INSIGHT INTO THE GLOBAL ENVIRONMENT Moving Your Small Business Online: Seller Beware
5. Universal life combines aspects of both term
the second is for company expenses and profit.The funds that remain after these deductions earn interest for the policyholder at a rate determined by the company. The interest-earning amount is called the policy’s cash value,but that term does not mean the same thing as it does for a traditional whole life insurance policy. With a universal life policy, the cash value grows at a variable interest rate rather than at a predetermined rate.
The rights and liabilities of the parties to life insur- ance contracts are basically dependent on the specific contract. A few features deserve special attention.
Liability The life insurance contract determines not only the extent of the insurer’s liability but also,
generally, whether the insurer is liable on the death of the insured. Most life insurance contracts exclude lia- bility for death caused by suicide, military action dur- ing war, execution by a state or federal government, and even an event that occurs while the insured is a passenger in a commercial vehicle. In the absence of contractual exclusion, most courts today construe any cause of death to be one of the insurer’s risks.
Adjustment Due to Misstatement of Age The insurance policy constitutes the agreement between the parties. The application for insurance is part of the policy and is usually attached to the policy.
When the insured misstates his or her age on the appli- cation, an error is introduced, particularly as to the amount of premiums paid. As mentioned, misstate- ment of age is not a material error sufficient to allow the insurer to void the policy. Instead, on discovery of the error,the insurer will adjust the premium payments and/or benefits accordingly.
Assignment Most life insurance policies allow the insured to change beneficiaries. When this is permit- ted, in the absence of any prohibition or notice requirement, the insured can assign the rights to the policy (for example, as security for a loan) without the consent of the insurer or the beneficiary. If the benefi- ciary’s right is vested—that is, has become absolute, entitling the beneficiary to payment of the proceeds—
the policy cannot be assigned without the benefi- ciary’s consent. For the most part, life insurance contracts permit assignment and require notice only to the insurer to be effective.
Creditors’ Rights Unless insurance proceeds are exempt under state law, the insured’s interest in life insurance is an asset that is subject to the rights of judgment creditors. These creditors generally can reach insurance proceeds payable to the insured’s estate, proceeds payable to anyone if the payment of premiums constituted a fraud on creditors, and pro- ceeds payable to a named beneficiary unless the ben- eficiary’s rights have vested. Creditors, however, cannot compel the insured to make available the cash surren- der value of the policy or to change the named bene- ficiary to that of the creditor. Almost all states exempt at least a part of the proceeds of life insurance from creditors’ claims.
Termination Although the insured can cancel and terminate the policy, the insurer generally cannot
do so.Therefore,termination usually takes place only if one of the following occurs:
1.Default in premium payments that causes the pol- icy to lapse.
2.Death and payment of benefits.
3.Expiration of the term of the policy.
4.Cancellation by the insured.
Fire and Homeowners’ Insurance
There are basically two types of insurance policies for a home—standard fire insurance policies and home- owners’ policies.
Standard Fire Insurance Policies The stan- dard fire insurance policy protects the homeowner against fire and lightning, as well as damage from smoke and water caused by the fire or the fire depart- ment. Most fire insurance policies are classified according to the type of property covered and the extent (amount) of the issuer’s liability. Exhibit 49–3 lists typical fire insurance policies, and the following subsections discuss specific features and provisions.
Liability. The insurer’s liability is determined from the terms of the policy. Most policies, however, limit recovery to losses resulting from hostile fires—basi- cally, those that break out or begin in places where no fire was intended to burn.A friendlyfire—one burning
in a place where it was intended to burn—is not cov- ered.Therefore, smoke from a fireplace is not covered, but smoke from a fire caused by a defective electrical outlet is covered. Sometimes, owners add “extended coverage” to the fire policy to cover losses from
“friendly” fires.
If the policy is a valuedpolicy (see Exhibit 49–3) and the subject matter is completely destroyed, the insurer is liable for the amount specified in the policy.
