insurance.
1st ed. Noida: Dorling Kindersley India Pvt. Ltd

E-REFERENCES
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‰‰ Irda.gov.in,.
(2015). IRDAI Welcomes You. Retrieved 5 November
2015, from https://www.irda.gov.in/Defaulthome.aspx?page=H1
‰‰ Mynewmarkets.com,. (2008). Unique Features of Insurance Con-
tracts - MyNewMarkets.com Articles about Property Casualty Insur-
ance CoveragesMyNewMarkets.com Articles about Property Casu-
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alty Insurance Coverages. Retrieved 5 November 2015, from http://

www.mynewmarkets.com/articles/95876/unique-features-of-insur-
ance-contracts
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 C H A
5 P T E R

LIFE INSURANCE

CONTENTS

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5.1 Introduction
5.2 Concept of Life Insurance
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5.2.1 Need for Buying Life Insurance
5.2.2 General Classifications of Life Insurance
Self Assessment Questions
Activity
5.3 Types of Life Insurance Policies/Products
Self Assessment Questions
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Activity
5.4 Tax Incentives for Life Insurance
Self Assessment Questions
Activity
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5.5 Computation of Life Insurance Premium

Self Assessment Questions
Activity
5.6 Life Insurance Contractual Provisions
Self Assessment Questions
Activity
5.7 Summary
5.8 Descriptive Questions
5.9 Answers and Hints
5.10 Suggested Readings for Reference

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INTRODUCTORY CASELET
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IMPORTANCE OF LIFE INSURANCE

Forty-two-year old Kshitij, worked for a manufacturing organisa-

tion. His wife, Reena also worked in an MNC and thus shared the
responsibility of paying out home loan. Unfortunately, Reena died
in a road accident and thus, Kshitij was left alone with the loan to
repay and a 15-year-old son, Arjun to care for.

It was only after this tragic incident did Kshitij realised how vul-
nerable he was financially. His son Arjun was a good student and
obtained good grades in his school and thus, Kshitij wanted to
provide best education to his promising son. A colleague who has
been through a similar situation advised him to consult a financial
adviser. Kshitij took his advise and approached a wealth manage-

S
ment firm who assigned a financial advisor for his account. Amol,
the financial advisor, prepared a financial plan for him so that his
finances and Arjun’s needs are taken care of in case something
unexpected happens to Kshitij. On Amol’s advise, Kshitij pur-
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chased a life insurance policy with an insured sum of ` 50 lakh
and a personal accident policy.

Life was going on smoothly for Kshitij. Unfortunately three years

later, he took half day off from office due to a severe headache.
By evening, his condition had worsened and he had to be rushed
to the hospital in an unconscious state. He was diagnosed with
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a massive brain hemorrhage and was declared dead by the doc-

tors. Without the financial planning, Arjun would have been left
orphaned and penniless when his father expired, but fortunately
Kshitij had nominated him as a beneficiary under his life insur-
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ance policy. He received ` 50 lakh through a trust fund set up by

the legal caretaker.

Arjun is now preparing for his medical entrance exams to become

a doctor. This shows the importance of life insurance policy in an
individual’s life.

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LEARNING OBJECTIVES

After studying this chapter, you will be able to:

>> Describe the concept of life insurance
>> Explain the types of life insurance policies
>> Discuss the tax incentives for life insurance
>> Describe the computation of life insurance premium
>> Explain the life insurance contractual provisions

5.1 INTRODUCTION
The previous chapter discussed about the insurance principles and con-
tracts. In this chapter, you will learn about the life insurance contracts.

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Life is full of uncertainties and risks and it is this uncertain nature of life
which forms the basis of insurance. Sometimes, a tragedy can leave the
survivors in a family to face hardships if there is no financial planning.
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It is not only human life which is at risk to unknown perils, any asset
of some economic value has risk in some form or the other attached to
it. For property, there is always a risk of damage such as damage to car
in an accident or destruction to a house because of earthquake of fire;
whereas, for human life, there is a risk of death, disability or ill health.
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Life insurance provides protection to a family against all types of fi-

nancial risks. An individual buys life insurance from an insurance
company, pays regular premiums to the insurance company, and thus
protects his or her family members from financial loss in case of an
uncertain event such as death of the individual. In such a case, the
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insurance company pays the sum assured to the family members. To

obtain this objective, the insurance company collects premium from
many persons exposed to similar risk and puts the amount collected
from each in a risk pool or life fund. Those who suffer the risk of the
insured event are compensated from this pool or fund. In this way, the
risk is transferred to insurer in consideration of an amount called pre-
mium. The insurance premium is calculated taking into consideration
factors such as mortality rate, age, gender, etc.

There are different types of life insurance policies that include term
life insurance, endowment plans, unit linked insurance plans and
whole life policy. There are also various contractual provisions in case
of life insurance that are necessary for maximising the benefits offered
by these contracts such as providing a grace period of one month for
premium payment, etc.

This chapter explores life insurance and its need and the types of life
insurance policies. The chapter also discusses the tax incentives pro-
vided by life insurance. In the end, the chapter explains computation
of life insurance premium and life insurance contractual provisions.

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5.2 CONCEPT OF LIFE INSURANCE

Insurance is defined as a financial tool to spread the loss caused by
a particular risk over a group of persons who are exposed to it and
who agree to insure themselves against the common risk. Many peo-
ple form a group voluntarily in order to share the loss and spread it
amongst the group members. So the larger the group, the more would
be the risk coverage.

Life insurance is an agreement under which one party agrees to pay

another party a given sum of money known as the sum assured upon
the happening of a particular event in exchange of the payment of a
consideration. A life insurance policy provides a financial security to
the insured individual’s family even after individual’s death.

The party that guarantees to pay in the event of a contingency is called

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insurer, the maximum amount that can be paid to the beneficiary is
called sum assured, and the person who is covered under the benefits
of the policy is called insured or assured. In case of life insurance, pay-
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ment is guaranteed to be given on the contingency commonly called as
death or life. The person who signs the application form and requests
to be covered (self or others) by insurance is called the proposer and
the consideration paid to purchase and renew the policy is called pre-
mium. The document which is an official declaration of the contract
between the insurer and the proposer is called policy.
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Life insurance doesn’t have a standard definition, but it is most common-

ly agreed to be defined as a contract between two parties where the insur-
er, in exchange of a consideration known as premium, either in lump sum
or in form of any other periodical payments, agrees to pay to the assured
or insured, or to the beneficiary/nominee , a stated sum of money on the
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happening of a particular event contingent on the duration of human life.

From the above description and definitions, the important features of

life insurance can be summarised as follows:
i It is a contract between two parties that relates to human life.
ii There need not be an express provision that the payment would be
due on the insurer upon the death of the person.
iii Under the contract, the insurer shall be liable for payment of lump
sum amount of money.
iv The amount is paid by the insurer either at the expiration of certain
period or on death of the person as the case may be.

5.2.1  NEED FOR BUYING LIFE INSURANCE

Life insurance is a financial device that provides a dual benefit of sav-

ings as well as security. The following benefits explain why this invest-
ment tool should be an integral part of a person’s financial plans and
one should consider buying a plan:

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‰‰ Provides coverage against risk of death: Life insurance policies

provide a financial cover for the financial hardships arising due to
the sudden death of the policyholder. In case of death of a policy-
holder, the insurer pays the amount of sum assured. Therefore, the
family is shielded from the financial strain due to unforeseen and
premature death of the policyholder who at times may be the sole
earning member of the family.
‰‰ Means of encouragement for savings: Life insurance premiums
lead to a long term savings. The need to make savings has a psy-
chological effect on the individual who gets compelled to save. Will-
ingly or forcibly when an individual saves over a period of time, a
decent corpus is built to meet the financial needs at various stages.
‰‰ Increases liquidity: Insurance facilitates and maintains liquidity
for an individual. An insurance policy can be easily surrendered in
case the policyholder is unable to pay the premium.

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‰‰ Leads to profitability: Unlike other forms of insurance, life insur-
ance is not only financial security, but also acts as a source of long
term investment. The insurers utilise the premium for investment
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in infrastructure and projects which offer assured returns. Insur-
ance is a perfect example for observing the elements of investment
which include:
 Long term savings
 Accrued capital
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 Return on investment and capital

 Additional returns
‰‰ Helps in unforeseen circumstances: A person who has the re-
sponsibilities of family can look at a life insurance policy as a fea-
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sible option. In the event of sudden illness, death or accident of

the sole earning member of family, an insurance policy helps the
dependents by providing financial funds for education, housing,
medical treatment etc. This is especially useful and true for middle
aged people with family’s expenses to take care of.
‰‰ Protects against creditors and eases claim settlement: Nowa-
days, due to use of information technology and regulatory chang-
es in the insurance industry, the claim settlement process is fairly
simple and easy. If the nomination on the policy is made and docu-
ments are in order, the claim settlement is fast and easy.
‰‰ Facilitates loan: Sometimes, financial institutions also offer short-
term and long-term loans against insurance policies for business
purpose or for domestic purposes. Thus, it may be possible for an
individual to meet unplanned life needs without compromising
the accrued benefits of the policy.
‰‰ Provides tax benefits: In order to encourage people to buy in-
surance, government gives various tax benefits on life insurance.
These benefits may be available on the premiums paid as well as

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on the claim proceeds. In some cases, where insurance is offered

by the employers, the money paid towards insurance premium is
deducted from the gross income and this becomes an investment.
‰‰ Provides mental peace: The main cause of stress for a person who
bears the responsibilities of a family is insecurity and uncertainty
in life. When a person has a life insurance policy, he/she is assured
that the financial needs of his/her family shall be taken care of in
the event of sudden death.

5.2.2  GENERAL CLASSIFICATIONS OF LIFE INSURANCE

There are four divisions of life insurance provided by the insurance

organisations:
‰‰ Ordinary life insurance: This is one of the oldest form of life in-

S
surance. This type of life insurance is purchased by single individ-
uals. The premiums are paid annually, half yearly or monthly.
‰‰ Industrial life insurance: This insurance provides coverage to the
IM industrial workers, who are unable to afford the insurance. The
high premiums are paid mostly on weekly basis. A fixed amount
is given on the accident or death. This type of life insurance has
diminished over the decades and a variation of this product called
Monthly Debit Ordinary (MDO) has emerged.
‰‰ Group life insurance: This is called a master policy in which cov-
erage is provided to a number of persons. It is generally purchased
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by the employer for its employees. The plans under group life in-
surance can be contributory or noncontributory. Contributory
plans are those plans in which both employer and employee share
the costs of the insurance whereas in case of non-contributory
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plans, only employer pays the insurance costs.

‰‰ Credit life insurance: This type of insurance is sold by financial
lending institutions to borrowers. This protects lenders and debtors
against the financial loss. The life of borrower is insured for the out-
standing balance of a loan. This balance is paid on the death of the
insured. This insurance decreases in amount as the loan is repaid.

SELF ASSESSMENT QUESTIONS

1. ___________ is defined as a financial tool to spread the loss

caused by a particular risk over a group of persons.
2. The larger the group, the less would be the spread of risk.
(True/False)
3. ____________ is called a master policy in which coverage is
provided to a number of persons.
4. Which type of insurance is sold by financial lending institutions
to borrowers?

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ACTIVITY

With the help of the Internet, list down the organisations providing
life insurance in India.

TYPES OF LIFE INSURANCE POLICIES/

5.3
PRODUCTS
In a life insurance contract, insurer promises to pay a designated
amount of money insured upon the death of the policy holder or the
insured person. This contract is being entered in exchange of the pre-
mium paid by the insured or the policy holder, the policy holder gen-
erally pays the insurance in a lump sum or in installments.

Life insurance products can be broadly classified into the following

S
two types:
‰‰ Packaged life insurance products: These are insurance products
that combine coverage from two or more types of life insurance,
IM
such as term insurance and unit-linked insurance into one prod-
uct. The benefits under these products are pre-defined and cus-
tomers have to select the plan that is nearest to this requirement.
Moreover, the ability of the LIC agent to explain the various plans
is a vital factor. Most LIC products fall under this category.
‰‰ Non-packaged life insurance products: These include coverage
M

from only one life insurance product. Here, two different insurance
products cannot be combined. These products have specific basic
features, such as endowment or money-back, which the custom-
er can select according to his/her rider benefits - accident cover,
disability benefits, critical illness cover, hospitalisation cover, etc.
N

These products cater to niche market and have profit potential.

The different types of life insurance are shown in Figure 5.1:

Types of Life
Insurance

Unit Linked
Term Life Endowment Whole Life
Insurance
insurance plans Policy
Plans

Figure 5.1: Types of Life Insurance

The types of life insurance policies are discussed as follows:

‰‰ Term life insurance: Term life insurance policy is a policy which
provides the benefit to the survivor family only if the death occurs
within the specified time period of the insurance term. These are
the most basic forms of life insurance. Such plans offer life cover

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without any savings / profits component. Due to the simple nature

of benefits, such plans are the most affordable form of life insur-
ance as premiums are cheaper compared to other life insurance
plans. Under term life insurance plans, a fixed sum of money – or
the sum assured – is paid to the nominated survivors if the policy-
holder expires over the policy term. If the policyholder survives
the period of insurance, there is no pay out.
The advantages of term life insurance policy are as follows:
 The term insurance plans are relatively easier to understand in
comparison to the other plans.
 The premium paid by the policy holder is exempted under the
section 80 C of Income Tax Act, 1961 for the sum paid towards
premium.
‰‰ Endowment plans: In the policy of the endowment, the policy

S
holder or the insured pays the premium on year to year basis and
in case of a death or the specified period of the policy a lump sum
amount is paid back to the policy holder. Benefits at the time of
IM maturity is the key differentiator between endowment plans and
term plans.
Term plans pay out the sum assured, along with profits, only in
case of an eventuality during the policy term. On the other hand,
endowment plans pay out the sum assured under both situations,
i.e., death and survival. Due to this complex benefit, endowment
plans have higher premiums associated with them. The premiums
M

paid for such plans are invested in asset markets – equities and
debts which yield profits in result.
The advantages of endowment policy are as follows:
N

 The endowment plans provide a mix combination of the sav-

ings as well as insurance, as a fixed amount is being paid at the
regular intervals which is against the premiums paid.
 The endowment policy is one of the flexible policies, as inves-
tor can opt for getting the fixed amounts on regular intervals
or they can plan of receiving the fixed amount at the end of the
insurance term.
‰‰ Unit Linked Insurance Plans (ULIP): Under these plans, a part
of the amount is being retained by the insurance companies to-
wards the insurance of the policy holder, while the part of the
funds are being invested by the insurance companies in the equity
or the fixed interest income instruments. ULIPs are a smaller sub-
set of the conventional endowment plan. Under these plans, the
sum assured or the investment portfolio if it’s higher, is paid out
on death/maturity.
The advantages of ULIPs are as follows:
 The insured person gets the benefit of insurance, and hence
his family is protected if he dies.

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 Every investor does not have the expertise of making invest-

ment in security market, hence through the Unit Linked In-
vestment scheme the investor can get the benefit of investing
in the securities market.

NOTE

There are certain dissimilarities between ULIPs and traditional

endowment plans. As suggested by the name, performance of
ULIP is linked to the performance of markets. Individuals buy-
ing ULIPS have the option to choose the plans with allocation
for investments in stock/debt markets. The value of the invest-
ment portfolio gets captured by the NAV (net asset value). You
may then say that ULIPs are similar to mutual funds. ULIPs dif-
fer in one aspect from mutual funds, i.e., they are a combination
of investment and insurance, on the other hand mutual funds

S
are a pure investment option.

‰‰ Whole life policy: This policy as the name suggests, is not time
IM
bound, in fact it covers a policyholder over his life. The whole life
insurance is an insurance plan wherein the coverage of the insur-
ance is for the whole life. The premium paid for this type of policy
is also much higher than the term insurance plans.
The policy expires only in case of an eventuality which is death
of the policyholder as there is no pre-defined policy tenure. The
M

whole life insurance plans are the best for individuals who are hav-
ing the long term horizons of investment and who can pay the pay-
ments easily for twenty to twenty five years.
The advantages of whole life policy are as follows:
N

 Under the whole life insurance policy, one gets the benefit of
tax under section 80C of Income Tax Act, 1961.
 The premiums under the whole life insurance are fixed, while
in other insurance plans, normally the premium keeps on
changing as individual gets older and older.

SELF ASSESSMENT QUESTIONS

5. In the _________ policy, the policy holder or the insured pays

the premium on year-to-year basis and in case of a death or
the specified period of the policy, a lump sum amount is paid
back to the policy holder.
6. Endowment plans have higher premiums. (True /False)
7. __________________ is a policy which provides the benefit to
the survivor family only if the death occurs within the specified
time period of the insurance term.

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ACTIVITY

Imagine yourself to be the earning head of a family of four (self,

wife/self, husband and two children). What factors will you consid-
er for buying insurance?

5.4 TAX INCENTIVES FOR LIFE INSURANCE

Income Tax Act, 1961 provides for the levy, administration, collection
and the recovery of income tax from the tax payer. The income tax is
applicable on the taxable income earned by an individual in his previ-
ous year. The tax is calculated as per the provisions laid in the act on
the total income of the previous year.

The act provides various allowances and deduction to be deducted

S
from the taxable income. Various investment options are provided in
the rules for which deduction from the total income is allowed.

The act allows deduction of the investment made in the life insurance
IM
policy and for the health insurance policy for the amount of premium
paid during the previous year by the tax payer. Thus, to encourage cit-
izens for savings and mobilise funds for infrastructure development,
the government offers tax benefits on the premium paid for life insur-
ance policies under Section 80C of the Income Tax Act 1961. Maturity
proceeds are also eligible for exemption under Section 10(10D) and
M

Section 10(10A)(iii). Therefore, life insurance policies can be used as

tax planning tool.

Deduction under Section 80C in respect of life insurance premium is

as follows:
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‰‰ Eligible assesse: Individual and/or Hindu undivided family.

‰‰ Maximum limit: Maximum deduction allowed under this Section
is INR 1.50 Lakh and the sum includes payment on other allow-
able investment option available Under Section 80C of the Income
Tax Act, 1961. It is to be further noted that combined maximum
limit of deduction under Section 80C & 80CCC & 80CCD (1) is INR
1, 50,000.
‰‰ Deduction limit: For policies issued on or after April 1, 2012, de-
duction is allowed only for premiums up to a maximum of 10% of
the sum assured. For policies issued before March 31, 2012, deduc-
tion is allowed only for premiums up to a maximum of 20% of the
sum assured.
‰‰ Allowable on payment: Under Section 80C, only life insurance
premium paid or deposited during the year are allowable as de-
duction.
‰‰ Disallowance: In case the policy is terminated willingly by the in-
sured or the insurer or by failure to pay any premium if any de-

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ductions have been claimed earlier, the amount shall be taxable as

income. There are two situations in this case:
 Singlepremium policy: If terminated within 2 years after the
commencement date
 Regular premium policy: If terminated before premiums have
been paid for 2 years

The insurance premium, paid for your parents, spouse, children or

any dependents, towards your life insurance policy, are eligible for de-
duction under Section 80 C. Please note that the insurance premium
paid for the members other than the above prescribed is not allowed
to be deducted. If the premium is paid for more than one policy then
the deduction is allowed for all the policies in a combined manner.

S
TAXABILITY OF MATURITY PROCEEDS

The maturity amount received from the insurance company for the
life insurance is exempted unless and until it falls under certain pro-
IM
visions. Under Section 10(10D), any sum plus bonuses received under
the life insurance policy are exempt other than the following:
a. Any sum received under Section 80 DD (3) or Section 80 DDA (3);
or
b. Any sum received under the keyman insurance scheme of the
policy.
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c. Any sum received for the policy taken after April, 2003 in which
any amount is paid over and above the 20% of the actual capital
sum assured. Thus, it means that only 20% of the capital sum
assured paid during the years in the form of premium is exempt
N

when the maturity amount is received. This amendment is of 20%

is made available in the Finance Act, 2003.
Source: http://www.incometaxindia.gov.in/

SELF ASSESSMENT QUESTIONS

8. The income tax act provides various allowances and deduction

to be deducted from the taxable income. (True/False)

ACTIVITY

Learn about Income Tax Act rules related to insurance. Make a list
of allowances and deductions.

COMPUTATION OF LIFE INSURANCE

5.5
PREMIUM
Rate making, which is also known as insurance pricing, is the process
of determination of what rates, or premiums, should be charged for

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insurance. A rate is the price per unit of insurance for each exposure
unit, which is a unit of liability or property with similar characteris-
tics. Premium is the payment made by the insured to the insurance
company against the promise made by the insurance company.

The life insurance premium can be single premium life insurance and
continuous premium life insurance. In single-premium life insurance,
a lump sum amount of cash is paid as premium. This kind of premi-
um paid throughout your life. The size of the death benefit depends
upon the amount invested, the health of the insured and the age of the
insured. On the other hand, in case of continuous premium life insur-
ance, premium is paid at regular intervals that may be yearly basis,
quarterly basis or monthly basis. Premium is paid at regular intervals
till the expiry of the insurance policy.

The main business objective of an insurer would always be to charge

S
an adequate premium to cover losses, expenses, and allow for a profit;
otherwise, the insurance company would fail to be sustainable. How-
ever, law regulates what insurance companies can charge, and thus,
both business and regulatory requirements must be met.
IM
A major challenge in setting premium is that actual losses and expens-
es are not known at the time of premium collection. Thus, various
factors are considered for calculating insurance premium.

Before learning the calculation of premium, we should know the fac-

tors that affect the premium calculation:
M

‰‰ Expenses: The insurance company generally incurs some expens-

es for its day to day functioning. These expenses generally include
the commission paid to agents, salaries of staff, and other expens-
es.
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‰‰ Expected yield of investment: The expected yield cannot be pre-

dicted exactly, hence the insurance company makes some provi-
sions about the same.
‰‰ Age of the insured: The age of the insured is another important
factor which is to be kept in mind. If the age of the insured is high-
er, in that case, the higher amount of premium is charged.
‰‰ Mortality rate: The mortality rates are prepared by various insur-
ance companies on the basis of their experience and various data
available on various public platforms. These rates are a tabular
representation of probability of losing the economic value of hu-
man life. The calculation is based on the compilation of the mortal-
ity rate and the sickness table. These are the tables which actually
correlate the probability of getting sick and die.

This is clear that life insurance premiums are mainly based on mor-
tality tables that tabulate the number of deaths for each age, which
includes a population of many people. In determining life insurance
premium, age is the most important factor in determining life expec-
tancy. Apart from this, there are other well-known factors that have a

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significant effect, such as the health of the individual, any illness, and
habits such as smoking drinking, etc.

For example, based on the mortality table, an actuary can estimate the
average age of death for a group of 55-year-old females, who smoke.

Let us learn the formula for calculation of premium:

Gross rate = Pure premium + Load

Where pure premium is determined by the actuarial tables, this pre-

mium is necessary for paying losses and expenses.

Loading is premium that is necessary for covering additional expens-

es such as sales expenses.

Gross premium (premium charged from the insured) = Gross rate ×

S
number of exposure units

Expense ratio = Load/ Gross rate

IM
Example: Mr. X wants to have life insurance from the ABC insurance
corporation LTD. The pure premium calculated by the actuaries is
5000 and the load to cover the selling expense and the profit margin is
600. Calculate the gross rate, gross premium and expense ratio.

Solution: The gross rate, gross premium and expense ratio can be
calculated as follows:
M

Gross Rate = Pure Premium + Load

Gross rate = 5000 + 600 = 5600
Gross Premium = Gross Rate × Number of Exposure Units
N

Gross Premium = 5600×1 = 5600

Expense Ratio = Load/Gross Rate
Expense Ratio = 600/5600 = 10.71 %

SELF ASSESSMENT QUESTIONS

9. ________ is premium that is necessary for covering additional

expenses such as sales expenses.
10. If the age of the insured is higher, in that case, the lower
amount of premium is charged. (True/False)

ACTIVITY

Refer to the Mortality Table available of IRDA (Indian Assured Lives

Mortality (2006-08) Ult.) and determine your age mortality rate.

Available on http://www.actuariesindia.org/subMenu.aspx?id=191
&val=Mortality_Table&AspxAutoDetectCookieSupport=1

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LIFE INSURANCE CONTRACTUAL

5.6
PROVISIONS
Unlike other insurance plans, in life insurance, there is a certainty
for the insurer that loss will occur thus, the insurer will have to pay
the death claim eventually if the policyholder continues to pay the
premiums. Life insurance will not be of any benefit to the insured if
the insurer cancels or exits the contract after collecting premiums for
many years, or by making changes in the policy terms and conditions
in other ways, such as changing the company’s bylaws or charter, or
by contesting that there were mistakes in the application.

There are various contract provisions that prevent an insurer from

canceling the insurance unilaterally to protect the policyholder’s in-
terest. Major contract clauses include the following:

S
‰‰ Entire contract clause: This clause gives importance to the ap-
plication filled by the proposer for life insurance and states that
it is an integral part of the contract. The insurer doesn’t have the
IM right to make changes in the contract without the insured knowing
about it. Further, the insurer cannot make any reference to other
documents, or anything else, such as the corporate bylaws or char-
ter, that can change the terms of the contract. Changes in terms of
the contract cannot be made without the policyholder’s consent.
‰‰ Incontestable clause: In case of a misrepresentation discovered
in the application form, the insurer can cancel the contract within
M

the first 2 years of the policy period. After 2 years, the incontestable
clause comes into picture, which prevents an insurer from cancel-
ing the contract even if it is found that there has been a misrep-
resentation. In short, the incontestable clause gives the insurer 2
N

years to probe and discover any material misrepresentations; once

this period is over, any death claim that arises shall be compulso-
rily paid by the insurer.
The only circumstances under which an insurer is allowed to deny
payment of a claim, or to cancel the policy during the incontest-
able period is:
 The insurance applicant had no insurable interest in the in-
sured
 The insured committed a major fraud, such as having someone
else take the physical examination,
 The beneficiary murders the insured
‰‰ Suicide clause: It is applicable to certain types of plans and it states
that in case the insured commits suicide within 2 years (1 year for
some policies) as per the policy, then the insurer is liable to refund
only the premium. The general reasoning in favour of paying for a
suicide claim is that the insured may be considered mentally ill. A
waiting period of two years is to rule out adverse selection.

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There is also a legal presumption against suicide. If the insurer

wanted to deny payment because of suicide, the burden of proof
would be on the insurer to prove that it was a suicide.
‰‰ Premium payments: The grace period of one month is given in
case of overdue premium. The main objective is not to suspend the
policy due to temporary shortage of funds.
‰‰ Change-of-plan provision: Most life insurance contracts have the
flexibility that let the policyholder change the type of plan to in-
corporate for changing conditions or different situations. If the
change is upgradation to a policy with a greater sum assured, then
the policyholder must pay the difference; if the required sum as-
sured is less, then the insurer refunds the difference to the policy-
holder.
‰‰ Assignment: In some cases, it may be possible to transfer a life

S
insurance to another party which is called an assignment. The in-
surer in such case needs to be informed of the transference; else,
the death claim will be paid to the beneficiary of the original poli-
IM
cyholder. Transference can be of two types:
 Absolute assignment: It transfers all rights of the policy to the
new owner.
 Collateral assignment: It assigns partial rights to a creditor to
serve as collateral for a loan to the policyholder. All other rights
are retained by the policyholder.
M

 Reinstatement: In case of lapsed policies, most contracts pro-

vide a reinstatement provision that allows the policyholder to
reinstate or revive the policy under certain conditions. The
policy can only be reinstated:
N

99 If the policy was not surrendered for its cash value

99 Ifit is reinstated within a certain time limit, typically 3 to 5
years
99 If the policyholder must provide evidence of insurability
99 If all overdue premiums plus interest is paid
99 If any policy loan must be repaid or reinstated with interest

Although the policyholder can simply buy another policy in

case of a lapse, there are several advantages in reinstating the
lapsed policy:
99 Lower premium due to the less age at the time of buying
lapsed policy
99 Higher cash values and, possibly, dividends
99 Avoidance of acquisition expenses
99 Continuation of time bound benefits

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‰‰ Misstatement of age: If age by the proposer at the time of policy

application is misstated, the face value of the policy is reduced or
increased to the amount that the paid premium would have bought
in case the correct age was given.

SELF ASSESSMENT QUESTIONS

11. Which of the following transfers all rights of the policy to the
new owner?
a. Absolute assignment b.  Collateral assignment
c. Premium assignment d.  Mortality assignment

ACTIVITY

S
List three other life insurance contractual provisions (apart from
those mentioned in the text) and make a note of their features.
IM
5.7 SUMMARY
‰‰ Life insurance is an agreement under which one party agrees to
pay a given sum of money known as the sum assured upon the
happening of a particular event contingent upon duration of hu-
man life in exchange of the payment of a consideration.
‰‰ In case of life insurance, payment is guaranteed to be given on
M

the contingency commonly called as death or life. The person who

signs the application form and requests to be covered (self or oth-
ers) by insurance is called the proposer and the consideration paid
to purchase and renew the policy is called premium.
N

‰‰ Different types of life insurance policies are term life insurance, en-
dowment plans, unit linked insurance plans and whole life policy.
‰‰ Income Tax Act allows deduction of the investment made in the
Life insurance policy and for the Health insurance policy for the
amount of premium paid during the previous year by the tax payer.
‰‰ For encouraging citizens for savings and mobilise funds for infra-
structure development, the government offers tax benefits on the
premium paid for life insurance policies under Section 80C of the
Income Tax Act 1961.
‰‰ Life insurance premiums are mainly based on mortality tables
that tabulate the number of deaths for each age, which includes a
population of many people. Factors affecting the calculation of life
insurance premium are expenses, yield of investment, mortality
rate etc.
‰‰ There are various contract provisions that prevent an insurer from
canceling the insurance unilaterally to protect the policyholder’s
interest such as entire contract clause, incontestable clause etc.

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KEY WORDS

‰‰ Mortality rate: It is a measure of number of deaths in a population.

‰‰ Nominee: It refers to a person who appoints another person to

act on his/her behalf on a particular matter in his/her absence.
‰‰ Premium: The money paid as a consideration for a specified
sum assured.
‰‰ Sum assured: The risk cover amount promised by the insurer.
‰‰ Unit Linked Insurance Plan (ULIP): A life insurance policy
that provides insurance as well as saving cover to an individual.

5.8 DESCRIPTIVE QUESTIONS

S
1. Describe the importance of purchasing life insurance policy.
2. Explain the difference between term life insurance and
endowment life insurance policy.
IM
3. What tax incentives are available for life insurance?
4. Explain the factors affecting the premium computation.

5. Write a note on life insurance contractual provisions.

5.9 ANSWERS AND HINTS

M

ANSWERS FOR SELF ASSESSMENT QUESTIONS

Topic Q. No. Answers

N

Concept of Life Insurance 1. Insurance

2. False
3. Group life insurance
4. Credit life insurance
Types of Life Insurance 5. Endowment
Policies/Products
6. True
7. Term life insurance policy
Tax Incentives for Life 8. True
Insurance
Computation of Life Insurance 9. Loading
Premium
10. False
Life Insurance Contractual 11. a.  Absolute assignment
Provisions

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HINTS FOR DESCRIPTIVE QUESTIONS

1. Life insurance is a financial device that provides a dual benefit of
savings as well as security. Refer to Section 5.2 Concept of Life
Insurance.
2. Term life insurance policy is a policy which provides the benefit
to the survivor family only if the death occurs within the specified
time period of the insurance term whereas in the endowment
policy, the policy holder or the insured pays the premium on year
to year basis and in case of a death or the specified period of the
policy a lump sum amount is paid back to the policy holder. Refer
to Section 5.3 Types of Life Insurance Policies/Products.
3. To encourage citizens for savings and mobilise funds for
infrastructure development, the government offers tax benefits
on the premium paid for life insurance policies under Section 80C

S
of the Income Tax Act 1961. Refer to Section 5.5 Tax Incentives
for Life Insurance.
4. Various factors are considered for calculating insurance premium,
IM
such as expenses, yield of investment, mortality rate etc. Refer to
Section 5.6 Computation of Life Insurance Premium.
5. There are various contract provisions that prevent an insurer from
canceling the insurance unilaterally to protect the policyholder’s
interest such as entire contract clause, incontestable clause etc.
Refer to Section 5.7 Life Insurance Contractual Provisions.
M

SUGGESTED READINGS FOR

5.10
REFERENCE
N

SUGGESTED READINGS
‰‰ Elliott,C., & Vaughan, E. (1972). Fundamentals of risk and insur-
ance. New York: Wiley.
‰‰ Rejda, G. (2008). Principles of risk management and insurance. Bos-
ton: Pearson/Addison Wesley.
‰‰ Trieschmann, J., Gustavson, S., & Hoyt, R. (2001). Risk manage-
ment & insurance. Cincinnati, Ohio: South-Western College Pub.
‰‰ Williams,C., & Heins, R. (1976). Risk management and insurance.
New York: McGraw-Hill.

E-REFERENCES
‰‰ Incometaxindia.gov.in,. (2015). Income Tax Department. Retrieved
4 November 2015, from http://www.incometaxindia.gov.in/_lay-
outs/15/dit/pages/viewer.aspx?grp=act&cname=cmsid&cval=102
120000000037028&opt=&isdlg=1

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‰‰ Irda.gov.in,.
(2015). The IRDA Act 1999. Retrieved 4 November
2015, from https://www.irda.gov.in/ADMINCMS/cms/frmGener-
al_Layout.aspx?page=PageNo108&flag=1&mid=Insurance%20
Laws%20etc.%3E%3EActs
‰‰ Taxguru.in,. (2014). Sec. 80C Amendments to Life insurance policies
& TDS there on. Retrieved 4 November 2015, from http://taxguru.
in/income-tax/latest-amendments-life-insurance-policies-eligi-
ble-deduction-80c-income-tax-act-1961-tds.html

S
IM
M
N

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 C H A
6 P T E R

ANNUITIES AND RETIREMENT BENEFITS

CONTENTS

S
6.1 Introduction
6.2 Concept of Annuities
IM
6.2.1 Types of Annuities
6.2.2 Features of Annuities
6.2.3 Tax Treatment of Annuities
Self Assessment Questions
Activity
6.3 Examples of Annuity Plans in India
M

6.4 Retirement Risk

6.4.1 Causes of Retirement Risk
6.4.2 Types of Retirement Risk
6.4.3 Managing a Retirement Plan
N

Self Assessment Questions

Activity
6.5 Summary
6.6 Descriptive Questions
6.7 Answers and Hints
6.8 Suggested Readings for Reference

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INTRODUCTORY CASELET
N O T E S

RELIANCE IMMEDIATE ANNUITY PLAN

Reliance Immediate Annuity provides individuals an opportunity

to earn a regular income for their entire life. This is a single pre-
mium plan where individuals pay a certain lump sum amount and
select a suitable annuity option according to their needs. Depend-
ing on the selected annuity option and pay out frequency, indi-
viduals start getting regular annuity income. Some of the reasons
why individuals buy annuity are as follows:
‰‰ Earnings are converted into regular income
‰‰ Regular income can be obtained for entire life
‰‰ Tax benefits can be achieved

S
Some of the benefits of the Reliance Immediate Annuity plan are
as follows:
‰‰ Onetime payment: Individuals have to pay the premium only
IM
once.
‰‰ Entire life guaranteed income: Individuals receive guaran-
teed income for their entire life.
‰‰ Flexibility: This plan offers individuals to select from three
different annuity pay-out options: life annuity, life annuity
with return of purchase price and life annuity guaranteed for
M

5, 10 and 15 years and payable for life henceforth. This plan

also offers the flexibility to individuals to choose the annual
pay-out frequency, that is, monthly, quarterly, half-yearly or
annually.
N

Apart from these benefits, the Reliance Immediate Annuity plan

provides individuals ease of enrolment in terms of non-require-
ment of medical tests and tax benefits on the premiums paid and
benefits obtained according to appropriate Indian tax laws.

Working of the Reliance Immediate Annuity Plan

Suppose Mr. Harish chooses an annuity plan, which is life annuity

with the return of purchase price on death, and selects the an-
nuity pay-out frequency. He pays a one-time premium of ` 5, 00,
000 (excluding service tax). He gets a regular guaranteed monthly
income of ` 2371 (or ` 28,455 annually). He enjoys regular month-
ly income for his entire life. Now, suppose Mr. Harish dies at 80
years. In that case, the total income he gets till his death will be
` 5.7 lakh. The nominee of Mr. Harish will receive the purchase
price of ` 5 lakh (that is, the premium paid excluding service tax)
as lump sum death benefit.
(Source: http://www.reliancelife.com/life-insurance-plans/retirement-plans/reliance-im-
mediate-annuity-plan)

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LEARNING OBJECTIVES

After studying this chapter, you will be able to:

>> Explain the concept of annuities
>> Describe examples of annuity plans in India
>> Explain retirement risk

6.1 INTRODUCTION
In the previous chapter, you have studied the concept of life insur-
ance, types of life insurance, life insurance products, tax incentives for
life insurance, computation of life insurance premium and life insur-
ance contractual provisions. This chapter will focus on annuities and

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retirement benefits.

