INSURANCE

Definition

 It is a contract between the insurer [insurance company] and the insured

[individual or organization] in which the insurer promises to compensate the
insured in the event of a risk that is covered in return for a premium paid.
 It is an arrangement in which an organization [insurance company] promises
to provide a guarantee of compensation for specified or insured loss, damage,
illness or death in return for payment of a specified premium.
 It can also be defined as the “pooling of risks”.

Importance or functions of insurance

 The insurance contract is important for the insured person or organization for
the following reasons:
 It covers against monetary losses that may [or may not] happen as a result of
theft, accident or fire.
 Provides medical insurance cover through health medical plans.
 It indemnifies or compensates the insured in the event of a loss occurring.
 It fosters confidence in individuals and business organizations.
 It covers employees through employer’s liability.
 Protects goods in transit or being transported.
 Covers against financial embezzlement through fidelity guarantee policy.
 It protects the general public through public liability policy.
 It protects against bad debts through Export and Credit Guarantee Department
[ECGD].
 It protects motor vehicles, equipment and premises.
 It covers against losses from insured loss through consequential loss
Fig 1 Risk of drowning

Related concepts in insurance

Pooling risk

 This is a situation whereby many people put their resources together in a

common pool or fund.
 If the disaster strikes ,the unfortunate one will be assisted from the fund.
 The underlying principle here is that the ‘fortunate ones will help the
unfortunate ones’.
 Disaster does not strike everyone at once. Obvious examples of pooling of
risks include Savings Co-operatives, Burial Societies, Motor Vehicle Accident
Insurance and many more
 People pay regular premiums into the common pool or fund.
 When disaster strikes insurer draws money from the common pool of
premiums.
 Insurance compensate the unfortunate one.
 Profit is left for the insurance organization.
 The remainder from the common fund is invested.
 The yoke of loss is shared among pool members.
  The unfortunate ones are helped by the fortunate ones.

Insurable risks

 These are dangers or risks that an individual or organization can take out an
insurance policy or cover for.
 Are risks for which a fair premium can be determined
 They have consistent past records for example theft, fire, floods, burglary and
many more.
 Their likelihood of occurring can easily be worked out.
 Premiums paid cover claims and earns profit for the insuring organization.

Non insurable risks

 These are risks for which an individual or organization cannot take out a cover
for or an insurance policy.
 Are risks for which a fair premium cannot be determined.
 They have infrequent and inconsistent past records for example war and bad
management.
 They cannot be assessed correctly.
 Their likelihood of happening cannot be foretold.
 A fair premium cannot be determined
 They cannot be insured.

Other risks

Insurable risks

Pure risk that could exist for a large number of business, including those for which
the probability and the amount of loss is predictable.
Uninsurable risk

risk that occur when the chances of risk cannot be predicted or when the amount of
loss cannot be estimated *****

Premiums

 This refers to the payment done by the insured to the insurer in order to get
covered.
  It depends on the type of risk for instance, the bigger the risk and the greater
the premiums.
 It is determined by the property value.
 Premium is also determined by the probability of loss occurring.
 Premiums are also based on past records.
 Premium is also determined by the number of people who have insured that
risk for example the larger the number the lower the premium.

Actuaries
These are statisticians that work for the insurance organisations.

Functions

 They determine the premium to be paid.

 They assess the risks.
 They work out the probabilities of risks.
 They analyze the statistics.
 They collect statistics of risks.

Difference between insurance and assurance

Insurance Vs Assurance
 Often used interchangeably and treated as synonyms ,but the meaning and
dimension of these 2 concepts are different
 Assurance is used in the contracts which guarantee the payment of certain
sums of money on the happening of an event that is sure to happen sooner or
later.
 For example : life insurance policies – life assurance policies

Differences

 Non life Vs Life ,loss due to risk and the time subject , one year- long term
contract ,
 Indemnity, surrender, protection – protection cum investment.

Insurance vs Assurance

Differences between assurance and insurance

  Insurance is about risks or dangers that may or may not happen for example
fire, hail storm, car accident, burglary and many more.
 Assurance is about risks or dangers that are certain or sure to happen in the
near or distant future for example death.

Importance of statistics in insurance

 These are important in insurance because they show the frequency or number
of times a risk has occurred in history.
 Those statistics can then be used to forecast the probability of the same risk to
happen in future

Fig 4

 All insurance agreements are based on the collected statistics.