If it is an openpolicy, then the extent of the actual loss must be determined, and the insurer is liable only for the amount of the loss or for the maximum amount specified in the policy, whichever is less. For partial losses, actual loss must always be determined, and the insurer’s liability is limited to that amount. Most insur- ance policies permit the insurer to either restore or replace the property destroyed or to pay for the loss.
Proof of Loss. As a condition for recovery, fire insur- ance policies require the insured to file a proof of loss with the insurer within a specified period or immedi- ately (within a reasonable time). Failure to comply could allow the insurance carrier to avoid liability.
Courts vary somewhat on the enforcement of such clauses.
Occupancy Clause. Most standard policies require that the premises be occupied at the time of the loss.
The relevant clause states that if the premises become
Type of Policy Coverage
E X H I B I T 4 9 – 3 • Typical Fire Insurance Policies
Blanket Covers a class of property rather than specific property, because the property is expected to shift or vary in nature.A policy covering the inventory of a business is an example.
Floater Usually supplements a specific policy. It is intended to cover property that may change in either location or quantity. To illustrate, if the painting mentioned below under “specific policy” is to be exhibited during the year at numerous locations throughout the state, a floater policy would be desirable.
Open A policy that does not state an agreed-on value for the property. The policy usually provides for a maximum liability of the insurer, but payment for loss is restricted to the fair market value of the property at the time of loss or to the insurer’s limit, whichever is less.
Specific Covers a specific item of property at a specific location. An example is a particular painting located in a residence or a piece of machinery located in a factory or business.
Valued A policy that, by agreement, places a specific value on the subject to be insured to cover the eventuality of its total loss.
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vacant or unoccupied for a given period, unless con- sent by the insurer is given, the coverage is suspended until the premises are reoccupied. Persons going on extended vacations should check their policies regard- ing this point.
Assignment. Before a loss has occurred, a fire insur- ance policy is not assignable without the consent of the insurer.The theory is that the fire insurance policy is a personal contract between the insured and the insurer.
The nonassignability of a policy is extremely important when a house is purchased. The purchaser must pro- cure his or her own insurance. If the purchaser wishes to assume the seller’s remaining period of insurance coverage, the insurer’s consent is essential.
To illustrate: Ann is selling her home and lot to Jeff.
Ann has a one-year fire policy with Ajax Insurance Company, with six months of coverage remaining at the date on which the sale is to close. Ann agrees to assign the balance of her policy, but Ajax has not given its consent. One day after passage of the deed, a fire totally destroys the house. Can Jeff recover from Ajax?
The answer is no,as the policy is actually voided on the closing of the transaction and the deeding of the property.The reason the policy is voided is that Ann no longer has an insurable interest at the time of loss, and Jeff has no rights in a nonassignable policy.
Homeowners’ Policies A homeowners’ policy provides protection against a number of risks under a single policy, allowing the policyholder to avoid the cost of buying each protection separately. There are two basic types of homeowners’ coverage:
1.Property coverage includes the garage, house, and other private buildings on the policyholder’s lot. It also includes the personal possessions and prop- erty of the policyholder at home, while traveling, or at work. It pays additional expenses for living away from home because of a fire or some other covered peril.
2.Liability coverage is for personal liability in the event that someone is injured on the insured’s prop- erty, the insured damages someone else’s property, or the insured injures someone else (unless the injury involves an automobile,which would be cov- ered by automobile insurance, discussed next).
Property Coverage. Perils insured under property coverage often include fire, lightning, wind, hail, van- dalism, and theft (of personal property). Standard homeowners’ insurance typically does not cover flood
damage. Personal property that is typically not included under property coverage, in the absence of a specific provision, includes such items as motor vehi- cles, farm equipment, airplanes, and boats. Coverage for other property,such as jewelry and securities,is usu- ally limited to a specified dollar amount.
Liability Coverage. Liability coverage under a homeowners’ policy applies when others are injured or property is damaged because of the unsafe condi- tion of the policyholder’s premises. It also applies when the policyholder is negligent. It normally does not apply, however, if the liability arises from business or professional activities or from the operation of a motor vehicle,which are subjects for separate policies.