An annuity is an insurance product that pays out income and is ap-

plied as part of a retirement strategy. Investors use annuities for ob-
IM
taining a steady income stream in retirement. An individual makes an
investment in the annuity, and then it makes payments to him/her on
a future date. The income the individual receives from an annuity can
be distributed out monthly, quarterly, annually or even in a lump sum
amount. The payments of individuals are estimated by various factors,
such as the length of the individual’s payment period.
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Individuals can receive payments for the rest of their life, or for a cer-
tain number of years. The amount the individuals receive depends on
whether they opt for a guaranteed payout, also called fixed annuity,
or a payout stream estimated by the performance of the individual’s
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annuity’s underlying investments, also known as variable annuity.

While annuities can be useful retirement planning tools, they can

also pose retirement risks for some individuals because of their high
expenses. There are several financial planners and insurance sales-
men who will regularly try to convince individuals in various stages
towards retirement into annuities. Thus, individuals who consider an
annuity need to conduct their own research regarding the benefits
and applicability before deciding whether it is an appropriate invest-
ment to make.

This chapter explores the concept of annuities and provides examples

of annuity plans of Indian insurance companies. In addition, it dis-
cusses retirement risk.

6.2 CONCEPT OF ANNUITIES

An annuity is defined as a contract that provides periodic payments
for a certain period of time, such as a number of years or for life. The
payments may start on a specified date and may be payable for a cer-

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tain number of years or for the duration of an individual’s life. The

individual whose life governs the duration of the payments is called
the annuitant.

Annuity is also a risk sharing plan just like insurance. In this, the an-
nuitant pays the premium whereas the insurer pays the given amount
periodically, depending on the annuity plans and conditions. Thus,
annuity can be defined as a contract in which an annuitant makes
lump sum or periodic payments to the insurer and in return, the in-
surer agrees to give the annuitant a lump sum payment in the future
or regular guaranteed payments either on a monthly or yearly basis.

Let us learn some definitions of annuities:

According to W.A. Dinsdale, Annuity may be defined as the payment of

amounts periodically during lifetime of the annuitant in consideration

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of the payment of an agreed sum to insurance company.

According to Mayerson, The life annuity is a device that liquidates the

annuitant’s capital over the life time, paying him an income comparing
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both interest on his money and portion of principal.

Annuity as a contract is sold by life insurance companies. It provides

fixed or variable payments to the annuitant, immediately or at a fu-
ture date.

Individuals generally purchase an annuity to accumulate funds so that

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they can be a source of income after retirement. Annuity is required

for maintaining an upgraded life standard after retirement and meet-
ing the medical needs in old age.

The basic function of a life annuity is that of liquidating a principal

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sum, regardless of its accumulation. Life annuity mainly provides cov-

er against the risk of outliving an individual’s income. It may comprise
the liquidation of a sum derived from an individual’s savings (includ-
ing the annuity itself or the cash value of life insurance policies) or the
liquidation of life insurance death benefits in the form of a life income
to beneficiary of the policy.

There are generally three types of annuities:

‰‰ Immediate annuity: This type of annuity is purchased with a sin-
gle premium and is also called straight life annuity. Payment for
the annuity begins after three months, six months or one year af-
ter the purchase of the annuity. The payment can be in form of
monthly, quarterly or yearly instalments. The annuity ceases on
the death of the annuitant.
‰‰ Immediate annuity certain: This type of annuity is similar to im-
mediate annuity with the difference that this annuity plan contin-
ues after the death of the annuitant. After the death of the annu-

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itant, within a certain period, the remainder of the payments are

paid to the beneficiary.
‰‰ Deferred annuity: In this type of annuity plan, the annuity pay-
ments are not paid immediately but are instead scheduled for a
payment sometime in the future. The benefits under deferred an-
nuity become payable only after some specific period, called the
deferment period.

There are other ways to categorise the annuity types. These types are
discussed in the next section.

NOTE

We shall refer to annuities throughout this chapter as annuity con-

tracts or annuity policies or simply annuity as either terms are cor-

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rect. We shall refer to the owner of the annuity interchangeably as
the annuitant, the policy owner, or the contract holder.
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EXHIBIT

Difference between Annuity Policies and

Life Insurance Policies

The following table lists the main differences between annuity pol-
icies and life insurance policies:
M

Annuity Policies Life Insurance Policies

Annuity is protection against living Life insurance is protection

too long and acts as a financial pro- against the risk of death.
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tection in the case of retirement of

an individual.

Annuity policies liquidate gradually. Life insurance policies accumu-

late funds gradually.

Generally, payment stops on the Payment is given on the death of

death of the annuitant. the insured.

The premium is calculated on the The premium is calculated on the

longevity of the annuitant. mortality estimate of the insured.

Annuity policies are taken for one’s Insurance policies are taken for
own benefit. the dependent’s benefit.

6.2.1  TYPES OF ANNUITIES

There are a variety of ways to categorise annuities. One of the tradi-

tional classifications is shown in Figure 6.1:

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Types of
Annuities

Fixed Variable Other Types of

Annuities Annuities Annuities

Figure 6.1: Types of Annuities

Let us now study these types in detail.

‰‰ Fixed annuities: In fixed annuities, insurance companies usually

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guarantee the principal amount and a minimum rate of interest.
Thus, there is stability of income in fixed annuities. The growth of
the annuity’s value and/or the benefits paid may be fixed at a cer-
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tain amount or by an interest rate, or they may grow by a specified
formula and this growth does not depend directly on the perfor-
mance of the investments the insurance company makes to sup-
port the annuity.
‰‰ Variable annuities: In these annuities, the income payment var-
ies as per the movement in stocks. Money in a variable annuity is
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invested in a fund, such as a mutual fund. The fund has a specific

investment objective, and the value of an individual’s money in a
variable annuity and the amount of money to be paid out to the
individual is estimated by the investment performance (net of ex-
penses) of that fund.
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‰‰ Other types of annuities: There are other types of annuities that

are available in fixed or variable forms. These types of annuities
are shown in Figure 6.2:

Other Types of
Annuities

Fixed Period Qualified vs. Single Premium vs.

vs. Lifetime Non-Qualified Flexible Premium
Annuities Annuities Annuities

Figure 6.2: Other Types of Annuities

Let us now study these types in detail.

‰‰ Fixed period vs. lifetime annuities: A fixed period annuity pays an
income for a certain period of time, such as ten years. The amount
paid does not depend on the age (or continued life) of the individ-
ual who purchases the annuity; instead, the payment depends on

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the amount paid into the annuity, the duration of the payout peri-
od, and (in case of a fixed annuity) an interest rate that the insur-
ance company believes it can support for the length of the payout
period. A lifetime annuity provides income for the remaining life
of an individual. The amount paid depends on the age of the indi-
vidual, the amount paid into the annuity, and (in case of a fixed an-
nuity) an interest rate that the insurance company believes it can
support for the duration of the expected payout period. In case of a
“pure” lifetime annuity, the payments are not carried out when the
individual dies, even if it is for a very short time after they began.
Thus, several annuity buyers are uncomfortable at this possibility
which leads them to add a guaranteed period, essentially a fixed
period annuity, to their lifetime annuity. With this combination, if
an individual dies before the fixed period ends, the income con-
tinues to the individual’s beneficiaries until the end of that period.

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‰‰ Qualified vs. non-qualified annuities: Qualified annuities are
purchased with pre-tax money. They are used to invest and dis-
burse money in a tax-favoured retirement plan. These annuities
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offer attractive tax benefits as they help to reduce taxable income
and accumulate tax-deferred earnings.
A non-qualified annuity is an annuity that is purchased from af-
ter-tax money. Payments from a non-qualified annuity are not sub-
ject to income tax.
‰‰ Single premium vs. flexible premium annuities: A single premi-
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um annuity is a type of annuity that is funded by a single payment.

This payment might be invested for growth for a long duration of
time, called a single premium deferred annuity or invested for a
short duration of time, after which payout starts, called a single
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premium immediate annuity. Single premium annuities are most-

ly funded by rollovers or from the sale of an appreciated asset. A
flexible premium annuity is a type of annuity that is intended to be
funded by a series of payments. These annuities are only deferred
annuities, that is, they are structured to have a significant period
of payments into the annuity along with investment growth before
any money is withdrawn from them.

6.2.2  FEATURES OF ANNUITIES

Irrespective of the classification or type of annuity, there are features

that remain common to all of them. In this section, we shall summarise
these features:
‰‰ Suitable for future estate planning: In most situations, proceeds
from an annuity are passed directly to the beneficiary or estate of
an annuitant without any delay or additional expenses. The proce-
dure is simple so it saves the beneficiary from the legal complica-
tions, expenses and unnecessary delays.

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‰‰ Tax deferral: Earnings on a deferred annuity account are taxed

only upon withdrawal, offering the annuity with a tax benefit. This
type of annuity also offers a death benefit, so that the beneficia-
ry of the annuity is guaranteed the principal and the investment
earnings.
‰‰ No limit to contribution: An annuitant can contribute as much
as he/she wants in order to avail the tax benefits of tax-deferral or
variable accounts. The contribution can be made up to the maxi-
mum limit offered by the insurer.
‰‰ Flexible payment options: Many annuity schemes offer the choice
to decide when to begin receiving payments. Usually one of the
following options can be selected:
 Lump sum distribution, which is a one-time payment

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 Periodic distributions, which allow the contract holder to take
money when required
 Systematic distributions in which a fixed or variable amount is
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disbursed at regular intervals
 Annuitisation, which guarantees fixed or variable payments
for the rest of life period.
‰‰ Tax control: An annuity is typically composed of two financial
components:
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 Principal

 Earnings

If an annuity plan is purchased with an after-tax amount, only the

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earnings would be eligible for tax deductions.

In case of plans where payments are of the following modes: lump
sum, periodic, and systematic distributions, when the payments
commence, firstly the taxable earnings component is exhausted
followed by the principal. In cases of annuitisation, principal and
interest form the component of each payment, hence distributing
tax liability evenly among payments. However, annuities may not
always be the only option for tax control. In case of premature
death of the contract holder, for any annuity that is accumulating,
all deferred taxes on its growth will become due, thus reducing the
annuity’s value.
‰‰ Easy to start and maintain: The process of purchasing and re-
newing annuities is a simple one which requires an application to
be filled and signed by the proposer along with the fee.
‰‰ Miscellaneous features: Annuities do not offset social security
benefits such as bond, certificate of deposit and other investment
income.

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Annuities are easy to buy and have an option of a “free look period”
where a person can cancel the contract if it does not suit the require-
ments.

Previous annuities can be replaced with newer fixed annuity without

any tax consequence.

6.2.3  TAX TREATMENT OF ANNUITIES

Government of India (GOI) provides many tax provisions as well as

benefits for the insured. The tax rebates and exemptions under insur-
ance plans are applicable under Section 88, 80D, 80 DDA, 80 CCC (I)
and 10 D(D) of the Income Tax Act.

Let us discuss the tax treatment of annuities as follows:

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Tax Treatment under Section 88 in Case of Annuities

Deductions under 80C of the Income Tax Act are allowed on savings
up to ` 100,000 in a financial year with the following conditions:
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‰‰ Any sum paid by on individual in order to effect or to keep in force a
contract for deferred annuity, on his own life or the life of his spouse
or any child, provided such contract does not contain a provision for
the exercise by the insured of an option to receive a cash payment in
lieu of the payment of annuity.
‰‰ Any sum deducted in accordance with the conditions of salary from
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the salary payable by or on behalf of the government to any individ-

ual for the purpose of securing to him a deferred annuity or making
provision for his spouse or children. The sum deducted should not
exceed 1/5th of his salary.
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‰‰ Payment made by an individual to effect or keep in force a contract

for notified annuity plan of insurance company.
‰‰ Any contribution by an individual to a notified pension fund set up
by
 any mutual fund referred in Section 10(23D)
 the administrator or the specified company as referred to in Sec-
tion 2 of the Unit Trust of India

Tax Implication on Receipt of Annuity

The following is the tax implication on receipt of annuity:

‰‰ Amount received from pension fund is taxable: The amount
standing to the credit of the assesse in pension account, for which a
deduction has already been claimed by him, and accretions in such
account, shall be taxed as income in the year in which such amounts
are received by the assesse or his nominee on closure of the account
or his opting out of the said scheme or on receipt of pension from
annuity plan. Annuity which is received from insurance policies is
taxable as income from other sources.

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SELF ASSESSMENT QUESTIONS

1. In__________________, insurance companies usually guarantee

the principal amount and a minimum rate of interest.
2. Qualified annuities are purchased with pre-tax money. (True/
False)
3. ____________is also called straight life annuity.

ACTIVITY

Identify any two insurers of your choice and from their website,
download the annuity policy offered. Compare and contrast the
two.

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EXAMPLES OF ANNUITY PLANS IN
6.3
INDIA
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Annuity plans are usually characterised by their low returns, lack of
tax benefits and complex product structure. However, immediate an-
nuity plans, which provide lifelong income benefits at monthly, quar-
terly or annual intervals, are a good fit for investors who value certain-
ty over everything else.
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Immediate annuity plans in India are provided by the Life Insurance

Corporation of India (LIC) and private sector life insurers like HDFC
Life, MAX Life, Birla Sun Life and ICICI Pru Life.

Let us now study these plans in detail in the subsequent sections.

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6.3.1  LIC JEEVAN AKSHAY 6 PLAN

LIC Jeevan Akshay 6 Plan is a single premium immediate pension

plan. It is a non-unit-linked pension plan. In this plan, a lump sum
amount of the premium is paid to purchase the annuity that starts
immediately without any delay.

An individual can select from six pension options under this plan.
However, once an option is selected, it cannot be changed as the pen-
sion starts immediately without delay. Annuity may be paid in differ-
ent time intervals, such as monthly, quarterly, half-yearly or yearly in-
tervals. It begins from the next possible interval as selected.

Some of the key features of this plan are as follows:

‰‰ This plan is an immediate pension plan.
‰‰ There are six options available for pension, which are:
 Annuity for life: Here, pension is paid till the annuitant is alive
and nothing is payable on death.

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 Annuity guaranteed for specific periods: Here, pension is

definitely paid for 5/10/15 or 20 years as selected whether the
annuitant is alive or not and is paid as long as the individual is
alive.
 Annuity with return of purchase price on death: Here, pen-
sion is paid till the annuitant is alive and the remaining amount
of the corpus is paid to the nominee as death benefit.
 Increasing annuity: Here, pension is paid till the annuitant is
alive at an increasing rate of 3 per cent p.a.
 Joint life last survivor annuity (a): Here, pension is paid till
the annuitant is alive. On the death of the annuitant, 50 per
cent of the pension is payable to the spouse as long as the
spouse is alive.

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 Joint life last survivor annuity (b): Here, pension is paid till
the annuitant is alive. On the death of the annuitant, 1000 per
cent of the pension continues to be payable to the spouse as
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long as the spouse if alive.
‰‰ Annuity may be paid at certain time intervals, such as monthly,
quarterly, half-yearly or yearly.
‰‰ There is an incentive for purchase of ` 1.5 lakhs of annuity or more.

Some of the major benefits of this plan are as follows:

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‰‰ Death benefit: In case of death of the annuitant, it entirely de-

pends on the pension option selected. These options are as follows:
 Annuity for life: Pension ceases when the annuitant dies and
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nothing further would be payable to the nominee.

 Annuity guaranteed for specific periods:
99 During the guaranteed period: Pension is paid to the
nominee till the end of the guaranteed period after which
it ceases.
99 After the guaranteed period: Pension ceases when the an-
nuitant dies and nothing further would be payable to the
nominee.
 Annuity with return of purchase price on death: Pension
ceases when the annuitant dies and the remaining amount is
paid to the nominee.
 Increasing annuity: Pension ceases when the annuitant dies
and nothing further would be payable to the nominee.
 Joint life last survivor annuity with 50 per cent pension for
spouse: When the annuitant dies and the spouse survives, 50
per cent of the pension continues as long as the spouse is alive

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and ceases thereafter. Nothing further would be payable to the

nominee.
 Joint life last survivor annuity with 100 per cent pension for
spouse: When the annuitant dies and the spouse survives, 100
per cent of the pension continues as long as the spouse is alive
and ceases thereafter. Nothing further would be payable to the
nominee.
‰‰ Maturity benefit: There is no provision for maturity benefit be-
cause this is a plan to protect the risk of living too long. Pension is
provided immediately according to the option selected.
‰‰ Income tax benefit: Premiums paid under life insurance policies
are exempted from tax under Section 80 C. Pension that is received
is taxable.

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The eligibility criteria and other restrictions under this plan are de-
picted in Table 6.1:
IM TABLE 6.1: ELIGIBILITY CRITERIA AND OTHER
RESTRICTIONS UNDER LIC JEEVAN AKSHAY 6 PLAN
Minimum Maximum
Purchase Price of Annuity (in `) 50,000 No Limit
Annuity Payout (in `) 3000 Annually, 2000 Half No Limit
yearly, 1000 Quarterly and
500 Monthly
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Premium Payment Term (in years) Single

Entry age of Policyholder (in years) 40 79
Payment modes for Annuity Yearly, Half-yearly, Quarterly of Monthly
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EXHIBIT

SAMPLE ILLUSTRATION OF ANNUITY PAYOUTS FOR LIC

JEEVAN AKSHAY 6 PLAN
The below illustration is for a healthy Male (non-tobacco user) opting for a Purchase
Price= ` 1,00,000
Annuity Option= Life Annuity
Annuity Mode= Yearly

50 Years 8140
Deferment Period

45 Years 7770

40 Years 7510

40 Years 45 Years 50 Years

 Premium 7510 7770 8140
(Source: http://www.myinsuranceclub.com/life-insurance/companies/
lic-of-india/jeevan-akshay)

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6.3.2  HDFC LIFE ANNUITY PLAN

HDFC Life New Immediate Annuity Plan is a non-linked traditional

annuity plan that provides annuitants different annuity options and
offers the individual an opportunity to live life on his/her terms even
after retirement.

Some of the features of this plan are as follows:

‰‰ Guaranteed income as long as the partner of the annuitant lives
‰‰ Availabilityof different annuity options to cater to the annuitant’s
diverse requirements
‰‰ Flexibilityto select the duration of annuity from monthly/quarter-
ly/half-yearly/annual options

Some of the advantages of this plan are as follows:

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‰‰ Guaranteed income as long as the annuitant or his/her partner
lives at a frequency of his/her choice, that is, monthly/quarterly/
half-yearly/annual options
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‰‰ Benefit from higher annuity rates at an investment of ` 2,50,000
or higher
‰‰ Death benefit on specific annuity options that offer return of pur-
chase price or annuity to the annuitant’s spouse
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The eligibility criteria under HDFC Life New Immediate Annuity

Plan are shown in Table 6.2:

TABLE 6.2: ELIGIBILITY CRITERIA UNDER HDFC LIFE

NEW IMMEDIATE ANNUITY PLAN
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Min-Max entry age 30-85 years

Min-Max Yearly annuity payout ` 100,000 - No limit
Min-Max half-yearly annuity payout ` 5,000 - No limit
Min-Max quarterly annuity payout ` 3,000 - No limit
Min-Max monthly annuity payout ` 1,000 - No limit
Age has to be taken as of “last birthday” basis

6.3.3  MAX LIFE ANNUITY PLAN

The Max Life Guaranteed Lifetime Income Plan is a non-linked tra-

ditional annuity plan that guarantees a constant income source after
the annuitant’s retirement. The minimum entry age (age at last birth-
day) for annuitants to be eligible under this annuity plan is 50 years
while the maximum is 80 years. Annuity payment modes are annual,
semi-annual, quarterly or monthly. Besides, there is no limit for both
the minimum and the maximum purchase price.

The following are the various annuity options available under this
plan:

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‰‰ Single life annuity for life (without any death benefit): A certain
amount, guaranteed at the policy inception, will be paid to the an-
nuitant throughout his/her life.
‰‰ Single life annuity for life with return on the premium payable
on death: A certain amount, guaranteed at the policy inception,
will be paid to the annuitant throughout his/her life. On his/her
death, 100 per cent of the purchase price (excluding service tax)
will be paid to the nominee of the annuitant.
‰‰ Joint life annuity for life (without any death benefit): A certain
amount, guaranteed at the policy inception, will be paid as long
as one of the annuitants is alive. Payments will stop when the last
annuitant dies.
‰‰ Joint life annuity for life with return of premium payable on
death of last annuitant: A certain amount, guaranteed at the pol-

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icy inception, will be paid as long as one of the annuitants is alive.
When the last annuitant dies, 100 per cent of the purchase price
(excluding service tax) will be paid to the nominee of the annuitant.
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The working of this plan is as follows:
1. The annuitant selects a one-time lump sum amount that he/she
will pay in order to buy this policy.
2. The annuity amount that the individual receives will be
dependent on the annuity rate applicable at the time of buying
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the policy. These rates are guaranteed for the annuitant’s lifetime
and are only applicable after the policy is issued.
3. The annuitant chooses any of the four annuity options available
under this policy.
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6.3.4  BIRLA SUN LIFE ANNUITY PLAN

The Birla Sun Life Immediate Income Plan is a traditional, non-par-

ticipating, single premium annuity plan with return of the buying
price. This plan is applicable if the annuitant is at least 50 years old
and not over 90 years old. Annuitants can buy this annuity such that
they receive a regular income of ` 1000, ` 3000, ` 6000 or ` 12000
monthly, quarterly, semi-annual or annual modes of annuity payment
respectively. There is no maximum limit on the buying price.

The plan works as follows:

1. The annuitant decides the amount of premium (lump sum
amount) that he/she wants to pay to purchase the annuity on the
basis of the amount of regular income he/she wishes to receive.
This annuity payment is guaranteed for life and relies on the
annuity rates prevailing at the time of the purchase of the annuity.
2. The annuitant selects the annuity payout options from monthly,
quarterly, semi-annual or annual mode.

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3. Thereafter, the annuitant selects the way in which he/she likes to

receive the annuity from either post-dated cheques or through
direct credit to his/her bank account.

Some of the benefits of the Birla Sun Life Immediate Income Plan are
as follows:
‰‰ This plan provides the annuitant a guaranteed income over his/
her entire life.
‰‰ Incase of death of the annuitant, 100 per cent of the annuity pur-
chase price (that is, a single premium) will be paid to the nominee.
‰‰ This plan provides the annuitant convenient annuity payout op-
tions, that is, monthly, quarterly, semi-annually and annually from
the date of purchase.
‰‰ The annuitant does not have to undertake any medical tests to buy

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this plan.
‰‰ The annuitant is eligible for tax benefits under Section 80C of the
Income Tax Act, 1961.
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6.3.5  ICICI PRU LIFE ANNUITY PLAN

ICICI Prudential Life Insurance Company Limited offers annuitants

the ICICI Pru Immediate Annuity Plan, which not only gives them
an income for life but also offers them options to match their require-
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ments.

This plan works as follows:

1. The annuitant selects a one-time lump sum amount, which he/
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she pays in order to buy this plan.

2. Thereafter, the annuitant chooses any one of the five payout
options, mentioned below.
3. The annuitant selects from any of the four annuity payout modes,
that is, monthly, quarterly, half yearly or yearly.

Through a lump sum investment in this plan, the annuitant begins

receiving a regular income in the form of annuity. The actual amount
of the annuity selected will depend on the annuity rate applicable at
the time for buying the annuity. The annuity rates are guaranteed for
the life of the annuitant. The annuity can be received in the monthly,
quarterly, half yearly or yearly mode.

The different payout options available to the annuitant are as follows:

‰‰ Life annuity: This option provides annuity for life.
‰‰ Life annuity with return of purchase price: This option offers life
annuity for the annuitant with return of purchase price on death
to the beneficiary.

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‰‰ Joint life, last survivor without return of purchase price: Here,

the annuity is first paid to the annuitant. After his/her death, the
spouse receives a pension equal to the annuity paid to the annui-
tant.
‰‰ Joint life, last survivor with return of purchase price: Here,
the annuity is first paid to the annuitant. After his/her death, the
spouse receives a pension equal to the annuity paid to the annu-
itant. After the death of the last annuitant, the purchase price is
given back to the nominee.
‰‰ Life annuity guaranteed for 5/10/15 years and thereafter: Here, a
guaranteed annuity is paid for the selected time duration, that is,
5/10/15 years and thereafter, the annuity continues as long as the
annuitant is alive.

S
The snapshot of ICICI Pru Life Annuity Plan is given in Table 6.3:

TABLE 6.3: ICICI PRU LIFE ANNUITY PLAN

Modes of Annuity Payment Yearly/Half-yearly/Monthly/Quarterly
IM
Min. annuity payable ` 100 p.a
Min./Max. age at entry 45/100 years
Min./age at entry (spouse) 20 years
Min./Max. Policy Term Not applicable
M

SELF ASSESSMENT QUESTIONS

4. LIC Jeevan Akshay 6 Plan is a single premium immediate

pension plan.( True/False)
5. The Max Life Guaranteed Lifetime Income Plan is a
N

______________________that guarantees a constant income

source after the annuitant’s retirement.
6. ICICI Prudential Life Insurance Company Limited offers
annuitants the ICICI Pru__________________, which not only
gives them an income for life but also offers them options to
match their requirements between the plans.

ACTIVITY

Compare any two plans discussed in the above section. List out the
differences.

6.4 RETIREMENT RISK

Retirement risk can be defined as the retired person’s probable risks
to financial security. Retirement risks can lead to unexpected costs
and expenses or a reduced income.

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The terms accumulation and decumlation are often associated with re-
tirement. The pre-retirement period is the accumulation phase where
an individual earns and saves for his/her future. Once a person retires,
decumlation begins and thus, it may be imperative for an individual
to estimate the best possible way to spend down assets and receive
a lifelong income. The emphasis is on the growth of assets and total
returns while planning for retirement. Once an individual retires, the
objective is to maintain the current if not a higher standard of living.

The primary financial objective in retirement is to maintain a suitable

standard of living post-retirement and one basic approach is to con-
sider longevity as the fundamental risk facing retirees.

Retirees may find difficulty in forecasting their retirement duration

and so they face a dilemma of wanting to spend as much as possible
without overdoing it and triggering financial hardship in old age.

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6.4.1  CAUSES OF RETIREMENT RISK
IM
The uncertainty of time of death of an individual is the primary factor
that causes the retirement risk. This further gets affected by cultural
as well as physiological hazards.

In today’s world, the current population has an increased life span

and tends to live long after retirement as compared to the older gen-
erations. In the year 1939, a woman who survived till the age of 65 in
M

reasonable health could be anticipated to survive for another 13 years.

Today, this life expectancy is more than 20 years. With longer life ex-
pectancies, people are also retiring earlier and quit working at earlier
ages for several reasons. Financial planning and stability is one such
N

reason, another could be attractive retirement benefits offered by or-

ganisations to make place for newer employees.

6.4.2  TYPES OF RETIREMENT RISK

The various types of retirement risk are shown in Figure 6.3:

Longevity Risk

Difficult to Plan

Personal Spending
Macro/Market Risk Inflation Risk
Risk
Investment Volatality Rising Cost of
Interest Rate Volatality Living Health and Long-term Care
Public Policy and Help other Family Members
Taxation Divorce
Sequence of Returns Fraud/Theft

Figure 6.3: Types of Retirement Risk

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Let us now study these types in detail.

‰‰ Longevity risk: The longer a retirement lasts, the greater are the
chances that other forms of risk will manifest. Enhanced longevity
means increased time for another financial crisis, increased time
for inflation to compound, increased chances for a costly health
problem, etc. Longevity risks can be categorised as follows:
 Macro/market risk: It helps to recognise the exposure of a re-
tirement plan to macroeconomic factors that are beyond a re-
tiree’s control. Such risks comprise investment volatility relat-
ed to poor market returns and disadvantageous fluctuations in
interest rates. Moreover, public policy is also an issue as unex-
pected rise in taxes, less social security benefits, or enhanced
medical expenses can all affect a spending plan. In addition,
sequence of returns risk is included in this category. This is a

S
macroeconomic risk with a more personalised impact, as re-
tirees attempting to fund a constant spending stream from a
portfolio of volatile assets are especially vulnerable to the spe-
IM cific sequence of market returns experienced in the early part
of their retirement. Along with the average return, the order of
returns also matters. Poor returns early in retirement will re-
sult in enhanced spending rate from the portfolio of remaining
assets, massively affecting the retiree that will be increasing-
ly difficult to overcome even if there is a subsequent market
boom.
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 Inflation risk: For retirees living on a fixed income, rising

prices will gradually affect their buying power as products will
get more expensive. Even if inflation averages approximately
3 per cent annually, the cost of living doubles in just 23 years.
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In other words, a fixed income will buy half of what it could at

the beginning of retirement. Most retirements can last longer
than this. The other issue is that the cost-of-living for retirees
may increase rapidly than the general population, especially as
increasingly expensive healthcare constitutes a larger portion
of a retirement budget.
 Personal spending risk: The basic budget an individual has
prepared for retirement will not sufficiently depict the actual
costs. Some of the issues here consist of unexpected healthcare
and long-term care expenses, the requirement to support other
family members, such as adult children or grandchildren, or
divorce. The death of a spouse is also an important consider-
ation, as social security benefits will reduce by a third to a half,
taxes will rise as there are less exemptions, and the surviving
spouse may have less knowledge about the particulars of the
retirement plan. Fraud and theft are increasing problems for
retirees as well, as a real issue that individuals face are de-
creased cognitive abilities as they age and a number of oppor-
tunists will tend to exploit this.

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Retirement risks can also be classified in other ways, such as on the

basis of whether they jeopardise the assets of the household balance
sheet, or the liability (future spending needs) of the balance sheet. An-
other approach to classify can be on the basis of whether the risks
affect society at a macroeconomic level, or whether they are individ-
ual-specific.

6.4.3  MANAGING A RETIREMENT PLAN

There are essentially three steps in managing a retirement plan, which

are more or less parallel to those in planning life insurance needs.
These steps are depicted in Figure 6.4:

Estimating the

S
Future
Income Need
IM Accumulation
of the Required
Funds

Consumption
of Funds
M

Figure 6.4: Steps in Managing a Retirement Plan

Let us now study these steps in detail.

N

1. Estimating the future income need: This comprises making a

prediction of the income needs of an individual post-retirement.
For example, an individual who is a government employee
staying in a government accommodation may have to plan for
costs associated with rental or own house, water, electricity bills,
etc. post-retirement. Identification of sources of funds also needs
to be carried out in this step.
2. Accumulation of the required funds: Once the needs and sources
are identified, a plan needs to be designed and implemented that
will help in accumulation of funds which will be made available
in order to provide the required income.
3. Consumption of funds: Once the source is identified and
accumulation planned, the next step involves the duration and
method of funds consumption. This requires consideration of
the period for which the consumption shall be required and
provisioning for the spouse in the case of premature death.

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SELF ASSESSMENT QUESTIONS

7. The longer a retirement lasts, the greater are the chances that
other forms of risk will manifest. (True/False)
8. __________ can be defined as the retired person’s probable
risks to financial security.
9. The uncertainty of time of death of an individual is the primary
factor that causes retirement risk. (True/False)

ACTIVITY

Using the Internet, find the benefits of a retirement risk manage-

ment plan.

S
6.5 SUMMARY
‰‰ An annuity is defined as a contract which provides periodic pay-
IM ments for a certain period of time, such as a number of years or
for life.
‰‰ The most common reason for individuals to purchase an annuity
is to build up and accumulate funds for a source of income after
retirement and subsequently in order to manage distributions of
those funds.
M

‰‰ The types of annuities are fixed annuities, variable annuities and

other types of annuities.
‰‰ Other types of annuities include deferred vs. immediate annuities;
fixed period vs. lifetime annuities; qualified vs. non-qualified an-
N

nuities and single premium vs. flexible premium annuities.

‰‰ Retirement risk can be defined as a retired person’s probable risks
to financial security.

KEY WORDS

‰‰ Annuity: It is a form of insurance in which insured is entitled to

a series of monthly, quarterly or annual sums.
‰‰ Deferred annuity: It refers to an annuity in which the annui-
tant does not start receiving payments till some future date.
‰‰ Fixed annuity: It refers to insurance contracts that provide the
annuitant a fixed amount of income paid at frequent time inter-
vals till a certain period has completed.
‰‰ Immediate annuity: It refers to an annuity that is bought with a
single lump-sum payment and in exchange, pays a guaranteed
income that begins almost immediately.

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‰‰ Variable annuity: It refers to an insurance contract in which, at

the completion of the accumulation stage, the insurance compa-
ny guarantees a minimum payment.

6.6 DESCRIPTIVE QUESTIONS

1. Why should individuals purchase annuities?
2. Explain tax treatment of annuities in detail.
3. Write a short note on the LIC Jeevan Akshay 6 plan.
4. Explain the features of Max Life Guaranteed Lifetime Income
Plan.
5. What causes retirement risk?

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6.7 ANSWERS AND HINTS
IM
ANSWERS FOR SELF ASSESSMENT QUESTIONS

Topic Q. No. Answers

Concept of Annuities 1. Fixed annuities
2. True
3. Immediate annuity
M

Examples of Annuity Plans in 4. True

India
5. Non-linked traditional annuity
plan
6. Immediate Annuity Plan
N

Retirement Risk 7. True

8. Retirement risk
9. True

HINTS FOR DESCRIPTIVE QUESTIONS

1. The most common reason for individuals to purchase an annuity
is to build up and accumulate funds for a source of income after
retirement and subsequently in order to manage distributions of
those funds. Refer to Section 6.2 Concept of Annuities.
2. The applicable tax rules on the annuities depend on the type
of annuity and how the contract holder intends to receive the
payments. Refer to Section 6.2 Concept of Annuities.
3. LIC Jeevan Akshay 6 Plan is a single premium immediate
pension plan. It is a non-unit-linked pension plan. In this plan, a
lump sum amount of the premium is paid to purchase the annuity
that starts immediately without any delay. Refer to Section 6.3
Examples of Annuity Plans in India.

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4. The Max Life Guaranteed Lifetime Income Plan is a non-linked

traditional annuity plan that guarantees a constant income
source after the annuitant’s retirement. Refer to Section 6.3
Examples of Annuity Plans in India.
5. The uncertainty of time of death of an individual is the primary
factor that causes the retirement risk. Refer to Section 6.5
Retirement Risk.

SUGGESTED READINGS FOR

6.8
REFERENCE

SUGGESTED READINGS
‰‰ Arunajatesan, S. and Viswanathan, R. T. (2009). Risk management

S
and insurance. 1st ed. New Delhi: MacMillan Publishers India Ltd.
‰‰ Rejda, E., G. (2011). Principles of risk management and insurance.
1st ed. Noida: Dorling Kindersley India Pvt. Ltd.
IM
E-REFERENCES
‰‰ III. (2015). What are the different types of annuities? Retrieved 6
November 2015, from http://www.iii.org/article/what-are-differ-
ent-types-annuities
‰‰ Money. (2015). What is an annuity? Retrieved 6 November 2015,
M

from http://money.cnn.com/retirement/guide/annuities_basics.
moneymag/
‰‰ Williams, R. (2015). Two types of annuities for retirement income.
Schwab.com. Retrieved 6 November 2015, from http://www.
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schwab.com/public/schwab/nn/articles/Two-Types-of-Annuities-
for-Retirement-Income

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 C H A
7 P T E R

HEALTH INSURANCE

CONTENTS

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7.1 Introduction
7.2 Introduction to Health Insurance
IM
7.2.1 Important Aspects of a Health Insurance Plan
Self Assessment Questions
Activity
7.3 Health Insurance Policy Provisions
Self Assessment Questions
Activity
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7.4 Current and Future Aspects of Health Insurance Market in India

Self Assessment Questions
Activity
7.5 Disability Income Insurance
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7.5.1 Disability Income Underwriting and Pricing

Self Assessment Questions
Activity
7.6 Medical Expense Coverage
7.6.1 Limited Health Insurance Policies
7.6.2 Dental Expense Insurance
7.6.3 Limited Policies-Prescription Drugs
7.6.4 Medical Savings Accounts
Self Assessment Questions
Activity
7.7 Summary
7.8 Descriptive Questions
7.9 Answers and Hints
7.10 Suggested Readings for Reference

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INTRODUCTORY CASELET
N O T E S

NEED OF DISABILITY INCOME INSURANCE

Rohit was a 28-year old dental hygienist living in Mumbai. From

the past few weeks, he started feeling severe pain in the wrist of
his right arm. The pain was radiating to the elbow too. He went
for a routine check-up where the doctor confirmed that he had
developed carpal tunnel syndrome. The doctor suggested him to
wear splint at night.