 Risk is assessed to determine whether it can be accepted or not.
 Risk is assessed to calculate a fair premium.
 Risk is assessed to verify the frequency per year.
 Risk is assessed to check its frequency at a particular place.
 Statistics enables companies to cover against claims from insured persons.
Principles of insurance

 Principle of insurable interest

 Principle of utmost good faith
 Principle of indemnity
 Principle of subrogation
 Principle of contribution
 Principle of contribution
 Principle of cause proxima
 Principle of mitigation of loss

The principle refers to a situation whereby one can only insure a property or goods
for which if risk occurs he or she stands to lose financially.

 If one insures a property of somebody, one can willingly cause a risk to occur
so as to make a profit, for instance one cannot insure somebody’s house, wife
or husband.
 It makes one to insure her/his own goods.
 The insured should suffer financially in the event of a loss occurring.

One cannot insure somebody’s property because she/he has no insurable interest.

Insurance principles

Insurable interest

 The insured must have insurable interest in the subject matter of insurance
 In life insurance it refers to the insured
 In marine insurance it is enough if the insurable interest exist only at the time
of the occurrence of the loss
 In fire and general insurance it must be present at the time of taking the policy
and also at the time of the occurrence of loss
 The owner of the party is said to have insurable interest as long as he is the
owner of it
 It is applicable to all contracts of insurance.

Principle of utmost good faith.

This principle states that the insured must honestly and truthfully disclose
important information about the insured goods.

 The insured must disclose information truthfully in the application or claim

form.
 The insurer must also show all details about the contract in the policy
document.
 If insured fail to disclose the information or hides certain details it becomes
null and void.
 It permits the evaluation of risks and determination of a fair premium.
 It is also known as the ‘doctrine of disclosure’ or ‘uberima fide’.

Principle of indemnity.

The principle states that the insured must be restored to the original position before
the risk occurs. It is about restoration.

 It brings back the insured to the financial position before the loss happens.
 The insurer will only pay to the tune of the loss suffered and nothing more.
 It does not give room for the insured to make a profit.
 The principle does not apply to assurance policies.

Principle of indemnity

 Indemnity means securing protection and compensation given against

damage ,loss or injury
 According to the principle of indemnity an insurance contract is signed only
for protection against unpredicted financial losses arising due to uncertainties.
 Insurance contract is not made for making profit else its sole purpose is to give
compensation in case of any damage or loss.

Principle of subrogation

Substitution of the insurer in the place of the insured to claim indemnity from the
third person for a loss covered under insurance
Purposes

a. Prevents insured from collecting twice the same loss

b. It is used to hold the guilty person responsible for the loss
 c. Helps to hold down insurance rates

The principle states that the insured must surrender the damaged goods to the
insurer.

 It makes sure the insured does not make profit out of the loss
 It hands over all the rights of the damaged property to the insurer.
 The damaged property now belongs to the company settling the claim.
 The insured firm cannot sell the good.
 For instance, a company insures its vehicle against accidents, the vehicle later
on got involved in an accident, the vehicle got damaged beyond repair, the
insurer compensates the insured to the value of the loss or damage and the
insurer takes ownership of the scrap to prevent the insured from selling the
scrap.

Principle of contribution.

The principle states that the insured can only claim compensation to the tune of the
actual loss from any one or from all the insurers.

 It is referred to where the risk is insured with two or more companies.

 For example if the risk is insured with Regal and Diamond insurance
companies, the two companies will pay in proportionate to premiums paid
towards the compensation.
 It works hand in hand with indemnity principle.
Fig 9

Principle of proximity cause.

A covered peril is the proximate cause (immediate, specific) of a loss if it initiates

an unbroken chain of events leading to covered loss.
Without it no loss would have occurred.

 Direct physical loss

o (Lightning strikes building)
 Indirect / consequential loss(loss of use)

This is the principle about the ‘nearest cause’. It is also called ‘The Causa Proxima
Principle’.

 Compensation is only paid if the cause of the loss is not very remote or far
fetched
 Compensation can only be paid if the cause of the loss was insured.
 Compensation is not paid if the root cause of the risk was not insured
 For instance, if the tobacco barn insured against fire is destroyed by hail storm,
no compensation is paid.
Principle of mitigation of loss

The principle states that the insured person should take necessary steps of
precautions to minimize the risk occurrence.

 If the insured person was negligent the insurer will not compensate.
 For instance if the car was stolen whilst outside the garage and with its doors
open and keys on when the owner left it outside due to drunkenness, no
compensation will be paid.
 If the insured person commits suicide, no compensation again because the
person willingly took his or her own life.

