I. General matters concerning all types of insurance
Why is insurance so important to society?
Life has its unexpected moments. Sometimes these moments are good. Sometimes they bring times of challenge, like illness or accident or damage to your home when a typhoon hits, or even the premature death of a love one. The unexpected also means life is unpredictable and we have to think of the future, like how can we finance our retirement.
Society has found a way coping with the unexpected. It’s called insurance. Insurance doesn’t stop the unexpected from happening, but it can make things a bit more bearable when it does. Insurance can also help us face the future with confidence. Although it’s not glamourous, insurance provides society with a foundation of resilience. That’s why insurance is so vital and has been around for thousands of years, almost as long as humanity itself.
Insurance is provided by insurance companies. They provide insurance through the thousands of contracts they enter into every day. Like any industry, insurance has its own form of jargon, but it’s easy to understand if you take a minute:
Insurance jargon is easy to understand
- The contract which an insurance company enters into to provide insurance is called an insurance policy. It sets out all the terms and conditions on which the insurance is provided.
- A person who buys insurance by entering into an insurance policy with the insurance company, is called a policyholder.
- Under the terms and conditions of an insurance policy, the policyholder agrees to pay the insurance company a price called a premium.
- In return or the payment of premium, the insurance company commits to pay the policyholder if a specified event or accident stated in the insurance policy happens during a set period of time in the future called the policy period.
- The commitment by the insurance company to pay if the specified event or accident happens during the policy period, is called insurance coverage. The policyholder who has purchased the insurance policy is said to be protected or covered for the specified events or accidents in the insurance policy. The protection or coverage are also sometimes termed as the insurance benefits under the insurance policy. The policyholder in purchasing an insurance policy is also said to have transferred the risk of the specified event or accident, to the insurance company.
- When the specified event or accident happens, to obtain payment from the insurance company, the policyholder makes a claim under the insurance policy.
- In order for a claim to be covered under the insurance policy, the claim must arise from the specified event or accident in the insurance policy and not fall within any of the exclusions stated in the insurance policy. Exclusions denote situations which are not covered under the insurance policy.
- The insurance policy often sets a cap on the maximum amount the insurance company has to pay the policyholder, called the policy limit.
- Sometimes the insurance policy also specifies an amount of loss which the policyholder has to bear himself if specified event or accident happens, before he can claim under the insurance policy. This is called the excess or deductible.
- A person can buy an insurance policy through one of the distribution channels which an insurance company uses to offer insurance policies. Licensed insurance brokers are one these distributions channels. A person looking to buy insurance can appoint a licensed insurance broker obtain advice and to approach numerous insurance companies to find the most suitable insurance policy to meet the person’s needs. A person can also approach an insurance company through one of the company’s appointed licensed insurance agents (appointed by a licensed insurance company to sell its insurance policies). A person can also approach an insurance company directly and apply for insurance through, for example, the internet platform provided by the insurance company. Indeed, as technology progresses, a number of new technology based alternative distribution channels are being used by insurance companies to offer insurance policies (also known as Insurtech).
The basic legal issues you need to know about an insurance policy
Despite all this jargon (and despite the technology being used), an insurance policy is just the same as any other contract. It is entered into by "offer" and "acceptance", supported by consideration in the form of the premium paid by the policyholder and the insurance company’s commitment to provide cover for the specified event or accident, and intent to create contractual relations. However, there are certain additional legal characteristics which apply to insurance policies that do not apply to other contracts. These are as follows:
An insurance policy must protect against uncertainty
An insurance policy can only protect against the happening of an uncertain event. For example, an accident policy protects against loss arising from an accident; medical and critical illness insurance policies protect a policyholder for the costs of getting ill or sick or having to go to hospital; motor insurance protects against the loss arising from a car accident. All of these events may or may not happen and are therefore uncertain.
With regards to life insurance, sad though may be, it is certain that we will all die one day. However, it is uncertain when we will die. Life insurance cannot stop you from dying but it can protect your loved ones (i.e. your beneficiaries) for the loss of your financial support, in the uncertainty of you dying too soon. An annuity policy – being a type of life insurance policy - also protects a policyholder for the extra costs of living longer than expected (again, an uncertainty) and, in this way, provides crucial retirement protection.
The fact that insurance policies cover uncertain events means that there is a wide variety of different types of insurance policies offered by insurance companies. Insurance policies can cover you for risk of death, accident, illness, the cost of going to hospital, damage or loss or theft to your household possessions, damage to your car or property, the risk of incurring liability to third parties, your flight getting cancelled and other related risks when you go on holiday. Insurance policies also support the risks of entire industries (like marine insurance which supports the maritime industry, or aviation insurance which supports associated with the aviation industry). There are insurance policies to cover risks associated with doing business or trade (like employee’s compensation and public liability insurance, professional indemnity insurance, directors and officers insurance, and trade credit insurance). Further as society achieves progress through innovation, so new risks emerge and insurance adapts to cover these new risks. Hence, we now see the emergence of cyber insurance policies and specific coverages which you can buy for your Smartphone and other gadgets.
