Chapter Definitions

Chapter 1

Loss exposure: any condition/ situation > possibility of loss> regardless of actual loss occurs

Insurance: system of both transferring (through an insurance policy)and sharing cost of losses.

Roles of insurance: risk management technique, transfer system, contract, business

Risk Management: process> making and implementing decisions> minimize adverse effects of accidental losses (mitigate financial consequences of loss exposures)

Loss prevention: Risk control technique that reduces the frequency (no. of losses occurred in a specified period) of a particular loss. Eg. Use of safety goggles by construction workers

Loss reduction: Risk control technique that reduces the severity (typically measured monetarily) of a particular loss. Eg, placement of fire extinguisher in house/workplace

Law of large numbers: mathematical principle> enable insurers to make predictions about losses. As no of similar but independent exposure unit (to the extent that they are not generally subject to same loss-causing event) increases, relative accuracy of predictions about future outcome (losses) also increases.

Exposure Unit: measure of loss exposure assumed by the insurer.

Property-Casualty Insurance: Covers for financial consequences of damage to one’s own property or legal liability to others. Eg, homeowner, auto, CGL.

Life-Health Insurance: covers for financial consequences of death, injury or sickness.

State Insurance Regulators: review insurance rates, policy form, underwriting & claim practices, and financial performance; can revoke licenses of insurers who fail to comply with state regulations.

Insurers Financial soundness: Insurers revenue = or > amount it pays for claims & other admin exp

Revenue Sources: premiums and investment income

Insurance policy characteristics: Contract of; utmost good faith, indemnity, adhesion, conditional, non transferable, fortuitous events and exchange of unequal amounts.

Utmost good faith: act with complete honesty and disclose all relevant facts.

Adhesion: one party must either accept or reject the agreement as it.

Indemnity: insurer agrees to pay for covered losses, an amount directly related to the amount of loss.

Insurance Structure: Modular- several documents (eg CPP) or Self contained- single document policy (eg. PAP).

Personal Insurance: cover individuals and families against personal loss exposure. Common types are:

Property Insurance: indemnifies insured (by paying or replacing) suffering loss from property been stolen, lost, damaged, or destroyed. Net income lost and other related expenses also count.

Liability Insurance: covers for the insured’s liability to others. Cost to defend insured also counts. Life Insurance: replaces income- earning potential lost through death. Related expenses of deceased insured

also count. Main categories, term life and permanent life insurance. Term Life Insurance: coverage for specified period with no cash value. (effective risk management

strategy) Permanent Life Insurance: coverage till death; accrues a cash value. Annuities: written by life insurers, provides periodic income (for a fixed period or for life) an

individual cannot outlive; with an exchange of a specified premium. Health Insurance: covers for financial losses caused by sickness or accidents, such as disability insurance

(disability insurance is primarily income replacement insurance). Long-Term care insurance: coverage for extended medical care or custodial care received in nursing

home, hospital or home. Homeowner’s Policy: covers both property & liability insurance; also personal liability (bodily injury or

property damage) coverage (damages and cost of defense related to claim against insured). PL covers for allegations of negligence.

PAP: liability losses due to bodily injury or property damage of others arising from use, maintenance and ownership of automobile such as auto accident, collision.

Comprehensive Coverage: coverage for direct and accidental losses to auto by any peril other than collision or overturn or peril specifically excluded. Eg, fire, theft, contact with animal.

Personal Watercraft Policy: covers for loss exposure due to ownership, maintenance, or use of watercraft that is used for recreational or personal transportation purposes.

Umbrella Liability Policy: provides excess/additional liability coverage for both available and not available coverage in the underlying policies, subject to self insured retention. (A dollar amount specified in a liability insurance policy that must be paid by the insured before the insurance policy will respond to a loss)

Commercial Insurance: Loss exposures arising from business (profit and not for profit) operations. Common types are:

CPP: Policy that covers two or more lines of business by combining ISO’s commercial lines coverage parts.

Commercial Auto Insurance: covers a business for exposures arising out of ownership, maintenance or use of automobile. Defense costs also included.

BOP: combines most of the property and liability coverage needed by small and mid size businesses.

Auto Physical damage coverage: Covers for damage to or theft (loss of use) of covered auto, includes both collision coverage and other than collision (comprehensive) coverage.

