INSURANCE LAW
1. What is Insurance?
a. A contract of insurance is an agreement in which one party (the IR), in exchange for a consideration provided by the other party (the ID), assumes the other party’s risk and distributes it across a group of similarly situated persons, each of whose risk has been assumed in a similar transaction.
b. Why do people mis-analyze risk?
i. Availability
ii. Dread
iii. Disproportionate visibility
c. Risk Distribution
i. The characteristic of risk distribution sets insurance contracts apart from other kinds of contracts.
ii. Risk is the inherent uncertainty of events.
iii. There is both positive risk and negative risk.
iv. There are different ways of coping with risk:
1. loss prevention
a. limit the possibility of loss (e.g. building with brick instead of wood)
b. limit the effects of loss (e.g. using sprinklers or seat belts or diversification). Note: this won’t limit likelihood of accident, just the loss.
2. self-insurance (i.e. the owner chooses to bear the risk)
3. ignore risk
4. transfer the risk to someone else.
v. Value of Transferring Risk
1. In respect to the probability of loss, people are:
a. Risk preferring;
b. Risk neutral; or
c. Risk averse
2. An IR must pool similarly situated people together to distribute each individual’s risk across the pool. That is, an IR, by dealing with risk on a large scale, can earn a profit. This is the law of large numbers.
3. The existence of insurance can have the perverse effect of increasing the probability of loss. i.e. Moral Hazard.
a. The theoretical ideal response to moral hazard would be for the IR to monitor the ID’s behavior and adjust the premium based on the extent to which the ID takes adequate steps to safeguard his property.
b. In practice, deductibles or coinsurance effectively combats moral hazard. The ID benefits in the long run by paying lower premiums while simultaneously taking some measures that prevent loss or limit its effects.
4. Practical Limitations on Ratings
a. IRs will subdivide IDs into distinct groups as long as the cost of measuring the differentiating factor is less than the premium reduction the IR can offer members of a differentiated, better-risk group, because the IR is unlikely to lose more customers to IRs who do not make the distinction then the IR will gain in new customers.
b. At a certain point in any risk classification scheme, further subdivision of the group becomes too expensive relative to the benefits gained.
i. Thus, it is inevitable that within the same group some IDs will be better risks than others, even though all members of the group pay the same premium.
ii. In fact, any group will have a higher proportion of less desirable risks because more applications for the insurance will tend to come from those who get a better bargain. This is called Adverse Selection.
d. The Business of Insurance
i. A dispute over what constitutes insurance is most likely to occur when state regulatory authorities attempt to exercise jurisdiction over an enterprise on the ground that the activities constitute the “business of insurance” and are therefore subject to state regulation.
ii. The existence of indemnification in the relationship, without more, is not enough to establish that insurance is involved.
iii. Jordan v. Group Health Association (1939)
1. State insurance statutes did not apply to group health plans, where medical services are provided as needed in exchange for the payment of a monthly fee.
2. The question turns, not on whether risk is involved or assumed, but on whether that or something else to which it is related in the particular plan is its principal object and purpose. (Principal Object and Purpose Test)
a. As applied, this test requires courts to inquire into the nature of the contractual relationship.
b. E.g. Most warranties are not insurance. That is, the principal object and purpose of the purchase of a good is not to distribute risk, and ordinary warranties do not constitute insurance.
c. Whether a third party carries the risk is a factor, though it is not determinative. E.g. guaranteed service arrangements are not necessarily insurance contracts, but the dividing line between the two can be extraordinarily elusive.
iv. GAF Corporation v. County School Board, 629 F.2d 981 (4th Cir. 1980)
Facts: Δ GAF contracted to supply (P) School roofing materials to contractors building two schools. K guaranteed that Δ would repair damage to the materials caused by leaks, splits etc. but excluded leaks caused by natural disasters, structural defects. (P) sued claiming Δ failed to repair leaks under Unauthorized Insurers Process Act . (P) contended guarantee was a K of insurance, while Δ contended it was a warranty.
à “Warranty covers defects in the article sold while insurance indemnifies against damage from perils outside the article.”
à Is the sale of goods or service insurance or warranty? They involve Transfer and Distribution of Risk (2 elements of insurance). Must consider problem as a whole.
o In present case, an insurance quality exists in that the risk of damage from leaks caused by faulty workmanship was transferred to Δ. This “risk transference” was incidental to the essential character of the K as a whole (was unimportant). So, K was a warranty agreement for the sale of goods.
Rule: “A small element of insurance should not be construed to bring a transaction within the reach of the insurance regulatory laws unless the transaction involves “one or more of the evils at which the regulatory statutes were aimed” and the elements of risk transfer & distribution give the transaction its distinctive character.”
1. Principal and Purpose Test: question is not whether risk is involved or assumed, but whether that which it is related in the particular plan is the principal object and purpose (not incidental). The fact that a transaction has some amount of risk transference and distribution is not enough, by itself, to bring the transaction within the ambit of the business of insurance.
2. “The appropriate rule is that a small element of “insurance” should not be construed to bring a transaction within the reach of the insurance regulatory laws unless the transaction involves “one or more of the evils at which the regulatory statutes were aimed’ and the elements of risk transfer and distribution give the transaction its distinctive character.” What are the evils?
a. Promote solvency
b. unfair & unreasonable prices
c. unfair practices, overreaching, and discrimination
d. unavailability of coverage
v. California Physician’s Service v. Garrison (1946)
1. “Absence or presence of assumption of risk or peril is not the sole test to be applied in determining [the plan’s] status.”
