A property or liability insurance policy is a “personal contract,” a “conditional contract,” a “unilateral contract,” a “contract of adhesion,” a “contract of indemnity,” and a contract which requires that the person insured have an insurable interest at the time of the insured-against contingency.
Further: An Insurance Contract is one of Uberrima fides. This is a Latin phrase meaning “utmost good faith” (or translated literally, “most abundant faith”). It is name of a legal doctrine which governs insurance contracts. This means that all parties to an insurance contract must deal in good faith, making a full declaration of all material facts in the insurance proposal. This contrasts with the legal doctrine of caveat emptor (let the buyer beware).
Property and liability insurance policies cover persons and not property or operations. Although the terms “insured my house” or “insured my motorcycle” are used commonly, they are not technically correct. The contract between the insurer and the insured is a personal contract between an insuring entity and a person(s) based upon their financial, “insurable interest”, in the object or liability being insured. In other words, the question of whether payment is due upon the occurrence of a contingency, and how such payment will be measured, depends upon economic loss suffered by the person(s).
Property and liability insurance policies are said to be “conditional contracts” because the obligation of the insurer to perform may be conditioned upon the insured satisfying certain conditions.
Only one party is legally bound to contractual obligations after the premium is paid to the insurer. Only the insurer has made a promise of future performance, and only the insurer can be charged with breach of contract.
Contract of Adhesion
Property and liability insurance policies are said to be “contracts of adhesion” because the insurer and insured parties are of unequal bargaining power where the insured party cannot negotiate the terms of the contract and must take the offer of the insurer as made. Importantly, the rule of law regarding “contracts of adhesion” is that any ambiguities resolve in favor of the insured.
Contract of Indemnity
Property and liability insurance policies are said to be “contracts of indemnity” because the purpose of insurance is to indemnify the insured—that is, to make good a loss that the insured has suffered. The principle of indemnification is that the insured should not profit from the policy. This does not preclude that the insured will suffer some loss. In fact, many policies include a deductible which guarantees that the insured will pay part of each loss himself.
Insurable interest is one wherein economic loss would be suffered from an adverse occurrence to the person(s) insured.
A contract of insurance is valid in law only if the insured has an insurable interest—that is, if he has a legally recognized financial relationship with the subject matter of the insurance and stands to lose out if that subject is damaged.
An entity seeking to transfer risk (an individual, corporation, or association of any type) becomes the ‘insured’ party once risk is assumed by an ‘insurer’, the insuring party, by means of a contract, defined as an insurance ‘policy’. This legal contract sets out terms and conditions specifying the amount of coverage (compensation) to be rendered to the insured, by the insurer upon assumption of risk, in the event of a loss, and all the specific perils covered against (indemnified), for the term of the contract.
When insured parties experience a loss for a specified peril, the coverage entitles the policyholder to make a ‘claim’ against the insurer for the amount of loss as specified by the policy contract. The fee paid by the insured to the insurer for assuming the risk is called the ‘premium’. Insurance premiums from many clients are used to fund accounts set aside for later payment of claims—in theory for a relatively few claimants—and for overhead costs. So long as an insurer maintains adequate funds set aside for anticipated losses, the remaining margin becomes their profit.
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