The average principle clause.

The principle states that the insured can over-insure or under-insure his property
deliberately or in deliberately. In either case the insured must not make profit.
What happens if there is a case of over-insurance or under-insurance?
Under-insurance
This refers to the risk of paying less than the actual value of the property.

 In the event of a loss happening the insurance company will not compensate to
the full value of the loss.
 The insured becomes his or her own insurer for any short fall
 For instance a car worth $60 000 was covered for $40 000 against the risk of
accident and when the accident occurred the car got damaged to the value of
$36 000
 Work out how much was paid as compensation
 Average clause formula
 False value divided by Actual value multiplied by the damage or loss value
 $24 000 becomes the compensation value
 The insurer will have to top up his cover for [
 The insured becomes own insurer for $12 000 outstanding.

Over insurance

This is a situation whereby the insured pays more premiums than the value of the
property being insured.
 The covered person cannot claim for more than the actual damage
 The insured should only be restored to the original position according to the
principle of indemnity
 The insured should not make profit out of the insurance
 The insurer only is the one allowed to make profits
 For instance ,if household goods valued at $9 000 were insured for $12 000
against the risk of fire ,the household goods later on got burnt
 Work out the amount of compensation paid to the insured
 Solution: Compensation = $9 000

Reasons

 The house hold goods were over insured.

 The insured should not make profit from the insurance company.

1. Steps taken when taking out an insurance policy

Taking out an insurance policy is a process not one off events. There are
several steps that have to be taken until the policy document is issued out.

Application process

1. Proposal form- requests to cover risk

2. Premiums – sum of money paid each year
3. Policy –contract
4. Insurance certificate-motor insurance
5. Renewal notice

Procedures of obtaining an insurance policy

6. Prospective policy holder approaches an insurance company or obtains

an insurance prospectus
7. The policy holder discusses with the insurance broker
8. He or she obtains a quotation
9. The applicant fills a proposal form in utmost good faith
10.The application form is assessed by actuaries
11.If risk is agreed, premium is fixed, temporary cover is given and finally
the policy document is given.
Documents used in insurance

These are different papers or forms that are used in insurance business.
They include:

o Prospectus
o Proposal form
o Cover note
o Policy document
o Claim form
o Renewal notice.

Prospectus

A prospectus is a booklet that details all pertinent information about risks.

IMPORTANCE

o It outlines the amount of compensation to be paid

o It clarifies the amount of premium to be paid
o It states the insurance company’s name
o It outlines the kinds of risks that can be covered and cannot be covered.

Proposal form

This is an application form that is filled by the prospective policy holder when
applying for protection or cover.

IMPORTANCE

o Is an application for cover

o It sets the ground for insurance policy
o It outlines the items to be covered
o It must be answered in utmost good faith[faithfully and honestly]
o The applicant should also give important details.
o The form also asks questions about item to be covered.
 o Wrong and false information given renders the contract invalid
o Provided information helps the insurer to
 Check the presence of insurable interest
 Make decisions of whether to accept or deny the risk
 Assess the details of risks
 Calculate premiums which are fair.

Cover note

This is a temporary document that covers the applicant whilst waiting for the
actual policy document.
IMPORTANCE

 Is a temporary certificate of insurance or policy document.

 It is an advance document issued whilst investigations are in
progress waiting for actual policy.
 It is useful where immediate cover is required, for example motor
vehicle insurance policy.
 It contains terms and conditions of the agreement.
 It is used to claim compensation when loss occurs.
 It is issued after payment of first installment or premium.

The policy document

This is the actual certificate of insurance that is issued to the insured after the
insurance company is satisfied by its investigations.
IMPORTANCE

o It is given after the cover note.

o It contains terms and conditions applicable.
o It states premiums to be paid.
o It gives details of the risks protected.
o It is a contract of protection.

Claim form
This is a document that is completed by the insured when claiming
compensation.
IMPORTANCE

o It is filled by the insured.

o It is used when applying for compensation.
o It asks questions on:
 Insured risks
 The damage incurred ,dates value of loss and police report
 It is completed in utmost good faith
 Provided details help assessors to:
o Assess the precise cause of the danger
o Compute the exact amount of compensation.

The renewal note

This is the reminder send to the insured by the insurer in the event of
defaulting to pay the required premiums.

Claiming compensation

In the event of a risk occurring there are steps that are followed to do that.

o The insured get in touch with the insurance company via the broker
o Insured completes the claim form honestly and provides police report
o The insurer checks on the details of the agreement to check if there are
no any breaches to the contract
o The insurer checks if the risk is covered
o The insurer assesses the loss, calculates compensation due, and
indemnifies the insured.