Rohit kept working for several next weeks, anticipating that the
splint would help him in getting rid of the pain. However, the pain
worsened with the passing time. Finally, the doctor suggested Ro-
hit to go for a surgery to cut into ligament pressing on the nerve.

After the surgery, Rohit took 6 months recovery time. During

S
this time, he was unable to continue his job as a dental hygienist.
However, his loss of income was covered under the disability in-
come insurance policy, which he had purchased after completing
his dental hygiene course. Although Rohit was not suffering from
IM
total disability, his illness affected his earning capability and re-
sulted into residual disability. As per the provisions of the policy,
Rohit got compensated against his loss of income.

The disability income policy not only helped Rohit financially but
also assisted him in getting out of illness tremor psychologically.
M

As soon as he fully recovered, he happily returned to his job as a

dental hygienist.
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LEARNING OBJECTIVES

After studying this chapter, you will be able to:

>> Explain the concept of health insurance
>> Discuss various health insurance policy provisions
>> Explain the current and future aspects of the health insur-
ance market in India
>> Describe the concept of disability income insurance
>> Explain the policy for medical expense coverage

7.1 INTRODUCTION

S
In the previous chapter, you have studied about annuities and retire-
ment benefits that help an individual against the risk of retirement.
However, an individual faces a number of risks in his/her life. One of
the major risks among them is the risk of poor health, which may lead
IM
to an illness or injury. Health-related risks are covered under health
insurance.

Health has always been a major concern in everybody’s life. However,

with the changing lifestyle, increasing stress level, unhealthy eating
habits and costly healthcare services, it becomes important for one
M

and all to protect themselves and their family members against the
ill-effects of health problems. For example, a sudden event of hospi-
talisation can lead to severe physical, mental and financial loss to an
individual. A catastrophic event may sometimes ruin the entire family.
All this necessitates a health insurance policy in individuals’ lives to
N

get protection against such types of losses. Health insurance, a type of

general insurance, covers the medical expenses of an insured. These
expenses can be related to the treatment of illnesses, health check-
ups, injuries, accidents, etc.

In spite of several benefits of health insurance, India still lacks behind

multiple countries in terms of the total share of the health insurance
market. To control this situation, the Government of India is taking
several necessary steps to encourage people to buy health insurance.
In addition, various health insurance specialised insurance compa-
nies are being promoted to create awareness among the public about
the importance of investing into health insurance.

This chapter begins by explaining the concept of health insurance.

Next, it lists various health insurance policy provisions. The current
and future aspects of the health insurance market in India have also
been discussed in the chapter in detail. Further, the chapter describes
the concept and significance of disability income insurance. Towards

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the end, the chapter elaborates on the policies and provisions for med-
ical expense coverage.

INTRODUCTION TO HEALTH
7.2
INSURANCE
Health insurance is a type of general insurance that provides finan-
cial security to an individual against several illnesses and injuries and
their treatment. Like other types of insurance policies, a health insur-
ance policy is also a contract between an insurer and an individual
or group. However, in a health insurance policy, the insurer agrees to
provide specified health insurance cover to the insured at a particular
amount of premium subject to terms and conditions specified in the
policy.

S
Every human being is exposed to various health hazards. A medi-
cal emergency can come in anybody’s life anytime without any pri-
or warning. In such a case, an individual can protect himself/herself
IM
against huge cost incurred on hospitalisation and critical illness by
having an appropriate health insurance policy in place. Advancement
in technology, invention of several new medical procedures and effec-
tive medicines and medical expertise have contributed a lot in shoot-
ing the cost of healthcare. Bearing the expenditure from one’s own
pocket for high-end medical treatment may be beyond the reach of
many people. In such a case, taking the security of health insurance is
M

much more affordable.

The monetary limit of expenses covered under the available health in-
surance policies may range from ` 5000 to ` 50 lakhs or more (in case
N

of certain critical illness plans). Mostly the insured members prefer

policies between 1 lakh to 5 lakhs of the sum insured. Usually, non-life
insurance companies provide health insurance policies for the dura-
tion of one year. The insured may avail treatment in a hospital under
the insurer’s network of hospitals in which the insurer pays directly
to the hospital known as cashless facility. However, in such cases, ex-
penses beyond the limits of policy or expenses, which are not covered
under the policy are not paid by the insurer. In addition, a cashless
facility is not available on availing treatment in a hospital that is not in
the network. The type and amount of expenses covered are generally
specified in advance.

With increasing reforms taking place in the insurance sector, a variety

of health covers are available depending on the need and choice of the
insured. The following are some types of health insurance policies:
‰‰ Hospitalisation indemnity policy: The actual cost of treatment in
the case of hospitalisation is fully or partially covered by this pol-
icy. In addition, this policy covers expenses incurred before and
after hospitalisation for some specified period.

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‰‰ Hospital daily cash benefit policy: A fixed daily amount, which

is a percentage of the sum insured for each day of hospitalisation,
is provided under this policy. In addition, there may be per day
charges paid on a daily basis in the case of Intensive Care Unit
(ICU) admissions or for specified illnesses or injuries.
‰‰ Critical illness benefit policy: It provides a fixed amount to the
insured in the case of diagnosis of a specified illness or on under-
going a critical illness treatment. Usually, once this lump sum is
paid, the plan ceases to remain in force.
‰‰ Surgical cash benefit: This policy provides coverage against a
specified undergoing surgery. According to Yateesh Srivastava,
the Chief Marketing Officer at AEGON Religare, Surgical cash
benefit is a benefit that is paid out if the insured has a surgery. In a
surgical cash plan a fixed amount, depending on the type of surgery,

S
is paid out. This is not dependent on actual expenditure incurred.
The pay outs vary depending on the severity of the surgery. However,
the surgical cash benefit amount depends on the severity of the
operation and recovery period.
IM
Apart from the abovementioned categories, there are variants of pol-
icies available in the market that specifically targets particular seg-
ment of population like senior citizens. Apart from this, buying health
insurance for self and family makes an individual eligible for a rebate
on tax under Section 80D of the Income-tax Act, 1961.
M

Any individual purchasing health insurance by any payment mode

other than cash can avail an annual deduction of ` 15,000 from their
taxable income for payment of their premium for themselves, their
spouse and dependent children. In addition, since the financial year
N

2008-09, an additional ` 15,000 is available as deduction for health in-

surance premium paid on the behalf of parents. The deduction is `
20,000 if the parents are senior citizens.

7.2.1 IMPORTANT ASPECTS OF A HEALTH INSURANCE

PLAN

A health insurance plan consists of certain aspects that play a crucial

role in claim settlement. A proposer should understand all these as-
pects before purchasing any health insurance policy. Lack of clarity
on these aspects may lead to a wrong interpretation of actual policy
terms by the proposer. Let us discuss these aspects in detail:
‰‰ Premium: The age of the proposer is a principle factor that deter-
mines the premium chargeable for the policy. The older the buy-
er, higher will be the premium cost as elderly are more prone to
illnesses. The previous medical history of the insurer is another
major factor considered for determining the premium. In the case
of absence of any prior medical history, the premium will automat-
ically be low.

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‰‰ Waiting period: On purchasing a new policy, generally, there is 30-

day waiting period starting from the policy inception date. During
this period, any hospitalisation charges will not be payable by the
insurance company unless arising out of an accident. This wait-
ing period also known as lock-in period and is not applicable for
subsequent policies under renewal. Certain medical conditions,
such as knee joint replacement and gall bladder removal, have a
pre-defined waiting period before which a claim for the treatment
of these conditions or procedures shall not be payable.
‰‰ Pre-existing condition in health insurance: Any medical condi-
tion or disease that existed before the inception of a health insur-
ance policy is called pre-existing conditions. A claim arising out of
treatment for such a condition within 48 continuous months of the
policy start date shall not be payable. It means pre-existing condi-
tions can be considered for the payment only after the completion

S
of 48 months of continuous insurance cover.
‰‰ Grace period: It is a 15-day period from the premium due date.
The policy ceases to be in force if the premium is not paid within
IM
the grace period. However, coverage is not available for the period
for which no premium is received by the insurance company.
‰‰ Portability of policy: The Insurance Regulatory and Development
Authority (IRDA) w.e.f. 1st July, 2011, has mandated insurance
companies to allow portability from one insurance company to an-
other and from one plan to another, without making the insured
M

to lose renewal credits for pre-existing conditions, accrued in the

previous policy. However, this credit is limited to the sum insured
(including Bonus earned if any) under the previous policy.
‰‰ Balance sum insured: Once a claim is filed and settled by an insur-
N

ance company, policy coverage or sum insured is reduced by the

amount that will be paid out on settlement. For example, suppose
you start a policy with coverage of ` 3 lakhs for a year in the month
of January. In April, you make a claim of ` 2 lakhs. The coverage
available to you for the May to December will be the balance of ` 1
lakh. This amount of ` 1 lakh is known as the balance sum insured.
‰‰ Any one illness: It means the continuous period of illness, includ-
ing relapse of the ailment within a certain number of days as spec-
ified in the policy, which is usually of 45 days.
‰‰ Maximum number of claims allowed over a year: Any number
of claims may be allowed during the policy period unless there
is a specific limit of payment prescribed in any policy. The sum
insured is the maximum limit under the policy irrespective of the
number of claims filed.
‰‰ Health check-up facility: Some health insurance policies pay for
specified expenses towards general health check-up of an insured
for a limited amount once in a few years. Normally, this is available
once in a block of four years of continuous coverage.

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SELF ASSESSMENT QUESTIONS

1. ______________ is a type of general insurance that provides

financial security to an individual against several illnesses
and injuries and their treatment.
2. Which type of health insurance policy provides a fixed amount
to the insured in the case of diagnosis of a specified illness?
a. Hospitalisation indemnity policy
b. Hospital daily cash benefit policy
c. Critical illness benefit policy
d. Surgical cash benefit
3. During a waiting period, any hospitalisation charges will not

S
be payable by the insurance company unless arising out of an
accident. (True/False)
IM
ACTIVITY

Ask your friends about various health insurance policies availed by

them to cover health risks.

HEALTH INSURANCE POLICY

M

7.3
PROVISIONS
In order to bring uniformity in operating procedures in health insur-
ance contracts, certain uniform provisions have been recommended
N

by the National Association of Insurance Commissioners (NAIC) for

all individual health policies. Let us discuss the major uniform policy
provisions as follows:

Provision 1: Entire Contract; Changes: The policy, including the en-

dorsements and the attached papers, if any, constitutes the entire con-
tract of insurance. No change in this policy shall be valid until approved
by an executive officer of the insurer and unless such approval be en-
dorsed hereon or attached hereto. No agent has authority to change this
policy or to waive any of its provisions.

Provision 2: Time Limit on Certain Defenses:

a. After three (3) years from the date of issue of this policy, no
misstatements, except fraudulent misstatements, made by the
applicant in the application for the policy shall be used to void the
policy or to deny a claim for loss incurred or disability (as defined
in the policy) commencing after the expiration of the three-year
period.

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b. No claim for loss incurred or disability (as defined in the policy)

commencing after three (3) years from the date of issue of this
policy shall be reduced or denied on the grounds that a disease or
physical condition, not excluded from coverage by name or specific
description effective on the date of loss had existed prior to the
effective date of coverage of the policy.

Provision 3: Grace Period: A grace period of (insert a number not less

than 7 for weekly premium policies, 10 for monthly premium policies
and 31 for all other policies) days will be granted for the payment of each
premium falling due after the first premium, during which grace period
the policy shall continue in force.

Provision 4: Renewal: Each policy in which the insurer reserves the

right to refuse renewal on an individual basis shall provide, in sub-
stance, in a provision thereof or in an endorsement thereon or in a rider

S
attached thereto, that subject to the right to terminate the policy upon
non-payment of premium when due, the right to refuse renewal shall not
be exercised before the renewal date occurring on, or after and nearest
IM
each anniversary, or in the case of lapse and reinstatement at the renew-
al date occurring on, or after and nearest each anniversary of the last
reinstatement, and that any refusal of renewal shall be without preju-
dice to any claim originating while the policy is in force. The preceding
sentence shall not apply to accident insurance only policies.

Provision 5: Reinstatement: If any renewal premium be not paid with-

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in the time granted the insured for payment, a subsequent acceptance of

premium by the insurer or by any agent duly authorized by the insurer
to accept such premium, without requiring it in connection therewith
an application for reinstatement, shall reinstate the policy; provided,
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however that if the insurer or such agent requires an application for re-
instatement and issues a conditional receipt for the premium tendered,
the policy will be reinstated upon the forty-fifth day following the date
of the conditional receipt unless the insurer has previously notified the
insured in writing of its disapproval of the application. The reinstated
policy shall cover only loss resulting from such accidental injury as may
be sustained after the date of reinstatement and loss due to such sickness
as may begin more than ten (10) days after that date. In all other respects
the insured and insurer shall have the same rights as they had under the
policy immediately before due date of the defaulted premium, subject to
the provisions of any rider which may be attached in connection with the
reinstatement. Any premium accepted in connection with a reinstate-
ment shall be applied to a period for which premium has not been previ-
ously paid, but not to any period more than sixty (60) days prior to the
date of reinstatement.

Provision 6: Notice of Claim: Written notice of claim must be given to

the insurer within twenty (20) days after occurrence or commencement
of any loss covered by the policy, or as soon thereafter as is reasonably
possible. Notice given by or on behalf of the insured or the beneficiary to

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the insurer at (insert the location of such office as the insurer may des-
ignate for the purpose), or to any authorized agent of the insurer, with
information sufficient to identify the insured, shall be deemed notice to
the insurer.

If the insured suffers loss of time on account of disability for which in-
demnity may be payable for at least two (2) years, he shall, at least once
in every six (6) months after having given notice of claim, give to the
insurer notice of the continuance of said disability except in the event
of legal incapacity. The period of six (6) months following any filing of
proof by the insured or any payment by the insurer on account of such
claim or any denial of liability in whole or in part by the insurer shall be
excluded in applying this provision. Delay in the giving of notice shall
not impair the insured’s right to any indemnity which would otherwise
have accrued during the period of six (6) months preceding the date on

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which notice is actually given.

Provision 7: Claim Forms: The insurer, upon receipt of a notice of

claim, will furnish to the claimant such forms as are usually furnished
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by it for filing proof of loss. If forms are not furnished within fifteen (15)
days after the giving of notice that claimant shall be deemed to have
complied with the requirements of this policy as to proof of loss upon
submitting, within the time fixed in the policy for filing proofs of loss,
written proof covering the occurrence, the character and the extent of
the loss for which claim is made.
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Provision 8: Proof of Loss: Written proof of loss must be furnished to

the insurer at its office in case of claim for loss for which this policy
provides any periodic payment contingent upon continuing loss within
ninety (90) days after the termination of the period for which the insurer
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is liable and in case of claim for any other loss within ninety (90) days af-
ter the date of the loss. Failure to furnish proof within the time required
shall not invalidate nor reduce any claim if it was not reasonably possi-
ble to give such proof within that time, provided such proof is furnished
as soon as reasonably possible and in no event, except in the absence
of legal capacity, later than one year from the time proof is otherwise
required.

Provision 9: Time of Payment of Claims: Indemnities payable under

this policy for any loss other than loss for which this policy provides any
periodic payment will be paid immediately upon receipt of due written
proof of loss. Subject to due written proof of loss, all accrued indemnities
for loss for which this policy provides periodic payment will be paid (in-
sert period for payment which must not be less frequently than monthly)
and any balance remaining unpaid upon the termination of liability will
be paid immediately upon receipt of due written proof.

Provision 10: Payment of Claims: Indemnity for loss of life will be pay-
able in accordance with the beneficiary designated and the provisions
respecting such payment which may be prescribed herein and effective
at the time of payment. If no such designation or provision is then effec-

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tive, the indemnity shall be payable to the estate of the insured. Any other
accrued indemnities unpaid at the insured’s death may, at the option of
the insurer, be paid either to the beneficiary or to the estate. All other
indemnities will be payable to the insured.

If any indemnity of this policy shall be payable to the estate of the in-
sured or to an insures or beneficiary who is a minor or otherwise not
competent to give valid release; the insurer may pay such indemnity, up
to an amount not exceeding $ (insert an amount which shall not exceed
$1000), to any relative by blood or connection by marriage of the insured
or beneficiary who is deemed by the insurer in good faith pursuant to this
provision shall fully discharge the insurer to the extent of the payment.

Subject to any written direction of the insured in the application or oth-

erwise, all or a portion of any indemnities provided by this policy on
account of hospital, nursing, medical or surgical services may, at the

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insurer’s option and unless the insured requests otherwise in writing not
later than the time of filing proofs of loss, be paid directly to the hospital
or person rendering such services; but it is not required that the service
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be rendered by a particular hospital or person.

Provision 11: Physical Examination and Autopsy: The insurer at its

own expense shall have the right and opportunity to examine the person
of the insured when and as often as it may reasonably require during the
pendency of a claim hereunder and to make an autopsy in case of death
where it is not forbidden by law.
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Provision 12: Legal Actions: No action at law or in equity shall be

brought to recover on this policy prior to the expiration of sixty (60) days
after written proof of loss has been furnished in accordance with the
requirements of this policy. No such action shall be brought after the ex-
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piration of three (3) years after the time written proof of loss is required
to be furnished.

Provision 13: Change of Beneficiary: Unless the insured makes an

irrevocable designation of beneficiary, the right to change of beneficiary
is reserved to the insured and the consent of the beneficiary or benefi-
ciaries shall not be requisite to surrender or assignment of this policy or
to any change of beneficiary or beneficiaries, or to any other changes in
this policy.
(Source: http://www.naic.org/store/free/MDL-180.pdf)

Apart from these mandatory provisions, there are eleven optional pro-
visions that may or may not be included in a healthcare policy. These
provisions include:

Provision 1: Change of occupation: The occupation in which an in-

sured is engaged directly reflects his/her risk profile. If a person
changes his/her job to a more risky job profile, the insurer has the
right to increase the amount of premium and change the benefit pol-

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icy. Similarly, if a person switches to a less risky career option, he/she

may ask the insurer to decrease the amount of premium and change
the benefit policy.

Provision 2: Misstatement of age: In the case of misrepresentation of

age, this provision allows the insurer to make changes in the benefits
provided to an insured as per the correct age.

Provision 3: Other insurance in this insurer: An insurer has certain

limits in terms of maximum amount to be covered for an insured. This
is done to limit the company’s risk. Though a person may avail more
than one policy from the same insurer, the coverage amount would
not exceed a specified amount.

Provision 4: Insurance with other insurer: This provision protects

the benefits of the insurer against over-insurance. As per this provi-

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sion, benefits payable to the insured will be protected.

Provision 5: Relation of earnings to insurance: This provision relates

to the relationship between the total premium received by the insurer
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and the total claim payments made to the insured in the case of loss.

Provision 6: Unpaid premium: When a benefit is payable to the in-

sured, the unpaid premium is deducted from this.

Provision 7: Cancelation: When an insurer cancels its policy, it must

notify the insured 45 days in advance and reimburse any pre-paid pre-
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miums.

Provision 8: Conformity with state statutes: All conflicts related to

state statutes of the state where the insured lives are adjusted at the
time of issuing the policy.
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Provision 9: Illegal occupation: In case, an insured gets injuries

during some illegal operations, the insurance company would not take
the responsibility of the loss in the event.

Provision 10: Intoxicants and narcotics: In case, an insured is found

intoxicated or under the influence of narcotics, the insurance compa-
ny would not take the responsibility of the loss if occurred during that
time.

SELF ASSESSMENT QUESTIONS

4. The occupation in which an insured is engaged directly

reflects his/her risk profile. (True/False)
5. When a benefit is payable to the insured, the _________
premium is deducted from this.

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ACTIVITY

Using the Internet, find more information on the eleven optional

provisions that may or may not be included in a healthcare poli-
cy. Find some policies that consider these provisions under varying
circumstances. Prepare a report based on your finding.

CURRENT AND FUTURE ASPECTS OF

7.4
HEALTH INSURANCE MARKET IN INDIA
At present, the healthcare industry is witnessing many changes with
an increased focus on quality and safety as two significant factors for
shaping the future of the industry. The Indian healthcare industry
during 2015-20 is expected to record a compound annual growth rate

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(CAGR) of 22.9 per cent. With rising customer expectations, increas-
ing income level, greater health awareness and improved access to
healthcare services; healthcare quality and patient care have become
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a significant, attention-drawing concern across the nation. Advance-
ment of the healthcare industry has led to a significant growth of the
healthcare insurance industry. The main aim of a healthcare insur-
ance policy is to provide consumers more access to quality healthcare
services at lesser financial cost.

Today, India is showing tremendous potential for the growth of the

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health insurance market as only 15 per cent of population in the coun-

try has some form of health insurance coverage. As per the report by
the World Health Organization (WHO), in 2011, India has spent only
3.9 per cent of gross domestic product (GDP) on the health sector which
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is the lowest amongst the BRICS (Brazil, Russia, India, China, South
Africa) member countries pack. Moreover, amongst the BRICS nations,
in 2011, Russia’s out-of-pocket expenses stood highest at 87.9 per cent
closely followed by India (86 per cent), China (78.8 per cent), Brazil (57.8
per cent), and South Africa (13.8 per cent). On the other hand, these ex-
penses in developed economies of US and UK were comfortably poised
at 20.9 per cent and 53.1 per cent respectively.

According to Sudip Bandyopadhyay, President, Destimoney Securi-

ties, We don’t have the insurance to cover and thus we end up paying
from our own pockets. Once the penetration of health insurance increas-
es, out of pocket payments will come down. In US and all, health insur-
ance coverage is around 80 per cent.

Explaining the conditions of low-health insurance coverage in India,

Antony Jacob, CEO, Apollo Munich Health Insurance, said, Only about
12-13 per cent of population has some form of health insurance cover-
age, including those who are covered through some form of government
schemes. People are yet to accept health insurance as a financial tool for
medical emergencies. They usually procrastinate when it comes to buying
health insurance unless they are faced by a challenging situation.

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Although the Indian health insurance sector is lagging behind as com-

pared to other countries currently, it has huge scope of growth in the
coming years. The gross written premium in 2012-13 was ` 15,341
crores which showed a clear rise of 16 per cent from 2011-12, where
the gross written premium was ` 13,212 crores.

There is ample growth scope in the Indian health insurance sector as

there still remains a vast untapped market in India. According to Ja-
cob, Health insurance has become one of the most prominent segments
in the insurance space today and is expected to grow significantly in the
next few years. As spending on healthcare in India is expected to double
in a couple of years, we believe that health insurance will eventually
become the biggest contributor in the non-life segment.

Moreover, the Indian health insurance industry is controlled by four

public sector entities, namely New India Assurance, United India In-

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surance, National Insurance and Oriental Insurance. These four to-
gether comprise around 60 per cent of the market share. The rest 40
per cent share goes to 17 private sector companies, among which four
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are specialised in health insurance. These four companies are Star
Health, Apollo Munich, Max Bupa and Religare Health.

Insurance Regulatory and Development Authority (IRDA) in early

2013 gave health insurance an identification of a separate insurance
category and allowed the insurers to tie-up with banks. According to
Bandyopadhyay, Few months back, IRDA has classified health insur-
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ance as a separate category and has permitted the insurers to tie-up

with banks. All the four exclusive health insurance companies will be
tying with the banks across the country and that will help them to move
to the next level. The penetration of health insurance is now expected to
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increase with banks pushing for it through bancassurance tie-up. Thus,

health insurance is emerging as an important financial mechanism to
insure health care in India with enormous future scope.

SELF ASSESSMENT QUESTIONS

6. Name four private sector companies, specialised in health

insurance.
7. Insurance Regulatory and Development Authority (IRDA) in
early 2013 gave health insurance an identification of a separate
insurance category. (True/False)

ACTIVITY

Using the Internet, find information on four public sector entities

that control the Indian health insurance industry. Prepare a report
based on your findings.

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7.5 DISABILITY INCOME INSURANCE

Disability arising out of an illness or accident may be a great hazard
for an individual and his/her family. This is because it not only causes
huge medical bills, but also makes a person unemployable. Disability
income insurance or disability insurance (DI); therefore, aims to com-
pensate the insured against the income lost or not earned because of
illness or accident. Although no standard definition of disability exists,
all policies define disability either according to:
‰‰ The amount to which illness or injury affects an individual’s ability
or causes total disability. The term total disability denotes to an
individual’s inability to perform his/her job. In other words, it is an
inability to perform every obligation of their occupation.
‰‰ The extent to which illness or injury affects an individual’s earn-

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ing capability or residual disability. The term residual disability
denotes to the outcome of illness or injury that may lead to an in-
dividual to experience a loss of earnings. In residual disability, an
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individual might be able to perform some of the duties and obliga-
tion of his/her occupation but with a certain loss of earnings.

Depending on the period for which coverage is offered, DI policies

can be of two types, namely short-term DI policies and long-term DI
policies. Let us discuss about these in brief:
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‰‰ Short-term DI policies: These policies cover a limited amount of

time where the insured receives benefits after a short waiting pe-
riod of up to 14 days. As discussed earlier, the waiting period de-
notes to a period during which an insured is not eligible to receive
insurance payments arising out of an accident.
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‰‰ Long-term DI policies: These policies cover injuries and illnesses

over a long period of time. Such DI claims usually have a waiting
period of 90 days or more. However, once the claim is settled, the
insured may receive benefits for several years (or till he/she recov-
ers). Some long-term DI policies benefit the insured for the rest
of their life although this depends on the policy and the insurer.
Long-term DI policies vary according to the length of each benefit
period and the amount of each monthly benefit.

Apart from the aforementioned categories, DI policies are also classi-

fied as per their renewability provisions. The two most common types
are:
‰‰ Guaranteed renewable policy: In this type of policy, the insurer
guarantees the insured to renew the DI contract. However there
is no guarantee of a fixed premium. In other words, after the re-
newal, the premium may increase or decrease as per the current
conditions.

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‰‰ Non-cancellable and guaranteed renewable policy: This is an-

other type of DI policy that not only guarantees about the renew-
ability of the DI contract but also ensures the fixed premium rates.
In other words, in this type of DI policy, the premium charge does
not increase even after the policy renewal. However, this type of
policy is not only more expensive but it is less common. In addi-
tion, insurers provide such policy only to the applicants who are at
the lowest risk for disability.

There are certain injuries or illnesses that are not covered under DI
policies, such as acts of war, suicide attempts and normal pregnancy.
Moreover, if there is any preceding medical condition, the disability
policy may eliminate that condition from coverage.

7.5.1 DISABILITY INCOME UNDERWRITING AND PRICING

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The DI underwriting process begins once an applicant applies for a
disability income. During this process, the insurer collects all neces-
sary information about the insured and decides whether to issue a dis-
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ability policy to the applicant. As a disability claim may cost an insurer
a large share of money, the process of underwriting is done thorough-
ly. In the underwriting process, all hazards are reflected and unusual
features in the disability income field are explained. Therefore, DI un-
derwriting consists of all possible information about the applicant and
acceptable or unacceptable risks.
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Usually, the applicant fills out an application to give specific informa-

tion about his/her personal, medical and financial conditions to the
insurer. The questions are designed to give the insurer as much infor-
mation as possible about the acceptable as well as unacceptable risk
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for disability. The following factors are judged while taking informa-
tion from the applicant for the underwriting process:
‰‰ Age and gender
‰‰ Occupation

‰‰ Income

‰‰ Medical history
‰‰ Personal habits and lifestyle

Once the application is submitted, the underwriter reviews it. Cover-

age may be issued right away or the applicant may need to submit ad-
ditional information or reports to help the underwriter to determine
whether the applicant has an acceptable risk. Based on risk assess-
ment, the following risk categories are assigned to the applicant:
‰‰ Preferred risk: This is a type of risk where the applicant is less
likely to claim for disability insurance. The applicants who fall un-
der this type of risk have very low chances to get affected by an
event of loss; therefore, they have the maximum chances to get in-

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sured under the DI policy. Such applicants have few odds to claim
the insurer for settlement in the future. For example, a person who
is a non-smoker, has a low-risk job and is medically fit has maxi-
mum chances to get insured.
‰‰ Standard risk: Such type of risk is assigned to an individual who
is neither more nor less likely to claim for the disability insurance.
Such individual does not have a history of medical emergency but
can face a medical condition in the future.
‰‰ Special risk or substandard risk: Such type of risk is assigned to
an individual who is likely to claim for disability insurance. In oth-
er words, such applicants have greater chances to get affected by
an event of loss; therefore, have minimum chances to get insured
under the DI policy. For example, a lathe worker would come un-
der such type of risk. Such applicants are either denied for getting

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coverage or get coverage with special terms and conditions. They
also need to pay a higher premium than other risk categories.

The insurer underwriting table shows the amount of monthly disabil-

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ity income coverage that can be purchased by applicants.

SELF ASSESSMENT QUESTIONS

8. _____________ is an inability to perform every obligation of

their occupation.
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9. Under the non-cancellable and guaranteed renewable policy,

the premium may increase or decrease as per the current
conditions. (True/False)
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ACTIVITY

Using various sources, find information on various approaches ad-

opted by some renowned health insurance companies, while selling
DI policies to applicants under special risk.

7.6 MEDICAL EXPENSE COVERAGE

Medical expenses are generally covered under a medical claim (com-
monly called mediclaim) policy. This is an indemnity-based policy that
compensates the beneficiary or insured for their actual economic loss
up to the limiting amount of the insurance policy. A mediclaim policy
normally covers expenses incurred under the following heads with re-
spect to each insured person:
‰‰ Hospital room and boarding expenses
‰‰ Nursing expenses
‰‰ Fees of surgeon, anaesthetist, physician, consultants, and specialists

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‰‰ Anaesthesia, blood, oxygen, operation theatre charges, surgical

appliances, medicines, drugs, diagnostic materials, X-ray, dialysis,
chemotherapy, radio therapy, cost of pacemaker, artificial limbs,
cost or organs and similar expenses.

The following are some of the important aspects of the policy:

‰‰ Sum insured: It refers to the maximum ceiling up to which a claim
can be paid during the policy period. As described earlier, this may
be on an individual basis or a floater basis for the family as a whole.
‰‰ Cumulative bonus (CB): This policy may offer cumulative bonus
for every claim free year, the sum insured is increased by a certain
percentage at the time of renewal subject to a maximum percent-
age (generally 50%). In the case of a claim, CB is reduced by 10%
at the next renewal.

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‰‰ Minimum period of stay in hospital: For being eligible to make
a claim under the policy, a minimum stay in the hospital is neces-
sary for a certain number of hours. Usually, this period is 24 hours.
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This time limit may not apply for the treatment of accidental inju-
ries and certain specified treatments which are known as day-care
procedures.
‰‰ Pre and post-hospitalisation expenses: Expenses incurred during
a certain number of days prior to hospitalisation and post-hospital-
isation. Expenses for a specified period from the date of discharge
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or last consultation as specified in the policy are reimbursed if the

expenses related to the disease or sickness for which hospitalisa-
tion was done.
‰‰ Additional benefits and other standalone policies: Various other
benefits are offered by insurance companies as add-ons or riders.
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In addition, there are standalone policies designed to provide vari-

ous benefits, such as hospital cash, and critical illness benefits and
surgical expense benefits. These policies can either be taken sepa-
rately or in addition to the hospitalisation policy.

A few companies also have products called top-up policies to meet

the actual expenses over and above the limit available in the basic
health policy. The following conditions are generally excluded under
the mediclaim policy:
‰‰ All pre-existing diseases (the pre-existing disease exclusion is uni-
formly defined by all non-life and health insurance companies)
usually for a period of 48 months from the date of inception.
‰‰ In the first year of the policy, any claim during the first 30 days
from the date of coverage for sickness or any disease. This is not
applicable for accidental injury claims.
‰‰ Many a times ailments like cataract, benign prostatic hypertrophy,
hysterectomy for menorrhagia or fibromyoma, hernia, hydrocele,

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fistulain anus, piles, sinusitis and related disorders, and joint re-
placement are excluded from the first 1/2/4 years of cover.
‰‰ Cost of spectacles, contact lenses and hearing aids.
‰‰ Dental treatment or surgery unless requiring hospitalisation.
‰‰ Convalescence, general debility, congenital deformities, venereal
diseases, intentional self-injury, use of intoxicating drugs or alco-
hol, AIDS, expenses for diagnosis, X-ray or lab tests not consistent
with the disease requiring hospitalisation.
‰‰ Treatment relating to pregnancy or child birth including caesare-
an section.
‰‰ Naturopathy treatment.

The above list is not an exhaustive list as actual exclusions may vary

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from product to product and company to company. In the case of
group policies, it may be possible to waive or delete exclusions on the
payment of an extra premium.
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7.6.1  LIMITED HEALTH INSURANCE POLICIES

Certain health insurance policies cover only specific types of injuries

and illnesses. Such insurance policies are termed as limited health
insurance policies as they provide limited coverage. An insurer, while
offering such type of policies, mentions on the very first page of the
policy document that ‘This is a limited policy’ to avoid any controver-
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sy in the future. The following are the major types of limited health
insurance policies:
‰‰ Travel accident insurance: This is a type of limited insurance pol-
icy that covers death or injury resulting from accidents while the
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insured is travelling through some fare-paying public career like

commercial flights, bus, etc.
‰‰ Specified disease or dread disease insurance: Such insurance of-
fers a number of benefits for a few specific diseases, such as cancer
or heart disease.
‰‰ Hospital income insurance: Under such type of insurance, the
insured gets paid a specific sum of money on a daily, weekly or
monthly basis while he/she is hospitalised. However, this amount
is not related to expenses incurred in the hospital or with income
lost while the insured is hospitalised.
‰‰ Accident only insurance: Such type of insurance is provided to
cover injuries from accidents only. An insured is paid for any con-
ditions that include death, disability, dismemberment, or hospital
and medical expenses.
‰‰ Credit insurance: Such insurance policies are issued only to those
applicants who are in debt to a creditor. The maximum limit of
coverage is usually equal to the total amount of the debtor’s in-
debtedness.

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‰‰ Blanket insurance: This is a type of group insurance, which may

include the students of a certain college, campers, common career
passengers, players of certain team, etc. The insurance policy cov-
ers the entire group and the members are automatically covered
under the blanket policy. In other words, the policy applies to the
group and in case an individual leaves the group; he/she will no
more be covered under that policy.

7.6.2  DENTAL EXPENSE INSURANCE

Dental expense insurance benefits are generally provided as a part of

group health insurance coverage. This is because most of the insurers
do not offer individual dental expense coverage due to its expensive
nature. Dental expense insurance benefits cover the following:
‰‰ Preventive maintenance, such as teeth cleanings and X-rays

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‰‰ Repair charges related to teeth fillings, root canals, etc.
‰‰ Replacement of teeth
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7.6.3  LIMITED POLICIES-PRESCRIPTION DRUGS

Prescription drug insurance denotes to a limited form of health insur-

ance that covers the cost of drug and medicines prescribed by a doc-
tor. It is generally an optional benefit covered under a group medical
expense insurance policy. The policy usually covers a specific amount
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per prescription. Therefore, irrespective of the cost of medicines, the

insurer pays only the prescribed amount. In other words, in case, the
cost of drugs exceeds from the prescribed amount, the insurer would
pay the prescribed amount and the insured would pay the extra cost.
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7.6.4  MEDICAL SAVINGS ACCOUNTS

A medical savings account (MSA) refers to a medical plan that in-

cludes high-deductible health insurance coverage as well as a tax-de-
ferred savings account. These accounts allow the subscribers to meet
their healthcare expenses by savings in a savings account that helps
in tax savings as well. MSA subscribers can pay for their medical ex-
penses from this savings account. The main objective of MSA is to
incentivise insurance consumers in controlling their health care ex-
penses. In 2007, MSA has been replaced by Health Savings Accounts
(HSAs), a tax-exempt account that can be set up to meet future medical
expenses.

SELF ASSESSMENT QUESTIONS

10. Medical expenses are generally covered under a __________

policy.

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11. Which of the following refers to the maximum ceiling up to

which a claim can be paid during the policy period?
a. Cumulative bonus
b. Sum insured
c. Pre- and post- hospitalisation expenses
d. Additional benefits

ACTIVITY

Using the Internet, find some insurance companies in India that

provide travel accident insurance.