Commercial Property Insurance: covers building and their contents against various property loss exposures. Coverage is limited to property physically located on or near the insured’s premises.

Ocean (wet) marine insurance: oldest form of insurance; covers ships and their cargoes against perils of the sea (vessel related liability exposures).

Inland (dry) marine insurance: covers different classes of property; involves element of transportation (by land). Covers property in transit worldwide, equipments used on job sites, backhoes & other mobile equipments.

Commercial Crime insurance: covers money and securities, and property other than money and securities against crime perils and other numerous perils. Eg., extortion, theft or burglary by outsiders or employees.

CGL insurance: provides protection and peace of mind to the business owner; Protection against liability loss exposures faced by organization, including premises, operations and products. Eg. Retail store has a wet floor and customer falls getting injured, side effects of a product. Excludes pollution related claims.

Professional Liability Insurance: covers professionals for harm resulting from errors or omissions from their professional practices; liability arising from rendering or failing to render professional services.

Environmental Liability Insurance: protection to business owners against environmental damage resulting from business operations. Eg. Leaking fuel tank

Commercial Umbrella Liability coverage: provides additional limits; protects insured in the event of large liability losses.

Workers Compensation insurance: pays for medical care, lost wages, other state mandated benefits to employees; it’s a no-fault coverage, provides coverage for benefit an employer is obligated to pay under workers comp laws.

Ideally Insurable loss exposures: six characteristics,

1. Pure Risk( chance of loss, no loss but no gain) , not speculative (chances of loss, no loss or gain)2. Fortuitous losses(occurring by chance- no control by insured) by insured stand point

Moral Hazard: Incentive to cause a loss.eg arson committed by insured.3. Definite(time, cause and location)and Measurable(frequency & severity)4. Large number of similar exposure units5. Independent and non catastrophic6. Affordable

8 Benefits of insurance: (achieving risk financing goals when used as a risk financing technique)

1. paying for losses primary role indemnify insured 2. managing cash flow uncertainty financial security and stability to insured3. meeting legal requirementsboth statutory and contractual requirements 4. promoting risk controlmajor benefit; risk sharing mechanism like deductibles, premium credit incentives

and contractual requirements5. enabling efficient use of resourceshaving insurance and using the savings for co’s growth6. providing support for insured’s creditreduces lender’s uncertainty; guarantees that lender will be paid in

case the collateral is damaged by an insured event7. providing source of investment funds for both insured(no retention funds reqd. to be set aside for

insured losses) and insurer(premiums can be invested until reqd. to pay claims8. Reducing social burdenseg. Social costs of natural disasters, compulsory auto insurance

Costs of Insurance:

Premiums paid by insured

Operating costs of insurers(salary, producer’s commission, advertising, bldg expenses, equipment, taxes, licensing fee, etc)

Opportunity costs Incurred losses claim buildup: intentional exaggeration of a loss in an otherwise

legitimate claim. Nuksan ka barha charha k batanaFraudulent claims: (increase costs for both insured- in terms of high premium and insurers- in terms for paying for claims and investigation costs)Losses incurred due to carelessness on part of insured such as leaving car keys in the car.

Chapter#2

Pvt. Insurer: A nongovernment insurance provider.

Types of Pvt. Insurers: (CSLMRR)

Stock Insurers, Lloyds (both r proprietary insurers- profit to their owners) Mutual Insurers, Reciprocal Insurance Exchange (both r cooperative insurers- insurance at minimum cost)Captive Insurers, Reinsurance Co.,

Stock Insurers: owned by stockholderscorporation purpose is to earn profit for its stockholders elect BOD who create & oversee corporate goals & objectives and appoint CEO to carry out insurer’s operations.

Mutual Insurers: owned by the policyholders corporationpurpose is to provide insurance to its policyholders. Demutualization: process through which mutual insurers convert to stock insurers. Assessment Mutual insurance co: insurers charge insured addl. premium or assessment incase insurer has endured series of losses from catastrophic event such as a hurricane. (they’re less common now)

Similarities b/w stock and mutual insurers:

Purpose to earn the profit Payment of dividends Voting rights (appointing BOD)

Reciprocal Insurance Exchanges: (Interinsurance exchanges) each member is an insured and an insurer unincorporated organizationowned by its policyholders/subscribersshare profits & losses on proportionate basis. Subscription Agreement: Authorizes attorney-in-fact to act on behalf of subscribers to market & underwrite insurance coverage, collect premiums, invest funds and handle claims. Attorney-in-fact: An individual or organization to operate the reciprocal.

