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Insurance Law
Wayne State University Law School
Pijls, Johannes Hans

Insurance Law Outline
Prof. Hans Pijls
Fall 2010
Insurance Law and Regulation – Cases and Materials – 5th Ed. Kenneth S. Abraham
FYI: Base format taken from Alabama law school and hence have references to AL state laws

· Reqd for Transactional and Litigation, both.
· Exam: No grading for class participation.
· Wkly assignment: Read cases and be prepared to discuss in class. Skim other materials.
· Closed book exam. No notes or texts allowed.

I. INTRODUCTION
A. The History and Functions of Insurance
1. The Contemporary Insurance System
a) The principal sellers of insurance are stock and mutual companies.
b) The owners of stock companies are shareholders; the owners of mutual companies are policyholders or “insureds” — the individuals or institutions that have purchased insurance.
c) Both stock and mutual companies compete with each other in virtually all markets, the products they sell are identical, and the body of insurance law governing them does not depend on the kind of company.
d) Property and liability insurance falls into a separate category from life, health and disability insurance, but it is now typical for insurers to sell both types of coverage.
e) Many other companies still specialize in one category of coverage or the other, and many specialize in selling only certain forms of coverage, or lines of insurance that fall within a category.
2. How Insurance Works
o Three separate functions:
· Risk-Transfer
a) From comparatively risk-averse to less risk-averse or risk-neutral parties.
b) Insurance transforms a small risk of suffering a large loss into a large risk (100%) of paying a smaller sum — the insurance premium.
· Risk-Pooling
a) By insuring a large number of insureds posing homogeneous and independent risks, an insurer can reduce the amount of variance in its expected losses to a very small range.
b) By pooling uncorrelated risks, an insurer takes advantage of the law of large numbers and turns a large number of individually risky undertakings into a predictable set of obligations.
· Risk-Allocation
a) In charging for the coverage they provide, insurers attempt to set a price that is proportional to the degree of risk posed by each insured.
o Any given insurance arrangement accomplishes these 3 functions in varying degrees.
3. The Social Functions of Insurance
o Insurance constraints and in a sense, help constitute social life.
o Insurance is also sometimes a surrogate regulator or instrument of governance.
o Insurance is a kind of equalizer.
o
B. The Problem of Imperfect Information
1. Insurance is especially sensitive to the problem of imperfect information because most of the costs incurred by the seller of insurance in providing the insurance product are not known at the time an insurance policy is sold.
2. Typically, there is a disparity in the information available to insurers and insureds about the factors that influence the degree of risk posed by a prospective insured.
3. Adverse Selection
o Other things being equal, a party facing a high risk of loss is more likely to seek insurance than a party facing a lower risk.
o When insurers charge each party the same price for coverage, then high-risk parties elect to be insured in greater proportion than low-risk parties, and insurers are forced to raise the price of coverage.
o Eventually the insurer’s risk pool either unravels completely, or equilibrium is reached in which some low-risk parties purchase less coverage than they would otherwise desire and others purchase none.
o Risk-averse insureds have a tendency to become and to remain insured even if they are charged somewhat more for coverage than perfect actuarial calculations would dictate.
4. Moral Hazard
o Refers to the tendency of any insured party to exercise less care to avoid an insured loss than would be exercised if the loss were not insured.
o The idea here is that having insurance may cause people to behave differently than they would otherwise.
o The very fact that someone has insurance may mean that the risks they present are greater than they otherwise would have been.
o There are two kinds of moral hazard — extreme (killer grannies — engaging in morally bad behavior to get the insurance proceeds) and intermediate or lesser forms (a pitcher in the American League knowing that he is not going to have to go up to bat and hit, so he can hit people with pitches and not be subject to their retaliation).
o Mechanisms for lowering moral hazard: incentive programs, limits on insurance (only paying 9/10ths of the value of something), deductibles, screening applicants, etc.
5. Adverse selection and moral hazard are related to the information problem that the policy holders hold more information about their personal risks than the insurance company.
5.
C. Breach of Warranty
1. Vlastos v. Sumitomo Marine & Fire Insurance Company
· In fed ct – principal place of business domiciled at different states and above $75K.
o Facts: Vlastos owned a 4-story building, insured by Sumitomo. The policy warranted that the third floor was to be occupied as a janitor’s residence, but a massage parlor also occupied a portion of the floor. A fire destroyed the building and Sumitomo denied the claim on the basis that the warranty regarding the third floor being occupied by the janitor had been breached.
o Issue: whether the district court erred in ruling that the warranty was unambiguous, thus denying coverage to Vlastos?
o Rule: a warranty in a policy of property insurance that a certain area is occupied by a certain person will not void the policy if the occupancy is not exclusive.
o Discussion:
· p.194 Format, 197 Section I – Property Coverages, 210 Section II – Liability Coverages

