The Nature of Insurance
I. The Essence of Risk
a. People misanalyze risk by:
i. Availability
ii. Dread
iii. Disproportionate visibility
b. Alternative ways to deal with Risk other than insurance
i. Loss prevention (limiting probability and effects)
ii. Self-insurance
iii. Ignoring risk
c. Early insurance arrangements
i. General average – everyone pays a bit
ii. Bottomry K – lost at sea, then no slavery; or high interest paid
iii. Burial society – dues paid to group
iv. Law of large numbers – burden goes down if distributed among large number
II. Defining Insurance
a. Defined: arrangement (K) for transferring (exchange of risk for premium) and distributing (sufficiently large pool of similarly situated ID) risk
b. Adverse selection:
i. In any pool of IDs, there will be disproportionate number of high risk people >> b/c those are the ones likely to buy insurance
ii. Thus, divide pool into high and low risk, and adjust premiums
c. Moral hazard
i. Likelihood that existence of insurance will increase probability of loss >>
1. intentional destruction
2. failure to take adequate precautions
d. Insurance thus attracts people to risk pools (adverse selection) who are more likely to cause loss, either through deliberate acts or neglect (moral hazard)
e. Case definitions
i. GAF: K that involve only a small element of insurance are not insurance unless it:
1. involves one or more of the evils at which the regulatory statutes were aimed and
a. Promote solvency
b. Promote fair and reasonable prices
c. Prevent unfair practices, overreaching, and discrimination
d. Promote availability of coverage
2. The elements of risk transfer and distribution give the transaction its distinctive character
a. Not where nature of warranty mostly about selling goods
ii. What is the principal object and purpose of plan (Jordan)
iii. State statutes
1. CA: insurance is K where one undertakes to indemnify another against loss, damage, or liability arising from unknown event
f. Grey areas
i. Extended warranty
ii. Homeowner’s insurance/warranty
1. Go to certain repairman to repair
2. Like K of requirement for services
iii. TV picture tube protection plan >> court found insurance
iv. Collision damage waivers for rental cars
v. Religious newsletter (p.12-13)
1. Vocabulary of plan: subscribers v. Policyholders
2. Mission take on risk >> no, merely a conduit for payments
3. Probably not primarily about transfer of risk
III. Nature of the Relationship
a. Distinction:
i. First-party insurance
1. Direct relationship b/w ID and IR
2. Reimbursement goes to ID (or beneficiary) to protect their interests
3. Personal insurance (life, health, disability, accidental death, property)
ii. Third-party insurance
1. Protection against claims of third parties, e.g., liability
2. Two products: Promise to indemnify and defend
b. Duty of good faith and fair dealing
i. No party will act in a manner to impede the other party’s expectations (one-way in insurance)
ii. Higher duty in insurance than in normal K
iii. Failure to give promised report to ID (b/c also IR of tortfeasor), *even though paid proceeds in full, was breach. (Rawlings)
c. Insurance can also be seen as chattel – intangible personal property right or good
i. Buyer’s expectations: expect to protect, just like expect other goods to work
ii. Assembly: IR puts things together like mfr
iii. ID understanding of product: consumers don’t know how works
iv. Implied warranty for chattel requires disclaimer
IV. Types of IR and IDs
a. Different kinds of insurance organizations
i. Stock v. Mutual
ii. Reciprocal exchange
iii. Lloyd’s Association
iv. Hospital and medical
v. Government programs (SS, unemployment, medicare)
b. Different kinds of policies
i. Personal : life, AD&D, disabiltiy, health
ii. Property: direct loss of property; loss of income due to destruction of property
iii. Liability : personal, commercial
c. Different marketing practices
Fundamental Asssumptions
I. Fortuity
a. General definition:
i. Unknown or contingent event
ii. Coverage only for “future losses” (unless past and neither ID nor IR know about it)
1. But see retroactive insurance
a. Titanic after knew sinking : magnitude of loss unknown
b. MGM fire: unknown how big claim from victim’s family would be
c. Courts allow if economically beneficial K
iii. Loss occurring by chance or accident
iv. Losses that are unknown and unexpected
b. Not covered:
i. Losses known to ID
ii. Losses that ID plans or intends
iii. Losses of which ID is aware or substantially certain will occur
wledge) and closer to purpose of doctrine
e. Life
i. Timing: I.I. must exist at time of K
ii. Mechanics of life insurance
1. IR >> Owner/CQV (life subject of K) >> Beneficiary
a. I.I. in own life is unlimited
b. Can name anyone as beneficiary, can have contingent bens
2. IR >> Owner (not CQV, insures someone else’s life) >> Ben
a. Family
i. Spouse, children, parents >> allowed
ii. Siblings
1. Majority >> allowed
iii. Adult children in parents >> generally no
iv. Aunt, neice >> usually too far removed unless economic interest
b. Economic interest:
i. Unsecured creditors
ii. P/ships
iii. Criss-cross arrangements >> Can’t have effect of wager (exceed value in diminution of profit)
c. Type of policy
i. Burial policies don’t need I.I. usually >> less risk of moral hazard
iii. Assignment
1. Absolute:
a. All ownership rights transferred to 3rd party
2. Collateral:
a. Lender receives a ltd package of rights for a ltd period of time
iv. Rules
1. Beneficiary who kills ID is D.Q.ed
a. Policy not void >> contingent bens recover
b. Slayer predeceases ID
2. Where owner purchases policy on life of ID w simultaneous intent to kill ID (and carries out plan)
a. Policy is void ab initio
3. Policy void for lack of I.I.
III. Indemnity
a. Valuing property and Casualty losses
i. Indemnity: amt of recovery should never exceed amt of loss
ii. 2 categories of property
1. Valued policies
a. In K, IR agrees to pay that amt in event of total loss
b. Fixes amt of recovery
2. Open policies