Lloyd’s: resemble stock insurersan insurance & reinsurance mkt placeeach individual investor called a “NAME”Lloyd’s function as an alien insurer in US

Captive Insurers: subsidiary formed to insure loss exposures of its parent co. and parent’s affiliates owned and controlled by its insureds insure risk of ownerReason for prevalencelow insurance cost, insurance availability, improved cash flow.

Reinsurance: transfer of insurance risk from one insurer to another. contractual agreement b/w insurer and reinsurer in return for a reinsurance premium to indemnify for some or all financial consequences of certain loss exposures covered by primary’s insurance policies.

Insurance Functions: (MUCRP) Marketing

Elements of successful marketing programsMarket research to determine needsAdvertising to inform about their products & servicesSelecting marketing systems training sales force setting sales goalsMotivating and managing sales force

Underwriting Process of selecting insured, pricing coverage, determining insurance policy terms and conditions, monitoring underwriting decisions made. Underwriters follow underwriting process that involves gathering info, making and implementing of decision.

ClaimsClaim handling process has six activities: (to achieve fair & equitable settlement)

Acknowledge claim & assign to claim rep Identifying the policy Contacting insured or insured’s rep Investigating & documenting the claim Determining cause of loss & loss amount Concluding the claim

Risk control A conscious act or decision not to actmakes losses more predictable reduces frequency or severity of losses

Premium auditMethodical examination of policyholder’s operations, records and books of account to determine actual exposure units and premium for insurance coverage already provided. Conducted year end

Government Insurance Programs:

o Purposes: Fulfill unmet needs of pvt. insurance mkt (eg. Terrorism Risk Insurance Program) Facilitate compulsory insurance purchases (eg. Workers Comp, personal auto liab insurance) Provide efficiency in mkt and convenience to insureds

( by reducing time or resources indured will need to expend to obtain desired insurance coverage, save on two large expenses of insurers i.e. marketing & sales commissions)

Achieve collateral purposes (govt. provide incentive for purchase of insurance, that benefits the society)

Level of Government Involvement:

-Exclusive Insurer - Partnership with private Insurer - Direct competition with pvt. Insurer

Examples of P & C Insurance by Federal Govt.

NFIP (National Flood Insurance Program)- Fed Gov act as primary insurer TRIP (Terrorism Risk Insurance Program)- Pvt insurers are primary and Fed Gov is temp reinsurer Federal Crop Insurance- Fed Gov subsidizes & reinsures pvt insurers.

Examples of P & C Insurance by State Govt.

FAIR plans(Fair Access to Insurance Requirements)- basic property insurance is made available to property owners who are unable to get coverage from pvt mkt.

Workers Comp Insurance (Help employers meet their obligations to injured workers- state gov can operate as an exclusive insurer, as a competitor or as a residual market i.e. serve as a last resort)

Beach & Windstorm Plans- property insurance against windstorm cause of loss is available incase not coverage is available in the pvt market due to property’s location.

Residual Auto Plans- Make compulsory auto liability coverage available to high-risk drivers who cannot obtain coverage in the pvt. Market.

Key areas of Insurer Operations:

– Licensing – Insurance Rates – insurance policies – market conduct – insurer solvency

3 Reasons why insurers are regulated:

To protect consumers (reviewing insurance policy, protect against fraud & unethical behavior, ensure insurance is readily available. E.g. PAP restrict the right of insurers to cancel or refuse to renew policy)

To maintain insurer solvency (ability of insurer to meet its financial obligations as they become due, even for the future claims)

To prevent destructive competition (adequate insurance rates are maintained)

Insurer Licensing:

-Foreign Insurer: An insurer licensed to operate in a state but incorporated (domiciled) in another state. License must be renewed annually.

- Domestic Insurer: Insurer operating in the state where domiciled. License generally has no expiration date.

-Alien Insurer: Insurer domiciled in the country other than U.S. License must be renewed annually.

-3 Common Forms of Insurer Ownership:

- Stock Insurer -Mutual Insurer -Reciprocal Insurance Exchange

Admitted Insurer:

Insurers that are licensed to do business regardless of what they are licensed as (i.e. domestic, foreign or alien insurer.