· Issue: Endorsement of “Warranted that the 3rd flr is occupied as Janitor’s residence.”
· Insurance law by large is contract law.
· “Warranted” significance: Statement that something is true. If warranty is violated, the insurance company have every right to deny coverage.
· “Material” essentially means in insurance: (rationally related to premium) Makes a difference in the risk assumed.
o e.g. Yellow car is lesser risk than red car. So, what?
· With regards to representations, the insurance company has to answer the “so what” question, before they can void the insurance.
· Sole issue in this case is, was the warranty violated. Was the statement wrong?
· In misrepresentation, 2nd question would need to be answered – was the issue material?
· Ct analysis in two ways:
1. This language is not intrinsically clear – can read as only occupancy of janitors residence or there is also a janitor’s residence on 3rd flr.
2. What is the relevancy of the warranty.
· Any ambiguity is generally construed against the insurance company (the drafter)
· Degree of ambiguity in the language – test – as plausible or reasonable.
o Beauty is in the eyes of the beholder, and same with ambiguity.
· Insured interpretati

ollapsing the difference between representations and warranties so that materiality is required.
o
D. Misrepresentation versus Concealment
1. Misrepresentation
o The voiding of a contract because of a misrepresentation by one of the parties requires that the misrepresentation be false, material, and induce justifiable reliance by the party who suffers damage as a result of the misrepresentation.
o Statements by applicants need only be “substantially true”.
2. Concealment
o The insurer must prove a failure to disclose a fact that the applicant knows is material in order to void a policy on the ground of concealment.
· Scienter element is added when concealment, rather than misrepresentation, is involved.
· An innocent failure to disclose does not make the policy voidable.
o “Inquiry Notice” Rule — if the insured provides reasonably complete answers that could lead the insurer to the information it seeks through a diligent follow-up search, then there has been no misrepresentation or concealment.
3. Neill v. Nationwide Mutual Fire Insurance Company
o Facts: Neill made a claim for fire loss under his policy with Nationwide, and the company sought to void Neill’s insurance policy because he had failed to disclose previous fire losses in his application. Neill counterclaimed for bad faith and breach of contract. Summary judgment was granted for Nationwide.
o Issue: whether the trial court was correct in granting summary judgment for Nationwide due to the misrepresentation allegedly made by Neill?
o Rule: summary judgment is not appropriate where: an application for insurance contains a misrepresentation; it is possible the misrepresentation occurred inadvertently through an agent’s mistake or negligence; the applicant attests that the facts in the application are true, but the applicant does not read the application.
o Discussion:
· Misrepresentation. Insurance company had to show that the statement was wrong, and had it been right, they would have charged a higher premium or rejected coverage.
o As representative of lawyer for the P, to make the insurance show that higher premiums are charged, request for copy of underwriting manual, and guidelines – to show the objective criteria to demonstrate. It is typical to ask for objective criteria.
o Agents are supposed to ask questions – read questions to the applicant and obtain answers from the applicant.
o Clear case of misrep. But alleged that it was the agent who did not ask the question.
o Central issue – was the agent acting on behalf of the insured or insurance company?
o Remedy for the insured, if the ct had ruled in favor of the insurance company – the insured could have sued the agent. Duty of the agent, not to have errors and omissions. Similar to malpractice insurance of the lawyers.