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7.7 SUMMARY
‰‰ Health insurance is a type of general insurance that provides fi-
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nancial security to an individual against several illnesses and inju-
ries and their treatment.
‰‰ Health insurance policies can be categorised into:
 Hospitalisation indemnity policy
 Hospital daily cash benefit policy
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 Critical illness benefit policy

 Surgical cash benefit
‰‰ A health insurance plan consists of certain aspects that play a cru-
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cial role in claim settlement. These aspects include:

 Premium

 Waiting period
 Pre-existing condition in health insurance
 Grace period
 Portability of policy
 Balance sum insured
 Any one illness
 Maximum number of claims allowed over a year
 Health check-up facility
‰‰ National Association of Insurance Commissioners (NAIC) has rec-
ommended certain uniform provisions to bring uniformity in oper-
ating procedures in health insurance contracts.

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‰‰ The major uniform policy provisions include:

 Entire Contract; Changes
 Time Limit on Certain Defences
 Grace Period
 Renewal

 Reinstatement

 Notice of Claim
 Claim Forms
 Proof of Loss
 Time of Payment of Claims
 Payment of Claims

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 Physical Examination and Autopsy
 Legal Actions
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 Change of Beneficiary
‰‰ There are 11 optional provisions that may or may not be included
in a healthcare policy. These provisions include:
 Change of occupation
 Misstatement of age
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 Other insurance in this insurer

 Insurance with other insurer
 Relation of earnings to insurance
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 Unpaid premium
 Cancellation

 Conformity with state statutes

 Illegal occupation
 Intoxicants and narcotics
‰‰ Advancement of the healthcare industry has led to significant
growth of the healthcare insurance industry.
‰‰ Health insurance is emerging as an important financial mecha-
nism to insure health care in India with enormous future scope.
‰‰ The Indian health insurance industry is controlled by four public
sector entities, namely New India Assurance, United India Insur-
ance, National Insurance and Oriental Insurance.
‰‰ Disability income insurance or disability insurance (DI) aims to
compensate the insured against the income lost or not earned be-
cause of illness or accident.

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‰‰ Depending on the period for which coverage is offered, DI policies

can be of two types, namely short-term DI policies and long-term
DI policies.
‰‰ Depending on the renewability provisions, DI policies can be of
two types, namely guaranteed renewable policy and non-cancel-
lable and guaranteed renewable policy.
‰‰ DI underwriting consists of all possible information about the ap-
plicant and acceptable or unacceptable risks.
‰‰ Based on risk assessment, an applicant can be assigned different
risk categories, such as preferred risk, standard risk, special risk
or substandard risk
‰‰ Medical expenses are generally covered under a medical claim
(commonly called mediclaim) policy.

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‰‰ Certain health insurance policies cover only specific types of inju-
ries and illnesses. Such insurance policies are termed as limited
health insurance policies as they provide limited coverage.
IM
‰‰ Dental expense insurance benefits are generally provided as a part
of group health insurance coverage.
‰‰ Prescription drug insurance denotes to a limited form of health
insurance that covers the cost of drug and medicines prescribed
by a doctor.
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‰‰ A medical savings account (MSA) refers to a medical plan that

includes high-deductible health insurance coverage as well as a
tax-deferred savings account.
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KEY WORDS

‰‰ Autopsy: A specialised surgical procedure of examining a corpse

to determine the cause and means of death.
‰‰ Compound Annual Growth Rate (CAGR): The mean annual
growth rate calculated at an investment over a definite period
of time usually more than one year.
‰‰ Mediclaim: The claim made by an insured to the insurer in the
case of medical expense coverage.
‰‰ Narcotics: An illegal addictive drug, which leads an individual
to the state of drowsiness, limpness or insensibility.
‰‰ Underwriting table: A chart used in the underwriting process
to assist an insurer in determining risk categories and assigning
them to applicants.

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7.8 DESCRIPTIVE QUESTIONS

1. Explain different types of health insurance policies.
2. List major uniform health insurance policy provisions.
3. Discuss the growth prospects of the Indian health insurance
market.
4. Classify DI policies depending on the period for which coverage
is offered.
5. What are major types of limited health insurance policies?

7.9 ANSWERS AND HINTS

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ANSWERS FOR SELF ASSESSMENT QUESTIONS

Topic Q. No. Answers

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Introduction to Health 1. Health insurance
Insurance
2. c.  Critical illness benefit policy
3. True
Health Insurance Policy 4. True
Provisions
M

5. Unpaid
Current and Future 6. Star Health, Apollo Munich, Max
Aspects of Health Insur- Bupa and Religare Health are
ance Market in India four private sector companies,
N

specialised in health insurance.

7. True
Disability Income 8. Total disability
Insurance
9. False
Medical Expense Coverage 10. Medical claim
11. b.  Sum insured

HINTS FOR DESCRIPTIVE QUESTIONS

1. Hospitalisation indemnity policy, hospital daily cash benefit
policy, critical illness benefit policy and surgical cash benefit are
different types of health insurance policies. Refer to Section 7.2
Introduction to Health Insurance.
2. The major uniform health insurance policy provisions include
entire contract; changes, time limit on certain defenses, grace

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period, renewal, reinstatement, notice of claim, claim forms,

proof of loss, time of payment of claims, payment of claims,
physical examination and autopsy, legal actions and change
of beneficiary. Refer to Section 7.3 Health Insurance Policy
Provisions.
3. Today, India is showing tremendous potential for the growth of
the health insurance market as only 15 per cent of population in
the country has some form of health insurance coverage. Refer
to Section 7.4 Current and Future Aspects of Health Insurance
Market in India.
4. Depending on the period for which coverage is offered, DI policies
can be of two types, namely short-term DI policies and long-term
DI policies. Refer to Section 7.5 Disability Income Insurance.
5. Travel accident insurance, specified disease or dread disease

S
insurance, hospital income insurance, accident only insurance,
credit insurance, blanket insurance are the major types of limited
health insurance policies. Refer to Section 7.6 Medical Expense
IM Coverage.

SUGGESTED READINGS FOR

7.10
REFERENCE
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SUGGESTED READING
‰‰ Elliott,C., & Vaughan, E. (1972). Fundamentals of risk and insur-
ance. New York: Wiley.
‰‰ Rejda, G. (2008). Principles of risk management and insurance. Bos-
N

ton: Pearson/Addison Wesley.

‰‰ Trieschmann, J., Gustavson, S., & Hoyt, R. (2001). Risk manage-
ment & insurance. Cincinnati, Ohio: South-Western College Pub.
‰‰ Williams,C., & Heins, R. (1976). Risk management and insurance.
New York: McGraw-Hill.

E-REFERENCES
‰‰ Course.uceusa.com,. (2015). 17.1.1 Mandatory Provisions. Re-
trieved 6 November 2015, from http://course.uceusa.com/Courses/
content/405/page_456.htm
‰‰ dna,. (2013). Health Insurance in India still remains an untapped
market | Latest News & Updates at Daily News & Analysis. Re-
trieved 6 November 2015, from http://www.dnaindia.com/health/
report-health-insurance-in-india-still-remains-an-untapped-mar-
ket-1891509

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‰‰ Heathfield, S. (2015). Are Your Finances Protected Against Sudden

Emergencies?. About.com Money. Retrieved 6 November 2015, from
http://humanresources.about.com/od/glossaryl/g/long-term-dis-
ability-insurance.htm
‰‰ Medindia,. (2015). Health Insurance In India - A General Over-
view. Retrieved 6 November 2015, from http://www.medindia.net/
patients/insurance/health-insurance-in-india-a-general-overview.
htm
‰‰ Remedios, T. (2015). Importance of Surgical Cash Benefits.  in-
diatimes.com. Retrieved 6 November 2015, from http://www.
indiatimes.com/health/buzz/importance-of-surgical-cash-bene-
fits-239159.html

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IM
M
N

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 C H A
8 P T E R

PROPERTY INSURANCE: HOME INSURANCE POLICY

CONTENTS

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8.1 Introduction
8.2 Home Insurance
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8.2.1 Comprehensive Home Insurance Policy
Self Assessment Questions
Activity
8.3 Types of Home Insurance
8.3.1 Building Insurance
8.3.2 Content Insurance
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Self Assessment Questions

Activity
8.4 Coverage Classification of Home Insurance
Self Assessment Questions
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Activity
8.5 Home Insurance Claim Process
Self Assessment Questions
Activity
8.6 Summary
8.7 Descriptive Questions
8.8 Answers and Hints
8.9 Suggested Readings for Reference

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INTRODUCTORY CASELET
N O T E S

INSURANCE COVER FOR PROPERTY DAMAGE

Pipe bursts are more common in houses situated in extremely

cold places and especially in winters when people often plan a
getaway during Christmas and New Year. This caselet describes a
situation of damage caused by pipe bursting reported as a claim
to an insurer under the homeowner’s policy and the approach to
insurance disputes involving damage due to leaking or blocked
pipes.

James Anderson in London had recently taken premature retire-

ment on grounds of ill-health and was in depression due to the
sudden change in his lifestyle. His wife thought that a trip to the
Bahamas over Christmas and New Year would help him regain his
morale and boost his spirits. For this, she used the money earned

S
from one of the matured insurance policies and booked air tickets
and hotel accommodation for the trip.

Before leaving, Mrs. Anderson left the central heating unit of the
IM
house on as they were due to return after a month.

Four weeks later, Mr. and Mrs. Anderson returned home only to
find that their living room was flooded with water from the bath-
room upstairs. While they were away, the temperature had sud-
denly dropped to freezing point and, as a result, the water in the
plumbing pipes froze. Due to this, the pipes had cracked and, with
M

the rise in temperature, the frozen water melted and flooded out
of the pipes. This caused extensive damage to the ceiling and the
carpeted area of the living room.

Mr. Anderson lodged a claim for reimbursement of expenses

N

incurred in the repairs. His insurer accepted the claim and ar-
ranged to fix the damage caused by the flooding. However, Mr.
Anderson was not reimbursed for the visit of the plumber to de-
termine the source of the leakage and fix it. Although Mr. Ander-
son complained to the insurer, it proved to be futile and this led
him to approach an arbitrator.

It was determined by the appraiser board that the details of the

cover were set out very clearly in the policy. The Andersons were
covered for loss or damage caused by leakage of water. However,
they were not covered for ‘trace and access’, that is, the cost of
finding and repairing the source of the damage.

As this restriction on the scope of the cover was neither signifi-

cant nor unusual, it was not highlighted in the policy summary
that was provided to the Andersons at the time of sale. This was
the usual practice in many home insurance policies. Therefore,
the plumber’s fees for replacing the damaged pipes was counted
as uninsured losses, and were to be borne by the policyholder.
Hence, Mr. Anderson’s complaint was rejected by the appraisers.

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LEARNING OBJECTIVES

After studying this chapter, you will be able to:

>> Explain the concept of home insurance
>> Explain the types of home insurance
>> Discuss the coverage classification of home insurance
>> Describe home insurance claim process

8.1 INTRODUCTION
In the previous chapter, you have studied about the health insurance,
the policy provisions under health insurance, the current health insur-
ance market in India, disability income insurance, medical expense

S
coverage and future of health insurance. This chapter will focus on
various aspects of the home insurance.

For an average consumer, a house of one’s own would be the most vi-
IM
tal, and in most situations, the most expensive investments that he/she
makes. Protection against financial losses due to any kind of damage
to the property would be a key requirement in every family’s insur-
ance plans. Insurance against damage to property along with liability
coverage to protect against the financial consequences of legal liabil-
ity is an important aspect of insurance. The home insurance policy is
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a policy that is used by people to insure exposures related to property

as well as liability.

Policies that cover both property and casualty are known as multiline
policies. The home insurance policy is a multiline policy because it
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covers both property and liability insurance. The advantage of buying

a multiline policy for a policyholder is that both property and liability
coverage are available to him/her under the same policy. Further, it
also becomes convenient for insurers because it means reduced ad-
ministrative costs due to fewer contracts, and fewer bills and dupli-
cate services.

This chapter discusses the home insurance and its coverage in detail.
It also explains the home insurance claim process.

8.2 HOME INSURANCE

Home insurance is usually called as hazard insurance or homeowners
insurance (HOI). It is a form of property insurance designed to protect
an individual’s home against damages to the house itself or the pos-
sessions in it. It also offers liability coverage against accidents in the
house.

A house is one of the largest financial assets for an individual and his/
her entire family. Usually, a house contains a lot of household goods

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and personal property, such as furniture, clothing, jewellery, etc. If

in some certain unfortunate event, such as theft or natural calamity,
these things get stolen or damaged; the worries about the loss could
cause a huge mental agony for anyone. It is, therefore, always advis-
able to insure the house and belongings to protect them against any
unforeseen risk. The home insurance policy guarantees the financial
protection against any hazard, such as fire, theft, accidents or calami-
ties to home and its contents.

Usually, a home insurance policy covers two types of calamities: nat-

ural and man-made. Table 8.1 shows the detailed list of natural and
man-made calamities that are covered under a home insurance policy:

TABLE 8.1: LIST OF NATURAL AND MAN-MADE

CALAMITIES

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Natural calamities Man-made calamities
Fire Burglary and theft
Lightening Terrorism (optional cover)
IM Explosion/implosion Riots, strike, house breaking, mali-
cious act and terrorism damage
Storm, cyclone, typhoon, tempest, Accident by external means, damage
hurricane, tornado, flood, hail- during travel by road, rail, waterways,
storm, frost and inundation or air
Subsidence and landslide Missile testing operations
Bush fire Bursting and/or overflowing of water
M

tanks, apparatus and pipes

Shock damage due to earthquake Impact damage by a rail or road
vehicle
Leakage from automatic sprinkler
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installation

A home insurance policy is usually a term contract, effective for a spe-

cific period of time. The premium charged for the home insurance
policy depends upon the risk possibilities. For example, premium will
be low for the house owner whose house is situated near fire station or
is fully equipped with the sprinkler system and fire alarms.

Individuals purchase home insurance for two major reasons, which

are:
‰‰ Protecting one’s assets: Home insurance covers the physical
structure of a home as well as the personal property or belong-
ings. It also covers the personal legal responsibility or liability of
the insured for injuries to others or their property while they are
residing in the insured’s property.
‰‰ Satisfying the mortgage lender: In most situations, the lending
bank or financial institution requires the individual taking the loan
to have insurance at least till the time the property is mortgaged to

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the bank, and also enlist the bank’s name on the insurance policy
as the mortgagee.

The cost of home insurance policy depends on what it could cost to

replace the insured items. Though the insurance policy is an extensive
contract, it specifies clearly what will and what will not be covered un-
der the policy claim. For example, generally, events like floods, earth-
quakes, acts of God or wars are excluded from the subject of claim.
However, in some geographical areas, separate policy for flood and
earthquake are made to cover these risks also under the claim.

As it is hard for anyone to predict any disaster or unforeseen risk, it

becomes important to have a home insurance policy to give the home-
owner a sense of security, peace of mind and protection of his/her fam-
ily and belongings.

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8.2.1  COMPREHENSIVE HOME INSURANCE POLICY

An individual can insure his/her house against fire, theft, natural di-
IM
sasters, third-party liability, accidental death or injury, etc. A compre-
hensive home insurance policy helps the individual to cover against
all such risks. Usually, such policy contains 10 to 15 sections and a
discount is provided by various insurance companies of upto 15 to 20
per cent if few sections of the policy are chosen. Out of the 10 or 15 sec-
tions, the base policy, that is, section 1 has the following two sub-sec-
tions:
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1. Building coverage
2. Protection of contents of the building from damage due to ruin
and allied perils like fire, riots, lightning, floods, earthquakes,
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etc.

The comprehensive home insurance policy is usually divided into 10

sections, which include the following:
1. Fire insurance of the building and household contents. Insurance
of contents against fire risks is compulsory. The insured needs to
choose a minimum of three covers for issue of a package policy.
2. Burglary, theft, larceny, house-breaking.
3. All risks insurance for ornaments, jewellery, and other valuables.
4. Plate glass insurance.
5. Failure of domestic electrical and mechanical appliances.
6. TV, VCR, VCP and music systems.
7. Pedal cycle insurance.
8. Personal baggage insurance.
9. Personal accident with family package discount of 10 per cent.
10. Public liability and employers’ liability.

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Some companies also provide insurance of household goods in case

an individual shifts residence or rents upto certain time duration if he/
she faces some kind of contingency.

The necessary and optional covers and premiums under this policy
are shown in Figure 8.1:

NECESSARY COVERS
Fire and allied perils Cover* Premium*
(a) Building 20,00,000 1,000
(b) Contents (excluding cash & jewellery) 5,00,000 250
Burglary, house-breaking, including
Larceny and theft 5,00,000 1,200
Appliances 1,00,000 250
Television 25,000 250

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One pays (after 15% disc. on premium) 2,507.50
Optional Covers
All risk (cash and jewdlery) 50,000 500
Plate glass 10,000 100
IM Pedal cycle 2,000 40
Baggage 20,000 150
Personal Accident 10,00,000 2,000
Public Liability 20,000 10
One pays (After 20% discount) ` 4,600
M

Figure 8.1: Necessary and Optional Covers and Premiums under the
Comprehensive Home Insurance Policy

There are different Indian private insurance companies offering com-

prehensive home insurance policy, for example, ICICI Lombard, Bajaj
N

Allianz General Insurance, TATA-AIG General Insurance, Iffco-Tokio

General Insurance, Royal Sundaram Alliance, etc. On the other hand,
there are several Indian public sector insurance companies provid-
ing comprehensive home insurance policy, for example, New India
Assurance, United India Insurance, National Insurance, Oriental In-
surance, etc.

Let us now look at the coverage provided by some of these Indian in-
surance companies under the comprehensive home insurance policy.

The ICICI Lombard’s comprehensive home insurance policy is offered

over the counter. This policy offers expenses for temporary settlement
covering, packing, unpacking, loading and unloading upto 4 per cent
of the content’s sum insured. The insurance is not applicable if the
premise is unoccupied for more than 30 days.

Bajaj Allianz’s Householders’ Insurance is a single policy offering pro-

tection for property and interests of the insured and his/her family
members who stay in the property on a permanent basis. The compre-
hensive package policy covers all the above mentioned 10 sections and

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a unique feature is that group discounts can be availed by choosing

more than 5 sections.

TATA-AIG Home Secure provides the policyholder the option to se-

lect from 6 pre-packed policies. The 15-section policy includes buying
protection against the loss of money in transit and rent for alternative
accommodation. Further, the policy sections become ineffective only
when premises have been vacant for over 60 days.

Iffco-Tokio Home and Family Protector Insurance Policy offers protec-

tion against enhanced living costs and loan payment. The policy offers
cover for an automatic rise in the sum insured for a time duration of 15
days pre- and post-wedding of a family member.

COMPENSATION OFFERED

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On the basis of the property insured, the insurance cover offers com-
pensation equivalent to the market value or the cost of replacement.
Sometimes, if the insured items are susceptible to depreciation, the
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actual value is provided. In case of public liability risk, the compensa-
tion amount is usually upto ` 25,000.

EXCLUSIONS

The exclusions under the comprehensive home insurance policy are

specific to the item or properties insured and are as follows:
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‰‰ Under the fire tariff, the house needs to adhere to Class ‘A’ con-
struction norms.
‰‰ Personal computers are exempted from this policy and a separate
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electronic equipment policy needs to be taken.

‰‰ Dish antennae are excluded from this policy.

EXHIBIT

THE NEW INDIA ASSURANCE CO. LTD

The New India Assurance Co. Ltd. offers a package policy, which is
specially designed to meet the insurance requirements of a house-
holder by combining a number of standard policies (usually taken
by householders) into a single policy.

Discount in premium is offered depending upon the number of sec-

tions of the policy, opted for, by the proposer.

The policy comprises 10 sections, which are as follows:

Section I - Fire and Allied Perils

a. Coverage for building

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b. Covers contents of the dwelling belonging to the proposer and

his/her family members permanently residing with him/her

Allied Perils:
1. Fire, lightening, explosion of gas in domestic appliances
2. Bursting and overflowing of water tanks, apparatus or pipes
3. Damage caused by aircraft
4. Riot, strike, malicious or terrorist act
5. Earthquake, fire and/or shock, subsidence and landslide
(including rockslide) damage
6. Flood, inundation, storm, tempest, typhoon, hurricane,
tornado or cyclone

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7. Impact damage

Section II - Burglary and House Breaking including Larceny and

IM Theft

Covers contents of the dwelling against loss due to burglary, house

breaking, larceny or theft

Section III - All Risks (Jewellery and Valuables)

Covers loss or damage to jewellery and valuables by accident or

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misfortune whilst kept, worn or carried anywhere in India subject

to the value declared in the schedule

Section IV - Plate Glass

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Loss or damage to fixed plate glass in the insured premises by acci-

dental breakage subject to limit of sum insured

Section V - Breakdown of Domestic Appliances

Covers domestic appliances against unforeseen and sudden physi-

cal damage due to mechanical or electrical breakdown

Section VI - T.V. Set including VCP/VCR (All Risks)

Covers loss or damage to T.V. set including VCP/VCR by fire and

allied perils, burglary, house breaking or theft, breakage due to ac-
cidental external means, mechanical or electrical breakdown. Any
legal liability arising out of injury or accidental death of any person
other than insured’s family members or employee as also damage
to property not belonging to or in the custody of insured, caused by
use of the T.V. set is also covered upto a limit of ` 25,000/-.

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Section VII - Pedal Cycles (All Risks)

Covers loss or damage to pedal cycles by:

1. Fire and allied perils
2. Burglary, housebreaking, theft
3. Accidental external means
4. Third party personal injury or third party property damage
for ` 10,000/-

Section VIII - Baggage Insurance

Covers loss or damage to insured’s accompanied baggage by acci-

dent or misfortune whilst the insured is travelling on tour or holi-
day anywhere in India.

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Section IX - Personal Accident

Covers death or bodily injury by accidental, violent, external and

IM
visible means to the insured person named in the schedule and
subject to limits specified therein.

Section X - Public Liability

Covers insured’s legal liability for bodily injury or loss of or damage

to property of third party limited to amount specified in the sched-
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ule and workmen’s compensation liability to domestic servants en-

gaged in insured’s premises.

It is compulsory to opt for Section IB of the policy. A minimum of

three sections including Section IB have to be taken for issuance of
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this policy.

For the insurance of household items, it would be necessary to

group the items in a broad category like furniture, clothing, linen,
utensils, crockery, etc. and give a value equivalent to the market
value, that is, the value for which this used item could be bought or
sold in the market.

Sections I A & B, II, III, IV, VI ,VII & VIII should be insured on mar-
ket value basis as described above.

It is a condition of Section V, that is, breakdown of domestic appli-

ances, that the sum insured should represent the current replace-
ment value of a similar item. For example, to insure 165 ltr. Godrej
fridge which is 3 years old, the sum insured should be equivalent to
the cost price of a new 165 ltr. Godrej fridge.

However, the claim amount payable would be the amount required

to bring the damaged item to the same condition as it was prior to
the damage subject to the adequacy of the sum insured.

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The sum insured under section IX, that is, Personal Accident should
not exceed 72 months salary from gainful employment.

In case of any incident leading to a valid claim under the policy,

following steps should be taken:
1. Take necessary steps to minimise the loss/damage.
2. In case of fire, inform fire brigade immediately.
3. In case of theft, larceny or burglary, inform the police
immediately along with a list of items stolen and their
approximate value.
4. Inform insurance company by phone or fax and in writing.
5. Extend full cooperation to the surveyor appointed by the
insurance company and provide necessary documents to

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substantiate the loss. A claim form issued by the company is
also to be submitted.
6. In case any rights of recovery exist against any other party
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responsible for the loss, the rights of recovery have to be
subrogated to the insurance company on payment of claim.
(Source: http://www.newindia.co.in/content.aspx?pageid=555)

SELF ASSESSMENT QUESTIONS

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1. _____________________ is a form of property insurance

designed to protect an individual’s home against damages to
the house itself or the possessions in it.
2. Home insurance also offers __________________against
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accidents in the house.

3. The premium charged for the home insurance policy depends
upon the risk possibilities. (True/False)

ACTIVITY

Research on the Internet about the home insurance policy offered

by insurance organisations in India. List the important features.

8.3 TYPES OF HOME INSURANCE

Home insurance in India plays an important role in protecting one’s
house, building or its contents from several unforeseen risks and haz-
ards. The home insurance policy offered by the home insurance com-
panies in India, usually combine three insurance policies together, in-
cluding insurance on:
‰‰ The home and its contents

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‰‰ The personal possessions of the homeowner

‰‰ The accidents that may happen at the house like fire or any natu-
ral calamities

However, the risk coverage depends on the type of policy. There are
basically two types of home insurance policies available in India.
These are shown in Figure 8.2:

Types of Home
Insurance

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Building Content
Insurance Insurance
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Figure 8.2: Types of Home Insurance

Let us discuss these home insurance types in detail in the next sec-
tions.

8.3.1  BUILDING INSURANCE

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Building insurance covers the house structure, like walls, windows,

roof; fixtures and fittings, such as wardrobes, bath equipment, and
kitchen units; and outbuildings, such as garage and sheds. A standard
building insurance policy covers risks against:
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‰‰ Fire, lightening and explosion of gas in domestic appliances

‰‰ Theft or attempted theft
‰‰ Third party liability and personal accident
‰‰ Burst pipes and other accidents related with water leakage
‰‰ Oil leakage from the central heating system and damage to air con-
ditioners
‰‰ Vandalism or third party damage
‰‰ Damage caused by aircraft and impact damage
‰‰ Storm damage, damage due to falling of trees/branches

In certain calamities like earthquake, where complete rebuilding of

a house becomes necessary, unsufficient policy cover amount cannot
fulfil the objective of buying the insurance plan. Therefore, it is always
suggested to calculate the policy cover amount near to the exact value
that could be required while reconstructing the building. Some insur-

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ance companies calculate the rebuild cost by assessing where the ap-
plicant lives, the type and age of the property, etc.

In India, the home insurance companies mainly cover the building

structure under the reconstruction cost. Sum insured is calculated by
multiplying built-up area of the house with construction rate per sq.
feet.

NOTE

Assessment of value home structure including contents = Area of

home × rate of construction per sq. feet (as on the date of taking
the policy)

Some exclusion of the policy includes:

S
‰‰ Damage arising from normal wear and tear
‰‰ Act of war or terrorism
‰‰ Sonic bangs from aircraft
IM
‰‰ Radioactive contagion
‰‰ Frost damage

8.3.2  CONTENT INSURANCE

M

Content insurance provides protection against several hazards of

theft, fire and natural disaster to all sorts of things; an individual takes
or keeps with him/her in the house he/she lives. It could be valuable
jewellery, electronic goods, household appliances, or furniture.
N

In this way, content insurance pays for damage to, or loss of, an indi-
vidual’s personal possessions, present within the home, where he/she
lives. Here, the term, ‘possessions’ denote anything not permanently
attached to the structure of the house building. Some contents policies
may cover possessions, kept in outbuildings, attached to the house.

Usually, content insurance is purchased alongside home insurance.

However, it is not mandatory and entirely depends upon the needs of
the policy buyer. People may buy building and content insurance pol-
icies separately or together in one package, depending upon the risk
coverage need. For example, if a person is living in rental accommoda-
tion, he/she may require only content insurance and not the building
insurance.

SELF ASSESSMENT QUESTIONS

4. The home insurance companies does not cover the building

structure under the reconstruction cost. (True/False)

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ACTIVITY

List the features of building insurance offered by Suncorp Home

Insurance.

COVERAGE CLASSIFICATION OF HOME

8.4
INSURANCE
Though certain coverages are compulsory in the home insurance pro-
gramme, it is not mandatory to have ‘one-size-fits-all approaches’ at-
titude while buying and selling the home insurance policy. In other
words, in spite of certain compulsory coverages, there is still sufficient
flexibility in the required amounts so that the home insurance policy
could fit the needs of most of the people. Thus, it is important for an

S
individual to understand the meaning of coverage as per the policy.

There are six basic coverages of a home insurance policy, which are:
IM
1. Coverage ‘A’: Dwelling (The coverage includes only the structure
of the house and not the land).
2. Coverage ‘B’: Other structures (The coverage includes the
buildings and structures, attached from the main residence
by a fence, wire, or any other form of connection, however not
otherwise attached to the house. Typical coverage for such
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spaced out structures is 10 to 20 per cent of the dwelling coverage.

However, high amounts may also be purchased, if necessary).
3. Coverage ‘C’: Personal property (The coverage includes the
contents of one’s home that are not attached with the dwelling.
N

It may include jewellery, furniture, appliances and clothing.

Such coverage usually covers 50 to 70 per cent of the dwelling
coverage).
4. Coverage ‘D’: Loss of use/additional living expenses (The
coverage includes the cost of living expenses, such as rental costs,
in case, the dwelling becomes uninhabitable. It also includes
reimbursement of additional living costs, covering the expenses
to the insured for maintain a normal standard of living).
5. Coverage ‘E’: Comprehensive personal liability (The coverage
includes personal liability for injuries and property damage
occurred anywhere in the world).
6. Coverage ‘F’: Medical payments to others (The coverage includes
those medical costs for which the policyholder is held responsible
for an injury, occurred at his/her premise, irrespective of his/her
any fault).

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SELF ASSESSMENT QUESTIONS

5. Coverage ‘E’ is __________________________ that includes

personal liability for injuries and property damage occurred
anywhere in the world.
6. Coverage ‘C’ is related to personal property. (True/False)

ACTIVITY

Research from the Internet about the home insurance policies avail-
able outside India. List the important features of those policies.

8.5 HOME INSURANCE CLAIM PROCESS

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Insured people can claim home insurance for any damage to their
property. In India, there are several insurance companies like Bharti
IM AXA General Insurance, United India Insurance Company Ltd., Fu-
ture Generali Total Insurance Solutions, etc. which have a systematic
home insurance claim process in place. The insured can claim by call-
ing specific numbers of the insurance companies or emailing them.
However, they need to provide all necessary information that include
details of the policy of the insured and other relevant information re-
garding the claim.
M

Some of the essential documents required for filing a home insurance

claim are:
‰‰ Claim form appropriately filled in all aspects and signed by the
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insured/claimant, detailing a clear description of the events.

‰‰ FIR or final police report in situations of property damage or theft
or burglary.
‰‰ Copy of repair estimates, invoices, money receipts, etc.
‰‰ Satisfaction letter if the insured prefers to avail cashless facility at
the insurance companies (in case of a corporate/firm, the compa-
ny’s seal or rubber stamp is needed on the satisfaction letter).
‰‰ Any additional documents, if needed, can be called for on a case-
to-case basis.

Let us now look at the systematic home insurance claim process of

Future Generali Total Insurance Solutions.

In case of fire loss:

1. Intimate online or call on the company’s emergency helpline
number.
2. Contact the fire brigade/police and protect the property.

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3. Future Generali will depute a surveyor for inspection or

investigation.
4. Submit the necessary documents.
5. Settlement of the approved amount within 15 days from the date
of submission of final documents.

In case of theft/burglary:
1. Intimate online or call on the company’s emergency helpline
number.
2. Report loss to police authorities.
3. Future Generali will depute a surveyor for inspection or
investigation.
4. Submit the necessary documents.

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5. Settlement of the approved amount within 15 days from the date
of submission of final documents.
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In case of engineering claim:
1. Intimate online or call on the company’s emergency helpline
number.
2. Future Generali will depute a surveyor for inspection or
investigation.
3. Submit the necessary documents.
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4. Settlement of the approved amount within 15 days from the date

of submission of final documents.
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EXHIBIT

THE SYSTEMATIC FIRE AND ENGINEERING

INSURANCE CLAIM PROCESS OF UNITED INDIA
INSURANCE COMPANY LTD.

In case, an unfortunate loss as covered in the policy occurs, so as to

get prompt service, the insured needs to take the following actions:
a. Immediately inform the office concerned over phone and in
writing the occurrence of the claim along with the correct
policy number.
b. Obtain the claim form from the office concerned, fill up the
same in all respects and submit the same in United India
Insurance’s office.
c. In case the loss is very large, prompt intimation is required
to send a suitable surveyor to assist the insured in minimis-
ing the loss and quick settlement of claim which helps to re-
start the business activity. United India Insurance’s officer

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may also visit the site of loss to have a first-hand information

of the loss.
d. In order to help to prove the claim, the surveyor or office may
seek documentary evidence. The insured may submit photo-
copies of necessary documents and obtain acknowledgement.
e. Fully cooperate with the surveyors and insurance officials
visiting the site of loss to examine the cause of loss, to
correctly estimate the extent of loss and to work towards a
quick settlement of the loss. They should be helped to take
photographs of the loss and obtain statements of witnesses.
f. Necessary information should be given to the local fire station,
police authorities and other civil authorities as per law and
local practice. Copies of their reports should be obtained and

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handed over to the surveyor or office.
g. Surveyor may also be given copies of licences, permits and
certifications, etc. in force to ensure that the operations
are conducted as per law and as per the necessary safety
IM
standards.
h. A copy of the survey report may be handed over to the insured
for record purposes so that he/she is aware of the assessment
made.
i. As soon as the survey report and copies of the document desired
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by the surveyor/insurer are complied with by the insured, he/

she may keep in touch with United India Insurance’s office for
early disposal of the claim.
(Source: https://uiic.co.in/claims/claims-procedure)
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SELF ASSESSMENT QUESTIONS

7. The insured can claim home insurance by calling specific

numbers of the insurance companies or emailing them. (True/
False)
8. Copy of repair estimates is not an essential document required
for filing a home insurance claim. (True/False)
9. In case of fire loss, the insured must contact the __________
and protect the property.

ACTIVITY

Using the Internet, find information on the home insurance claim

process of Bharti AXA General Insurance. Make a note of your
findings.

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8.6 SUMMARY
‰‰ Home insurance is a form of property insurance designed to pro-
tect an individual’s home against damages to the house itself or
the possessions in it. It also offers liability coverage against acci-
dents in the house.
‰‰ A home insurance policy is usually a term contract, effective for a
specific period of time. The premium charged for the home insur-
ance policy depends upon the risk possibilities.
‰‰ The cost of home insurance policy depends on what it could cost
to replace the insured items. Though the insurance policy is an
extensive contract, it specifies clearly what will and what will not
be covered under the policy claim.

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‰‰ A comprehensive home insurance policy helps the individual to
cover against risks such as fire, theft, natural disasters, third party
liability, accidental death or injury.
‰‰ Types
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of home insurance includes building insurance and content
insurance. Building insurance covers the house structure, like
walls, windows, roof; fixtures and fittings, such as wardrobes, bath
equipment, and kitchen units; and outbuildings, such as garage
and sheds. Content insurance provides protection against several
hazards of theft, fire and natural disaster to all sorts of things; an
individual takes or keeps with him/her in the house he/she lives.
M

‰‰ Some of the basic coverages of a home insurance policy relates

to dwelling, personal property, comprehensive personal liability,
medical payments to others, etc.
‰‰ InIndia, there are several insurance companies like Bharti AXA
N

General Insurance, United India Insurance Company Ltd., Future

Generali Total Insurance Solutions, etc. which have a systematic
home insurance claim process in place.

KEY WORDS

‰‰ Insurance claim: It is a notification sent by the insured to an

insurance company requesting payment based on terms of the
insurance policy.
‰‰ Invoice: It is a document which depicts a list of goods and the
prices paid for them.
‰‰ Larceny: It refers to theft of an individual’s personal property.
‰‰ Liability: It is the state of being responsible for any loss of mon-
ey, settlements, etc.
‰‰ Surveyor: A person who is in charge of examining the condition
of the land and buildings for valuation purposes.

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8.7 DESCRIPTIVE QUESTIONS

1. What is home insurance? Explain.
2. Describe the types of home insurance.
3. Explain the coverage classification of home insurance.
4. Describe the home insurance claim process.
5. Write a short note on comprehensive home insurance policy.

8.8 ANSWERS AND HINTS

ANSWERS FOR SELF ASSESSMENT QUESTIONS

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Topic Q. No. Answers
Home Insurance 1. Home insurance
2. Liability coverage
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3. True
Types of Home Insurance 4. False
Coverage Classification of 5. Comprehensive personal lia-
Home Insurance bility
6. True
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Home Insurance Claim Process 7. True

8. False
9. Fire brigade/police
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HINTS FOR DESCRIPTIVE QUESTIONS

1. The home insurance policy guarantees the financial protection
against any hazard, such as fire, theft, accidents or calamities to
home and its contents. Refer to Section 8.2 Home Insurance.
2. Home insurance in India plays an important role in protecting
one’s house, building or its contents from several unforeseen
risks and hazards. Refer to Section 8.3 Types of Home Insurance.
3. Some of the basic coverages of a home insurance policy relate
to dwelling, personal property, comprehensive personal liability,
medical payments to others, etc. Refer to Section 8.4 Coverage
Classification of Home Insurance.
4. Insured people can claim home insurance for any damage to their
property. Refer to Section 8.5 Home Insurance Claim Process.
5. A comprehensive home insurance policy helps the individual to
cover against all risks such as fire, theft, etc. Refer to Section 8.2
Home Insurance.