Nonadmitted Insurer:

Insurers that are not authorized by the state to do business within that state. They are frequently referred to as surplus lines insurers.

Surplus lines insurers are permitted to sell only insurance that is not readily available from admitted insurers due to specialty, risk or several other factors. They can transact business only through licensed surplus lines producers.

Surplus Lines Law: A state law that permits licensed surplus lines producer to procure insurance from eligible surplus lines insurer/nonadmitted insurer if applicant cannot obtain desired type of insurance in the admitted market.

Insurance Rates and Form Regulation:

Rates are regulated to strike balance b/w insurer profits and reasonable prices for consumers.

Forms are regulated to ensure that they are readable, understandable and fair.

3 Criteria used by a state insurance commissioner to approve or disapprove insurer’s request for rate:

Adequate - Non excessive -Not fairly discriminatory

Rating Laws:

Mandatory rate law: strictest control of insurer’s rate > rates set by state agency or rating bureau > insurers are reqd. to use those rates.

Prior Approval law: Rates and supporting rules must be filed and approved before they can be used. File-and-use law: Insurers must file rates and supporting rules with the state insurance, but can be used

while the approval is pending. Use-and-File law: provides more flexibility to insurers in setting rates > rates must be filed with state

insurance within a specified time period once they are put into use. Flex rating law: prior approval reqd. only when new rate exceed a certain %age above and below the

rates previously files > increase amount of flexibility for insure in their rate determination. Open Competition: known as no-file law > insurers develop and use rates without approval or filing rates

with state insurance.

2 major objectives to meet regulations regarding insurance policy forms

Policy must be clear and readable to insurance consumer To detect and address any policy provisions that are unfair or unreasonable

Unfair trade practices laws (specify certain prohibited business practices) involve 3 areas of insurance co. operations:

-Sales -underwriting -claims handling

Market Conduct Regulation:

Regulation of practices of insurers in regards to four areas of operation: sales, underwriting practices, claims handling, and bad-faith actions.

Insurer Solvency:

Ability to meet its financial obligations as they become due, even the insured losses that may be claimed in the future.

Solvency Surveillance> regulators conduct this process to verify insurers solvency > determining whether their financial condition enable them to meet financial obligation and to remain in business.

Causes of Insurer Insolvency: (IMPORTANT)

–Mismanagement (root cause) – deficient loss reserves, inadequate pricing, and rapid growth are primary causes

– Investment problems, alleged fraud, and catastrophe losses are less frequent causes.

4 Methods used by regulators to verify solvency of insurers:

Establish financial requirements to measure solvency> varies by state> eg. capital & surplus requirement for admitted insurer to obtain and keep license

Conduct on-site field examinations to ensure regulatory compliance> once every 3to5yrs Review annual financial statements> NAIC (coordinates with various state insurance dept) prescribed

format of primary annual F/S called NAIC Annual Statement, Requires detail info on premiums, exp, inv, losses, reserves & other financial info.Reserve: amount the insurer estimates and sets aside to pay on existing claim that has not been settled.

Administer IRIS (Insurance regulatory Info System)> it’s an early warning system, established and operated by NAIC, enables regulators to rehabilitate insurer or minimize losses from liquidation.

Guaranty Fund: state-established fund> used to pay unpaid claims of insolvent insurer> funded by assessments collected from all licensed insurer in a particular state.

Standard business: insurers who offer insurance coverage at rates designed for customers with average and better-than-average loss exposures.

Surplus Lines Insurance: insurance obtained from nonadmitted insurers when protection is not available from admitted insurers.

5 Classes of Surplus Lines Business:

Unusual of unique loss exposure. E.g. non-appearance insurance Nonstandard business. E.g. restaurant with history of grease fires in its kitchen> poor loss experience. Insureds needing high limits of coverage. E.g. Manufacturer of hazardous chemicals Insureds needing broad coverage. Eg. Contactor specialized in removal of hazardous substances. Loss exposures that require new forms

Surplus Lines Insurer: A non admitted insurer that is eligible to accept business from a state, i.e. eligible to insure risks that have been exported by a surplus lines licensee (licensed surplus lines broker) in accordance with surplus lines law. (after diligent search for coverage in the std mkt has been performed.

