Insurance Principles and Concepts
Start with the vocabulary that drives every question
Risk is uncertainty about loss. A peril is the cause of loss (fire, collision); a hazard is a condition that increases the chance or severity of loss. Moral hazard is dishonesty (arson for profit); morale hazard is carelessness (leaving keys in the car). Only pure risk (loss or no loss) is insurable; speculative risk (gain or loss, like a stock purchase) is not. Insurable risks share traits: many similar exposure units, accidental and definite losses, measurable and calculable, and premiums that stay affordable. The law of large numbers makes prediction reliable; adverse selection is the constant enemy.
Contract characteristics
Insurance is a contract of adhesion (drafted by the insurer, so ambiguity is construed against the drafter), aleatory (unequal values exchanged), unilateral (only the insurer makes an enforceable promise), and built on utmost good faith -- representations, warranties, concealment, and fraud. Indemnity restores the insured to roughly the pre-loss financial position; subrogation enforces indemnity by shifting the loss to the party who caused it.
Traps that recur
- Insurable interest timing: property insurance requires interest at the time of loss; life insurance requires interest at the time of application.
- Indemnity does not cap life insurance, which is a valued contract.
- Waiver (voluntarily giving up a known right) is not estoppel (being barred from asserting a right after someone relied on your conduct).
- Do not treat coinsurance as a penalty; it is an agreement to insure to value.
Rule of thumb with a worked example
Actual cash value = replacement cost minus depreciation. A roof expected to last 20 years is 10 years old and costs $24,000 to replace: depreciation is $12,000, so ACV is $12,000, paid minus the deductible unless the policy provides replacement cost.