Apart from the above essentials of a valid contract, insurance contracts are subject to additional principles. These are:
Principle of Utmost good faith
Principle of Insurable interest
Principle of Indemnity
Principle of Subrogation
Principle of Contribution
Principle of Proximate cause
These distinctive features are based on the basic principles of law and are applicable to all types of insurance contracts. These principles provide guidelines based upon which insurance agreements are undertaken.
A proper understanding of these principles is therefore necessary for a clear interpretation of insurance contracts and helps in proper termination of contracts, settlement of claims, enforcement of rules and smooth award of verdicts in case of disputes.
The principle of utmost good faith
Definition A positive duty voluntarily to disclose, accurately and fully, all facts material to the risk being proposed, whether requested or not.
This principle of insurance stems from the doctrine of “Uberrimae Fides” which is essential for a valid insurance contract. It implies that in a contract of insurance, the concerned contracting parties must rely on each other’s honesty.
Normally the doctrine of “Caveat Emptor” governs the formation of commercial contracts which means ‘let the buyer beware’. The buyer is responsible for examining the good or service and their features and functions. It is not binding upon the parties to disclose the information, which is not asked for.
But in case of insurance, the products sold are intangible. Here the required facts relate to the proposer, those that are very personal and known only to him. The law imposes a greater duty on the parties to an insurance contract than those involved in commercial contracts. They need to have utmost good faith in each other, which implies full and correct disclosure of all material facts by both the parties to the contract of insurance.
The term “material fact” refers to every fact or information, which has a bearing on the decisions with respect to the determination of the severity of risk involved and the amount of premium. The disclosure of material facts determines the terms of coverage of the policy. Any concealment of material facts may lead to negative repercussions on the functioning of the insurance company’s normal business.
Non-disclosure of any fact may be unintentional on the part of the insured. Even so such a contract is rendered voidable at the insurer’s option and it can refuse any compensation.
Any concealment of material facts is considered intentional. In this case also the policy is considered void. The intentional non-disclosure amounts to fraud and un-intentional disclosure amounts to voidable contract.
For example, disclosures in life insurance pertain to age, income, health, residence, family details, occupation and plan of insurance. Similarly, in case of property or general insurance, the material facts pertain to the details of the property (car) such as year of make, usage, model, seating capacity etc. particularly in case of marine insurance, the insurance company may not always be in a position to inspect the ship at the port physically and it relies solely on the facts provided by the insured. Hence it is imperative on the part of the insured to disclose all the facts voluntarily
Utmost good faith principle imposes duty of disclosure on both the insurance agent and the company authorities also. Any laxity at this point may tilt judgments-in favor of the insured in case of a dispute.
However, some the following facts need not be disclosed:
Circumstances which diminish the risk (such as fire or burglary alarms set)
Facts which are known or reasonably should be known to the insurer in his ordinary course of business
Facts which are waived by the insurer
Facts of public knowledge
Facts of law Facts covered by policy conditions.
Breach of duty of Utmost Good Faith
Breach of duty of Utmost good faith arise under one or both of the following:
a) Misrepresentation which may be either innocent or fraudulent with reference to false facts, material to the acceptance or assessment of the risk.
b) Non-disclosure which may be either innocent or fraudulent gives grounds for avoidance by the second party where a fact is within the knowledge of the first party and not known to the second party.
Principle of Insurable Interest
Definition: The legal right to insure arising out of a financial relationship recognized under the law, between the insured and the subject matter of insurance.
The existence of insurable interest is an essential ingredient of any insurance contract. It is an important and fundamental principle of insurance. Insurable interest simply means “right to insure”. The policyholder must have a pecuniary or monetary interest in the property, which he has insured. The subject matter of insurance can be any type of property or any event that may result in a loss of a legal right or creation of a legal liability.
Therefore the essentials of insurable interest include:
There must be some property, right, interest, liability or potential liability capable of being insured. It is this property, right etc, which must be the subject matter of insurance.
The insured must stand in a relationship with the subject matter of insurance
whereby he benefits from its safety, well being or freedom from liability and would be prejudiced by its loss, damage or existence of liability.
The relationship between the insured and the subject matter of insurance must be recognized at law.
For example, the subject matter of insurance under a fire policy can be a building, stocks, machinery, under a liability policy it can be a person’s legal liability for injury or damage, a ship in a marine policy etc. Any damage to the property must result in financial loss to the policyholder. Only then insurable interest is said to exist.
There are a number of ways in which insurable interest will arise or be limited:
a) By Common Law: under common law insurable interest is automatically created by ‘ownership’ rights. Similarly, the common law of ‘duty of care’ that one owes to the other may give rise to a liability which is also insurable. For E.g. the owner of a tractor who depends on it for his agricultural operation stands to lose financially if the tractor meets with an accident, as his business will come to a standstill. Thus the owner has an insurable interest in the asset, i.e., his tractor. Hence the tractor forms the subject matter when insurance is purchased on it.
b) By Contract: sometimes insurable interest is also created by contractual obligations. For example, a lease agreement between a landlord and a tenant may make a tenant responsible for the maintenance or repair of the building. This contract places the tenant in a legally recognized relationship to the building which gives him insurable interest.
c) By statute: sometimes an act of parliament may create insurable interest either by granting a benefit or by imposing a duty.
Application of insurable interest
There are three main categories of application of Insurable interest as mentioned below:
Life
Every individual has unlimited insurable interest in his or her own life. In life insurance context, insurable interest is deemed to exist in the case of certain relationships based on sentiment. (E.g. Husband & wife, parent & child) Insurable interest is also deemed to exist when the members of a family are in business together. Under such circumstances, it is not the family ties which create insurable interest but it is the extent of financial involvement that creates insurable interest. The business partners can insure each other’s lives because they stand to loose in the event of the death of any of them.
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