Chapter #9 Insurance Policies

Elements of a contract : 4 elements; agreement, consideration, capacity, legal purpose Insurance Contract: Agreement b/w the insurer and insured (also known as insurance policy) Valid Contract: That meets all the regal requirements for the contract to be enforceable

o Agreement : -> mutual assent(one party makes an offer (to buy insurance) and other party accepts it- fills the insurance application)- should not be result of fraud, duress, coercion, or mistake

Underwriters Creativity: Accept application with modificationo Capacity to Contract : -> All parties must have legal capacity to contract, some minors can

enter into contract for auto insurance, insurers need to be licensed in the state to do business where the contract is made. Mentally incompetent, unconscious, or minor is not a capacity.

o Consideration: -> something of value exchanged by parties to a contract. In insurance contract, consideration is the promise by insurer to pay for claims resulting due to covered losses and insured promises to pay premium.

o Legal Purpose: -> Contract should not be against the law or against public policy, must involve legal subject matter. Eg. Arson (property ko aag lagana)

6 Distinguishing Characteristics of Insurance Policies: - Contract of indemnity (amount directly related to the loss is paid- insured

shouldn’t profit from covered loss) Factors reinforcing the principle of indemnity

Other insurance provision: proportionate distribution over two different insurance policy due to same coverage

Subrogation provisions: insurer assumes the insured’s rights of recovery Insurable interest: of insured in the subject of insurance

Some insurance policies are not contract of indemnity but are valued policies-insurer pays a stated amount in the event of a specified loss regardless of the actual value of loss

- Contract of utmost good faith (act with honesty and in an ethical way)An insurer could be released from insurance contract in case of :

Concealment: Intentional failure to disclose a material fact Misrepresentation: False Statement of a material fact on which a party relies Material fact: Fact that affects insurer’s decision to provide, maintain insurance or

settle a claim- Contract involving fortuitous events and exchange of unequal amounts- Contract of adhesion

Insurance contract is drafted by insurer or insurance advisory organization on Accept it or leave it basis. If wordings are ambiguous, interpretation will be in favor of insured by the court.

- Conditional Contract When one or more parties must perform only under certain conditions

- Nontransferable contract Transfer of insurance policy, a practice known as assignment is not allowed. Most

policies require insurer’s written permission before insured can transfer to another party.

Insurance Policy Structure: - Preprinted Forms (printed in bulk, insurance form that meets the need of most

policyholders)

Insurance Services Office Inc and American Association of Insurance Services develop standard forms that many insurers use.

- Manuscript Forms( drafted according to the terms negotiated b/w insured & insurer)

- Self Contained Policy (single document policy- e.g. PAP, common to large no. of insureds)

- Modular Policy (policy requiring addl. documents- e.g. CPP, not common to large no. of insured)

Coverage Part: component of CPP or monocline policy, relates to particular line of business, consists of declaration page, one or more coverage forms, applicable endorsements, in some cases general provisions forms.

Each CPP begins with two component documents, i.e. c set of common policy conditions and common declarations.

Declarations Page: Information page(s) of insurance policy provide specific details about the insured and the subject of the insurance.

Endorsement and Other Related Documents:

Application (request for coverage containing info about insured & loss exposures) e.g. PAP application containing insured vehicle & driving info

Endorsements (documents add to or modify/amend basic policy form), takes precedence over policy provisions, can be typed, preprinted or handwritten

Insurer’s bylaws (mutual insurer giving insured corporate rights) Relevant statutory terms (Incorporation of statute e.g. workers comp or no-

fault auto insurance statutes) Policy Provisions:

- Statement/phrase/clause communicating the insurers and insureds coverage agreements

- Describes and clarify insurance coverage, exclusions, limits, and contractual responsibilities

Six Categories under which policy provisions fall (pg. 9.17)- Declarations (unique info on insured, list of forms included in the policy, first

page, outlines coverage) Scheduled Coverage: Insurance for property specifically listed (scheduled) on a policy.