2. The question is whether looking at the plan of operation as a whole, “service” rather than “indemnity” is its principal object and purpose.
vi. In the final analysis, many analysts will return to the Jordan test and ask one question: What is the principal object of the contract? Is it indemnity, or is it something else? If the principal object of the contract is indemnity, the contract constitutes “insurance” and is therefore within the scope of state regulation.
vii. Difficult Qs at the margin
1. Homeowner’s “insurance”/”warranty”
2. Vehicle protection plan – tire warranties: if broad, may be insurance. If limited to certain defects, probably not.
3. TV picture tube protection plan
4. debt-cancellation contract
5. promises relating to tires
6. collision damage waivers
viii. The McCarran-Ferguson Act, 15 U.S.C. § 1012
1. § 2(a) provides: “the business of insurance, and every person engaged therein, shall be subject to the laws of the several States which relate to the regulation or taxation of such business.”
2. § 2(b) provides: No Act of Congress shall be construed to invalidate, impair, or supersede any law enacted by any State for the purpose of regulating the business of insurance, or which imposes a fee or tax upon such business, unless such Act specifically relates to the business of insurance…”
e. The Relationship Between Insurer and Insured
i. Duty of good faith & fair dealing
ii. Rawlings v. Apodaca, 151 Ariz. 149 (1986)
Facts: Fire damaged (P)’s dairy farm, blamed nearby Δ the Apodacas for negligently burning trash in violation of Arizona law. Farmers insurance insured (P)’s 10,000 for the barn that was destroyed. Farmers investigated the matter, found that the Δ had started the fire and that they had a $100,000 insurance policy covering their liability. Farmers avoided giving (P) the investigative report and failed to tell him that they insured the Δ as well. Farmers sent (P) a 10,000 check and (P) got an attorney b/c he never got the report. Rawlings brought action for breach of good faith and fair dealings and sought punitive damages.
Good Faith & Fair Dealing: arises by virtue of a contractual relationship. Essence is “neither party will act to impair the right of the other to receive the benefits which flow from their agreement or contractual relationship.”
à Note “Disparity in bargaining power’ b/t the IR & the ID. The relationship is more than just the “bare promise to pay certain claims when forced to do so”.
· One benefit that comes from Insurance K is “the ID’s expectation that his insurance company will not wrongfully deprive him of the very security for which he bargained or expose him to the catastrop
protect against loss through lightning, explosion, earthquake, water, wind, hail, rain, collision, riot, and civil commotion.
2. Business interruption insurance (sometimes called “use and occupancy” coverage) protects the insured against indirect or consequential losses by fire, water, etc. incurred by the insured’s property.
3. Casualty insurance is primarily concerned with the insured’s legal liability for injuries to others or for damage to other persons’ property. Casualty insurance also embraces:
iv. First-Party vs. Third-Party Insurance
1. In first-party insurance, the contract between the IR and the ID indemnifies the ID for a loss suffered directly by the ID. (e.g. property insurance)
2. In third-party insurance the interests protected by the contract are ultimately those of third parties injured by the ID’s conduct. (e.g. liability insurance)
FUNDAMENTAL ASSUMPTIONS
1. Fortuity
a. Fundamental to an insurance contract, loss must be fortuitous (not predictable); it is so fundamental that the words will not appear in the K.
b. NOTE: The loss may in fact be inevitable or even have already occurred, but as long as this information is unknown to the ID and IR, it would seem that the requirement of fortuity is satisfied. Conversely, a loss is not fortuitous when it is known to the ID, when it is planned or intended, or when the ID is “aware” or which the ID is “substantially certain” will occur.
c. Compagnie Des Bauxites v. Insurance Co. of North America, – Business interruption insurance claim
i. Issue: whether CBG may recover from its IRs for the business interruption caused by the structural failure of its tippler building and crusherhouse. ID knew it was damaged, had engineers fix it, did not know it wasn’t fixed right.
ii. A fortuitous event is an event which so far as the parties to the contract are aware, is dependent on chance. It may be beyond the power of any human being to bring the event to pass; it may be within the control of third persons; it may even be a past event, such as the loss of a vessel, provided that the fact is unknown to the parties. Rsmt of Contracts § 291
iii. “unknown or contingent event”
iv. Coverage only for “future losses”
v. Loss occurring by chance or accident
vi. No coverage for losses “known to the insured
vii. No covereage for losses tha the insured plans or intends
viii. No coverage for losses of which the insured is aware or is substantially certain will occur
ix. “We think it inappropriate to cause the ID to suffer a forfeiture by concluding, with the aid of hindsight, that no fortuitous loss occurred, when at the time the insurance took effect only a risk was involved as far as the parties were aware.”
x. “We believe that the SC of Pennsylvania would hold that a loss arising from an unknown design defect is one caused by a fortuitous event.”
d. NOTE: Ordinary wear and tear is not insurable re property, though it is for human life.
e. Contingent business interruption insurance protects against losses resulting from direct losses to another’s property.
f. Is the business interruption fortuitous? This is the issue.
g. Can Design defects be fortuitous? – yes it can be. But that’s not the issue in this case. design defects often exists at the time the insurance is purchased, “but as long as this information is unknown to the ID and IR,” fortuity is satisfied.
h. Chute Case Note. 6.
i. All-risk insurance covers a risk, not a certainty; it is something, which happens to the subject-matter from without, not the natural behavior of that subject-matter, being what it is, in the circumstances under which it is carried.
Retroactive insurance? (nn. 7-8, p.49-50)- taking advantage of various