An insurance policy is based on utmost good faith and the duty of disclosure
Unlike most other types of contracts, an insurance policy is a contract based on the duty of utmost good faith. The duty of utmost good faith applies to all insurance policies. The most important aspect of the duty of utmost good faith is the duty of disclosure which a person looking to buy an insurance policy (i.e. a prospective policyholder) has.
The duty of disclosure means that a person looking to buy an insurance policy from an insurance company, must disclose all material facts about the risk which the person is looking to insure.
The law imposes this duty of disclosure because the person looking to buy insurance has all the relevant information in relation to the risk he is looking to insure, whereas the insurer has none. For example, a person looking for life insurance knows what illnesses he has had in the past, whether he has any ongoing medical issues, what his lifestyle is like and what information was in his last health check-up. All of this is highly relevant to the risk he is looking to insure (i.e. the risk of him dying sooner than expected). The insurance company knows none of this information and needs the person to disclose it to the company, so the risk can be assessed, the amount of premium estimated and a decision made as to whether or not enter into the insurance policy. As such, the law requires the person seeking insurance to be honest and make full disclosure to the insurance company of all pertinent information in relation to the risk so that the insurance company is fully informed before deciding to enter into the insurance policy.
Failing to disclose such information has serious consequences. It will entitle the insurance company to “avoid” the insurance policy. This means the insurance company, on discovering the non-disclosure by the policyholder, can simply pay back the premium and act as if the insurance policy never existed (denying insurance coverage to the policyholder). It is, therefore, imperative that a person disclose all pertinent information in relation to the risk when buying insurance.
A person buying an insurance policy must have an insurable interest
In order to buy an insurance policy to cover a risk, the person buying the insurance should have an interest in the risk to be insured. This called an “insurable interest”.
A person has an insurable interest in the risk to be insured, if the harm or damage to the item being insured (whether it is the person’s life or property) would cause that person to suffer loss.
In the case of a life insurance policy, a person who buys insurance on his life, has an obvious insurable interest (in that he has an interest in not dying – the loss of his life being the risk insured). If a person wishes to purchase the insurance to cover another person's life, the purchaser will have an insurable interest provided the relationship between the purchaser and the insured person is one whereby the purchaser will suffer either emotional loss or financial loss if the insured person dies. An insurable interest based on emotional loss certainly arises from a relationship of marriage. Further, (by reason of section 64A of the Insurance Ordinance (Cap. 41)) a parent of a minor or a guardian of a ward under 18 years of age are deemed to have an interest in the life of the minor or ward (and therefore the parent or guardian can purchase insurance on the life of the minor or ward). An insurable interest based on financial loss, could arise by reason of a debt owed (as the person who is owed the debt has an interest in the life of the person owing the debt). A company may have an insurable interest in the life of a key employee. A person may have an insurable interest in the life of any person on whom they are financially dependent.
In the case of most property insurance, the risk being insured is the risk of damage to a physical object (an apartment, or a car, or a ship, for example). The person buying the insurance must have an interest in the physical object being insured i.e. the person must stand to lose if the physical object is damaged. For example, if a car is stolen, the car owner would suffer a loss (and therefore has an insurable interest in the car). The principle of indemnity (whereby certain types of insurance policies only indemnify a person for loss caused – see below) is linked to this as the person can only suffer loss from damage to the property, if he has an interest in the property.
One of the reasons the law requires a person to have an "insurable interest", is to prevent insurance being used by a person to gamble on the lives of other people with whom they have no relationship whatsoever. The requirement for “insurable interest” also prevents what is known as moral hazard. By requiring a person to have an insurable interest in the risk insured (for example a property), it removes any incentive for a person to act immorally by deliberately damaging the property (or recklessly not safeguarding the property) in order to bring about a claim under the insurance policy.
Insurance policies and the principle of indemnity
Many (but not all) insurance policies are based on the principle of indemnity. This means that the insurance company indemnifies the policyholder for the loss caused to the policyholder as a result of the specified event or uncertainty (up to the amount of the policy limit). For example, a motor insurance policy will indemnify a car owner for the costs of having to repair his car (i.e. his loss) if it is damaged. In other words, the insurance company only pays a claim if (and to the extent) the policyholder has suffered loss from the specified event or uncertainty in the policy.
There are however exceptions of this, namely insurance policies which are “contingency” insurance policies. A contingency insurance policy is one whereby a set amount (as stated in the insurance policy) is paid out to the policyholder by the insurance company on the happening of the specified event or uncertainty. A life insurance policy is a type of contingency policy in that it specifies a set amount which aims to reflect the value placed on the life of the policyholder. It is that set amount which is paid by the insurance company in the event of the policyholder’s death during the policy period. This is so even if the actual loss to policyholder’s dependents in financial terms resulting from his death, is different from the set amount which is paid.