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SUGGESTED READINGS FOR

8.9
REFERENCE

SUGGESTED READINGS
‰‰ Arunajatesan, S. and Viswanathan, R. T. (2009). Risk management
and insurance. 1st ed. New Delhi: MacMillan Publishers India Ltd.
‰‰ Rejda, E., G. (2011). Principles of risk management and insurance.
1st ed. Noida: Dorling Kindersley India Pvt. Ltd.

E-REFERENCES
‰‰ Icicibank.com. (2015). Home Insurance India | Home Insurance
Plans | Home Insurance Online | Home Insurance Claims | ICI-

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CI Bank. Retrieved 29 December 2015, from http://www.icicibank.
com/Personal-Banking/insurance/general-insurance/home-insur-
ance/home-claims.page
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‰‰ Rmiia.org. (2015). Homeowners Insurance Settlement Process. Re-
trieved 29 December 2015, from http://www.rmiia.org/homeown-
ers/Walking_Through_Your_Policy/Settlement_Process.asp
‰‰ Royalsundaram.in. (2015). Claim Procedure for Home Content In-
surance by Royal Sundaram. Retrieved 29 December 2015, from
http://www.royalsundaram.in/home-content-online/claims-proce-
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dures-home-content-sheild-claim.aspx
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 C H A
9 P T E R

COMMERCIAL PROPERTY INSURANCE

CONTENTS

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9.1 Introduction
9.2 Commercial Property Coverage

IM Self Assessment Questions
Activity
9.3 Commercial Property Direct Loss Coverage
Self Assessment Questions
Activity
9.4 Commercial Property Coverage Policies
9.4.1 Building and Personal Property Coverage Forms
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Self Assessment Questions

Activity
9.5 Commercial Property Indirect Loss Coverage
Self Assessment Questions
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Activity
9.6 Boiler and Machinery Insurance
Self Assessment Questions
Activity
9.7 Transportation Coverage
9.7.1 Ocean Marine Insurance
9.7.2 Inland Marine Insurance
Self Assessment Questions
Activity
9.8 National Flood Insurance Program
9.8.1 General Property Form Flood Insurance Policy
9.8.2 Non-Residential Condominiums
Self Assessment Questions
Activity
9.9 Summary
9.10 Descriptive Questions
9.11 Answers and Hints
9.12 Suggested Readings for Reference

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INTRODUCTORY CASELET
N O T E S

COMMERCIAL PROPERTY DAMAGE

L’Auberge Chez François is a renowned restaurant that is located

in Washington, DC. The restaurant is known for its outstanding
services and serving amazing French cuisine. Thus, it has always
been one of the favourite spots for the people residing in Washing-
ton where they gather to rejoice their special occasions.

Unfortunately one day, fire broke out in the restaurant because

of the electric short circuit in the ventilation fan placed above the
kitchen. The combination of smoke and water not only affected
the restaurant but also caused serious damage to the 85-year-old
structure of the restaurant. Consequently, it became a challenge
for the restaurant owners to retain the first-class employees who
suffered from this damage as well as to renovate the restaurant

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place back as it was before the outbreak of fire.

For maintaining its brand image, the four-star restaurant some-

how retained its world-class chefs and service personnel. There-
IM
fore, it was important for the owners to convince the insurance
company to pay the employees for the given period in which the
restaurant building would be recovered during renovation.

To fight for their claims from the insurance company, the restau-
rant owners hired a third party, Adjusters International. It ar-
M

gued with the insurance company to provide an agreed-upon sum

to the staff so as to retain them. It provided the logic that if the
restaurant was unable to retain the staff, then it might incur fur-
ther losses and then the insurance company would have to pay
more in case of business income loss. Thus, the insurance com-
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pany agreed to the argument.

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LEARNING OBJECTIVES

After studying this chapter, you will be able to:

>> Explain commercial property coverage
>> Discuss commercial property direct loss coverage
>> Define commercial property coverage policies
>> Describe commercial property indirect loss coverage
>> Explain boiler and machinery insurance
>> Define transportation coverage
>> Discuss National Flood Insurance Program

9.1 INTRODUCTION

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In the previous chapter, we discussed about homeowner’s property
insurance in detail. This chapter will discuss about commercial prop-
erty insurance in detail.
IM
It is well-known that buying an insurance plan provides a financial se-
curity in case of incurring any loss related to life, property or vehicle.
The insurance premium is the small fee paid by the policy holder for
the guarantee of being covered at the time of the loss.
M

Property insurance helps in providing risk coverage to the policyhold-

er against his/her property in case of earthquake, flood or any other
unexpected situation. In this insurance, the insurance company cov-
ers the insured against all uncertain perils that may cause damage to
property and result in financial or physical losses.
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Today, commercial property insurance is gaining importance as it is a

comprehensive policy that covers the entire risk of the policyholder.
This policy covers many other individual policies that help in avoiding
overlapping and providing full cover to the policyholder.

In this chapter, we discuss about commercial property coverage in

detail. The chapter provides deep insight into commercial property
coverage policies. The chapter covers commercial property direct loss
coverage and commercial property indirect loss coverage. You learn
about boiler and machinery insurance, transportation coverage and
National Flood Insurance Program.

9.2 COMMERCIAL PROPERTY COVERAGE

The commercial property insurance evolved in a unique way where
different types of coverages meant for protection of different types of
property losses evolved parallel to each other. The industry at that
time worked on monoline policies and the underwriters were attuned
to that concept; hence, the commercial property coverage originat-

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ed as a monoline policy. If we see the history of the commercial fire

insurance, we will see that it traditionally provided coverage only at
the premises of the insured. Thus, it created a need for developing a
different type of insurance, that is, transportation insurance, which
covered the belongings when they were away from the premises and
were in transit. It also provided a framework for developing various
other property insurances that included crime insurance, marine in-
surance, and boiler and machinery coverage. In January 1986, the
long awaited portfolio programme was finally launched by the Insur-
ance Services Office. It made the procedure simpler by introducing
new forms that were easy to understand and worked on the general
guidelines of commercial property insurance.

During this time, the individual lines of insurance had become con-
siderably standardised and streamlined, but the commercial line was

S
still in a state of disarray as every line was based on separate language
and terms. Thus, the portfolio programme was groundbreaking in this
regard as it worked on phasing out all the differences and bringing
standardised forms creatively that worked on the basic guidelines
IM
of commercial package policies. It included introduction of modular
forms and standard policy conditions. Today, all commercial policies
follow the basic format that works on the same structure, irrespective
of the coverage. It also includes standard common declarations part
and a common conditions part in addition to the forms suitable for
various insurance coverages.
M

The common declarations part contains information about the:

‰‰ Insured

‰‰ Inception date
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‰‰ Term of the policy

‰‰ Premium for the coverage

The common policy conditions form contains items common to all

types of coverages, which eliminates the requirement to restate the
same provisions in different policies. Thus, it reduces the burden of
insurers and agents to stock and carry multiple forms. Further, each
type of coverage may have a separate declaration form and a coverage
form(s) for that line of insurance. The insurer-proposer can make use
of portfolio forms in order to create monoline contracts or may simply
combine to create package policies, using the same form in either of
the cases. Insurers often offer package discounts for including both
property and liability insurance.

SELF ASSESSMENT QUESTIONS

1. The common policy conditions form contains items common

to all types of coverages, which eliminates the requirement to
restate the same provisions in different policies. (True/False)

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ACTIVITY

Identify any two insurers of your choice and download any of their
commercial line policies. Study the terms and conditions along
with the forms.

COMMERCIAL PROPERTY DIRECT LOSS

9.3
COVERAGE
First, let us understand the concept of direct loss; as the name sug-
gests, it can be defined as any property or life damage that may have
been inflicted by some natural disaster, such as outbreak of fire, acci-
dents or any other related event.

S
According to International Risk Management Institute (IRMI), di-
rect loss can be defined as the loss incurred due to direct damage to
property, as opposed to time element or other indirect losses.
IM
The commercial property insurance provides coverage to the insured
in case of damage to the property. The property here refers to any-
thing that can be valued and includes both personal and real proper-
ties. This insurance covers the following:
‰‰ Commercial buildings
‰‰ Equipment
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‰‰ Furniture
‰‰ Inventories
‰‰ Accounts receivables
‰‰ Business records
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It is to be noted that buildings and personal property coverage in the

insurance contracts provides cover against the direct loss suffered
by the policyholder. This direct loss may include physical damage or
property damage caused to the policyholder.

Some of the direct losses to commercial property routinely covered by

insurers are as follows:
‰‰ Accounts receivable: It can be defined as the outstanding amount
that a policyholder is yet to receive from the customer. It also in-
cludes other expenses that the policyholder is bound to incur for
creating accounts receivables.
‰‰ Computer property: It includes the direct loss that is inflicted on
the computer property and whose occurrence is within 1000 feet of
the building premises.
Examples include the following:
 Computer virus – hacking event creating accounts receivable
 Illegal or malicious entry

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‰‰ Debris removal: It involves the actual cost of removing the debris

upon facing the physical damage/direct loss of the premises and
the related property.
‰‰ Discharged fire protection equipment: It takes into consider-
ation the cost of installing the discharged fire protection equip-
ment even if the premises or the related property did not suffer
from any direct loss or physical damage.
‰‰ Exhibition, fair or trade show: It calculates for any damage suf-
fered on the items such as fine arts, which were at or being trans-
ported for any exhibition, fair or trade show.
‰‰ Extra expense: It includes all the extra expense incurred by the
insurance company to the policyholder during the restoration pe-
riod after the physical loss or damages to the premises.
‰‰ Fire department service charges: It includes the expenses related

S
to making payment to the fire department for either saving or pro-
tecting the insured building or its contents at the time of damage.
‰‰ In-transit: It includes all the necessary cost incurred for the di-
IM
rect loss suffered for the contents, computer property and fine arts
when being transported. It also includes the cost incurred on car-
rying out research for restoring, producing copy or replacing the
valuable records and documents.
‰‰ Installation: In this, all those costs are included where direct
physical loss of contents was suffered at the time of installation or
M

testing products such as air conditioners, cameras, etc.

‰‰ Personal property of employees: It includes any direct physical
damage or loss suffered by employees to their physical property
within 1000 feet of the premises.
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‰‰ Preservation of property: It takes into consideration all the costs

incurred for moving the contents of the premises to another loca-
tion for the purpose of carrying out the restoration procedure.

SELF ASSESSMENT QUESTIONS

2. Name any two areas that are covered by commercial property

direct loss coverage.
3. “It includes the expenses related to making payment to the
fire department for either saving or protecting the insured
building or its contents at the time of damage.” What kind of
charges are mentioned here?

ACTIVITY

Identify any two insurers of your choice and download their com-
mercial property insurance policies. Compare and contrast the cov-
erages offered for direct loss.

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COMMERCIAL PROPERTY COVERAGE

9.4
POLICIES
You have already understood that commercial property insurance
helps clients and their business to recover from the disasters that can
risk the functioning of the business. The events that are covered in
this policy include protection from fire, theft, property damage, van-
dalism and windstorms.

The commercial property coverage policy includes the following mod-

ular parts:
‰‰ Standard common policy conditions form: It includes conditions
related to cancellation, coverage policy changes, audits, inspec-
tions, premiums and policy assignments. The policy lines include

S
a declaration page that consists of general policy conditions, cov-
erage forms and endorsements.
‰‰ Commercial property conditions form: It helps in forming the
IM
provisions of the policy, which are related to fraud, property con-
trol, comprehensive insurance that is for two or more coverages,
policy period, transfer of rights and so on.
‰‰ Commercial property coverage part: It is the declaration form
that involves general information of the policyholder, such as name
of the policyholder, address of the premises covered, coverage pro-
M

vided and optional coverage if any.

‰‰ Causes of loss form: In it, the policyholder has to define the causes
behind the damages on which coverage(s) will be provided. Gener-
ally, it provides coverage against fire, explosion, windstorm, hail,
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riot, sprinkler leakage, sinkhole collapse and so on.

Commercial Property
Declarations Form
Common Policy
Declarations Form
Insurance Contract
Monoline Property

Commercial Property
Conditions Form CP 00 90

Coverage Forms CP 00 10
CP 00 15 etc.
Common Policy
Conditions Form
Causes of Loss Forms: Basic-
Broad-Special-Earthquake

Figure 9.1: Monoline Property Insurance Contract

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9.4.1 BUILDING AND PERSONAL PROPERTY COVERAGE

FORMS

The form used for insuring most of the business properties is called
the Building and Personal Property (BPP) coverage form. Direct dam-
age coverage on completed buildings and structures, business person-
al property of the policyholder or others can also be covered for direct
damage by this form. It is possible to write coverage on buildings only,
property only or as a combination of the two in the same contract. Fur-
ther there is also a flexibility to provide coverage on specific classes
of property, such as stock, tenant’s improvements and betterments or
machinery and equipment, by declaration. The insuring agreement of
the form identifies three categories of covered property, which are as
follows:

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‰‰ Building: The building coverage explains the scope and definition
of a building that helps in explaining the premises, furniture and
fixtures, machinery and equipment, and other property that is uti-
lised for servicing or maintaining the building materials and any
IM
such supplies. These all are used for various purposes, such as ad-
ditions or alterations within 100 feet of the building.
‰‰ Personal property: Property belonging to the policyholder may in-
clude furniture and fixtures; any machinery and its related equip-
ment; and any other property, such as stocks, which are used in
business transactions. Personal property also includes the vested
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interest of the insured/policyholder in improving the condition of

the tenant. In the revised versions of BPP, there is also a provision
for coverage of leased personal property. As per regulations, an
insured may be obligated to insure such a property, unless it is in-
N

sured under the personal property of others insuring agreement.

‰‰ Personal property of others: This condition applies to the prop-
erty of others that may be under the care or supervision of the
insured. At the same time, this property shall be situated within
or on the building described in the declarations. It means that any
personal belonging of employees or others is also covered if it is
within 100 feet of the mentioned premises.
‰‰ Replacement cost option: This coverage option is available for all
three classes of property, that is, buildings, personal property and
personal property of others. Replacement cost coverage on the
personal property of others shall be applicable only in the event
when the insured is legally liable.
‰‰ Additional coverages: Certain extensions of coverage are also in-
cluded in the BPP; while some of these are referred to as addition-
al coverages, others are referred to as coverage extensions.

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SELF ASSESSMENT QUESTIONS

4. Name any two modular parts of the commercial property

coverage policy.
5. Give the full form of BPP.

ACTIVITY

Identify any two insurers of your choice and download their com-
mercial property insurance policies. Compare and contrast the cov-
erages offered under BPP.

COMMERCIAL PROPERTY INDIRECT

S
9.5
LOSS COVERAGE
Indirect loss can be explained, in simpler terms, as a loss that is the
IM
aftermath of direct loss to a property. This loss is also known as conse-
quential loss, which is a result of direct damage where the policyhold-
er incurs loss due to inability of making use of commercial property
or equipment.

It is to be noted that the indirect loss incurred by the policyholder is

not guaranteed cover.
M

According to Emmett J. Vaughan and Therese Vaughan, The com-

mercial property forms do not provide coverage for the indirect loss
resulting from damage to the insured property. If the policyholder so
desires, such protection must be obtained under a separate form for
N

an additional premium. The major consequential loss coverages are:

‰‰ Business interruption insurance: It helps the policyholder to
carry on the restoration process. Moreover, this policy works on a
framework that compensates almost 12 months of lost income of
the policyholder. Under this insurance, calculation of amount to be
paid is based on the profits that would have been earned during
a period of interruption and the continued expenses during the
period of restoration.
‰‰ Extra expense insurance: In some situations, a business may be
required to continue operations even after its facilities have been
destroyed. For example, a bank that earns from loans and invest-
ments is not affected by destruction of the premises. However, it
would certainly require other facilities to continue to service its
accounts. An alternative to business interruption insurance is the
extra expense insurance where business operations are not affect-
ed by the damage and operations can still be continued with other
facilities. However, this insurance cover offers compensation for

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the expenses that would be incurred for continuing the business

operations even after damages.
‰‰ Contingent business interruption and extra expense insurance:
Many a time, the damage to the property of a firm leads to inter-
ruption in business activities and the extra expenses are incurred
on repairs even if the firm does not own, operate or control the
property. In such cases, this insurance covers the firm and pro-
vides financial protection against the losses.
‰‰ Leasehold interest coverage: According to Emmett J. Vaughan
and Therese Vaughan, this coverage Protects against loss due to
the termination of a favourable lease caused by fire or other insured
peril. The amount of coverage under leasehold interest coverage de-
creases month by month. The amount of insurance is approximate-
ly equal to the insured’s interest in the lease. In the event of a loss

S
that terminates the rental agreement, the insured is paid a lump sum
equal to the discounted value of the leasehold interest for the remain-
ing months of the lease.
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SELF ASSESSMENT QUESTIONS

6. It helps the policyholder to carry on the restoration process.

Moreover, this policy works on a framework that compensates
almost 12 months of lost income of the policyholder. This refers
to which indirect loss coverage policy?
M

ACTIVITY

Identify any two insurers of your choice and download their com-
N

mercial property insurance policies. Compare and contrast the cov-

erages offered under indirect loss coverage.

9.6 BOILER AND MACHINERY INSURANCE

The term “boiler and machinery” insurance is an old term of the time
when firms in industry used to own or operate boilers or pressure
vessels. However, today modern insurance policies are wider in scope
and are not limited to the old concept of boilers and machinery. This
insurance is suitable for those businesses that deal in large range of
mechanical and electrical exposures. Broadly, boiler and machinery
insurance covers equipment that generate, use or transmit power.
The term boiler and machinery insurance is often replaced by “equip-
ment breakdown coverage.”

This coverage is often required by firms that own, operate or depend

on some or the other type of equipment. These firms also indulge in
the following common activities during business operations:

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‰‰ Use electricity
‰‰ Heat, cool or refrigerate the premises
‰‰ Have communication networks, such as computer or telephone
‰‰ Manufacture or process goods
‰‰ Use equipment to sell, deliver services, or help keep track of sales
‰‰ Use a lot of hot water

Let us now understand the need for boiler and machinery insurance:
‰‰ Cost factor: The cumulative costs of equipment breakdown can go
very high. The loss to a firm due to equipment breakdown doesn’t
occur only because of physical damage. Indirect losses, such as
business interruption, can be more widespread than direct losses,

S
such as equipment or premises damage.
‰‰ Unique nature of hazards: The nature of electrical and mechani-
cal equipment is such that they may inflict certain unique hazards,
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such as sudden power increase, short circuit and so on. Most of
the times, machinery and equipment are integrated into an inter-
dependent system; so in the event of one breakdown, it can lead to
another problems.
‰‰ Electronic networks: It has been observed that, in recent years,
a rush has been reported towards electronic networks that have
M

opened the doors for automation. New trend suggests that even
small firms are dependent on computer networks through which
various business operations are carried out, such as inventory
management or database management. However, these electronic
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equipments are exposed to the risks of power failures, short cir-

cuits and so on, which can cause major disruption in the function-
ing of the business.

Since the unique nature of hazards is present, commercial property

insurance and other comprehensive policies don’t provide compensa-
tion for damages associated with electrical disturbances or mechan-
ical breakdown. Thus, it becomes mandatory to take the equipment
breakdown coverage.

SELF ASSESSMENT QUESTIONS

7. Name any two activities that firms opting for boiler and
machinery insurance indulge in.
8. The nature of electrical and mechanical equipment is such that
they may inflict certain unique hazards, such as earthquake,
flood and so on. (True/False)

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ACTIVITY

Identify any two insurers of your choice and download their boiler
and machinery coverage. Compare and contrast the coverages of-
fered.

9.7 TRANSPORTATION COVERAGE

One major difference between the dwelling or homeowner forms and
the property forms used to insure business firms is that the latter do
not generally include off-premises coverage.

According to Emmett J. Vaughan and Therese Vaughan, it is for

this reason that a special provision must be made for business property

S
which is away from the insured premises. Ocean marine and inland ma-
rine forms are designed to provide this coverage.

9.7.1  OCEAN MARINE INSURANCE

IM
Businesses that are involved in foreign trade face the major peril in
the form of ocean disaster despite the adoption of modern technology
in marine transportation. There are four types of losses that are cov-
ered by ocean marine insurance, which are listed below:
‰‰ Hull insurance: It provides coverage for a vessel against any loss
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to the ship itself and is underwritten on a modified open-perils

basis. This insurance includes a special provision that is the run-
ning-down clause, which covers the property damage liability of
the third party, that is, the damages inflicted on other ships.
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‰‰ Cargo insurance: Underwritten separately from the insurance on

the ship, it protects cargo owner from financial losses resulting
from the destruction or loss to freight.
‰‰ Freight insurance: It is a special form of business interruption in-
surance. In the event a vessel is lost, it indemnifies the ship owner
for the loss of income that would have been earned on completion
of the voyage.
‰‰ Protection and indemnity: It is a liability insurance that covers
the ship owners against the perils of negligent behaviour and its
further consequences. However, it is to be noted that here ship
owner might not be involved directly; that is to say, his/her agent
can be responsible for the whole act.

The ocean marine insuring policy is an open-perils contract, which

has certain limitations. It covers damage from perils of the sea that
include the following:
‰‰ Waves

‰‰ Sinking

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‰‰ Stranding on reefs or rocks

‰‰ Lightning

‰‰ Collisions

Specifically listed perils of the sea are also covered, which include:
‰‰ Fire

‰‰ Pirates

‰‰ Thieves

‰‰ Jettisons

‰‰ Barratry and all other like perils

9.7.2  INLAND MARINE INSURANCE

S
Inland marine insurance is an extension of warehouse-to-warehouse
clause, which provides cover to the shipping goods from the shipping
destination to the final destination and also covers the transit time
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period. Exemption of regulation in the marine insurance industry led
to underwriting policies on goods in transit not only by water route
but also on land and finally underwriting coverage on fixed-location
property.

In 1933, the National Association of Insurance Commissioners (NAIC)

made amendments in its Nationwide Marine Insurance Definition
M

and clearly defined the types of insurance that marine insurers were
allowed to underwrite. In 1977, it was again revised, which identified
six property classes that can be insured under marine contracts:
‰‰ Imports
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‰‰ Exports

‰‰ Domestic shipments
‰‰ Means of transportation
‰‰ Personal property floater risks
‰‰ Commercial property floater risks

SELF ASSESSMENT QUESTIONS

9. In which insurance is the ‘running-down clause’ included?

10. Give the full form of NAIC.

ACTIVITY

Identify any two insurers of your choice and download their trans-
portation coverage. Compare and contrast the coverages offered
under the inland marine insurance.

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NATIONAL FLOOD INSURANCE

9.8
PROGRAM
Flood insurance on fixed-location property was available only on an
extremely limited basis till 1968. However, in 1968, the Housing and
Urban Development Act (HUDA) was enacted, which initiated the Na-
tional Flood Insurance Program (NFIP) and created a federally subsi-
dised flood insurance program. Under this program, flood insurance
became available to both individuals and businesses.

NFIP aims to provide protection against losses from flooding. It is

the insurance alternative for meeting the costs of repairing damage
to buildings and their contents caused by floods. In other words, this
program mitigates the after-effects of the flooding. The three main
components of NFIP are as follows:

S
‰‰ To provide flood insurance
‰‰ To provide floodplain management
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‰‰ To develop the maps of flood hazard zones

There are two types of insurable property under NFIP: building and
possessions. Building coverage includes the following:
‰‰ The insured building and its foundation
‰‰ The electrical and plumbing system
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‰‰ Central air conditioning equipment, furnaces and water heaters

‰‰ Refrigerators, cooking stoves and built-in appliances, such as dish-
washers
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‰‰ Permanently installed carpeting over unfinished flooring

Contents coverage include the following:

‰‰ Clothing, furniture and electronic equipment
‰‰ Curtains

‰‰ Portable and window air conditioners

‰‰ Portable microwaves and dishwashers
‰‰ Carpeting that is not already included in property coverage
‰‰ Clothing washers and dryers
(Source: https://www.floodsmart.gov/floodsmart/pages/about/coverage_from_nfip.jsp)

NFIP falls under the jurisdiction of the Federal Insurance and Mitiga-
tion Administration in the Federal Emergency Management Agency
(FEMA).

Private insurers participating in the cooperative program referred to

as the Write-Your-Own Program Flood policies can underwrite the

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flood insurance policies on behalf of the NFIP other than the NFIP it-
self. Policies issued by the private insurers are reinsured 100% against
loss. Private insurers who actively participate in the Write-Your-Own
Program are offered compensation by the NFIP for losses incurred.
Private insurance agents who are paid a commission sell coverage
written by both the private insurers and the federal government.

9.8.1 GENERAL PROPERTY FORM FLOOD INSURANCE

POLICY

According to E. J. Vaughan and T. Vaughan, the National Flood Insur-

ance Program consists of a policy jacket and a form. General Property
Form: It is the flood policy used to insure commercial property. Many
of the provisions of this form—such as the definition of flood, inception
and cancellation, and the debris removal and property removal provi-

S
sions—are similar to the Residential Flood Policy. Under the General
Property Form, Replacement Cost coverage is not available.
IM
9.8.2  NON-RESIDENTIAL CONDOMINIUMS

According to E. J. Vaughan and T. Vaughan, non-residential condo-

minium buildings and their commonly owned contents may be insured
in the name of the association under the General Property Form. A unit
owner of a non-residential condominium unit may not purchase flood
insurance on his or her unit but may purchase contents coverage under
M

the General Property Form.

SELF ASSESSMENT QUESTIONS

11. Give the full form of HUDA.

N

ACTIVITY

List down the roles of NFIP in India. Present your findings by

searching on the Internet.

9.9 SUMMARY
‰‰ Commercial property insurance evolved in a unique way where
different types of coverages meant for protection of different types
of property losses evolved parallel to each other.
‰‰ Direct loss can be defined as any property or life damage that may
be inflicted by natural disaster, such as outbreak of fire, accidents
or any other related event.
‰‰ Commercial property insurance helps clients and their business to
recover from the disasters that can risk the functioning of the busi-

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ness. The events that are covered in this policy include protection
from fire, theft, property damage, vandalism and windstorms.
‰‰ Indirect loss can be explained, in simpler terms, as a loss that is
the aftermath of direct loss to the property. This loss is also known
as consequential loss, which is a result of direct damage where the
policyholder incurs loss due to inability of making use of commer-
cial property or equipment.
‰‰ The term “boiler and machinery” insurance is an old term of the
time when firms in industry used to own or operate boilers or pres-
sure vessels.
‰‰ One major difference between the dwelling or homeowner’s forms
and the property forms used to insure business firms is that the
latter do not generally include off-premises coverage.

S
‰‰ Flood insurance on fixed-location property was available only on
an extremely limited basis till 1968. However, in 1968, HUDA was
enacted, which initiated NFIP and created a federally subsidised
flood insurance program.
IM
KEY WORDS

‰‰ Boiler and machinery insurance: This is the equipment break-

down insurance that covers physical and financial damage to
the equipment.
M

‰‰ Business income: It refers to the monetary benefits received

by an individual in exchange for goods and services sold after
investing capital.
‰‰ Commercial property coverage: It can be defined as the cov-
N

er provided to commercial property against perils such as fire,

theft or vandalism.
‰‰ Equipment breakdown: It can be defined as sudden failure of
an equipment that is related to short circuit or power failure
causing financial and physical losses.
‰‰ Loss form: It is a form that lists causes of loss covered by a com-
mercial insurance policy.

9.10 DESCRIPTIVE QUESTIONS

1. Explain the concept of commercial property coverage.
2. What is commercial property direct loss coverage?
3. Discuss the concept of commercial property coverage policies.
4. Explain the concept of commercial property indirect loss
coverage.
5. Describe the concept of boiler and machinery insurance.

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9.11 ANSWERS AND HINTS

ANSWERS FOR SELF ASSESSMENT QUESTIONS

Topic Q. No. Answers

Commercial Property 1. True
Coverage
Commercial Property Direct 2. Commercial buildings and
Loss Coverage equipments

3. Fire department service

charges
Commercial Property 4. Standard common policy
Coverage Policies conditions form and causes of

S
loss form
5. Building and personal prop-
erties
Commercial Property Indirect 6. Business Interruption Insur-
IM
Loss Coverage ance
Boiler and Machinery 7. Using electricity and manu-
Insurance facturing or processing goods
8. False
Transportation Coverage 9. Hull insurance
10. National Association of In-
M

surance Commissioners
11. Housing and Urban Develop-
ment Act
N

HINTS FOR DESCRIPTIVE QUESTIONS

1. The commercial property insurance evolved in a unique way
where different types, of coverages meant for protection of
different type of property losses evolved parallel to each other.
Refer to Section 9.2 Commercial Property Coverage.
2. The concept of direct loss, as the name suggests, can be defined
as any property or life damage that may be inflicted by natural
disasters, such as outbreak of fire, accidents or any other related
event. Refer to Section 9.3 Commercial Property Direct Loss
Coverage.
3. Commercial property insurance helps clients and their business
to recover from the disasters that can risk the functioning of
the business. The events that are covered in this policy include
protection from fire, theft, property damage, vandalism and
windstorms. Refer to Section 9.4 Commercial Property Coverage
Policies.

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4. Indirect loss can be explained, in simpler terms, as a loss that

is the aftermath of direct loss to a property. This loss is also
known as consequential loss, which is a result of direct damage
where the policyholder incurs loss due to inability of making
use of commercial property or equipment. Refer to Section 9.5
Commercial Property Indirect Loss Coverage.
5. The term “boiler and machinery” insurance is an old term of
the time when firms in industry used to own or operate boilers
or pressure vessels. Refer to Section 9.6 Boiler and Machinery
Insurance.

SUGGESTED READINGS FOR

9.12
REFERENCE

S
SUGGESTED READINGS
‰‰ Elliott,C., & Vaughan, E. (1972). Fundamentals of risk and insur-
IM ance. New York: Wiley.
‰‰ Rejda, G. (2008). Principles of risk management and insurance. Bos-
ton: Pearson/Addison Wesley.
‰‰ Trieschmann, J., Gustavson, S., & Hoyt, R. (2001). Risk manage-
ment & insurance. Cincinnati, Ohio: South-Western College Pub.
‰‰ Williams,C., & Heins, R. (1976). Risk management and insurance.
M

New York: McGraw-Hill.

E-REFERENCES
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‰‰ Bonner, M. (2015). Your Commercial Property Policy.  About.com

Money. Retrieved 7 November 2015, from http://businessinsure.
about.com/od/CommercialPropertyInsurance/fl/The-Commer-
cial-Property-Policy.htm
‰‰ Tdi.texas.gov,.
(2015). Commercial Property Insurance. Retrieved
7 November 2015, from http://www.tdi.texas.gov/pubs/consumer/
cb021.html
‰‰ Thehartford.com,. (2015). Commercial Property Insurance | Busi-
ness Building Insurance Policy – The Hartford. Retrieved 7 Novem-
ber 2015, from http://www.thehartford.com/commercial-proper-
ty-insurance/

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 C H
10 A P T E R

LIABILITY INSURANCE

CONTENTS

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10.1 Introduction
10.2 Liability Insurance
IM
10.2.1 Key Features of Liability Insurance
10.2.2 Types of Liability Insurance
Self Assessment Questions
Activity
10.3 Professional Liability Insurance (Malpractice Insurance)
10.3.1 Need for Professional Liability Cover
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10.3.2 Types of Exposures

10.3.3 Classification of Professional Risk
10.3.4 Exclusions Under Professional Liability Insurance Policy
Self Assessment Questions
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Activity
10.4 Umbrella Liability Policy
10.4.1 Comprehensive Personal Liability Coverage
Self Assessment Questions
Activity
10.5 Summary
10.6 Descriptive Questions
10.7 Answers and Hints
10.8 Suggested Readings for Reference

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INTRODUCTORY CASELET
N O T E S

PROFESSIONAL LIABILITY CASE AGAINST FERNANDEZ

Mr. Arun, working as a contractor approached his accountant,

Fernandez for preparing income tax returns and taking some
consultancy services. The tax returns were finalised by Fernan-
dez and sent to concerned government authorities for checking.

The auditing by State Department of Revenue revealed that Arun

purchased some materials from out of the state that are used as
raw materials in the state. These materials were not there in tax
returns records. Tax calculation was omitted on them. The out-
standing taxes came out to be ` 200,000. Arun sued Fernandez
on the account that Fernandez failed to advise on the remit of
the tax. The accountant justified that he was busy in income tax

S
returns only and assumed that Arun’s book keeper follow up with
the owner regarding the tax obligations. However, Arun alleged
that he trusted the accountant for all the filings and records.
IM However, there was no written agreement between the accoun-
tant and owner and thus, the matter was settled for ` 50000. Fer-
nandez has taken the professional liability insurance from an or-
ganisarion and thus this helped him to pay his penalty.

The case depicts the professional liability insurance which is

available to firms involved in performing tax return preparation,
M

advice, and client representation etc. This insurance helps in

bearing the full cost of defending against a negligence claim made
by a client.
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LEARNING OBJECTIVES

After studying this chapter, you will be able to:

>> Discuss the concept of liability insurance
>> Explain professional liability insurance
>> Describe the umbrella liability policy
>> Explain comprehensive personal liability coverage

10.1 INTRODUCTION
In the previous chapter, you studied about commercial property in-
surance, boiler and machinery insurance, transportation coverage,
and the national flood insurance programme. In this chapter, you will

S
study about liability insurance and its types. You will also study about
the umbrella insurance policy.

Liability insurance provides insurance coverage for a business or an

IM
individual in case he/she is sued for reasons such as bodily injury, mal-
practice, inability to render a professional service or negligence. The
purpose of liability insurance is to provide indemnity for the legal lia-
bilities accrued by the insured.

Liability insurance is of three types: public liability, professional in-

M

demnity and product liability. Public liability insurance protects a

business against financial loss in case it is found liable by a third party
for death or injury, loss or damage to property resulting from neg-
ligence. Professional indemnity insurance provides insurance cover-
age to a professional against legal action that his/her customers might
N

take against him/her if they have suffered a loss by following his/her

professional advice. Product liability insurance provides cover for any
injury or loss that a person might suffer due to the company’s product
or service.

In addition to this, there is umbrella insurance, which is a liability in-

surance that covers several other policies and primary insurance for
loss of home, automobile or boat not covered by other policies.

This chapter discusses the concept of liability insurance. It also de-

scribes the three types of liability insurance, i.e., public liability, pro-
fessional indemnity and product liability. Towards the end, the chap-
ter discusses the umbrella liability policy.

10.2 LIABILITY INSURANCE

Liability refers to an obligation that legally binds an individual or
a company to settle a debt or a wrongful act the entity might have

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committed. Liabilities are settled by transferring economic benefits

such as money (in the form of cash or cheques), goods or services.

According to the Institute of Chartered Accountants of India, A lia-

bility is a present obligation of the entity arising from past events, the
settlement of which is expected to result in an outflow from the entity of
resources embodying economic benefits.

Insurance is a contract wherein an individual or a company is enti-

tled to financial protection or compensation against losses from an
insurance company. Insurance companies pool the combined risks
of their clients in order to make the insured company or individual’s
payments more affordable.

Liability insurance is a type of insurance policy that offers protection

S
to businesses or individuals in case they are sued for reasons such as
negligence, malpractice or injury. Liability insurance policies cover
the legal costs for the insured if found liable. These policies, however,
do not cover intentional damage and contractual liabilities.
IM
In India, liability insurance, like any other insurance contract, is sub-
ject to the provisions of Indian Contract Act, 1872. Thus, basic insur-
ance principles, i.e., insurable interests, indemnity, subrogation, etc.,
are applicable to this class of insurance as well. Liability insurance
primarily covers the losses arising out of third-party damage. The pur-
M

pose of liability insurance is to provide indemnity with respect to the

financial consequences of the legal liabilities.

Insurance brokers working in India have a mandate to insure their

liability in terms of the Insurance Regulatory and Development Au-
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thority (IRDA) regulations for brokers.

Liability insurance provides cover for two main financial risks. These
are:
‰‰ Legal cost of defending a claim
‰‰ Compensation that may be directed towards payment of legal costs
to the injured or wronged party in case a claim is upheld

These financial risks include an additional amount that needs to be

paid by the policyholder in the event of filing of a claim. A limit is set
on the total amount that is payable under the policy along with a per-
claim limit.