Assessors

These are the people who work for the insurance company and are tasked to
verify the details of the risk.
IMPORTANCE

45.Examine the damaged item.

 46.Check and verify the exact cause of the loss.
47.Study the information on the claim form carefully.
48.Identify the damaged item.
49.Work out and recommend the amount of compensation.
50.Negotiate the amount to be paid out against the claim.

Types of insurance

There are several different types of insurance and these include:

BUSINESS INSURANCES for example:

51.Transit insurance, this covers goods being transported and may be

specific or comprehensive.
52.Employer’s liability, this covers employees’ claims against illness and
dead at work.
53.Consequential loss, this covers loss resulting from insured loss for
example losses resulting from risk of fire.
54.Fidelity guarantee, this covers against dishonesty of employees handling
money.
55.Public liability, this covers claims made by public who get injured in the
firm’s buildings.
56.Pluvius policy, this covers against disturbances caused by rain or storms
to activities carried out doors such as weddings.
57.Plate glass ,this covers the damage of display windows
58.Export Credit Guarantee Department, this covers risks that are faced by
exporters in foreign trade for example risk of non –payments.

VEHICLE INSURANCES INCLUDE:

59.Third Party Insurance, this covers claims by public who may be injured
by the vehicle and its compulsory under Road Traffic Act.
60.Third Party Fire and Theft insurance, this covers the loss to the insured
vehicle caused by fire or theft.
61.Comprehensive Policy, this covers a wide range of risks for example
third parties, theft, personal injury and damage to insured vehicle.

Marine insurances:
 62.Cargo insurance, this covers goods transported by sea or goods carried
by ships.
63.Hull insurance, this covers damage to ship itself, its fixtures, machinery
and other ships.
64.Freight insurance, this is taken out by shipping company where freight
charges have not been prepaid.
65.Ship owner’s liability insurance, this covers damage due to collision
with other ships.

PROPERTY INSURANCE:

66.Property insurance, this is taken by individuals to protect their movable

items like video, furniture and televisions from theft and fire.
67.Building insurance, this is taken by those with buildings like shops and
houses to protect them from damage.

ACCIDENT INSURANCES:

68.Personal accident, this is taken by individuals to protect them from

disability resulting from accidents for example soccer players.
69.Group personal accident, this is taken by a group to protect themselves
from injuries for example a rugby team.
70.Health insurance policy, this is taken by individuals for medical bills.

Life assurance

It covers against risks that are very certain and obvious to happen like death.
Here the principle of indemnity does not apply because no financial
compensation can restore the loss of life; it only benefits children and
spouses.

Types of life assurance

o Whole-life policy. This is whereby an individual assures his or her life

for a certain amount of money and it matures at the time of his or her
death and the assured sum is paid to beneficiaries.
o Endowment policy. This is taken for a specified number of years and
premiums are paid up to the end of agreed period or upon death of
assured. If the assured dies before the time benefits are paid to the
 beneficiaries or to the assured if he or she lives up to the maturity of the
policy.
o Retirement annuity assurance. This is taken by individuals who would
like to provide for their retirement and premiums are paid up to the
retirement date.
o Funeral assurance. This is taken by individuals for burial costs.

Functions of insurance brokers

These are intermediaries between prospective policy holders and insurance

companies or are agents of insurance companies.

Functions:

o Arrange contact between insurance companies and prospective policy

holders
o Act as agents of insurance companies
o Collect information on insurance companies and kinds of policies
offered
o They advise prospective policy holders intelligently.
o They advise on how losses can be mitigated or minimized.
o They source quotations from different insurance companies.
o They select the best policy for their clients.
o They arrange the best terms for their clients.
o They help clients with the completion of application forms.
o They effect a policy for a client.
o They charge commission on contracts agreed.
o They help clients in claiming compensation.
o They facilitate re-insurance for their clients.

Functions of under-writers
Underwriters are a syndicate or grouping of insurance companies who came
together and have agreed to share the burden of risks for example Lloyds of
London.

functions:

88.Are insurance companies who provide insurance cover

89.They examine risks
90.They protect risks such as marine risks, by signing their names under
the risks they have agreed to protect
91.They collect premiums
92.They specialize in different kinds of risks
93.They sell policies to merchants through brokers.
94.They earn profit as remuneration.
95.They pay suitable compensation when loss occurs.