THEORIES OF COMMERCE TUTOR : ISSAR ARMAN

TOPIC: INSURANCE
Insurance; is a form of risk management in which the insured transfers the cost of potential loss
to another entity in exchange for monetary compensation known as the premium. Insurance allows
individuals, businesses and other entities to protect themselves against significant potential losses
and financial hardship at a reasonably affordable rate. We say ‘significant” because if the potential
loss is small, then it doesn’t make sense to pay a premium to protect against the loss.

BASIC LEGAL PRINCIPLES IN INSURANCE CONTRACTS

THE LAW OF CONTRACTS
A contract is a legally enforceable agreement. In legal terminology, contracts are something
intangible. Therefore an insurance policy in itself is not a contract; instead it is the most commonly
used evidence of an insurance contract. An insured who has been affected by a fire will not expect
the insurer to deny his insurance claim on the grounds that the insurance contract no longer exists
after the insurance policy has been destroyed in the fire.

Types of contracts
 Simple contracts;-A simple contract is one created verbally or by writing not under seal.
It can also be inferred from conduct. The validity of simple contracts does not depend on
special formalities.
An example of a contract inferred from conduct is where someone picks up a newspaper
from a street vendor and where their body language clearly indicates a purchase
.Technically a contract is formed between the seller and buyer with the acts of handing
over and accepting the money for the newspaper; no words or writing are needed.
 Contracts by deeds;-A deed is a written instrument signed, sealed and delivered. It must
be used with certain transactions such as a transfer of land. Besides, surety ship is always
issued in the form of a deed; otherwise, when a claim arises, the obligee may possibly face
a defense put up by the surety that he has not the right to sue because he has provided no
consideration.
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ELEMENTS OR ESSENTIALS OF A CONTRACT

Offer; If no offer is made, obviously there can be no agreement between the two
or more parties. In insurance, the offer or may be the intending insured(perhaps by
completing and submitting to the insurer a proposal form or application form) or
the insurer(perhaps as a counter-offer or in connection with a policy renewal).All
depends on intention as evidenced by facts.
Acceptance; The proposed contract cannot come into being unless the offer is
accepted by the other party (the offeree). All terms of the offer must be accepted
before a contract is concluded. If that other party intends to vary the terms of the
proposed contract (requiring increased premium or policy restrictions for example),
this upon its communication, constitutes a counter offer, which will have the effect
of nullifying the original offer. A counter offer is subject to acceptance by the
original offer or (who becomes the offeree with the counter offer).
Consideration; this is the price (monetary or otherwise) a contracting party pays
for the promise the other party (promiser) makes to him. In the case of a simple
contract, consideration must be given by both parties; otherwise it is void. On the
other head, a promise contained in a deed, even if it has been given not for
consideration, is enforceable at common law by the promise. In insurance the
consideration is;
i. the promise by the insured to pay premium
ii. the promise by the insurer to pay or compensate as per policy terms
Capacity to contract; It means the legal ability to enter into a contract, with
individuals, if they are mentally disorder or are minors, the contracts they make are
generally voidable at their option, with companies, they must not act in a way that
exceeds their legal powers.
Legality; -the subject of the agreement must be legal. A contract to kill or to
commit any other crimes, for example, is not valid. Likewise, insurance on
smuggled goods would also not be legally recognized. However, exceptions do
exist. For instance, the courts may enforce an insurance contract that is illegal
because the insurer was not authorized to transact the kind of insurance business in
question.
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DEFECTIVE CONTRACTS

i. Void (or invalid) contracts; -This means that the proposed contract does not exist in law; It
is entirely without legal effect. In the context of insurance, the implication is that generally
all premiums which have already been paid under a void contract (or invalid agreement)
are returnable; so are claims paid
ii. Voidable Contracts;-Its one that apparently of legal effect and that remains to be legally
effective unless and until an aggrieved party to the contract treats it as void as from contract
conclusion within a reasonable time after acquiring knowledge of the availability of such
a right of election. In insurance, it could arise, for instance, with a breach of some types of
policy provision or the discovery that important information was omitted or wrongly given
at the proposal stage.
iii. Unenforceable Contracts; -An unenforceable contract cannot be enforced (or sued on) in a
court of law. However, this is not because it is void, but because some required action has
not been taken (e.g stamp duty not paid on a lease of land, marine insurance policy not
issued .e.t.c).This defect can be remedied by carrying out the required action ,so that the
contract becomes enforceable (e.g by issuing a marine policy even after a loss has been
realized)

The Law of Agency

An agent is a person who represents a principal. In Insurance, the position is made a little complex
because insurance intermediaries may be described as Insurance Agents. (Usually representing the
insurer) or as Insurance Brokers (Usually representing the insured/Proper), as the case may be
within the law of agency, they are both agents.

Agency; is the relationship which exists between a principal and his agent.

Law of Agency; Those rules of law which govern an agency relationship.

How Agency Arises; -

When we say that an agency relationship exists between two parties, we are in essence, saying
that the agent owes certain duties to the principal and vice-versa.