- Definitions (clarifies ambiguity, located near beginning or end of the policy, word with special meanings, may limit or expand coverage based on definition)

- Insuring agreements (states insurers promise to the insured to make loss payment or provide service)

- Conditions (clarifies duties, rights and obligations of both insurer and insured, insured must comply with conditions for a policy to cover a loss, insurer duty is to pay for losses, defend insured from law suit, provide other services to insured)

- Exclusions (policy provision that eliminates coverage for specified exposures) Eliminate coverage for uninsurable loss exposures (eg war, flood, earthquake)

Assist in managing moral hazard(exaggerated or intentionally caused losses for purpose of collecting insurance proceeds)

Assist in managing morale/attitudinal hazard(losses arised due to carelessness or indifference because an individual is insured)

Reduce likelihood of coverage duplication Eliminated coverage that typical insured does not need Eliminate coverage requiring special treatment eg. Workers comp coverage Assist in keeping premiums reasonable

- Miscellaneous provisions (may affect coverage but do not have the force of conditions)

Property Policy Provisions: Covered Property:

- Exclusion: eliminates all coverage for excluded property or excluded causes of loss

- Limitation: specific dollar limit on specific property that is covered- Dwelling: A residential structure in terms of personal insurance and is covered

under HOP, freestanding or detached structures are not included, does not apply to land.

- Building: Permanent structure with walls and a roof in terms of commercial insurance, may include additions that are completed or under construction and materials used for that construction, also permanent structures are included as part of building.

Property insurance policy lists the property that is not covered to clarify what property is covered; they often provide coverage for the property that is owned by someone other than the insured, eg HOP provide coverage for 

Policy ProvisionProperty Policy Provision> Covered Property> Covered Locations> Covered Causes of loss> Excluded Causes of Loss> Covered Financial Consequences> Covered Parties> Amounts of Recovery Liability Policy Provision> Covered Activities> Covered Types of injury or damage* Property Damage * Personal & Advertising Injury> Excluded Loss Exposures> Covered Costs* Damages, Defense Costs, Supplementary payments, Medical paym ents> Covered Time Period> Covered Parties>Amounts of Recovery* Policy limits* Defense Cost Provisions* "Other Insurance" provisions

the personal property of others such as guests or employees while personal property is at insured’s home. Iski misaal esi hai k jese ek banday ki diamond ki ring mere ghr pe hai toh mera insurer usko cover karega. 

 Commercial property policies limited coverage deti hai personal effects k jb tk k wo insured k under care, custody ya control me ho.  PAP policy coverage deti hai borrowed auto ki agar k usk owner k pass physical damage coverage na ho toh.

Covered Locations: - Some portions of bldg may be removed like the temporary placing of storm

shutter windows in building. - HOP covers personal property anywhere in the world, PAP covers auto within US

and its territories.- Commercial property insurance policy is more restrictive, coverage for insured’s

business personal property is provided within the insured building or within 100ft of the building.

- Floater: policy designed to cover the property that floats, or moves from location to location. (may have territorial limitation or broader limit such as “anywhere in the world”)

Covered Causes of Loss: eg. Loss including fire, lightning, windstorm, hail and theft

- Named Peril: Specific cause of loss listed & described in insurance policy (includes list of both covered and excluded causes of lost)

- Special Form or open peril policy: policy that cover all causes of loss except those that are specifically excluded in the policy.

An imp difference b/w named perils and open perils involves burden of proof. (flood eg)

Named peril: burden of proof on insured; on insurer in open peril

- 3 different levels of coverage for personal and commercial property insurance policy

Basic Form (includes 12 named perils)Fire, lightning, vandalism, hail, theft (by employees only) windstorm, aircraft, vehicle damage, riot and civil commotion, explosion, smoke, sprinkler leakage, sinkhole collapse, and volcanic action.

Broad Form (adds several perils to those included in basic form)Falling objects like weight of snow, sleet, & sudden and accidental leakage of water from plumbing system

Special Form (open perils)- Former name: ‘all risk’ coverageCovers all causes of loss unless specifically excluded.

- 3 Types of Auto physical damage coverage Collision Coverage (direct & accidental loss due to collision or by overturn) Other than collision/ Comprehensive coverage (damage to covered auto except

collision or cause of loss specifically excluded) Specified causes of loss coverage (loss caused due to specified causes, see pg 9.25)

Excluded Causes of Loss: All property insurance coverage excludes losses arising due to catastrophic event such

as war and nuclear hazard.

Excluded are also the losses that are inherent vice and latent defect since the loss become certain as well as other maintenance and wear and tear since loss could be avoided with regular maintenance and care.