10.2.1  KEY FEATURES OF LIABILITY INSURANCE

There are certain key features of liability insurance that clearly dis-
tinguish it from other classes of insurance. These are described as fol-
lows:

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‰‰ The claims are paid to the third party and not to the insured. Thus,
it could be a member of the public or the employees of the insured,
but on behalf of the insured.
‰‰ Indemnity is provided with respect to potential legal liability, i.e.,
liability arising out of common law or statutory law of the country.
‰‰ Legal cost incurred by the insured (with the written consent of the
insurers) can be reimbursed under the policy.

In general, liability policies’ ‘limit of indemnity’ (the maximum amount

of compensation that an insurer is liable to pay to cover the costs and
expenses of a claim made by the insured during the period of the in-
surance policy) is mentioned instead of ‘sum insured’ (the maximum
amount that an insurance company pays in in case the house of the
insured is completely destroyed or severely damaged).

S
As the policy is related to law, it is important to mention the jurisdic-
tion clause in the policy. Cause of action may arise in any part of the
world, but insurers restrict their liability to the courts within specif-
IM
ic jurisdictions. For example, an insured living in Delhi would file a
claim for car insurance in Delhi and not in Mumbai.

10.2.2  TYPES OF LIABILITY INSURANCE

Liability insurance provides protection against financial loss arising

M

out of the insured entity’s actions or negligence or its property causes

injury to another individual or the property suffers extensive damage
or is destroyed. There are three types of liability insurance: public li-
ability, professional indemnity and product liability. The following is a
N

description of the three:

‰‰ Public liability insurance: It protects a business against financial
loss in case it is found liable by a third party for death or injury, or
loss/damage to property resulting from negligence. The owner of
the business would be liable to pay for damages or injuries that oc-
cur to another person or property. Even though liability insurance
is optional, it is recommended that a business opts for it as there
is likelihood of the business being sued for negligence or wrong-
doing. More often than not, a business has the choice of taking out
liability insurance but in some cases, it is compulsory. For exam-
ple, employers’ liability is compulsory if an individual is running a
business, in order to cover for expenses if an employee suffers an
accident, injury or death in the completion of his/her work duties.
Public liability insurance generally does not provide insurance
cover if an individual or a business is known to be involved in
criminal actions or hazardous activities.

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‰‰ Professional indemnity: It is insurance provided to professionals

to cover the cost of litigation. Professional indemnity insurance
provides insurance cover to a professional against legal action that
his/her customers might take against him/her if they have suffered
a loss as a consequence of following his/her professional advice.
Professional indemnity also has specific types of insurance cover.
For example, medical professionals generally have medical indem-
nity insurance as a part of their professional registration or license.
‰‰ Product liability: A company producing, selling, distributing or
importing products from other countries should be covered with
product liability insurance. Product liability insurance provides
cover for any injury or loss that a person might suffer due to the
company’s product or service.

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SELF ASSESSMENT QUESTIONS

1. _________ refers to an obligation that legally binds an

individual or a company to settle a debt or a wrongful act the
IM
entity might have committed.
2. __________ is a contract wherein an individual or a company is
entitled to financial protection or compensation against losses
from an insurance company.
3. Liability insurance provides protection against financial loss
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arising out of the insured entity’s actions or negligence or its

property causes injury to another individual or the property
suffers extensive damage or is destroyed. (True/False)
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ACTIVITY

Using the Internet, find information on three insurance companies

of your choice, which provide product liability insurance cover.

PROFESSIONAL LIABILITY INSURANCE

10.3
(MALPRACTICE INSURANCE)
Professional liability insurance covers professionals’ liability for dam-
ages arising from errors, omissions or negligent acts while rendering
or failure to render professional services.

Professionals are individuals who have acquired special skills and are
equipped to advise the general populace on the basis of these skills.
Individuals like doctors, lawyers, chartered accountants, architects,
etc., are referred to as professionals.

A professional liability insurance policy (also called Errors and Emis-

sions or E&O insurance policy) provides cover for claims alleging an

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error or negligence in the performance of professional duties, and in

exchange insurance premiums are paid to the insurance company. In
India, the common understanding is that professionals who are gov-
erned by practices and services as laid down by a statutory organisa-
tion or body are answerable to their profession’s governing council.
These councils provide professional liability policies to these profes-
sionals. Medical professionals are governed by Medical Council of In-
dia, engineers by Engineering Council of India and chartered accoun-
tants by Institute of Chartered Accountants of India. Each of these
bodies is responsible for issuing professional liability policies for the
profession regulated by it.

Professional liability risk poses a threat to specialists in just about any

industry or profession, but High Net Worth (HNW) individuals often
face even greater exposure. HNW individuals can be directors of big

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firms or private business owners. The Directors and Officers Liability
policy covers such individuals.
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10.3.1  NEED FOR PROFESSIONAL LIABILITY COVER

The need for professional liability insurance is felt by professionals

owing to an increase in claims filed by clients. Nowadays, clients com-
monly seek out the professional for recovery in case they feel that the
professional’s performance was below their expectations. The key
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reasons for choosing a professional liability cover policy are as follows:

‰‰ High litigation fees and other legal costs which, if the offence or
damage is serious, may lead to bankruptcy of a company. Also,
during a lawsuit, the services of the professional would be disrupt-
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ed, thereby hampering normal course of the business.

‰‰ There is loss of reputation of the professional due to his/her inabil-
ity to render professional services.
‰‰ A prudent professional liability policy not only protects a company
or its customers against losses but also provides for cover for the
entities that are harmed.
‰‰ Mistakes are made even by the best of employees and with the best
risk management practices in place. Therefore, it is beneficial to
look to minimise risks as far as possible.

10.3.2  TYPES OF EXPOSURE

Advancements in technology help increase the expectations for profes-

sionals as they are able to offer better quality of services to the clients.
These changes offer better opportunities, but they come at the cost
of more complex solutions. Thus, these solutions provide increased
options for success while raising the expectations of clients as well.

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However, when these expectations are not fulfilled, the professional is

left in a position of vulnerability through exposure to loss from clients.

Professional exposure can take different forms. The following are

some instances:
‰‰ Allegations of poor performance by a client
‰‰ Breach of contract between a client and a professional
‰‰ Conflict of interest
‰‰ Failure to provide quality consulting services
‰‰ Failure to protect proprietary and classified information

Professional liability insurance not only provides security against ex-

posures but also provides the requisite funds needed to investigate,

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pay expert witnesses, hire a lawyer, and several other expenses that
the professional would have to bear in case he/she is sued. In several
situations, these fees can even exceed the amount of actual damages
IM incurred. Professional liability insurance has gained more relevance
and importance in the modern world because of the need to protect
the reputation and the personal assets of the professional.

10.3.3  CLASSIFICATION OF PROFESSIONAL RISK

Professional risk can be classified into the following three categories:

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‰‰ Bodily injury/casualty: It occurs when professional negligence

may result in bodily injuries (fatal or otherwise). Medical profes-
sionals such as doctors, dentists fall in this category.
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‰‰ Financial loss: It occurs when professional negligence may re-

sult in financial loss. Chartered accountants, solicitors, etc., would
come in this category.
‰‰ Combination of bodily and financial loss: It occurs when profes-
sional negligence may result in both financial loss and/or bodily
injury. For example, architects, civil engineers would fall in this
category.

10.3.4 EXCLUSIONS UNDER PROFESSIONAL LIABILITY

INSURANCE POLICY

The exclusions in professional liability insurance are as follows:

‰‰ Professional services rendered while being under the influence of
narcotics or alcohol
‰‰ Third-party public liability
‰‰ Claims related or owing to AIDS (Acquired Immune Deficiency
Syndrome)

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‰‰ Cosmetic plastic surgery, hair transplants, punch grafts and simi-

lar procedures
‰‰ Claims arising out of genetic injuries caused by X-ray or radioac-
tive substances.

SELF ASSESSMENT QUESTIONS

4. Public liability insurance covers professionals’ liability for

damages arising from errors, omissions or negligent acts
while rendering or failure to render professional services.
(True/False)
5. Professional risk can be classified into three categories: bodily
injury/casualty, _______________ and combination of bodily
and financial loss

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ACTIVITY
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Find information on the coverage and exclusions provided by two
Indian insurance companies with regards to professional liability
insurance.

10.4 UMBRELLA LIABILITY POLICY

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In simple words, umbrella insurance is extra liability insurance. It pro-

tects an individual from claims and lawsuits by providing additional
liability coverage above the limits of the homeowners, auto, and boat
insurance policies. The policy provides insurance cover when these
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policies have been exhausted. In addition, the policy provides cover

for claims that may not be covered by other liability policies, such as
false arrest, coverage on ownership of rental units.

Umbrella insurance provides insurance coverage for the following:

‰‰ Injuries

‰‰ Damage to property
‰‰ Certain lawsuits such as slander, character defamation, etc.
‰‰ Personal liability situations described below:
 Bodily injury liability: It provides cover for any injury or phys-
ical harm caused to another person, such as injuries due to a
serious car accident where the insured is at fault.
 Property damage liability: It provides cover for damages or
loss to another individual’s property; for example, damage to
school property caused by the insured’s child, etc.

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 Rental unit owners: It provides protection against claims and

lawsuits for landlords; for example, in case a person suffers an
accident on the landlord’s rental property.

Umbrella liability provides insurance cover for the following cases as

well:
‰‰ Slander meant to harm a person’s reputation
‰‰ Libel (a written statement expressed in print, televised or on the
Internet) meant to harm a person’s reputation
‰‰ Malicious prosecution
‰‰ Shock or mental anguish
‰‰ False arrest, detention or imprisonment

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10.4.1  COMPREHENSIVE PERSONAL LIABILITY COVERAGE

Comprehensive personal liability coverage refers to the insurance

IM
coverage of an individual against property damage or loss or bodily
injury occurring in his/her premises that is not covered or is not a part
of the usual homeowner’s policy. This coverage is usually offered as a
component of the homeowner’s policy or an umbrella policy. It may
be provided separately in case the insured is not eligible to obtain a
homeowner’s policy.
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The comprehensive personal liability policy protects the insured in

cases such as the following:
‰‰ Injury caused by a pet to a visitor at the insured’s premises
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‰‰ Visitor suffers an injury in the insured’s premises

‰‰ Insured is at fault for any damage caused to the property of an in-
dividual such as home or car.
‰‰ Insured causes a costly car accident

Thus, comprehensive personal liability coverage will pay for covered

losses if a third party claims bodily injury or property damage that the
insured is found responsible for. Injuries that occur outside of insured
person’s premises are also covered provided the injury is caused by
the insured or a family member of the insured, a household employee,
or the insured person’s pet. The expenses covered by comprehensive
personal liability include payment for defence or solicitors’ fee (even
if the suit is groundless, false or fraudulent; and payment of all the
necessary medical expenses already incurred by the insured or shall
incur within three years from the date of an accident that has caused
bodily injury.

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EXCLUSIONS UNDER COMPREHENSIVE LIABILITY COVERAGE

There are certain exclusions that apply to comprehensive personal

liability. The coverage does not include bodily injury or property dam-
age which results directly or indirectly from the following:
‰‰ War or warlike act or situation even if a nuclear weapon is used,
resulting in catastrophic destruction of property and loss of hu-
man life
‰‰ Use of vehicles such as cars for racing or demonstrating stunts
‰‰ Failure to render or rendering a professional service that causes
harm to an individual
‰‰ Damage caused due to an intentional act by the insured or at his
direction

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‰‰ Nuclear hazard
‰‰ Earthquakes that cause destruction of property or loss of human
life. However, damage caused by fires, explosion or breakage of
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glass in the event of an earthquake is covered by comprehensive
personal liability. The insured can purchase an additional policy
for protection against earthquakes.
‰‰ Loss caused by floods, such as destruction of property or injury
or loss of human life is not covered. However, direct loss by fire,
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explosion, or theft resulting from flood is covered. Other water-re-

lated exclusions are water seepage below the ground, backup of
sewers or drains and overflow of a sump.
‰‰ Transmission of a communicable disease, including sexually trans-
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mitted diseases by the insured.

‰‰ Any medical expenses related to the insured or members of the
household are excluded; however, medical expenses of household
employees are covered.

ADDITIONAL COVERAGE

Comprehensive personal liability provides additional coverage in the

following areas:
‰‰ Claim expenses: The policy would cover all costs that are incurred
in settling a claim or in the defence of a suit with attorneys of the
insurer’s choice.
The policy would also cover the premiums on bonds that are re-
quired in a suit. However, in this case, the amount of the bond
should not be more than the coverage.
‰‰ First aid expenses: The insurer would pay for the cost of first aid
incurred by an insured for bodily injury to others covered by this

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policy. However, the insurer would not pay for the expenses of first
aid to the insured.
‰‰ Damage to property of others: If the insured requests, the policy
would pay up to $500 per occurrence for property damage caused
by the insured to the property of others. This coverage applies
when the insured is not legally liable for the damage.

SELF ASSESSMENT QUESTIONS

6. We may call ____________ extra liability insurance.

7. Umbrella insurance provides coverage for claims that may
not be covered by other liability policies such as false arrest,
coverage on ownership of rental units. (True/ False)
8. ________________coverage refers to the insurance coverage of

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an individual against property damage or loss or bodily injury
occurring in his/her premises that is not covered or is not a
part of the usual homeowner’s policy. (True/False)
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9. Name two natural calamities that are excluded from
comprehensive personal liability coverage.

ACTIVITY

Using the Internet, briefly describe a few instances where umbrella

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insurance was utilised by the insured.

10.5 SUMMARY
‰‰ Liability refers to an obligation that legally binds an individual
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or a company to settle a debt or a wrongful act the entity might

have committed. Liabilities are settled by transferring economic
benefits such as money (in the form of cash or cheques), goods or
services.
‰‰ The three kinds of liability insurance are personal liability, profes-
sional indemnity and product liability.
‰‰ Professional liability insurance covers professionals’ liability for
damages arising from errors, omissions or negligent acts while
rendering or failure to render professional services.
‰‰ Professional risk can be classified into three categories: Bodily in-
jury/casualty, financial loss and combination of bodily and finan-
cial loss.
‰‰ Umbrella insurance is extra liability insurance. It protects an in-
dividual from claims and lawsuits by providing additional liability
coverage above the limits of the homeowners, auto and boat insur-
ance policies.

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‰‰ Comprehensive personal liability coverage refers to the insurance

coverage of an individual against property damage or loss or bodi-
ly injury occurring in his/her premises that is not covered or is not
a part of the usual homeowner’s policy.

KEY WORDS

‰‰ Comprehensive personal liability: It is an insurance policy that

provides coverage to an individual against property damage or
loss or bodily injury occurring in his/her premises that is not
covered or is not a part of the usual homeowner’s policy.
‰‰ Insurance Regulatory and Development Authority (IRDA): It
is an agency that regulates and promotes the insurance sector
in India.

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‰‰ Limit of indemnity: It is the maximum amount of compensa-
tion that an insurer is liable to pay to cover the costs and ex-
penses of a claim made by the insured during the period of the
insurance policy.
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‰‰ Malpractice insurance: This is another name for professional
liability insurance, which covers professionals’ liability for dam-
ages arising from errors, omissions or negligent acts while ren-
dering or failure to render professional services.
‰‰ Umbrella insurance: It protects an individual from claims and
lawsuits by providing additional liability coverage above the
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limits of the homeowners, auto and boat insurance policies.

10.6 DESCRIPTIVE QUESTIONS

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1. Describe liability insurance. What are its key features?

2. Discuss the different types of liability insurance.
3. Describe professional liability insurance and the need for
professional liability cover.
4. Write a brief note about umbrella liability policy.
5. What do you understand by comprehensive personal liability
coverage? Discuss the exclusions listed under it.

10.7 ANSWERS AND HINTS

ANSWERS FOR SELF ASSESSMENT QUESTIONS

Topic Q. No. Answers

Liability Insurance 1. Liability
2. Insurance

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Topic Q. No. Answers

3. True
Professional Liability Insur- 4. True
ance (Malpractice Insurance)
5. Financial loss
Umbrella Liability Policy 6. Umbrella insurance
7. True
Umbrella Liability Policy 8. Comprehensive personal liability
9. Earthquakes and floods

ANSWERS FOR DESCRIPTIVE QUESTIONS

1. Liability refers to an obligation that legally binds an individual
or a company to settle a debt or a wrongful act the entity might

S
have committed. The key features of liability insurance are that
the claims are paid to the third party and not to the insured; also,
legal cost incurred by the insured can be reimbursed under the
IM policy. Refer to Section 10.2 Liability Insurance.
2. The three types of liability insurance are personal liability,
professional indemnity and product liability. Refer to Section
10.2 Liability Insurance.
3. Professional liability insurance covers professionals’ liability for
damages arising from errors, omissions or negligent acts while
M

rendering or failure to render professional services. The need

for professional liability insurance is felt by professionals owing
to an increase in claims filed by clients. Refer to Section 10.3
Professional Liability Insurance (Malpractice Insurance).
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4. In simple words, umbrella insurance is extra liability insurance.

It protects an individual from claims and lawsuits by providing
additional liability coverage above the limits of the homeowners,
auto and boat insurance policies. The policy provides insurance
cover when these policies have been exhausted. Refer to Section
10.4 Umbrella Liability Policy
5. Comprehensive personal liability coverage refers to the insurance
coverage of an individual against property damage or loss or
bodily injury occurring in his/her premises that is not covered
or is not a part of the usual homeowner’s policy. The coverage
does not include bodily injury or property damage which results
directly or indirectly from war or warlike act, use of vehicles such
as cars for racing or demonstrating stunts, etc. Refer to Section
10.4 Umbrella Liability Policy.

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SUGGESTED READINGS FOR

10.8
REFERENCE

SUGGESTED READINGS
‰‰ Christensen, S. & Duncan, W.D. (2004). Professional liability and
property transactions. Sydney, The Freedom Press.
‰‰ Wagner, G. (2005). Tort law and liability insurance. New York,
Springer Wien.
‰‰ Abraham, K.S. (2008). The liability century: Insurance and tort
law from Progressive Era to 9/11. Cambridge, Harvard University
Press.

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E-REFERENCES
‰‰ Geico.com. ‘GEICO | About Umbrella Insurance’.
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‰‰ Progressivecommercial.com. ‘Progressive Business And Commer-
cial Auto Insurance’.
‰‰ 2012books.lardbucket.org,.‘Packaging Coverage, Homeowners
Policy Forms, And The Special Form (HO-3)’.
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 C H
11 A P T E R

PERSONAL AUTO INSURANCE

CONTENTS

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11.1 Introduction
11.2 Personal Auto Policy
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Self Assessment Questions
Activity
11.3 Liability Coverage
11.3.1 Liability Exclusions
Self Assessment Questions
Activity
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11.4 Medical Payments Coverage

11.4.1 Exclusions under Medical Payments
Self Assessment Questions
Activity
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11.5 Uninsured Motorist Coverage

Self Assessment Questions
Activity
11.6 Physical Damage Coverage
11.6.1 Physical Damage Exclusions
Self Assessment Questions
Activity
11.7 Policy Conditions
11.7.1 Duties after an Accident or Loss
11.7.2 General Provisions
Self Assessment Questions
Activity
11.8 Summary
11.9 Descriptive Questions
11.10 Answers and Hints
11.11 Suggested Readings for Reference

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INTRODUCTORY CASELET
N O T E S

IMPORTANCE OF AUTOMOBILE INSURANCE

Automobile insurance is used to provide insurance cover to an in-

dividual against any financial losses that may happen due to driv-
ing a motor vehicle. Though insurance premiums can be costly,
it is considered prudent to take out automobile insurance cover.

Every driver of a motorised vehicle is required to buy liability

coverage at a minimum. If a driver does not possess basic liabil-
ity coverage, he is liable to be given a ticket, have their driver’s
license invalidated, or can possibly even be arrested if they are
flagged down by a police officer.

Automobile insurance is important since it provides compensa-

tion to an individual if he is in a car accident or to another, if you

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are at fault for the accident. Since considerable financial risk is
involved, automobile insurance is important to avoid bankruptcy
resulting from a lawsuit.
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Anand was driving on the Delhi-Jaipur Highway where his car
was damaged by a speeding van. His car suffered extensive dam-
age and he filed an insurance claim for `2,50,000. The insurance
company responded back with a full and final settlement offer
of `2,25,000 which was accepted by Anand. Due to him being in-
sured, Anand was able to avoid possible financial ruin.
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LEARNING OBJECTIVES

After studying this chapter, you will be able to:

>> Define the concept of personal auto policy
>> Discuss the concept of liability coverage
>> Describe medical payments coverage
>> Discuss uninsured motorist coverage
>> Explain physical damage coverage
>> Describe policy conditions

11.1 INTRODUCTION
In the previous chapter, you studied about liability insurance and its

S
types. This chapter will provide an insight into personal auto insurance.

Nearly four lakh people meet with some or other kinds of road acci-
IM
dents every month in India. With the increasing number of vehicles
being manufactured, imported and purchased, Indian roads are be-
coming more and more crowded. Thus, road fatalities in India are
moving up at a Compounded Annual Growth Rate (CAGR) of nearly
four per cent.

Today, it is difficult to imagine life without a personal vehicle. How-

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ever, considering the high number of vehicles and the poor state of
roads, the risks associated with driving are also high, which may re-
sult in the following:
‰‰ Creation of liabilities, i.e., compensating for the damage caused to
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people, such as injuries or death, or the damage caused to vehicles

or other property
‰‰ Financial loss due to the damage of one’s own vehicle, or theft of
the vehicle or its parts

Considering the aspects above, auto insurance should be treated as an

important requirement. In fact, most countries have auto insurance as
a legal requirement. Auto insurance not only provides financial cover
to the owner of the vehicle, but also covers any damages to the third
party that may include the people on road.

Auto insurance is basically a contract concerning a newly purchased

automobile(s), as per which the insurer agrees to pay the insured, i.e.,
the automobile owner, for the damage or loss caused to the automobile
or its parts due to manmade or natural calamities.

In this chapter, you learn about the concepts of personal auto policy
and liability coverage in detail. The chapter also explains medical pay-
ment coverage, uninsured motorist coverage, physical damage cover-
age and policy conditions.

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11.2 PERSONAL AUTO POLICY

Personal auto policy provides coverage to private passenger vehicles.
In this, the insured is provided protection against the financial losses
incurred due to bodily injury or any damage caused to the vehicle or
other property. There are three types of motor insurance policies:
‰‰ Third party cover: This policy covers the insured or the at-fault
driver against the liability for injury or death caused to the third
party. Moreover, it provides compensation to the third party for
the loss of or any damage to their vehicle. This is a statutory re-
quirement in India where the insured is covered as per the Motor
Vehicles Act, 1988.
‰‰ Collision cover: In this policy, the insured is provided coverage
against any financial loss incurred due to the damage of the ve-

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hicle. As the term itself makes it obvious, the insured can benefit
from a collision cover if his/her vehicle suffers from an adverse im-
pact with another person’s vehicle or some object, generally hap-
IM pening on road. However, this type of insurance policy does not
take into account any damage or loss caused due to fire or theft.
‰‰ Comprehensive cover: This policy provides a complete coverage
to the insured by including cover against vehicle damage, theft
and third party liability, as well as personal accident cover. The
insured can even expand the policy by taking various additional
M

services, such as accessories cover, engine protector, zero depreci-

ation cover, medical expenses, and so on.

Comprehensive Cover
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Collision Cover

Third Party
Cover 

Figure 11.1: Types of Motor Insurance Policies

SELF ASSESSMENT QUESTIONS

1. _____ provides coverage to private passenger vehicles. In this,

the insured is covered against the financial losses incurred
due to bodily injury or any damage caused to the vehicle or
other property.
2. “This policy covers the insured or the at-fault driver against
the liability for injury or death caused to the third party.”
Which policy is being referred to here?

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3. In which coverage does an insured have the option to extend

the insurance coverage?
4. Collision coverage provides a complete coverage to the insured
by including cover against vehicle damage, theft and third
party liability, as well as personal accident cover. (True/False)

ACTIVITY

Using the Internet, prepare a report on the auto insurance policies

offered by Indian insurance organisations.

11.3 LIABILITY COVERAGE

A ‘liability only’ policy or third party cover insures an individual

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against claims relating to bodily injuries or death caused to a person(s)
(known as the third party), as well as against the loss of or damage
to a third-party property caused by the vehicle of the owner. It is a
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statutory legal requirement as per the Motor Vehicles Act, 1988, and
is considered to be one of the most basic and mandatory types of auto
insurance coverage.

It is to be noted here that using a vehicle on road without insurance

is considered a punishable offence. Some of the necessary provisions
given by insurance authorities are as follows:
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‰‰ Failure to comply with the provisions of Section 146 of the Mo-

tor Vehicles Act, 1988, is considered a punishable offence that may
cause:
 An imprisonment of three months
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 A penalty of ` 1000
 Or both (according to the Section 196 of the Act)
‰‰ According to Insurance Regulatory and Development Authori-
ty of India (IRDAI), Compulsory personal accident cover for own-
er-driver is also included. Policy can also be extended to cover vari-
ous other risks like:
 Personal accident to occupants of vehicle
 Workmen’s compensation to driver, etc., over and above the cover
available to the driver under statute.
‰‰ Subject to the limits of liability as laid down in the Schedule hereto
the Company will indemnify the insured in the event of an accident
caused by or arising out of the use of the vehicle against all sums
which the insured shall become legally liable to pay in respect of :-
 Death of or bodily injury to any person including occupants car-
ried in the vehicle (provided such occupants are not carried for
hire or reward) but except so far as it is necessary to meet the re-

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quirements of Motor Vehicles Act, the Company shall not be liable

where such death or injury arises out of and in the course of the
employment of such person by the insured.
 Damage to property other than property belonging to the insured
or held in trust or in the custody or control of the insured.
‰‰ Any driver who is granted permission by the insured to drive the
vehicle is considered as insured and indemnified.
‰‰ The insured or his/her representative entitled to indemnity is
made compensation to when the insured or the representative ful-
fills the terms and conditions of the policy.

According to IRDA, the limitations of this coverage are:

Provided always that compensation shall be payable under only one of

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the items above in respect of the owner-driver arising out of any one
occurrence and the total liability of the insurer shall not in the aggregate
exceed the sum of ` 2 lakhs during any one period of insurance.
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No compensation shall be payable in respect of death or bodily injury
directly or indirectly, wholly or in part, arising or resulting from, or
traceable to:
‰‰ Intentional self-injury or suicide
‰‰ Attempted suicide, physical defect or infirmity
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‰‰ An accident happening if the driver is under the influence of intox-

icating liquor or drugs

Such compensation will be payable directly to the insured or to their

legal representatives. In accordance with the provisions of Rule 3 of
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the Central Motor Vehicles Rules, 1989, at the time of the accident, this
cover is subject to the following:
‰‰ The owner-driver is the registered owner of the vehicle insured
‰‰ The owner-driver is the insured named in the policy
‰‰ The owner-driver holds an effective driving license

11.3.1  LIABILITY EXCLUSIONS

Generally, personal vehicle insurance policies do not cover for the fol-
lowing:
‰‰ Damage to a vehicle, or injury to a driver or passenger arising out
of a contractual liability
‰‰ Damage to a vehicle, or injury to a driver or passenger due to the
perils of war or nuclear perils
‰‰ Repetitive loss or damage to a vehicle due to depreciation, wear
and tear, mechanical or electrical breakdown, and so on.

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‰‰ Since the following kinds of losses are not accidental in nature and
do not happen by chance, these are not insurable either:
‰‰ Damage to a vehicle, or injury to a driver or passenger under the
influence of intoxicating liquor or drugs
‰‰ Damage to a vehicle, or injury to a driver or passenger when the
vehicle is being used outside the geographical area specified in the
policy
‰‰ Damage to a vehicle, or injury to a driver or passenger while the
vehicle is used in contravention of the limitations as to use
‰‰ Damage to a vehicle, or injury to a driver or passenger when the
vehicle is driven by a person without a valid driving license of the
location where driving

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SELF ASSESSMENT QUESTIONS

5. No compensation shall be payable in respect of death or

bodily injury directly or indirectly, wholly or in part, arising or
IM
resulting from, or traceable to _____ and _____.
6. “Repetitive loss or damage to a vehicle due to depreciation,
wear and tear, mechanical or electrical breakdown and so on.”
What does it reflect?
M

ACTIVITY

Download the liability insurance policy of any two insurers’ from

their respective websites. Delineate how both contrast in coverage,
limitations and exclusions.
N

11.4 MEDICAL PAYMENTS COVERAGE

Reasonable and necessary medical and funeral expenses incurred on
account of a vehicle accident get covered under the medical payments
coverage policy. Individuals who can be covered include policyholders
or any of their family members while using an automobile as a pas-
senger, or as a pedestrian in case stuck in a motor vehicle accident. It
also includes other individuals who use a covered automobile driven
by the policyholder or his/her family members. The insurer in such a
case is liable to reimburse the insured up to the extent agreed in the
policy.

It can be so summarised that medical payments coverage routinely

pays for medical treatment of injuries from a car accident, regardless
of who is found at fault for the accident.

Additionally, medical payments insurance may be found useful for re-

imbursing:

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‰‰ Funeral expenses
‰‰ Injuries sustained by the passengers of a taxi
‰‰ Injuries sustained as a pedestrian or bicyclist after a car accident
‰‰ Required dental care or surgery after meeting with an accident

11.4.1  EXCLUSIONS UNDER MEDICAL PAYMENTS

Medical payments coverage does not provide coverage for any ex-
penses in case of injuries caused by an accident while using a motor
vehicle less than four wheels. In other words, the policy doesn’t cover
for accidents involving two or three wheelers. Also, this medical pay-
ments coverage is applicable only in case of motor vehicles and not in
case of trailers or similar equipment attached to a vehicle.

S
SELF ASSESSMENT QUESTIONS

7. Reasonable and necessary medical and funeral expenses

incurred on account of a _____ get covered under the policy of
IM
medical payments coverage.
8. Medical payments coverage also includes other individuals
who use an uninsured automobile driven by the policyholder
or his/her family members. (True/False)
M

ACTIVITY

Identify at least three international insurers and study their medi-

cal payment policies. Make a note of the comparisons found in be-
tween.
N

11.5 UNINSURED MOTORIST COVERAGE

The Uninsured Motorist (UM) coverage policy provides protection to
a policyholder when a faltering uninsured driver injures the policy-
holder or any member covered under the policy. Such a plan also pro-
vides property damage coverage to the injured when the defaulting
owner of the vehicle does not hold auto liability insurance.

According to Gary Kramer, J. Scott Sanpietro and James R. Potts,

If an insured has UM coverage and an individual covered under the
policy is injured or, in some states, has property damage stemming from
an accident caused by another person with no motor vehicle insurance,
the injured person and the insured can look to this UM coverage to pay
for the injuries and in some instances the property damage caused by the
uninsured motorist, subject to the applicable limits.

The UM coverage policy with respect to bodily injuries is explained

as follows:

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‰‰ Uninsured Motorist (UM): UM coverage provides compensation

to the aggrieved party for the medical expenses, wages/salary lost
or any other expense related to the injury. However, it is to be not-
ed that this coverage is provided only when the other party is at
fault.
‰‰ Underinsured Motorist (UIM): It is like UM coverage but differs
on the point that the person causing the accident is insured but
does not have enough to compensate the aggrieved party(ies) for
the losses incurred by them. Thus, this policy provides protection
to a policyholder when a faltering underinsured driver injures
the policyholder or any member covered under the policy. An un-
derinsured driver is one whose limits of liability are less than the
other person’s UIM limits and is insufficient to cover the losses of
the persons who are injured in the accident caused by the under-
insured driver. There is no protection offered by UIM coverage

S
against property damage.

In case of an accident covered under this kind of a plan, UIM coverage

IM
reimburses to the extent of a maximum of the difference between the
other driver’s liability limits and the policyholder’s UIM limits.

NOTE

The coverage ceases in case the policyholder or his/her legal rep-

resentative settles the bodily injury or property damage in absence
M

of the insurer’s written consent. This policy is not very popular in

India.

SELF ASSESSMENT QUESTIONS

N

9. Give any two expenses that are covered by UM coverage

policy.
10. __________________ provides protection to a policyholder
when a faltering uninsured driver injures the policyholder or
any member covered under the policy.

ACTIVITY

Identify at least three international insurers and study their unin-

sured motorist coverage and underinsured motorist coverage poli-
cies. Compare and contrast.

11.6 PHYSICAL DAMAGE COVERAGE

Physical damage coverage is a combination of comprehensive and
collision insurance coverages. This policy provides the widest cover-
age of all risks indicated under the Motor Vehicles Act, 1988, such as
third-party bodily injury or death; third-party property loss or dam-

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age; and loss or damage to your own vehicle due to fire, theft or an
accident.

The policy also covers:

‰‰ Moving the damaged vehicle to the workshop where up to ` 1500
for private vehicles and ` 2500 for commercial vehicles are provid-
ed
‰‰ Compensation of ` 2 lakhs to be given to the owner in case of death
‰‰ Compensation for permanent disability; however, the cover is lim-
ited to the type and extent of disability.
‰‰ Damage caused to any third party’s property:
 Minimum cover is limited to ` 6000.
 The cover is provided up to ` 7.5 lakhs.

S
It is to be noted that third party is compensated only between
the above two figures, and the purchaser needs to inquire
about it when assessing the insurance proposal.
IM
 Any person suffering from bodily injuries, but was not in the
vehicle then, is covered under the third party clause, which
provides unlimited coverage.

According to IRDAI, the damages to a vehicle due to the following

perils are usually covered under the ‘Own Damage’ Section of the Mo-
M

tor Insurance Policy:

‰‰ Fire, explosion, self-ignition, lightning
‰‰ Burglary/housebreaking/theft
N

‰‰ Riots, strikes
‰‰ Earthquake

‰‰ Flood, storm, cyclone, hurricane, tempest, inundation, hailstorm,

frost
‰‰ Accidental external means
‰‰ Malicious acts
‰‰ Terrorism acts
‰‰ While in transit by rail/road, inland waterways, lift, elevator or air
‰‰ Landslide/rockslide

11.6.1  PHYSICAL DAMAGE EXCLUSIONS

The physical damage policy provides comprehensive and collision

coverage to auto insurers. Besides the coverage provided, there are
various exclusions that are observed under this policy, which are as
follows:

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‰‰ Depreciation of vehicle
‰‰ Freezing

‰‰ Any breakdown or failure in vehicle that may occur because of

mechanical or electrical faults
‰‰ Any issue related to tires that may happen because of road conditions

‰‰ Catastrophic events, such as war or nuclear weapon discharge

‰‰ Vehicle being destroyed or seized by government or civil authori-
ties
‰‰ Vehicle used for delivery purposes
‰‰ Intentional damage caused to vehicle
‰‰ Using vehicle for racing purpose, such as car racing or bike racing

S
‰‰ Vehicle being used for personal car-sharing programmes

SELF ASSESSMENT QUESTIONS

IM

11. Uninsured motorist coverage is a combination of
comprehensive policy and collision policy. (True/False)
12. _______________ policy provides the widest coverage of all
risks indicated under the Motor Vehicles Act, 1988.
M

ACTIVITY

Identify at least three international insurers and study their physi-

cal damage coverage. Compare and contrast.
N

11.7 POLICY CONDITIONS

When both the insurer and the insured agree to an insurance poli-
cy contract, they also agree to the policy conditions mentioned in the
contract. These policy conditions serve as a basis for claiming the
compensation at the time of accident, loss, theft, etc. The compensa-
tion that the insurer is bound to pay legally, as well as the conditions
in which the insurer becomes liable to pay, is clearly stated in the con-
tract.

11.7.1  DUTIES AFTER AN ACCIDENT OR LOSS

In case of a loss or accident of the policyholder or any member cov-

ered under the policy, the insurer has to be notified about the same.
The duty of the insurer to provide coverage does not start until the in-
sured or his/her family brings the mishap to notice. The following steps
should be taken by the insured after reporting the loss to the insurer:
‰‰ Provide all the details regarding the incident and help in the inves-
tigation process.

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‰‰ Provide the insurer with the copies of any notices or legal papers.
‰‰ If required, the insured has to undergo physical examination.
‰‰ Provide authorisation to the insurer to obtain records related to
the medical history.
‰‰ The insured has to provide an evidence of the accident or loss to
the insurance company.

11.7.2  GENERAL PROVISIONS

Following are the general provisions of any kind of auto insurance

policy:
‰‰ Claim intimation: A notice or claim intimation shall be given in writ-
ing to the insurer immediately upon the occurrence of any accident.