Also excluded is liability arising from intentional mis- conduct. Similar to liability coverage is coverage for the medical payments of others who are injured on the policyholder’s property and for the property of oth- ers that is damaged by a member of the policyholder’s family.
Renters’ Policies. Renters also take out insurance policies to protect against losses to personal property.
Renters’ insurance covers personal possessions against various perils and includes coverage for addi- tional living expenses and liability.
Automobile Insurance
There are two basic kinds of automobile insurance: lia- bility insurance and collision and comprehensive insurance.
Liability Insurance Automobile liability insur- ance covers liability for bodily injury and property damage. Liability limits are usually described by a series of three numbers, such as 100/300/50. This means that,for one accident,the policy will pay a max- imum of $100,000 for bodily injury to one person, a maximum of $300,000 for bodily injury to more than one person, and a maximum of $50,000 for property damage.Many insurance companies offer liability cov- erage in amounts up to $500,000 and sometimes higher.
Individuals who are dissatisfied with the maximum liability limits offered by regular automobile insurance coverage can purchase separate coverage under an umbrella policy.Umbrella limits sometimes go as high as $10 million. Umbrella policies also cover personal liability in excess of the liability limits of a homeown- ers’ policy.
Collision and Comprehensive Insurance Collision insurance covers damage to the insured’s car in any type of collision. Usually, it is not advisable to purchase full collision coverage (otherwise known as zero deductible). The price per year is relatively high because it is likely that some small repair jobs will be required each year.Most people prefer to take out poli- cies with a deductible of $100, $250, or $500, which costs substantially less than zero-deductible coverage.
Comprehensive insurance covers loss, damage, and destruction due to fire, hurricane, hail, vandalism, and theft. It can be obtained separately from collision insurance.
Other Automobile Insurance Other types of automobile insurance coverage include the following:
1.Uninsured motorist coverage. Uninsured motorist coverage insures the driver and passengers against injury caused by any driver without insurance or by a hit-and-run driver. Some states require that it be included in all auto insurance policies sold.
2.Accidental death benefits.Sometimes referred to as double indemnity,accidental death benefits provide for a payment of twice the policy’s face amount if the policyholder dies in an accident.This coverage generally costs very little, but it may not be neces- sary if the insured has a sufficient amount of life insurance.
3.Medical payment coverage.Medical payment cover- age provided by an auto insurance policy pays hos- pital and other medical bills and sometimes funeral expenses.This type of insurance protects all the pas- sengers in the insured’s car when the insured is driving.
4.Other-driver coverage. An omnibus clause, or other-driver clause,protects the vehicle owner who has taken out the insurance and anyone who drives the vehicle with the owner’s permission.This cover- age may be held to extend to a third party who drives the vehicle with the permission of the person to whom the owner gave permission.
5.No-fault insurance. Under no-fault statutes, claims arising from an accident are made against the claimant’s own insurer,regardless of whose fault the accident was. In some situations—for example, when injuries require expensive medical treat- ment—an injured party may seek recovery from another party or insurer. In those instances, the injured party may collect the maximum amount of no-fault insurance and still sue for total damages from the party at fault, although usually, on winning
an award, the injured party must reimburse the insurer for its no-fault payments.
Business Liability Insurance
A business may be vulnerable to all sorts of risks.A key employee may die or become disabled; a customer may be injured when using a manufacturer’s product;
the patron of an establishment selling liquor may leave the premises and injure a third party in an automobile accident; or a professional may overlook some impor- tant detail, causing liability for malpractice. Should the first situation arise (for instance, if the company presi- dent dies),the firm may have some protection under a key-person insurance policy, discussed earlier. In the other circumstances, other types of insurance may apply.
General Liability Comprehensive general liabil- ity insurance can encompass virtually as many risks as the insurer agrees to cover. For example, among the types of coverage that a business might wish to acquire is protection from liability for injuries arising from on-premises events not otherwise covered, such as company social functions. Some specialized estab- lishments, such as taverns, may be subject to liability in particular circumstances, and policies can be drafted to meet their needs. In many jurisdictions, for example, statutes impose liability on a seller of liquor when a buyer of the liquor becomes intoxicated as a result of the sale and injures a third party.Legal protec- tion may extend not only to the immediate conse- quences of an injury, such as quadriplegia resulting from an automobile accident, but also to the loss of financial support suffered by a family because of the injuries. Insurance can provide coverage for these injuries and financial losses.
