Insurance Principles and Risk
This domain tests whether you can apply the doctrines that make the insurance contract work - insurable interest, indemnity, fair presentation, proximate cause, subrogation and contribution - and whether you can classify and treat risk in a way that supports sound underwriting. Questions normally give a fact pattern and ask which principle governs, then require you to apportion or compute the outcome.
Core doctrines
- Insurable interest - a financial or legal relationship such that the insured benefits from preservation and is prejudiced by loss. Required at inception for life and personal covers, at the time of loss for indemnity covers.
- Indemnity - restores the insured to the pre-loss financial position. Settlement routes are reinstatement, repair, replacement, market value or cash; new-for-old is an exception requiring express wording.
- Fair presentation of risk - the modern replacement for the old disclosure duty. The insured must disclose every material circumstance it knows or ought to know, in a clear and accessible way. Material means it would influence a prudent underwriter's judgement.
- Proximate cause - the dominant and effective cause, not the last event in the chain. An excluded peril defeats the claim only where it is proximate.
- Subrogation - after indemnifying, the insurer acquires the insured's recovery rights against the third party.
- Contribution - independent insurers covering the same interest, peril and period share the loss, usually rateably by sum insured.
Classifying risk
Distinguish pure from speculative risk, particular from fundamental risk, and physical from moral and morale hazard. Moral hazard reflects dishonest intent; morale hazard reflects carelessness or indifference. Pooling relies on the law of large numbers: a larger, more homogeneous and more independent exposure base produces a more predictable loss ratio.
Worked example
A stock loss of 90,000 is covered by Policy A (sum insured 300,000) and Policy B (sum insured 200,000) on the same interest, perils and period. Rateable contribution: A pays 90,000 × 300/500 = 54,000; B pays 90,000 × 200/500 = 36,000. If A bore a 5,000 excess, that excess is deducted from A's share, not from the total, so the insured bears 5,000 and B still pays its full rateable share.
Traps that cost marks
Confusing contribution with subrogation; describing morale hazard as moral hazard; applying market value where the policy is reinstatement; assuming the final event in a chain is the proximate cause; and treating a partial loss payout as extinguishing the insured's rights when salvage or subrogation still applies.