S
‰‰ Reasonable care of vehicle: It is the legal responsibility of the in-
sured to take all the required actions for maintaining the insured
vehicle such that it remains in efficient condition so that the insur-
IM ance company can examine the insured vehicle or any part thereof.
‰‰ Contribution clause: The insurer may require the other insurer(s)
to contribute if the insured holds two (or more) insurance policies
from a different insurer(s) covering the same liability, as per the
insurer’s legal right. Moreover, the insurer does not have the lia-
bility to pay more than its agreed proportion of any compensation,
cost or expense.
M

‰‰ Arbitration: If any disparity arises between the insurer and in-

sured, in such a case, for resolving the difference, an arbitrator has
to be appointed who is unbiased and has the capability of making
a fair decision.
N

‰‰ Disclaimer: According to Nael G. Bunni, If the insurer shall dis-

claim liability to the insured for any claim hereunder and such claim
shall not, within twelve calendar months from the date of such dis-
claimer have been made the subject matter of a suit in a court of law,
then the claim shall for all purposes be deemed to have been aban-
doned and shall not thereafter be recoverable hereunder.
‰‰ Indemnity: In the event of the death of the sole insured, the policy
will not be treated void, but its validity will remain until next three
months from the date of the death of the insured or until the expiry
of this policy (whichever is earlier). During the given period, the
custody of the vehicle will be transferred to the name of the legal
heir(s), and similarly, the policy will also be transferred to the legal
heir(s). However, in this case, a new insurance policy will be issued
in the name of the heir(s) under the Motor Vehicles Act, 1988.
‰‰ Deductibles: When a claim is filed with an insurance company,
the insured may have to pay a specific amount as mentioned in the
policy for the losses incurred.

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N O T E S

For example, if the deductible is 10% and a claim of ` 7000 is filed, one
may have to pay ` 700.

SELF ASSESSMENT QUESTIONS

13. A _____ should be given in writing to the insurer immediately

upon the occurrence of an accident.
14. ____________ means any disparity arises between the insurer
and insured, in such a case, for resolving the difference, an
arbitrator has to be appointed who is unbiased and has the
capability of making a fair decision.

ACTIVITY

From the websites of any three insurers of your choice, download

S
their physical personal auto policies and compare their provisions.
Note any differences, if there.
IM
11.8 SUMMARY
‰‰ Personal auto insurance provides coverage to private passenger
vehicles. In this, the insured is covered against the financial losses
incurred due to bodily injury or any damage caused to the vehicle
or other property.
M

‰‰ Liability only policy or third party cover insures an individual

against claims for bodily injuries or death caused to other persons
(known as the third party), as well as against the loss of or damage
to a third party property caused by the vehicle of the owner.
N

‰‰ Reasonable and necessary medical and funeral expenses incurred

on account of a vehicle accident get covered under the medical
payments coverage policy.
‰‰ An uninsured motorist coverage policy provides protection to a
policyholder when a faltering uninsured driver injures the policy-
holder or any member covered under the policy. Such a plan also
provides property damage coverage.
‰‰ Physical damage coverage is a combination of comprehensive
and collision insurance coverages. This policy provides the widest
coverage of all risks indicated under the Motor Vehicles Act, 1988,
such as third-party bodily injury or death; third-party property
loss or damage; and loss or damage to your own vehicle due to fire,
theft or an accident.
‰‰ In case of a loss or accident of the policyholder or any member cov-
ered under the policy, it is a duty to immediately notify the insurer
about the same.

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KEY WORDS

‰‰ Arbitration: It can be defined as a technique that helps in re-

solving the disputes between the parties by an independent ar-
bitrator. These are resolved outside the court.
‰‰ Insured: It refers to a person who has taken an insurance policy
by agreeing to the conditions mandated by the insurance com-
pany for securing life, automobiles, health, home, etc.
‰‰ Third party: It refers to those people who are not primarily in-
sured, yet are involved in the accident for suffering from death,
bodily injuries or financial losses by being on road.

11.9 DESCRIPTIVE QUESTIONS

S
1. Explain personal auto policy.
2. What is liability coverage?
IM 3. Discuss in detail about medical payments coverage.
4. What is uninsured motorist coverage?
5. Define physical damage coverage

11.10 ANSWERS AND HINTS

M

ANSWERS FOR SELF ASSESSMENT QUESTIONS

Topic Q. No. Answers

Personal Auto Policy 1. Personal auto insurance
N

2. Third party policy

3. Comprehensive coverage
4. False
Liability Coverage 5. Intentional self-injury or
suicide; attempted suicide,
physical defect or infirmity
6. Liability exclusion
Medical Payments Coverage 7. Vehicle accident
8. False
Uninsured Motorist Coverage 9. Medical expenses and salary/
wages lost
10. Uninsured Motorist (UM) cov-
erage policy
Physical Damage Coverage 11. False
12. Physical damage coverage
Policy Conditions 13. Notice or claim intimation
14. Arbitration

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HINTS FOR DESCRIPTIVE QUESTIONS

1. Personal auto insurance provides coverage to private passenger
vehicles. In this, the insured is covered against the financial
losses incurred due to bodily injury or any damage caused to the
vehicle or other property. Refer to Section 11.2 Personal Auto
Policy.
2. ‘Liability only’ policy or third party cover insures an individual
against claims for bodily injuries or death caused to other
persons (known as the third party), as well as against the loss of
or damage to a third party property caused by the vehicle of the
owner. Refer to Section 11.3 Liability Coverage.
3. Reasonable and necessary medical and funeral expenses
incurred on account of a vehicle accident get covered under this
policy. Refer to Section 11.4 Medical Payments Coverage.

S
4. The uninsured motorist coverage policy provides protection to
a policyholder when a faltering uninsured driver injures the
policyholder or any member covered under the policy. Such a
IM
plan also provides property damage coverage. Refer to Section
11.5 Uninsured Motorist Coverage.
5. Physical damage coverage is a combination of comprehensive
and collision insurance coverages. This policy provides the
widest coverage of all risks indicated under the Motor Vehicles
Act, 1988, such as third-party bodily injury or death; third-party
M

property loss or damage; and loss or damage to your own vehicle

due to fire, theft or an accident. Refer to Section 11.6 Physical
Damage Coverage.
N

SUGGESTED READINGS FOR

11.11
REFERENCE

SUGGESTED READINGS
‰‰ Riegel, R., Miller, J., & Williams, C. (1976). Insurance principles and
practices. Englewood Cliffs, N.J.: Prentice-Hall.
‰‰ Arunajatesan S., Viswanathan R.T. (2009). Risk management and
insurance. 1st ed. New Delhi: MacMillan Publishers India Ltd.
‰‰ Rejda E.G. (2011). Principles of risk management and insurance. 1st
ed. Noida: Dorling Kindersley India Pvt. Ltd

E-REFERENCES
‰‰ Allstate.com,. (2015). Auto Insurance & Car Insurance Quotes—
Allstate. Retrieved 5 November 2015, from https://www.allstate.
com/auto-insurance.aspx

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‰‰ III,. (2015). What Is Covered by a Basic Auto Insurance Policy?. Re-

trieved 5 November 2015, from http://www.iii.org/article/what-cov-
ered-basic-auto-insurance-policy
‰‰ Irmi.com,. (2015). personal auto policy (PAP) - Insurance Glossary
| IRMI.com. Retrieved 5 November 2015, from https://www.irmi.
com/online/insurance-glossary/terms/p/personal-auto-policy-pap.
aspx

S
IM
M
N

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 C H
12 A P T E R

COMMERCIAL LIABILITY INSURANCE

CONTENTS

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12.1 Introduction
12.2 Workers’ Compensation Insurance
IM
Self Assessment Questions
Activity
12.3 General Liability Insurance
Self Assessment Questions
Activity
12.4 Commercial Automobile Insurance
M

Self Assessment Questions

Activity
12.5 Aviation Insurance
Self Assessment Questions
N

Activity
12.6 Commercial Umbrella Policy
Self Assessment Questions
Activity
12.7 Summary
12.8 Descriptive Questions
12.9 Answers and Hints
12.10 Suggested Readings for Reference

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INTRODUCTORY CASELET
N O T E S

AVIATION INSURANCE BY UNITED RISK SOLUTIONS

Commercial liability insurance is issued to business organisa-

tions for protecting them against liability claims of bodily injury
or other physical injury, or property damage. Aviation is one type
of commercial liability insurance that helps in covering the po-
tential liabilities arising from airport operations, fixed-base oper-
ators, etc.

United Risk Solutions, a US-based insurance and risk manage-

ment consultancy firm, is one such service provider. It offers a
unique consultancy service to business organisations and helps
them remain focussed on their core business. United Risk Solu-
tions offers advanced and fast-track services so that business or-

S
ganisations are able to mitigate risks effectively.

SITUATION
IM One of United Risk Solutions’ policyholders has a fleet of aircraft.
However, two of the aircrafts were destroyed recently just before
renewal. The insurance carrier responded to renewal by:
‰‰ Offeringthe insured a quote stating a 100 per cent increase in
premiums
‰‰ Excluding slung load coverage
M

‰‰ Enhancing deductible from 5 per cent to 10 per cent on the

hull coverage
‰‰ Deleting profit-sharing provisions in the policy
N

ACTION

Experts at United Risk Solutions undertook a proactive approach

and acquired renewal quotes for this policyholder from other in-
surance carriers just before renewal.

SOLUTION

The action of United Risk Solutions had a positive effect. The pol-
icyholder successfully moved its insurance coverage to another
carrier with a lower increase in premium and comparable cov-
erage. The policyholder also managed to remain in business and
further enhanced its profits and overall business operations.

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LEARNING OBJECTIVES

After studying this chapter, you will be able to:

>> Explain workers’ compensation insurance
>> Describe general liability insurance
>> Discuss commercial automobile insurance
>> Discuss aviation insurance
>> Explain commercial umbrella policy

12.1 INTRODUCTION
In the previous chapter, you studied about personal auto policy, lia-
bility coverage, medical payments coverage, uninsured motorist cov-

S
erage, physical damage coverage and policy conditions. This chapter
will focus on commercial liability insurance.

All business operations involve risk and so business enterprises need

IM
guaranteed protection against the risks. Some risks may involve cus-
tomers suing business enterprises on receiving a defective product, an
error in a service or disregard for another person’s property. There can
also be situations where the claimant may allege that the business en-
terprise created a hazardous environment. In such cases, liability insur-
ance is applicable. It helps to cover the business enterprise for damages
M

in cases where they are found liable. It pays the business enterprise up
to the policy limits, as well as attorneys’ fees and other legal defence
expenses associated with the damages. It also offers medical cover to
business enterprises in cases of any injury on business premises.
N

Thus, commercial liability insurance offers coverage to a business

enterprise for any bodily injury, personal injury or property damage
caused by the business’ operations, products or injury that occurs on
the business’ premises. It is considered comprehensive business insur-
ance, although it does not cover all risks that a business enterprise may
face. Some of the key commercial insurance covers include workers’
compensation insurance, general liability insurance, commercial auto-
mobile insurance, aviation insurance and commercial umbrella policy.

In this chapter, you learn about workers’ compensation insurance.

Further, you learn about general liability insurance. In addition, you
learn about commercial automobile insurance. Moreover, you learn
about aviation insurance. Towards the end of the chapter, commercial
umbrella policy is explained.

12.2 WORKERS’ COMPENSATION INSURANCE

Employers are responsible for the health and safety of their employ-
ees while they are at work. Injury at work or illness owing to nature

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of work (while being employed) contributes to the employer’s liability.

An employer is liable under the law towards the employees to pay
compensation on occurrence of an injury or disease during the course
of employment. Workers’ compensation insurance is also known as
employer’s liability insurance. It obligates the insurer to pay benefits
for which the insured is liable under the workers’ compensation law
of the state or states listed in the declarations.

Workers’ compensation insurance provides cover for the cost of com-

pensation for employees’ injuries or illness (caused onsite or offsite).
Since workers’ compensation forms a part of statutory liability, it be-
comes a legal obligation for an employer to provide the necessary cov-
erage to its employees to comply with laws.

The employer’s legal liability may occur due to:

S
‰‰ Personal negligence of the employer
‰‰ The employer’s negligence/failure to use reasonable care and skill
in provision and maintenance of suitable and safe work environ-
IM ment and safety measures
‰‰ Breach of statutory regulations with regards to the safety of em-
ployees (for example, Factories Act, 1948; Workmen’s Compensa-
tion Act, 1923; etc.)
‰‰ Personal negligence of fellow employees
M

WORKMEN’S COMPENSATION ACT, 1923

The workmen’s compensation insurance business in India is con-

trolled by the Workmen’s Compensation Insurance Act, 1923. This is
N

one of the key social security legislations. It requires employers to of-

fer financial protection to workmen and their dependants on occur-
rence of accidental injuries by paying compensation.

Some important provisions of the Act are as follows:

‰‰ According to Section 3 of the Act, the employer is liable to pay
compensation if personal injury is caused to the workmen by acci-
dent during the course of employment.
‰‰ If workmen contract any disease, specified in the Act as an occupa-
tional disease, the illness is deemed to be injury by accident during
the employment tenure.
‰‰ However, the employer will not be liable if the injury occurs as a
result of:
 Employee being under the influence of alcohol or drugs
 Disobedience or negligence towards safety rules and regula-
tions
 Non-compliance towards safety devices installed for workforce
safety

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‰‰ A workman dying a natural death while on duty; no liability is

attached to the employer unless it is proved that the death was
caused by strain and stress applicable to the particular employ-
ment.

There are two types of coverage provided under the policy:

‰‰ Coverage A: This indemnifies the insured/employer if any em-
ployee (in service and directly employed) sustains bodily injury or
meets with an accident or contracts occupational disease(s) during
the course of employment, which leads to legal liability of the in-
sured/employer.
‰‰ Coverage B: This provides indemnity to the insured against their
legal liability under the Fatal Accidents Act, 1855, and at Common
Law. (This policy may not be issued to cover employees who fall

S
within the definition of “workmen” under the Workmen’s Com-
pensation Act, 1923, as amended.)

SUM INSURED
IM
The sum insured is calculated on the basis of:
‰‰ Earnings of the eligible workmen, which includes wages, salaries,
overtime, board/lodging and other perquisites
‰‰ No deductions for PF/pension to be accounted
M

‰‰ TA/travelling concessions not to be accounted

‰‰ No deductions for income tax deducted at source

AMOUNT OF COMPENSATION
N

Under the Workmen’s Compensation Act, 1923, the amount of com-

pensation depends on the nature of injury, that is, permanent total dis-
ablement, permanent partial disablement, temporary total or partial
disablement, or death. The amount of compensation is also dependent
on the average monthly wages and the age of the workmen. Table 12.1
determines the amount of compensation on a case-by-case basis:

TABLE 12.1: AMOUNT OF COMPENSATION

Cases Amount of Compensation
Death from injury Amount equal to 50 per cent of the monthly
wages of the deceased workman multiplied
by the relevant factor or an amount of
` 80,000, whichever is more
Permanent total disable- Amount equal to 60 per cent of the monthly
ment from injury wages of the injured workman multiplied by
the relevant factor or an amount of ` 90,000,
whichever is more

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Cases Amount of Compensation

Permanent partial disable- In case of injury specified in Part II of Sched-
ment from injury ule I, such percentage of the compensation,
which would have been payable in case of
permanent total disablement as is specified
therein as being the percentage of the loss of
earning capacity caused by that injury
In case of injury not specified in Schedule I,
such percentage of the compensation pay-
able in the case of permanent total disable-
ment as is proportionate to the loss of earn-
ing capacity (as assessed by the qualified
medical practitioner) permanently caused by
the injury
Temporary disablement Half-monthly payment of the sum equiva-

S
(total or partial) from injury lent to 25 per cent of monthly wages of the
workman, to be paid in accordance with the
provisions of Section 4(2)
IM (Source: http://www.futurageindia.com/workmen-compensation.php)

EXCLUSIONS

According to the Insurance Regulatory and Development Authority

(IRDA), the employer/insured is not liable under this policy in respect
of:
M

‰‰ any injury by accident or disease directly attributable to war, inva-

sion, act of foreign enemy, hostilities (whether war be declared or
not), civil war, mutiny, insurrection, rebellion, revolution, military
or usurped power
N

‰‰ the insured’s liability to employees of contractors to the insured

‰‰ any liability of the insured, which attaches by virtue of an agreement
but which would not have attached in the absence of such agreement
‰‰ any sum which the insured would have been entitled to recover from
any party but for an agreement between the insured and such party.

SELF ASSESSMENT QUESTIONS

1. Workers’ compensation insurance is also known as __________.

2. The workmen’s compensation insurance business in India is
controlled by the __________.
3. Under the Workmen’s Compensation Act, 1923, the amount
of compensation depends on the nature of injury, that is,
permanent total disablement, permanent partial disablement,
temporary total or partial disablement or death. (True/False)

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ACTIVITY

Using the Internet, find out the applicability of workers’ compen-

sation insurance in an Indian manufacturing firm. Prepare a short
report on your findings.

12.3 GENERAL LIABILITY INSURANCE

General liability insurance is the insurance policy that covers claims
occurring from an insured’s liability due to damage or injury (caused
by negligence or acts of omission) during performance of his/her du-
ties or business. This policy for organisations is provided under the
Commercial General Liability Policy (CGL). It was introduced by the
Insurance Services Office (ISO), in January 1986, as part of the com-

S
mercial lines simplification programme, also known as ‘the portfolio
programme’. The CGL policy is mainly sold to customers having for-
eign collaborations or business entities in foreign countries. It covers
a wide range of liability loss exposures of commercial organisations.
IM
The loss exposures can be segregated under the following categories:
‰‰ Premises and operation liability risks
‰‰ Products and completed operations liability risks
‰‰ Limited contractual liability
‰‰ Personal and advertising injury liability
M

‰‰ Medical payments
‰‰ Supplementary payments

Liability arising under the CGL policy can be categorised as—i) com-
N

mon law, ii) contract and iii) statute. The various forms of torts that are
covered under this policy are negligence, trespass, liability for occupi-
er’s premises, etc.

POLICY COVERAGE

CGL policy was first introduced in the US in 1941, and since then, it
has become the most trusted liability policy around the world. The
policy was introduced by ‘casualty insurers’, and since it was compre-
hensive in its coverage and definitions, it was termed as ‘Comprehen-
sive General Liability’. In 1996, the American Association of Insur-
ance launched two distinct versions of the CGL policy: “occurrence
version” and “claim-made version”. The two versions differ from each
other with respect to the coverage of claim. The occurrence version
provides cover for all bodily injuries or property damages that occur
during the policy period. On the other hand, the claim-made version
provides cover for all bodily injuries or property damages that occur
during the policy period, provided claims are made against the insured

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during the policy period. However, these two versions of the CGL poli-
cy commonly contain six sections that are described as follows:

SECTION I: COVER DETAILS

The following covers are provided under this section:

‰‰ Cover A: Bodily Injury and Property Damage Liability
‰‰ Cover B: Personal and Advertising Injury Liability
‰‰ Cover C: Medical Payments
‰‰ Cover D: Supplementary Payments

Let us now study each of these covers further.

‰‰ COVER A: BODILY INJURY AND PROPERTY DAMAGE LI-

S
ABILITY
Coverage
The coverage provided is as follows:
IM
 The policy triggers if the insured is legally obliged to pay damag-
es for bodily injury or property damage covered under the poli-
cy. The incidence should happen in covered territory and within
policy period; the limit of liability will be as per Section 3.
 Since it is a legal liability, negligence needs to be proved in or-
der to claim the damages.
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 The insurer has the right and duty to defend the case. This is
also known as the ‘Duty to Defend Clause’. However, as per
the Indian law, insurers are not permitted to defend the case
except where it is statutorily provided (for example, Motor
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Third Party). Thus, in India, the case is between the insured

and claimant.
Exclusions
Some of the exclusions are as follows:
 Deliberate damages are not covered under this policy. Howev-
er, cover for damages or injury occurring when force is applied
to protect a person/property would be covered.
 Contractual liability is also excluded.
 Workmen’s compensation and employees liability
 Pollution liability is excluded except pollution in a building
caused by heating equipment of the building or where opera-
tions are being carried out.
 Use or ownership of aircraft, auto or watercraft
 War is also excluded.
 Damage to own product
 Damage to impaired properties

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 Recall of products
 Employment-related practices
‰‰ COVER B: PERSONAL AND ADVERTISING INJURY LIA-
BILITY
Coverage
Coverage under personal and advertising injury liability includes:
 False arrest, detention or imprisonment: It means physical
detention of a person without any probable cause.
 Malicious prosecution: It implies criminal action without a
probable cause.
 Wrongful eviction; wrongful entry; or invasion of private oc-
cupancy of a room, dwelling or the premises: It implies re-

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moval of a tenant by a landlord in violation of state or local
eviction laws.
 Libel, slander or disparagement of goods, products or ser-
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vices: It implies defaming the details of the products of the or-
ganisation to dissuade customers from buying them.
 Oral or written publication of material violating a person’s
right of privacy: It implies disturbing someone’s personal life
through spoken words or publication of written material. For
example, a wrong information about the person in the news-
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paper.
 Consequential bodily injury: It includes consequential bodily
injury that arises out of the offenses described above.
Exclusions
N

Some of the exclusions are as follows:

 Injury caused by the deliberate acts of insured, false verbal or
written publications, criminal acts and publications made pri-
or to policy
 Assumed liability or breach of contract
 Employment-related practices
 Pollution or asbestos-related exposures
 Failure of goods/services to perform as advertised
 Committed by insured whose business is advertising and other
media
‰‰ COVER C: MEDICAL PAYMENTS
Coverage
Medical expenses incurred for bodily injury caused by an accident
within the covered territory and within the policy period. Expens-
es need to be reported (and incurred) for such accidents.

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Exclusions
Some of the exclusions are as follows:
 Participation in athletics
 War and allied perils
 People eligible under workmen’s compensation policy or sim-
ilar laws
 Expenses for injury to insured, employees, tenants or occupi-
ers of insured-owned or-rented property.
‰‰ COVER D: SUPPLEMENTARY PAYMENTS
The supplementary payment section gives details of the cost that
the insurer will have to pay with respect to any claim (investiga-
tion or settlement by insurer) or any suit the insurer defends the

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insured under either cover ‘A’ or cover ‘B’. The supplementary
payments may consist of the following:
 All legal expenses, such as defence cancel fees
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 Cost of bail bond related to bodily injury liability coverage
 Any reasonable expenses incurred by the insured at the re-
quest of the insurer for investigation or defence
 All court-related expenses imposed against the insured
 Pre-judgement interest awarded against the insured relating
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to the judgement the insurer satisfies

SECTION II: WHO IS AN INSURED

N

An insured can be an individual, the sole owner of a business or a

spouse. Partnership or joint venture is insured along with partner
members and their spouses. An insured can include a limited liability
company—the company and its managers, and any organisation, its
executive officers, directors and stockholders.

SECTION III: LIMITS OF INSURANCE

The limit of insurance amount payable under this policy is the maxi-
mum liability of the insurer irrespective of the number of:
‰‰ Insured

‰‰ Claims filed or suit bought

‰‰ People/organisations lodging claims

SECTION IV: CONDITIONS

This section addresses various matters such as the insured’s duties in

the event of occurrence, claim or suit; the insured’s right to sue the in-

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surer; principle of contribution; subrogation; etc. This section outlines

the following conditions, as given by R.C. Guria, Faculty Associate, at
National Insurance Academy, Pune:
‰‰ Duties of the insured after occurrence, offense, claim or suit:
 Immediate notice
 Contents in notice—time, place and cause of occurrence, names
and address of insured people and witnesses, nature and loca-
tion of injury or damage, etc.
 Others

‰‰ Legal action against the insurers providing for procedure and on

agreed settlement
‰‰ Otherinsurance mentioning primary insurance, excess insurance

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and method of sharing
‰‰ Premium audit: Provision for computation of final premium after
audit for adjustment against advance premium and for due return of
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excess premium if paid in advance and for recovery of the shortage,
if any.
‰‰ Representations: Statements in the policy issued are based on the
insured’s representations.
‰‰ Separation of insured: Application of insurance to each insured
separately against whom the claim is made.
M

‰‰ Renewal of policy: Providing rule and procedure for non-renewal

of policy (by notice before 30 days).
‰‰ Transfer of recovery rights: The insured will enforce suit or trans-
fer those rights to insurer.
N

‰‰ Bankruptcy: Insolvency of insured will relieve insurer of their obli-

gation under coverage par.

SECTION V: EXTENDED REPORTING PERIODS

A claim-made CGL policy provides for two extended reporting peri-

ods, which are as follows:
‰‰ Basic extended reporting period: This policy is provided auto-
matically without any additional premium, if the policy is can-
celled or not renewed or the insurer renews the policy with a later
retrospective date or with occurrence base. This extension poli-
cy will cover claims made against the insured within 5 years for
the occurrence within policy period and reported within 60 days
from expiry. It does not increase the limits of insurance or apply to
claims to be covered by the subsequent policy.

Let us understand the basic extended reporting period with the help
of an example.

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X Ltd was insured by a claim-made CGL policy issued by P Insurance

Company. During renewal, X Ltd purchased an Occurrence CGL Pol-
icy from R Insurance Company 40 days after the claim-made policy
expired. The insured, X Ltd, came to know about an injury that oc-
curred one week before the expiry of claim-made policy. X Ltd imme-
diately reported the occurrence to both P and R insurance companies.
One year later, the insured person finally made claim against X. The
question was—which insurance company will respond to the claim?
As the basic extended reporting period was in effect, because claim-
made period was not renewed and claim was for bodily injury caused
by an occurrence reported to P Insurance Company within 60 days of
the expiry of the policy, P’s policy will be applicable to the claim.
‰‰ Supplemental extended reporting period: This policy is granted
under the same circumstances as the previous one, provided the
insured’s requests are presented in writing within 60 days from

S
the expiry of policy and he/she pays an additional premium spec-
ified by the insurer. The supplemental extended reporting period
starts when the basic extended reporting period ends. It continues
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indefinitely for the occurrence reported to the insured within 60
days but did not result in claims even after 5 years.

SECTION VI: DEFINITIONS

Some key definitions for the terms used in the policy are as follows:
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‰‰ Advertisement: It is defined as a notice that is broadcast or pub-

lished to general public or specific market segments about the in-
sured’s goods/services for attracting customers.
‰‰ Auto: A land motor vehicle (trailer or semi-trailer) designed for
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travel on public roads, including any attached machinery or equip-

ment. This does not include mobile equipment.
‰‰ Bodily injury: It is defined as the bodily injury, sickness or disease
sustained by a person, including death resulting from any of these
at any time.
‰‰ Coverage territory: It is the territory specified in the schedule.
‰‰ Employee: This includes permanent employees as well as contrac-
tual employees.
‰‰ Executive officer: It refers to any person holding office as per
company law.
‰‰ Hostile fire: It refers to the fire that becomes uncontrollable and
occurs from a specific location.
‰‰ Impaired property: It refers to any tangible property other than
the insured’s product or work that cannot be used or is less useful
due to the following reasons:
 Insured’s product is known or thought to be defective, defi-
cient, inadequate or dangerous.

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 Insured failed to fulfil the terms of contract or agreement.

‰‰ Insured contract: It means:
 Contract for lease of premises
 A side track agreement
 Elevator maintenance agreement
‰‰ Leased worker: This refers to a person leased to the insured by a
labour-leasing firm.
‰‰ Loading or unloading: Loading refers to the movement of goods
into an aircraft, watercraft or auto, while unloading refers to goods
being moved out of the vehicle.
‰‰ Local underlying policy: It is the primary policy effective on or af-
ter the inception of this policy, which has been issued at the insur-

S
er’s direction or coordinated specifically for a particular insurance
programme.
‰‰ Mobile equipment: It refers to any land vehicle including at-
IM
tached machinery or equipment, such as bulldozers, forklifts, pow-
er cranes, etc. In other words, it means any equipment that is not
used for carriage of people or cargo.
‰‰ Occurrence: It means an accident including continuous or repeat-
ed exposure to substantially the same general harmful conditions.
‰‰ Personal and advertising injury: It is defined as the injury, in-
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cluding consequential bodily injury, which occurs due to:

 False arrest, detention or imprisonment
 Malicious prosecution
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 Oral or written publication of material that slanders or libels a

person or organisation
 The use of another’s advertising idea in one’s advertisement
‰‰ Pollutants: Any solid, liquid, gaseous or thermal irritants or con-
taminants, including smoke, vapour, chemicals or waste.
‰‰ Property damage: It means any small-scale or large-scale damage
to tangible property including consequential losses.

SELF ASSESSMENT QUESTIONS

4. __________ is the insurance policy that covers claims occurring

from an insured’s liability due to damage or injury (caused by
negligence or acts of omission) during performance of his/her
duties or business.
5. The CGL policy was first introduced in the US in __________.

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6. Name the policy that is provided automatically without any

additional premium, if the policy is cancelled or not renewed
or the insurer renews the policy with a later retrospective date
or with occurrence base.

ACTIVITY

Prepare a report to compare the application of commercial liability

insurance by an Indian apparel firm and by a US apparel firm.

COMMERCIAL AUTOMOBILE
12.4
INSURANCE
Commercial automobile insurance provides insurance cover for vehi-

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cles used by business organisations. It could be vehicles used by the
insured or given for use by the insured. Further, the cover is available
for a single as well as a fleet of vehicles. In India, vehicle insurance
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comes under the Motor Vehicles Act, 1988.

The two main sections of the commercial automobile insurance policy

are:
‰‰ Section I: Loss of or damage to the vehicle insured
‰‰ Section II: Liability to third parties
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Let us now study these sections in detail.

SECTION I: LOSS OF OR DAMAGE TO THE VEHICLE INSURED

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The insurer shall indemnify the insured against the loss of or damage
to the vehicle insured under the policy by:
‰‰ Fire explosion, self ignition or lightning
‰‰ Burglary, housebreaking or theft
‰‰ Riot or strike
‰‰ Earthquake

‰‰ Malicious act
‰‰ Whilst in transit by road, rail, inland waterway, lift, elevator or air

Payment under the policy shall be subject to the rate of depreciation

as applicable (given by the insured).

EXCLUSIONS

Some of the exclusions are as follows:

‰‰ Consequential loss

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‰‰ Depreciation;wear and tear; mechanical, electrical or electronic

breakdown; failures or breakages
‰‰ Damage to tyres unless damage is caused to other parts of the ve-
hicle at the same time
‰‰ Loss of or damage to the contents being carried in or on the vehicle

‰‰ Damage caused by overloading or strain

SECTION II: LIABILITY TO THIRD PARTIES

Liability to third parties occurs in the following conditions:

‰‰ Insurer shall indemnify the insured or his/her authorised driver of
the vehicle against legal liability for damages (including the relat-
ed costs and expenses) for:

S
 Death of or bodily injury to any person caused by or occurring
due to the usage (including the loading and/or unloading) of
the vehicle
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 Damage to property caused by the usage (including the loading
and/or unloading) of the vehicle

Following the death of any person covered under this policy, the legal
representatives of that person will be indemnified for liability covered
under this section, provided the legal representatives comply with all
the terms and conditions of the policy.
M

EXCLUSIONS

This policy will not cover:

‰‰ Death of or bodily injury to any person in employment
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‰‰ Death of or bodily injury to any person (other than a passenger

carried by reason of or in pursuance of a contract of employment)
being carried in or upon entering or getting onto or alighting from
the vehicle at the time of the occurrence of the event out of which
any claim arises
‰‰ Damage to property held in custody, control or belonging to any
member of a household
‰‰ Damage to any bridge, weighbridge or viaduct, or to any road
caused by vibration or by the weight of the vehicle or of the load
carried by the vehicle
‰‰ Damage to property caused by the explosion of a boiler forming
part of or attached to or on the vehicle.

SELF ASSESSMENT QUESTIONS

7. In India, vehicle insurance comes under the __________.

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ACTIVITY

Using the Internet, find out the other sections of the commercial
automobile insurance policy.

12.5 AVIATION INSURANCE

The aviation insurance sector has always varied from other insurance
sectors. This variation has been in terms of the fact that both the pre-
mium base and the customer base are very narrow, with just a mini-
mum number of insured. As the potential exposure of each airline is
huge, it is almost unknown for a single insurer to underwrite the total
amount of an airline’s overall risk. Generally, a number of insurers
will each underwrite a small percentage of that exposure; thus, keep-

S
ing the exposure for any one insurer within acceptable limits.

Aviation insurers provide insurance cover for insured (airlines; man-

ufacturers; airports; service providers, such as refuellers, caterers, se-
IM
curity screeners; etc.) against loss, damage and liability, in return for
premiums. Insurers in turn pay premiums to reinsurers to offset part
of the risk. The risk that an insurer can prudently cover is estimated
by the sum of funds from his/her capital providers, retained profits
and any reinsurance he/she has purchased.

Some of the aviation insurance covers are given as follows:

M

‰‰ Aircraft (flight and ground risks) policy: The coverage provided

by the policy includes replacement of damaged aircraft parts ‘on
the ground’ or any issue while ‘in flight’. The policy also covers
legal liability to both passengers and any third party.
N

‰‰ Aircraft hull policy comprehensive: The policy covers loss of or

damage to the aircraft while it is in flight, taxying, on the ground
or moored; liability towards third parties; and passenger’s liability.
‰‰ Aircraft hull war risks policy: The cover provides indemnity for
loss of or damage to aircraft caused by:
 War, invasion, hostilities, civil war, rebellion, insurrection, mar-
tial law, military or usurped power, or attempts at usurpation
of power
 Strikes, riots, civil commotions or labour disturbances
 Political, criminal or terrorist acts resulting in loss of life
 Any malicious act or act of sabotage
‰‰ Aviation personal accident policy (crew): This is a group personal
accident insurance granted to the airline operators providing for
specified benefits payable in the event of accidental bodily injury
to members of the crew. The airline operator is the insured entity
under the policy and the members of the crew are designated as

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insured people. The insured, that is, the airline operator, has the
sole and exclusive rights of receiving any payment or of enforcing
any claim under the policy. The capital sums insured differ accord-
ing to the status of the insured personnel.
‰‰ Hijacking endorsement: This insurance covers loss of or damage
to the aircraft, caused by hijacking or any illegal way of taking con-
trol of the aircraft or crew in flight by any person(s) on board the
aircraft.
‰‰ Loss of licence insurance: The operating crew of the aircraft are
required by law to have valid professional license from the gov-
ernment to work in their occupation. This license is granted after
satisfactory medical examination. Renewal of the license is also
subject to similar requirements. This license can be temporarily or
permanently suspended on medical grounds. The resultant finan-

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cial loss is covered by the loss of license policy.
‰‰ Loss of use insurance policy: This cover is triggered by air opera-
tors to protect them against the loss of revenue caused by aircrafts
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being grounded for repairs for a long time. However, this policy
indemnifies the insured for only partial loss of revenue.
‰‰ Product legal liability insurance policy: This insurance is trig-
gered by aircraft manufacturers or repairers to protect them from
risks that are caused by faulty design of the aircraft or those due to
defective repair work. The policy indemnifies the manufacturer or
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repairer all sums that they may be liable to pay as a consequence

of defective workmanship or manufacture.

Exclusions under aviation clause include:

‰‰ Invasion and acts of foreign enemies; eg., terrorism
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‰‰ Excluding any hostile detonation of a weapon, strikes, riots, civil

commotions, malicious acts or acts of sabotage, confiscation, na-
tionalisation, seizure by any government or local authority and hi-
jacking without the consent of the insured

SELF ASSESSMENT QUESTIONS

8. Aviation insurers provide insurance cover for the insured

(airlines; manufacturers; airports; service providers, such
as refuellers, caterers, security screeners; etc.) against loss,
damage and liability, in return for premiums. (True/False)

ACTIVITY

Find out the application of aviation insurance with regards to Air

France. Prepare a report on your findings.

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12.6 COMMERCIAL UMBRELLA POLICY

Commercial umbrella policy provides cover to business owners, hav-
ing huge amount of assets or those vulnerable to lawsuits. The policy
may offer supplementary coverage for lawsuits, legal fees and settle-
ments as well as for bodily injury and property damage claims not
covered by other liability policies. Under this policy, the insurer pays,
on behalf of the insured, the loss in excess of the retained limit. The in-
sured becomes legally obligated to pay by reason of liability imposed
by law or assumed by law under an insured contract, due to bodily in-
jury, property damage, personal injury or advertising injury to which
this insurance is applicable.

COVERAGE

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The policy covers:
‰‰ Bodily injury or property damage caused by an occurrence at any
location during the policy period
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‰‰ Personal injury or advertising injury caused by an occurrence at
any location during the policy period

LIMITS OF INSURANCE

The limits of insurance are as follows:

M

‰‰ Limit of insurance states that the insurer shall pay for all losses
under this policy regardless of the number of:
 Insured
N

 Claims made or suits brought

 People or organisations making claims or bringing suits
 Coverage provided under this policy
‰‰ If the insured event is covered under more than one policy (this
policy as well as an excess policy issued prior to the date of incep-
tion of the policy), liability under this policy shall be limited to any
excess amount remaining post amount settlement through prior
policy.
‰‰ Policy applies only in excess of the retained limit.
‰‰ Insurer (on behalf of the insured) is required to make prompt pay-
ment once the amount of loss is ascertained post settlement/final
judgement).