Product Liability Manufacturers may be subject to liability for injuries that their products cause, and product liability insurance can be written to match specific products’ risks. Coverage can be procured under a comprehensive general liability policy or under a separate policy. The coverage may include payment for expenses involved in recalling and replacing a product that has proved to be defective.
(For a comprehensive discussion of product liability, see Chapter 23.)
Professional Malpractice Attorneys, physi- cians, architects, engineers, and other professionals have increasingly become the targets of negligence
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suits. Professionals purchase malpractice insurance to protect themselves against such claims.The large judg- ments in some malpractice suits have received consid- erable publicity and are sometimes cited in what has been called “the insurance crisis,” because they have contributed to a significant increase in malpractice insurance premiums.
Workers’ Compensation Workers’ compensa- tion insurance covers payments to employees who are injured in accidents arising out of and in the course of employment (that is, on the job). State statutes govern workers’ compensation, as discussed in detail in Chapter 33.
Provident Insurance, Inc., issued an insurance policy to a company providing an employee, Steve Matlin, with disability insurance. Soon thereafter, Matlin was diagnosed with “panic disorder and phobia of returning to work.” He lost his job and sought disability coverage.
Provident denied coverage, doubting the diagnosis of disability. Matlin and his employer sued Provident.
During pretrial discovery, the insurer learned that Matlin had stated on the policy application that he had never been treated for any “emotional, mental, nervous, urinary, or digestive disorder” or any kind of heart disease. In fact, before Matlin filled out the application, he had visited a physician for chest pains and general anxiety, and the physician had prescribed an antidepressant and recommended that Matlin stop smoking. Using the information presented in the chapter, answer the following questions.
1. Did Matlin commit a misrepresentation on his policy application?
2. If there was any ambiguity on the application, should it be resolved in favor of the insured or the insurer?
3. Assuming that the policy is valid, does Matlin’s situation fall within the terms of the disability policy?
4. If Matlin is covered by the policy but is also disqualified by his misrepresentation on the application for coverage, might the insurer still be liable for bad faith denial of coverage? Explain.
Insurance
annuity 1019 binder 1013
cash surrender value 1015 endowment insurance 1019
incontestability clause 1013 insurable interest 1010 insurance 1008
limited-payment life 1019 omnibus clause 1022 policy 1008
premium 1008
risk 1008
risk management 1008 term insurance 1019 underwriter 1008 universal life 1019 whole life 1018
49–1. Adia owns a house and has an eld- erly third cousin living with her. Adia decides she needs fire insurance on the house and a life insurance policy on her third cousin to
cover funeral and other expenses that will result from her cousin’s death. Adia takes out a fire insurance policy from Ajax Insurance Co. and a $10,000 life insurance pol- icy from Beta Insurance Co. on her third cousin. Six
months later, Adia sells the house to John and transfers title to him. Adia and her cousin move into an apartment.
With two months remaining on the Ajax policy, a fire totally destroys the house; at the same time, Adia’s third cousin dies. Both insurance companies claim they have no liability under the insurance contracts,as Adia did not have an insurable interest, and tender back (return) the premiums. Discuss their claims.
49–2.QUESTION WITH SAMPLE ANSWER Patrick contracts with an Ajax Insurance Co.
agent for a $50,000 ordinary life insurance pol- icy.The application form is filled in to show Patrick’s age as thirty-two. In addition, the application form asks whether Patrick has ever had any heart ailments or prob- lems. Patrick answers no, forgetting that as a young child he was diagnosed as having a slight heart murmur.A pol- icy is issued. Three years later, Patrick becomes seriously ill and dies. A review of the policy discloses that Patrick was actually thirty-three at the time of the application and the issuance of the policy and that he erred in answering the question about a history of heart ailments.
Discuss whether Ajax can void the policy and escape lia- bility on Patrick’s death.
