Insurance Terms, Concepts, and Principles
The building blocks
Insurance transfers the financial consequences of pure risk (loss or no loss) from one person to a pool in exchange for a premium. A peril is the cause of loss (fire, windstorm, theft); a hazard is a condition that increases the likelihood or severity of that loss. Learn the four hazards: physical (icy steps, faulty wiring), moral (dishonesty - arson for profit), morale (carelessness - leaving keys in the ignition), and legal (exposure to adverse court verdicts).
Contract characteristics
An insurance policy is aleatory (unequal value exchanged), unilateral (only the insurer makes an enforceable promise), conditional (benefits depend on the insured meeting policy conditions), a contract of adhesion (drafted by the insurer, ambiguities construed against it), and personal (it insures a financial interest, not the object).
Governing principles
- Insurable interest - for property, must exist at the time of loss; for life, at inception.
- Indemnity - restore the insured to roughly the pre-loss financial position, never better. Actual cash value (replacement cost less depreciation) enforces indemnity; replacement cost coverage modifies it.
- Subrogation - after paying, the insurer inherits the insured's right to recover from the liable third party. It never applies to life insurance.
- Utmost good faith - representations are believed true, warranties are guaranteed, and material concealment voids coverage.
- Waiver and estoppel - a knowing, voluntary surrender of a right; the insurer cannot reclaim it once the insured has relied on it to their detriment.
Traps and a rule of thumb
Exams love timing (interest at loss vs. inception), hazard identification, and the aleatory/unilateral/adhesion labels. Do not confuse reinsurance (insurer-to-insurer risk transfer) with coinsurance, or estoppel (reliance) with waiver (surrender).
Rule of thumb: Moral means money (intentional fraud); morale means mood (carelessness).