EXCLUSIONS

This insurance does not apply to:

‰‰ Injuries caused intentionally

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‰‰ Injury/liability caused by exposure to lead/asbestos

‰‰ Claims occurring as a result of defect, deficiency in insured’s prod-
uct or service (property not physically injured)
‰‰ Bodilyinjury or property damage due to ownership, operation,
maintenance or use, loading or unloading of watercraft or aircraft
owned by the insured or rented to the insured without a crew

SELF ASSESSMENT QUESTIONS

9. __________ provides cover to business owners, having huge

amount of assets or those vulnerable to lawsuits.

ACTIVITY

S
Using the Internet, find out about other covers that are provided
under the commercial umbrella policy.
IM
12.7 SUMMARY
‰‰ Workers’ compensation insurance provides cover for the cost of
compensation for employees’ injuries or illness (caused onsite or
offsite).
‰‰ The workmen’s compensation insurance business in India is con-
trolled by the Workmen’s Compensation Insurance Act, 1923,
M

which is one of the key social security legislations.

‰‰ General liability insurance is the insurance policy that covers
claims occurring from an insured’s liability due to damage or inju-
ry (caused by negligence or acts of omission) during performance
N

of his/her duties or business.

‰‰ CGL policy was first introduced in the US in 1941, and since then,
it has become the most trusted liability policy around the world.
‰‰ Commercial automobile insurance provides insurance cover for
vehicles used by business organisations.
‰‰ The aviation insurance sector has always varied from other insur-
ance sectors in terms of the fact that both the premium base and
the customer base are very narrow, with just a minimum number
of insured.
‰‰ Commercial umbrella policy provides cover to business owners,
having huge amount of assets or those vulnerable to lawsuits.

KEY WORDS

‰‰ Consequential loss: It refers to the amount of loss incurred due

to non-usage of business property or equipment.

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‰‰ Depreciation: It refers to minimisation in the value of an asset

over time, caused by wear and tear.
‰‰ Hull policy: It refers to an aviation policy designed to cover
physical damage or losses to an aircraft.
‰‰ Moored: It refers to anchor the vehicle to a permanent or rigid
structure.
‰‰ Taxying: It refers to the movement of an aircraft on the ground,
under its own power, different from towing or push-back where
the aircraft is moved by a tug.

12.8 DESCRIPTIVE QUESTIONS

1. What are the provisions of the Workmen’s Compensation

S
Insurance Act, 1923?
2. Analyse Section 4: Conditions of the CGL Policy.
3. Describe commercial automobile insurance.
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4. Discuss aviation insurance.
5. Explain commercial umbrella policy.

12.9 ANSWERS AND HINTS

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ANSWERS FOR SELF ASSESSMENT QUESTIONS

Topic Q. No. Answers

Workers’ Compensation Insur- 1. Employer’s liability insur-
N

ance ance
2. Workmen’s Compensation
Insurance Act, 1923
3. True
General Liability Insurance 4. General liability insurance
5. 1941
6. Basic extended reporting
period
Commercial Automobile Insur- 7. Motor Vehicles Act, 1988
ance
Aviation Insurance 8. True

Commercial Umbrella Policy 9. Commercial umbrella policy

HINTS FOR DESCRIPTIVE QUESTIONS

1. According to Section 3 of the Act, the employer is liable to pay
compensation if personal injury is caused to the workmen by

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accident occurring during the course of employment. Refer to

Section 12.2 Workers’ Compensation Insurance.
2. Section 4: Conditions addresses various matters such as the
insured’s duties in the event of occurrence, claim or suit, the
insured’s right to sue the insurer, principle of contribution,
subrogation, etc. Refer to Section 12.3 General Liability
Insurance.
3. Commercial automobile insurance provides insurance cover for
vehicles used by business organisations. Refer to Section 12.4
Commercial Automobile Insurance.
4. Aviation insurers provide insurance cover for the insured
(airlines; manufacturers; airports; service providers, such as
refuellers, caterers, security screeners; etc.) against loss, damage
and liability, in return for premiums. Refer to Section 12.5

S
Aviation Insurance.
5. Commercial umbrella policy provides cover to business owners;
having huge amount of assets or those vulnerable to lawsuits.
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Refer to Section 12.6 Commercial Umbrella Policy.

SUGGESTED READINGS FOR

12.10
REFERENCE

SUGGESTED READINGS
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‰‰ Arunajatesan S., Viswanathan R.T. (2009). Risk management and

insurance. 1st ed. New Delhi: MacMillan Publishers India Ltd.
‰‰ Rejda E.G. (2011). Principles of risk management and insurance.
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1st ed. Noida: Dorling Kindersley India Pvt. Ltd.

E-REFERENCES
‰‰ Futurageindia.com (2015). Labour law consultants in India | La-
bour law audit in India | Labour law due diligence in India | For-
mation of approved gratuity fund in India | EPF consultants in
India | ESI consultants in India. Retrieved 3 November 2015, from
http://www.futurageindia.com/workmen-compensation.php.
‰‰ IRDA (2015). Retrieved 3 November 2015, from https://www.irda.
gov.in/admincms/cms/uploadedfiles/61.workmen’s%20compensa-
tion%20-%20policy%20wording.pdf.
‰‰ NIA Pune (2015). Retrieved 3 November 2015, from http://www.
niapune.com/pdfs/bimaquest/rc_guria.pdf.

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 C H
13 A P T E R

CASE STUDIES

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CONTENTS

Case Study 1 Purchasing Insurance to Mitigate Risks

Case Study 2 Risk Identification at Tata AIG Life Insurance Company
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Case Study 3 Need of Reinsurance by XYZ
Case Study 4 Damage Recovery by Cummins & White, LLP
Case Study 5 Planning for Insurance
Case Study 6 LIC’s Jeevan Akshay Annuity Plan
Case Study 7 Rejection of Health Insurance Claim
Case Study 8 Settlement of Claim of Property Insurance
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Case Study 9 Damage of Starbucks Building in Earthquake

Case Study 10 Failure of Professional Service
Case Study 11 Claim Rejection
Case Study 12 Aviation Insurance at Jet Aviation
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260  INSURANCE AND RISK MANAGEMENT

CASE STUDY 1
N O T E S

PURCHASING INSURANCE TO MITIGATE RISKS

This Case Study discusses the role of insurance to mitigate finan-

cial risk. It is with respect to Chapter 1 of the book.

A young couple, Jahnvi and Varun, in their mid-twenties were

working for the same company, which was a reputed Australian
company. Varun got a massive pay rise with promotion due to his
hard work. Jahnvi was also financially quite stable and thus to-
gether they purchased the new home with a combined income of
$130,000 plus savings. Being in planning mode, they discussed the
need for life insurance. However, as already they have invested a
huge amount in purchasing the home, so they thought that buy-
ing life insurance would be an additional expense for them. Thus,

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they rejected this idea of buying life insurance.

Unfortunately, their life became tough when Jahnvi died in a fatal

car accident. Varun was so devastated by this tragic incident that
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soon he went into severe depression. Varun’s monthly income was
not enough to meet all the expenses, so the mortgage payments
related to home were delayed.

This led Varun to sell his home and move to his parents’ place. He
had to depend on his parents and friends for financial support.
However, things could have been different if Jahnvi and Varun
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had purchased a secure life insurance cover for themselves.

In the event of such unfortunate tragedies, like in the case of

Jahnvi and Varun, insurance helps to sort out financial issues by
providing quick, secure, easy and affordable personal life insur-
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ance options. Jahnvi and Varun, could have availed the following
benefits of Life Insurance Policy which include:
‰‰ Income protection insurance: This cover would have sup-
plemented Varun’s income after Jahnvi’s accident and would
have paid for during his low income.
‰‰ Critical illness cover: This cover would have helped them in
paying off any mortgage, debts and other medical expenses
plus any time off work.
‰‰ Life cover: It provides financial cover for ‘life’, i.e., in this case,
would have covered all debts, expenses, etc. of the young cou-
ple.

QUESTIONS

1. What benefits can be availed from the life insurance?

(Hint: Life cover, illness cover, etc.)

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CASE STUDY 1
N O T E S

2. ‘Insurance is seen as a saving product’. Explain in the

context of the case.
(Hint: Insurance could have act as a saving for Varun in
the case. The insurance is being taken for the protecting
and guarding the dependents after the death of the policy
holder, hence the insurance policy should be of such
nature that it should satisfy the needs and requirements
of the dependents in case of death.)

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CASE STUDY 2
N O T E S

RISK IDENTIFICATION AT TATA AIG LIFE INSURANCE

COMPANY

This Case Study discusses risk identification in organisations. It is

with respect to Chapter 2 of the book.

Tata AIG Life Insurance Company, formed in 2001, is a joint ven-

ture between Tata Group of India and American International
Group (AIG) Inc. The company offers a variety of life insurance
products. The objective of setting up Tata AIG was to sell life in-
surance products in rural India. The CEO of the company looked
at it as an opportunity to popularise the brand and build good re-
lations with the Insurance Regulatory and Development Author-
ity (IRDA).

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Selling products in rural areas was a challenging task as it de-
manded a very detailed study of the risks involved, as well as an
understanding of the people and their aspirations.
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The CEO of Tata AIG, Mr. Ian J. Watts, decided to take an innova-
tive approach to sell insurance products. He did not want to focus
on profits at this initial stage and gave his team complete free-
dom to design micro-insurance products. Tata AIG developed the
concept of micro agents and it worked well. The next step was to
identify the risks.
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The risk identification process brought the following results:

‰‰ Clientswere low-income households as family members were
dependent on a single income source.
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‰‰ Agriculture being the actual source of income made financial

inflow seasonal and irregular. This made it difficult to ascer-
tain premium regularity.
‰‰ Poor hygiene, lack of potable water, poor working conditions,
poor nutrition, high prevalence of disease, etc., among the
people.

The prevalence of illiteracy in rural areas meant that the people

used radio rather than the print media for information. Poor in-
frastructure also caused interruption in selling and providing in-
surance services. There was no historical data to understand the
possibility and recurrence of risky events.

After risk identification, evaluation was done on the basis of the

data available with LIC. However, this data proved to be of not
much help in understanding the risks pertaining to low-income
households. Besides promoting micro-insurance services, the
company had to demonstrate its corporate social responsibility as

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 Case study 2: RISK IDENTIFICATION AT TATA AIG LIFE INSURANCE COMPANY  263

CASE STUDY 2
N O T E S

well. A study done on the problems faced by rural people in India

had found out the following:
‰‰ 44% of the families suffered loss due to floods and heavy rains.

‰‰ 39% suffered due to drought and 29% had to face pest attack.
‰‰ The average value of loss was estimated to be ` 2641 per
household annually.
‰‰ 64% of the families needed insurance, out of which 50% need-
ed life cover, 30% needed insurance for livestock, 20% required
crop and other types of insurance.

Notably, only 15% of households were able to buy an insurance

policy. So, the need was to design low-premium-based products.
The major objective of the rural people for buying insurance was

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savings. Also, they were not in favour of paying high premiums.

Thus, Tata AIG came up with a number of insurance plans such

as Kalyan Yojana, Karuna Yojana and Jan Suraksha Yojana. The
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strategy of the company was to offer higher returns at death and
lower on maturity. This strategy was based on research that found
out that the mortality rate among rural people was low at higher
age. This made it feasible for Tata AIG to decrease the premium
rates.
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QUESTIONS

1. What were the risks identified by Tata AIG while offering

micro-insurance products?
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(Hint: Low income households, poor infrastructure, etc.)

2. What facilitated the company to decrease the premium
rates?
(Hint: Low death mortality rate at higher age.)

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CASE STUDY 3
N O T E S

NEED OF REINSURANCE BY XYZ

This Case Study discusses need for reinsurance. It is with respect to

Chapter 3 of the book.

XYZ is an insurance company that deals in offering various insur-

ance policies to its customers. Its vision is to provide innovative
and customer-centric insurance plans products. To enhance sta-
bility in the business, XYZ wanted to buy reinsurance. The need
for reinsurance came up because of the following:
‰‰ XYZ wanted a reinsurance plan that smoothen its income.
The need of capital for providing the coverage can be reduced
and the risks are also diversified, as the risks are transferred.
‰‰ XYZ wanted to get secured by making the payment for an

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additional premium. This would also help in increase in the
depth and width of the insurance company.
‰‰ Through reinsurance, XYZ wants to get more security. This
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would help in expanding further and taking further risks for
obtaining more business.

The XYZ approached the National Insurance Company for obtain-

ing the reinsurance. The National Insurance Company explained
XYZ about the various kinds of the Reinsurance Programme, i.e.
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Proportional Method and Non-Proportional Method.

XYZ found that obtaining the proportional Insurance is costlier

than the cost of the non-proportional reinsurance. Under propor-
tional reinsurance, the reinsurer receives a prorated share of the
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premiums of all the policies sold by the insurance company being

covered. In case of non-proportional reinsurance, the reinsurer
will only get involved if the losses of insurance company exceed a
specified amount.

QUESTIONS

1. Explain which kind of insurance should the XYZ opt for.

(Hint: Since the business of XYZ is concentrated on single
lines, hence it is suggested to opt for the proportional
method as it will provide the stability.)
2. What benefits can be achieved by XYZ after taking
reinsurance?
(Hint: Smoothened flow of income, stability, etc.)

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 CASE STUDY 4
N O T E S

DAMAGE RECOVERY BY CUMMINS & WHITE, LLP

This Case Study discusses the application of the principle of subro-

gation. It is with respect to Chapter 4 of the book.

In Los Angeles, a blocked sewer line full of raw sewage flooded a

church leading to destruction of its walls, floors and other proper-
ty. The insurance policy taken by church provided for the cleanup
of the sewage; however, no funds were available for rebuilding
the church. Thus, the church and insurer filed claims for com-
pensation of damages from the City of Los Angeles. The City did
not acknowledge the request of the church. Thus, the church ap-
proached the famous lawyer, Kevin Price of Cummins & White,
LLP, (a legal firm) to sue the City.

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Mr. Price pressed charges of severe negligence for the City of Los
Angeles’ failure to maintain the sewage line. Through research,
he found that the City had long neglected faulty sewage pipes,
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and spills and cracks had already started occurring. Californian
law of inverse condemnation states that a government entity is
compelled to pay for private property damaged or destroyed as part
of a public works project.

Mr. Price and his legal associates at Cummins and White pressed
charges under inverse condemnation against the City.
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In this case, the inverse condemnation offered a wide range of

recoverable damages, including:
‰‰ Damage to the church’s property
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‰‰ Lost rental value

‰‰ Lowest rent from a church tenant
‰‰ Labour costs for staff
‰‰ Labour costs for emergency staff

Finally, a settlement was reached according to which the City of

Los Angeles agreed to pay $350,000, inclusive of attorney’s fees
and costs. According to Mr. Price, An inverse condemnation claim
is atypical for property subrogation, but in this case it provided ad-
vantages over other causes of action. For example, any contributory
negligence of the insured, often a potent defense in a case like this,
became a non-issue. It is simply not applicable to an inverse con-
demnation claim. At mediation, we were able to focus entirely on
damages.

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CASE STUDY 4
N O T E S

QUESTIONS

1. Which principle of insurance is applied in the present

case? Explain the principle.
(Hint: Principle of subrogation)
2. What damages did the church claim from the City of Los
Angeles? Discuss.
(Hint: Property damage charges, labour costs, etc.)

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 CASE STUDY 5
N O T E S

PLANNING FOR INSURANCE

This Case Study discusses the importance of life insurance. It is

with respect to Chapter 5 of the book.

Mr. Fernandes, working in a private organisation has a small fam-

ily including his wife, daughter (2 years) and son (5 years). He
lives in a rented house and pays ` 8,000 per month as rent. His
salary is ` 80,000 per month. He never thought that insurance is
important until one day he met his insurance advisor Mr. Swaraj.
He discussed in length about Fernandes’s future plans for his
children. Swaraj reminded him that whatever his kids wish for
higher studies, Fernandes has to be financially prepared for their
requirements. Therefore, he should start saving for their future
requirements and also for his own retirement.

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Swaraj also helped him calculate his Human Life Value, i.e. if God
forbid Fernandes death, then his family should not suffer finan-
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cially. Swaraj advised him to buy an insurance cover on his life
around one crore in a term plan and child endowment plans for
his kids.

Fernandes was glad that he was guided in such a manner that all
his future financial requirements, i.e. savings and protection have
been addressed.
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QUESTIONS

1. Discuss how Swaraj would have arrived to the solution of

giving Fernandes insurance cover with saving plans for
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kids.
(Hint: By determining the Human Life Value of Mr.
Fernandes.)
2. Do you think this kind of planning is essential for every
individual? Discuss.
(Hint: This type of planning is essential for every individual
due to the uncertain risks associated with human life and
property.)

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CASE STUDY 6
N O T E S

LIC’S JEEVAN AKSHAY ANNUITY PLAN

This Case Study discusses the benefits of annuity plan. It is with

respect to Chapter 6 of the book.

Indian economy is highly characterised by the unorganised em-

ployment where the retirement benefits are least available to the
employees working in private sector. In public sector, the govern-
ment has shifted from the defined pension scheme to contribu-
tion scheme. However, this scheme is not sufficient for covering
the age-old expenses of an individual. India also does not have
any social security system that covers all the senior citizens of the
country unlike US, where there is a three-tier pension system for
supporting senior citizens.

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Thus, it is necessary for the country like India that individu-
als should plan for their old age. To support the citizens in this
planning, Life Insurance Corporation of India has come up with
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the plan called Jeevan Akshay Annuity Plan that helps people
in post-retirement planning. It is an immediate annuity plan in
which an individual aged between 30 years and 85 years can make
a lump sum investment of minimum ` 1 lakh. There is no require-
ment of medical check-up in this plan. Also, multiple annuity
plans are available as per the age, liabilities and objectives. Some
of them are as follows:
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‰‰ Annuity for life in which fixed regular income is provided to

annuitant
‰‰ Annuity plans for 5, 10, 15, 20 years
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‰‰ Annuity plans in which annuitant receives fixed income and

after death of annuitant, the nominee receives the lump sum
initial investment amount
‰‰ Annuity for life in which annuitant receives 100% annuity
amount for his/her life time and 50% to spouse on death of
annuitant (till spouse survives).

Jeevan Akshay Plan is now recommended in financial portfolio of

every investor.

QUESTIONS

1. What benefits an insurer can be achieved by taking LIC’s

Jeevan Akshay Annuity Plan?
(Hint: Post-retirement benefits, financial stability for
spouse.)

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 Case study 6: LIC’S JEEVAN AKSHAY ANNUITY PLAN   269

CASE STUDY 6
N O T E S

2. What type of plans are available in LIC’s Jeevan Akshay

Annuity Plan?
(Hint: Annuity for life in which fixed regular income is
provided to annuitant, etc. )

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CASE STUDY 7
N O T E S

REJECTION OF HEALTH INSURANCE CLAIM

This Case Study discusses the rejection of health insurance claim. It

is with respect to Chapter 7 of the book.

In 1998, Mrs. Santosh had breast cancer on the left side. She got
chemotherapy for that and got treated completely. In 2001, San-
tosh and her husband, Rajiv jointly bought a health insurance
policy. On revealing the facts about cancer and treatment, the in-
surance company, New India Assurance specified the exclusion
of cancer on the left side as it will be assumed as pre-existing dis-
ease.

After some time, Santosh was diagnosed with another lump in her
right breast. The lump was diagnosed on the initial stage, hence it

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was cured through timely treatment and chemotherapy.

After this, Mr. Rajiv wrote to the Third Party Administrator (TPA)
of New India Assurance. The TPA, Raksha TPA Private Ltd re-
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jected the claim stating that the condition of cancer of left breast
is specified in exclusions, hence it is rejected. Rajiv again wrote
to the TPA in response to the rejection that the treatment was
taken for the right breast. The supporting documents were also
attached to the claim form declaring that this is not the case of
recurrence. Doctors at Tata Memorial Hospital declared that the
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lump was developed on its own. Exclusion was about the cancer
in the left breast and now Santosh got treated for the right breast.

TPA responded to Mr. Rajiv by stating that the case with history
of cancer is not admitted again. On requesting again and again,
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TPA said that the case has been put for re-processing.

This time Mr. Rajiv wrote to the insurance company specifying

each and every detail of the case along with the complaint that
their TPA does not want to settle the claim as they are rejecting
the claim without any reasonable ground.

The insurance company granted the claim saying that there are 8
to 10% chances of recurrence of the cancer, however, as the Chief
of the Oncology Department, Tata Memorial Hospital cleared that
this was not the case of recurrence, thus, the claim of ` 80,000 is
granted.

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 Case study 7: REJECTION OF HEALTH INSURANCE CLAIM   271

CASE STUDY 7
N O T E S

QUESTIONS

1. Discuss the reasons on the basis of which the TPA rejected

the claim of Mr. Rajiv.
(Hint: New India Assurance specified the exclusion of
cancer on the left side because it was assumed as pre-
existing disease.)
2. Why do insurance companies reject the claims and what
methods do policyholders resort to get their claims
settled? Explore on other methods that can be used by
the policyholder to get his claim granted.
(Hint: Insurance companies reject the claims due to the
breach in the terms and conditions.)

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CASE STUDY 8
N O T E S

SETTLEMENT OF CLAIM OF PROPERTY INSURANCE

This Case Study discusses the settlement of an insurance claim re-

garding the restoration of the insured’s home. It is with respect to
Chapter 8 of the book.

On St. Patrick’s Day in 2011 in Dublin, Ireland, a fire started at the

home of Mr. and Mrs. S. Though no one was hurt, the fire com-
pletely destroyed the house.

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(Source: http://www.insuranceclaimsolutions.ie/wp-content/uploads/2014/03/icsfire-
claim-room-150x150.jpg)

Mr. and Mrs. S. decided that they would handle the claims pro-
ceedings themselves. They arranged for the necessary forms, and
on the advice of their insurance company, they called up some
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contractors to assess the cost of repairing the damage to their

home. The estimate for the repair came out to be €160,000, which
communicated to the insurer.

The estimate had taken into account the cost of rebuilding the
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home from scratch, replacement of the kitchen, ceilings, walls,

doors, wardrobes, bathrooms, floor and frames and several valu-
able possessions of the home. However, the couple was stunned
when they discovered that the insurance company had agreed to
pay only €96000 for the repairs. The couple then sought help from
their friends, who advised them to hire the services of Insurance
Claim Solutions, reputed public loss assessors and insurance
claims experts in Ireland.

A preliminary investigation conducted by Insurance Claim Solu-

tions discovered the following:
‰‰ The compensation estimated by the insurance company did
not include the cost of reinstating the kitchen unit, doors, ap-
pliances, furniture, flooring and several other items
‰‰ Mould infestation had begun in several areas of the home
‰‰ Unrealistic pricing was being employed by the insurance com-
pany in the calculation of the cost of reinstatement of the home

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 Case study 8: SETTLEMENT OF CLAIM OF PROPERTY INSURANCE  273

CASE STUDY 8
N O T E S

An expert on smoke and water damage restoration was hired by

Insurance Claim Solutions for conducting forensic testing of the
damaged items. The results of the test confirmed the severity of
damage and therefore the items could not be repaired but re-
quired to be replaced.

Insurance Claim Solutions also informed the insurance company

that before any restoration work could be carried out, the mould
that had started growing in some areas of the home had to be re-
moved.

On behalf of Mr. and Mrs. S, Insurance Claim Solutions submit-

ted a revised claim of €205,000 and rejected the initial settlement
offer of €96000 offered by the insurance company.

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In the end, much to the surprise of the couple, the insurer agreed
to pay the revised amount €205,000 for the repair and restoration
of the home.
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QUESTIONS

1. What factors or issues were taken into consideration

while calculating the estimate of the damage to the home
of Mr. and Mrs. S?
(Hint: Replacement of kitchen, ceilings, walls, doors,
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wardrobes, bathrooms, floor and frames and several

valuable possessions of the home.)
2. What did Insurance Claim Solutions discover in the
preliminary investigation of the couple’s home?
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(Hint: Mould in several areas of the home, compensation

estimated by insurance company did not include cost
of reinstating kitchen unit, doors, appliances, furniture,
flooring and several other items.)

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CASE STUDY 9
N O T E S

DAMAGE OF STARBUCKS BUILDING IN EARTHQUAKE

This Case Study discusses the damage caused to a building in an

earthquake. It is with respect to Chapter 9 of the book.

A massive earthquake measuring 6.8 on the Richter scale rocked

Seattle, Washington, in 2001. Called Nisqually, the earthquake se-
verely damaged the Starbucks corporate headquarters building.

DESCRIPTION

The 1,850,000 square foot Starbucks building is a vintage 1910-

1926 structure, built with poured-in-place concrete and unre-
inforced masonry infill walls. Such structures are known to be

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vulnerable to earthquakes or high winds. Fortunately, one year
before the massive earthquake, the Starbucks building had been
seismically retrofitted.
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Adjusters International, US-based public adjusters and disas-
ter recovery consultants, was hired by the building owners, Ni-
tze-Stagen & Co., Inc., to challenge, among several issues, the
stand taken by the insurance carriers that the building was old
and the damage pre-existed the magnitude-6.8 earthquake.
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CHALLENGES

Some of the challenges faced by the owners of the Starbucks

building were as follows:
‰‰ The consultants of the insurance carriers were of the opinion
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that most of the cracks had happened prior to the earthquake.

‰‰ The consultants formulated a repair proposal that was based
on the installation of Heli pins into the unreinforced masonry
infill walls.
‰‰ The consultants were of the opinion that although the slabs
cracked as a result of the earthquake, the cracks did not affect
the performance of the slabs.
‰‰ The consultants did not want to provide money for the esti-
mated cost of repairs.

SOLUTIONS APPLIED

Adjusters International constituted a team of engineers to conduct

a dynamic analysis and presentation that included petrographic
analysis highlighting that the earthquake had indeed caused the
cracks.

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 Case study 9: DAMAGE OF STARBUCKS BUILDING IN EARTHQUAKE  275

CASE STUDY 9
N O T E S

The team proved that the consultants’ proposal to use Heli pins
to repair the damaged walls would cause further damage to the
unreinforced masonry infill walls in case an earthquake of a mag-
nitude similar to Nisqually was to occur again. Further, experts at
Adjusters International highlighted that such repair was not in
compliance with statutory guidelines.

The team at Adjusters International, which comprised attorneys,

researched the legality of the consultants’ view that coverage ap-
plied only to the actual repairs. Adjusters International was able
to prove that the view taken by the consultants would be indefen-
sible in a court of law. Consequently, the insurers were left with no
choice but to agree with Adjusters International.

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OUTCOME

Adjusters International successfully proved the effects of the

massive earthquake on the building, both legally and technically.
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The evidence also highlighted the scope of damage that another
earthquake could cause if repairs were not carried out properly.
Thus, with the help of Adjusters International, the building own-
ers were able to repair the damaged structure effectively.
(Source: http://adjustersinternational.com/case-study/earthquake-damages-star-
bucks-building/)
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QUESTIONS

1. What are the challenges faced by the Starbucks owners?

(Hint: Consultants did not want to provide money for
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the estimated cost of repairs, cracks occurred before

earthquake.)
2. What role was played by Adjusters International?
(Hint: Adjusters International proved the effects of the
massive earthquake on the building.)

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CASE STUDY 10
N O T E S

FAILURE OF PROFESSIONAL SERVICE

This Case Study relates with the professional liability insurance

that covers professionals’ liability for damages arising from errors,
omissions or negligent acts while rendering or failure to render pro-
fessional services. It is with respect to Chapter 10 of the book.

Mr. Suresh wanted to invest some of his funds. He took the advice
of Ram, a famous financial advisor. Suresh’s requirements includ-
ed a type of plan in which he should get a fixed income every year
and minimum capital loss. Thus, Ram gave him the plan that ful-
fils his requirements.

However, after one and a half year, Suresh noticed that he did not
receive any yearly income from the plan. Also, he was surprised

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that he suffered a capital loss implying that investments made by
him were not fruitful. Also, no further advice/follow-up was given
by Ram on the investment plans. The investment plans were a big
IM failure as losses started appearing.

He approached his friend’s son, Anurag, who started his financial

investment company few months ago. Anurag look at his invest-
ment plans and analysed that all the plans taken are losing their
value in the market now. It was also evaluated that these plans
were also suffering loss at the time of their original investment.
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Therefore, inappropriate advice was given by Ram. Thus, Suresh

sued Ram for negligence caused. Ram took the support of his in-
surance provider, which paid ` 300000 to the Suresh for covering
the losses.
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QUESTIONS

1. Why the investment plans taken by Suresh failed?

(Hint: Wrong advice given by Suresh.)
2. What help insurance company provided to Ram?
(Hint: Coverage of costs of claim.)

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 CASE STUDY 11
N O T E S

CLAIM REJECTION

This Case Study discusses the insurance policy laws related to the
second hand vehicles. It is with respect to Chapter 11 of the book.

In 2003, Surendra purchased a second hand Maruti Wagon R car

from Sahara India Commercial Corporation Ltd. However, he did
not get the insurance policy of car transferred in his name. The
car was insured with National Insurance from 1st January, 2006 to
31st December, 2006. The car met with an accident on 21st August,
2006 and Surendra filed a claim. The insurance company rejected
the claim on the ground that at the time of accident, Surendra did
not have any insurable interest as the car was still in the name of
M/s Sahara India Financial Corporation, Lucknow.

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Surendra registered a complaint against the company in dis-
trict consumer forum alleging lack of proper service. The district
consumer forum directed National Insurance to pay the interest
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amount along with an annual interest of 9%. It also ordered the
insurance company to pay a further compensation of ` 20,000 be-
sides the cost of ` 5,000.

National Insurance moved to the State Commission and chal-

lenged it on the ground that the order of the district forum is ille-
gal.
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The National Insurance Co. stated, it appears that the succes-

sive judgement of the National Commission in a 2010 case was not
brought to the knowledge of the district forum wherein it was held
that if the motor vehicle on the date of accident existed in the name
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of the previous owner. The transferee has to submit an application

within 14 days from the date of transfer to the insurer for making
essential changes.

As per the apex court ruling, From 1 July 2002, general regulation
17 of the Indian Motor Tariffs Act, came into force. The collective
reading of Section 157 of the Motor Vehicles Act, and general regu-
lation 17 of the Indian Motor Tariffs Act, makes it is mandatory for
the transferee to submit an application within 14 days from the date
of transfer to the insurer for making essential changes.

Thus, the insurance company rejected the claim of Surendra on

the ground that on the date of accident, the person did not have
any insurable interest.

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QUESTIONS

1. What does the principle of insurable interest mean?

(Hint: It states that a person who is obtaining the
insurance should have insurable interest in the object of
the insurance.)
2. Do you think that the Surendra should have asked the
first owner to transfer the vehicle in his/her name?
(Hint: Yes. Because, there is no vehicle insurance if a
policy is in the name of the ex-owner.)

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 CASE STUDY 12
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AVIATION INSURANCE AT JET AVIATION

This Case Study discusses the significant features of aviation in-

surance, offered by Jet Aviation. It is with respect to Chapter 12 of
the book.

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(Source: www.scmp.com)

Company Brief
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Jet Aviation is the universally acknowledged leader among busi-
ness aviation services companies. Founded in Switzerland in 1967,
Jet Aviation is a wholly owned subsidiary of General Dynamics. It
employs more than 5,600 employees who cater the needs of its
clients from 26 airports all over Europe, the Middle East, Asia and
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North and South America.

The clients of Jet Aviation include Fortune 100 companies, heads

of state, private individuals, corporations and flight departments
from all over the world. The company is accredited for highly-qual-
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ified crews, outstanding flight standards and a unique safety re-

cord while building a lasting relationship with its customer base.

The company provides full-service aircraft management pack-

ages, such as maintenance, engineering, completions and refur-
bishment, fixed base operations (FBO), along with aircraft man-
agement, aircraft charter services, aircraft sales and personnel
services, etc. to commercial and private aircraft owners and op-
erators. With its vast range of quality services, the company aims
at ensuring the health and safety of its business clients for almost
half a century.

Jet Aviation Insurance Services

Jet Aviation understands the complexities of daily flight opera-

tions. Therefore, through the expertise and global reach, it gener-
ates substantial savings in insurance premiums, fuelling and oth-
er operating costs. As Jet Aviation has a huge insurance buying
power, it easily negotiates with insurers on favourable terms and

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conditions for its client’s benefits. In addition, it has insurance

experts who may also help its clients in reducing a significant cost
amount from their insurance coverage. It constantly re-designs
insurance products in the best interest of its clients.

The in-house team of insurance experts offers solutions based on

the client’s specific needs by evaluating their flight operation. The
insurance coverage at Jet Aviation is especially designed for:
‰‰ Corporate and private aviation
‰‰ Significantly valuable assets
‰‰ “High net worth” individuals
‰‰ Operations into geopolitical/hotspot areas

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In addition, its advanced coverage enhancements include:
‰‰ Trip interruption expenses
‰‰ Replacement aircraft rental expenses
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‰‰ Search and rescue expenses
‰‰ Spares and equipment (leased/loaned engines) cover
‰‰ Windstorm relocation expenses

It also provides some optional coverage policies including:

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‰‰ Crew personal accident insurance

‰‰ Engine breakdown cover following a single recorded incident
‰‰ Depreciated value coverage
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The company buys insurance in a group that helps it in achieving

wider insurance coverage at much more competitive prices com-
pared to policies provided by other service providers. Jet Aviation
is recognised for achieving lower insurance premiums for its cus-
tomers. Moreover, the company has an exceptional safety record
to fully safeguard the valued asset of its clients. The main aviation
insurance offerings, offered by Jet Aviation include:
‰‰ Comprehensive aircraft hull insurance
‰‰ Liability insurance
‰‰ Passenger/crew personal accident insurance
‰‰ War and terrorism cover

The major features of Jet Aviation insurance services are:

‰‰ It is providing insurance coverage for nearly half century.
‰‰ It insures and operates a global fleet of more than 160 aircraft.

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 Case study 12: AVIATION INSURANCE AT JET AVIATION  281

CASE STUDY 12
N O T E S

‰‰ It has a vast in-house team of insurance professionals with an

exceptional record in the insurance business.
‰‰ It associates with high-rated insurance companies and huge
and proficient insurance brokers for purchasing insurance for
its clients.
‰‰ It has a verified record of lower insurance premium due to its
exceptional safety providence and fleet size.

Jet Aviation has recently introduced a new ‘Comparative Analy-

sis of Insurance Benefits’ service to assist its business clients in
specific aircraft flight operation requirements. The plan aims at
helping aircraft owners and operators in opting for an optimal
insurance plan to ensure maximum flight operation safety at com-
petitive rates.

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Thus, Jet Aviation, in response to numerous client and indus-
try requirements regarding clarification of aircraft insurance
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schemes, has expanded its aircraft management service portfolio.
It has evaluated various insurance offers to judge individual flight
operation needs for developing an optimal insurance plan. This
optimal insurance plan targets the specific ongoing interests of its
business clients.

According to Stefan Kuster, Director of Purchasing and Insur-

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ance Services for Jet Aviation’s aircraft management and charter

services business in EMEA and Asia, Aircraft owners and opera-
tors, as well as their financers, are inundated with complicated de-
tails about how best to insure their valued assets, which can be both
confusing and time consuming. Our in-house team of experienced
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insurance professionals has been providing insurance coverage for

nearly 50 years and has a proven record of lower insurance premi-
ums backed by an exceptional safety record. We are pleased to ex-
tend our expertise to help develop tailor-made insurance solutions
for our customers.
(Source: http://www.jetaviation.com/download/3603
http://corporatejetinvestor.com/articles/jet-aviation-expands-aircraft-management-ser-
vices-634/)

QUESTIONS

1. Critically evaluate the leadership strategy of Jet Aviation

in the aviation insurance sector.
(Hint: Jet Aviation has insurance experts who help its
clients in reducing a significant cost amount from their
insurance coverage.)

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2. Considering that the potential exposure to risk is huge in

the aviation sector, discuss the need of constant analysis
and improvements in insurance benefits provided by
players like Jet Aviation.
(Hint: Aviation sector is usually exposed to huge risk as
it is almost unknown for an insurer to underwrite the
total amount of an airline’s overall risk. To deal with such
situation, Jet Aviation has recently introduced a new
‘Comparative Analysis of Insurance Benefits’ service
to assist its business clients in specific aircraft flight
operation requirements.)

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 Insurance & Risk Management

Insurance & Risk Management

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