Insurance Principles and Practices
The foundation concepts
Every P&C question ultimately tests one of a handful of ideas. Indemnity means restoring the insured to roughly the same financial position, never better - which is why valued policies and replacement cost are exceptions worth noting. Insurable interest must exist at the time of loss for property (and at inception for life), and it is what separates insurance from a wager. Insurance is a contract of utmost good faith and of adhesion (the insurer drafted it, so ambiguities are construed against the insurer), and it is aleatory - the exchange of values is unequal and contingent.
Insurers profit from pooling and the law of large numbers; they are hurt by adverse selection (only poor risks buying), moral hazard (dishonest behavior) and morale hazard (carelessness because a policy exists). Distinguish perils (fire, theft) from hazards (conditions that increase the chance or severity of loss). Proximate cause - the dominant, unbroken cause in a chain of events - determines whether a loss is covered.
Policy anatomy and valuation
Know Declarations, Insuring Agreement, Conditions, Exclusions, Definitions, and Endorsements. Actual cash value = replacement cost minus depreciation; replacement cost pays new-for-old without a depreciation deduction. Understand subrogation, salvage, abandonment, other insurance (pro rata vs. excess), and coinsurance.
Traps
Representation vs. warranty; waiver (voluntary surrender of a known right) vs. estoppel (a party is barred from asserting a right after the other party relied on its conduct); "binder" (temporary evidence of coverage) vs. policy; and the assumption that a named-peril policy covers everything not excluded - it does not.
Worked example - coinsurance penalty
Building valued at $500,000, 80% coinsurance requirement = $400,000 required. The insured carries $300,000. A $100,000 loss occurs; deductible is $1,000. Recovery = ($300,000 ÷ $400,000) × $100,000 = $75,000, minus $1,000 = $74,000. The insured is a coinsurer for the shortfall.