There are a number of ways in which an agency relationship may arise. They included; -
i. By Agreement; Whether contractual or not; express or implied from the conduct or
situation of parties

ii. By ratification;-It’s the giving of retrospective authority for a given act. That is to say,
authority was not possessed at the time of the act, but the principal subsequently confirms
the act, effectively back dating approval.
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Duties owed by Agent to Principal

 Obedience; -The agent has to follow all lawful instructions of his principal,strictly or a
best is reasonably possible.
 Personal Performance; -The agent is not allowed to delegate his authority and
responsibilities to other unless he has authority to do so.
 Due care and skill; The law does not demand perfection and an agent is normally only
required to display all reasonably expected skills and diligence in performing his duties.
Whilst his principal may be bound by his lack of care, the principal may in turn reclaim
from the agent in respect of a loss caused by the lack of care.
 Loyalty and good faith; -The agent’s obligation of loyalty and good faith are governed by
several strict rules of law the no conflict rule being one of them.
 Accountability; The agent has to account for the money or other financial related
transaction he receives on the behalf of his principal. He also has to keep adequate records
relating to the agency activities.

Duties Owed by Principal to Agent

 Remuneration; The agent is entitled to receive commission or other remuneration (Such as
bonus) as agreed. This the principal has to pay within a reasonable time or any specified
time limit as the case may be.
 Expenses; The principal, subject to any express terms in the agency agreement, has to
reimburse the agent for costs and expenses properly and reasonably incurred by the agent
on behalf of the principal.eg. legal defense expenses paid by a claims setting agent.
 Breach of duty; -The agent may take action against the principal for the latter; breach of
obligations to him.

Termination of Agency
There are a number of ways in which an agency agreement can be brought to an end. These include;
-
 Mutual Agreement; -Generally speaking, all agreements may be terminated by mutual
agreement, on terms agreed between the parties.
 Revocation; subject to any contract terms as to notice and/or compensation, either the
principal or the agent may revoke the agreement during its currency.
 Death; -Because an agency relationship is a personal one, the death of either the principal
or the agent will end the agreement, should either party be a corporate body(Company),its
liquidation will have the same effect.
 Insanity; If either the principal or the agent becomes insane so that he no longer can
perform the agreement, the agreement will automatically come to an end.
 Time: If the agreement is for a determined period, it will terminate at the end of such
period.
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 Illegality; If it happens that the agency relationship or the performance of the agreement is
no longer permitted by law, this will automatically end the agreement.
 Breach;-If either the principal or the agent commits a fundamental breach of the contract.
For example .an exclusive agent, upon discovering that the principal, in breach of a contract
condition, has appointed a second agent before the expiry of the agency agreement, may
terminate performance immediately and sue the principal for any loss of the profit expected
from performing the agreement during the remainder period.

THE SIX KEY PRINCIPLES OF INSURANCE

 Insurable Interest; Not all risks are insurable. Insurable risks have certain characteristics;
they must be capable of financial measurement; there must be large enough number of
similar risks; they must not be against public policy; the premium needs to be reasonable
and there must be an insurable interest for the person insuring. Insurable interest is where
you have a valid reason to insure and stand to suffer a direct financial loss if the event
insured against occurs. Insurable interest exists when an insured derives a financial or other
benefit from the continuous existence of an insured object. For instance, a person has an
insurable interest in their own car bug not in their neighbor’s car. To demonstrate insurable
interest, there must be something tangible that can be insured such as property, life or rights
imposed by law.

 Utmost good faith; Most commercial contracts are subject to the principle of Caveat
emptor(let the buyer beware).Under the contracts ,there is no need to disclose information
that is not asked for. Insurance contracts are different in that they are based on facts which
are within the knowledge of the insured but of which insurers will not generally be ware.
As the insurer is at a disadvantage, the law imposes a duty of “Uberrima Fides” or Utmost
good faith. The principle of Utmost good faith requires anyone seeking insurance to
disclose all relevant facts. These are facts that would influence the judgment of a prudent
underwriter in fixing the premium or determining whether they will take on the risk, where
material non-disclosure can be proved, a contact can be voided.

 Proximate Cause; -An insurance policy will define the perils or insured events that cover
is provided for. For example , a building insurance policy will provide various covers as
standard –such as fire, lighting strikes and earthquakes and cover for additional risks ,such
as escape of water, storm or accidental damage ,can be requested. All contracts are subject
to terms and conditions that will exclude certain causes of loss. Therefore, in the event of
a claim, it is important to ascertain the cause of the loss in order to determine if that cause
is insured or excluded. There may be multiple elements involved in a claim so it is the ‘
proximate cause’ that is taken into account. The proximate cause is the dominant cause that
set in play a chain of events. For example if lighting damaged a building and weakened a
THEORIES OF COMMERCE TUTOR : ISSAR ARMAN

wall, following which the wall was blown down by wind, lighting would be considered the
proximate cause.

 Indemity; Indemity is considered to be the exact compensation required to restore the

policy holder to the financial position they enjoyed immediately before a loss
occurred.Indemity settlements can be reduced where it can be proved that there is under-
insurance and therefore the insurers are only receiving a premium for a proportion of the
entire value of risk. If this is the case any claims payment will be reduced in direct
proportion to the under-insurance.

 Subrogation; If a policy –holder has a claim paid by their insurer, they may also have a
right to pursue funds from another source, such as a third-party who caused the incident.
The principle of subrogation allows the insurer to pursue any rights or remedies which the
policy holder may possess, always in the name of the insured. This also ensures that the
policy holder only receives the indemnity settlement entitled to and therefore they will not
profit from the incident.

 Contribution; An insured party may have policies with two or more insurers covering the
same risk, although not necessarily with equal degrees of liability.Therefore,in the event
of a claim, all of the insurers should pay an equitable proportion of the claim payment.
Contribution is the right of an insurer to call upon the other insurers to share the costs of
such a claim payment. The fundamental point is that ,if an insurer has paid a claim in full,
it can recoup a proportion of the costs from the other insurers of the risk.