• For a sample answer to Question 49–2, go to Appendix I at the end of this text.
49–3. Sapata has an ordinary life insurance policy on her life and a fire insurance policy on her house. Both poli- cies have been in force for a number of years.Sapata’s life insurance names her son, Rory, as beneficiary. Sapata has specifically removed her right to change beneficiaries, and the life insurance policy is silent on the right of assignment. Sapata is going on a one-year European vacation and borrows money from Leonard to finance the trip. Leonard takes an assignment of the life insur- ance policy as security for the loan, as the policy has accumulated a substantial cash surrender value. Sapata also rents out her house to Leonard and assigns her fire insurance policy to him. Discuss fully whether Sapata’s assignment of these policies is valid.
49–4. Fritz has an open fire insurance policy on his home for a maximum liability of $60,000. The policy has a number of standard clauses, including the right of the insurer to restore or rebuild the property in lieu of a monetary payment, and it has a standard coinsur- ance clause. A fire in Fritz’s house virtually destroys a utility room and part of the kitchen. The fire was caused by the overheating of an electric water heater.
The total damage to the property is $10,000. The prop- erty at the time of loss is valued at $100,000. Fritz files a proof-of-loss claim for $10,000. Discuss the insurer’s lia- bility in this situation.
49–5. Insurer’s Defenses.In 1990, the city of Worcester, Massachusetts, adopted an ordinance that required rooming houses to be equipped with automatic sprin- kler systems no later than September 25, 1995. In
Worcester, James and Mark Duffy owned a forty-eight- room lodging house with two retail stores on the first floor. In 1994, the Duffys applied with General Star Indemnity Co. for an insurance policy to cover the prem- ises. The application indicated that the premises had sprinkler systems. General issued a policy that required, among other safety features, a sprinkler system.Within a month, the premises were inspected on behalf of General. On the inspection form forwarded to the insurer, in the list of safety systems, next to the word sprinklerthe inspector had inserted only a hyphen. In July 1995, when the premises sustained more than
$100,000 in fire damage, General learned that there was no sprinkler system. The insurer filed a suit in a federal district court against the Duffys to rescind the policy, alleging misrepresentation in their insurance applica- tion about the presence of sprinklers. How should the court rule, and why? [General Star Indemnity Co. v. Duffy, 191 F.3d 55 (1st Cir. 1999)]
49–6. Interpreting Provisions. Valley Furniture &
Interiors, Inc., bought an insurance policy from Transportation Insurance Co. (TIC). The policy provided coverage of $50,000 for each occurrence of property loss caused by employee dishonesty. An “occurrence”
was defined as “a single act or series of related acts.”
Valley allowed its employees to take pay advances and to buy discounted merchandise, with the advances and the cost of the merchandise deducted from their pay- checks. The payroll manager was to notify the payroll company to make the deductions. Over a period of six years, without notifying the payroll company, the payroll manager issued advances to other employees and her- self and bought merchandise for herself, in amounts totaling more than $200,000.Valley filed claims with TIC for three “occurrences” of employee theft. TIC consid- ered the acts a “series of related acts” and paid only
$50,000. Valley filed a suit in a Washington state court against TIC, alleging, in part, breach of contract. What is the standard for interpreting an insurance clause? How should this court define “series of related acts”? Why?
[Valley Furniture & Interiors, Inc. v. Transportation Insurance Co., 107 Wash.App. 104, 26 P. 3d 952 (Div. 1 2001)]
49–7. Cancellation.James Mitchell bought a building in Los Angeles, California, in February 2000 and applied to United National Insurance Co. for a fire insurance policy.
The application stated, among other things, that the building measured 3,420 square feet,it was to be used as a video production studio, the business would generate
$300,000 in revenue, and the building had no uncor- rected fire code violations. In fact, the building meas- ured less than 2,000 square feet; it was used to film only one music video over a two-day period; the business generated only $6,500 in revenue; and the city had cited the building for combustible debris, excessive weeds, broken windows, missing doors, damaged walls, and other problems. In November, Mitchell met Carl