Covered Financial Consequences: Direct Loss: A direct and immediate reduction in the value of the property due to

property damage. Both HOP and CPP provide this coverage Lost Income/ Indirect Loss/ Time Element Loss: Loss arising due to damage to the

property other than direct cause. Reduces Net Income Fair Rental Value Coverage: Indemnifies insured for lost income from the covered

property or portion that is rented till it is restored to livable condition. Extra Expenses: that a business incurs after facing direct loss. Additional Living Expense: Covers for direct loss to dwelling that makes it inhabitable.

Covered Parties: Owner of the building- name insured on insurance policy covering building Own and Occupy building – name insured – covering both building and personal

property Tenant- occupies space – therefore name insured covering tenants personal property

in the rented portion of the business. Secured Lender- not name insured but listed by name in dec page as mortgagee or loss

payee(party entitled to share loss payment insured receives) Bailee- named insured- in bailee policy cover property of others under bailee’s custody

Amounts of Recovery: Policy limit (dollar amount of coverage, maximum amount of money that can be

received) Valuation Provisions (used to set value on covered property- Replacement Cost and

ACV, third approach involves agreed value) Settlement Options: (Insurer has 3 options to settle a loss)

1. paying value of lost or damage property (as determined by valuation provision2. paying cost to repair or replace if that’s possible3. Repairing, replacing or rebuilding other property like of a kind instead of money

Deductible: (amount of covered loss that’s not paid by the insurer Insurance-to- value provision: encourages insured to purchase insurance with amount

that is equal to or close to the value of covered property (encouraged by adding co-insurance provision)Co-insurance- if covered property is underinsured, amount that insurer will pay for a covered loss is reduced.

Other Insurance Provision: Loss is divided on a proportionate basis so insured does not profit from the loss occurred.

Liability Policy Provision:

Covered Activities: 2 approaches (specific liability n General Liability Insurance) Covered Types of Injury or Damage: (bodily injury, property damage, personal and advertising

injury) Excluded Loss Exposures:

Avoid covering uninsurable losses Avoid covering losses due to illegal activities

Eliminate duplicate coverage Eliminate coverage that most insureds do not need Eliminate coverage for exposures requiring specialized coverage & underwriting Keep premiums reasonable

Covered Costs: Included two types of costs:

Damages (compensatory & Punitive Damages) Defense Cost

Others include

Supplementary Payments (expenses incurred by insured at insurer’s request) Prejudgement interest: damage/injury or judgement k darmyan k time Postjudgement interest: judgement court me jane k baad or pese pay krne se

pehle

Medical PaymentsCoverage that pays necessary medical expenses incurred by claimant regardless of insured’s fault or not.

Covered Time Period: Occurrence based coverage (injury/damage occurs during the policy period) Triggered

by actual happening of injury or damage. Doesn’t matter if policy is expiring. Claims-made coverage (provide coverage for injury/damage that is claimed during the

policy period) Retroactive date (Date on or after which injury/ damage should occur in order to be

covered)

Covered Parties: For Homeowers:

o Name insured’s spouse if she is resident in the houseo Relatives of named insured or spouse if they reside in the houseo Full time students who were residents before moving out to attend school if

under 21yrs and a relative, or 21 yrs old and in care of insured

For Commercial Liability Policy:o Name insured’s employee and volunteer workerso Real Estate managers of name insuredo Organization newly acquired or formed by the name insured for upto a certain

no. of days after it is acquired or formed.

Amounts of Recovery:

Policy Limits o Each person (max amount Insurer will pay for injury to any one person)o Aggregate limit (max amount insurer will pay for all covered losses in a period)o Single limit (single limit of liability for a combined total of injury or damage

from any one accident or occurrence)

o Each Occurrence limit (max amount insurer will pay for all covered losses from a single occurrence)

o Split Limits (separate limits for bodily injury and property damage liability coverage)

Defense Costs Provisions Other Insurance Provisions

Chapter # 3 Insurer Financial Performance

Insurers Profitability -> important aspect of insurer’s financial performance. Managing Insurers Income: (Revenue – Expenses)

Major sources of income(gain/loss) -> Investment Income( from investment of funds) or Underwriting Income (sale of insurance)

Only earned premiums are recognized on I/S of insurer. Written Premiums : Earned premiums (revenue from insurers underwriting operations)

& Unearned premiums Underwriting Income = Earned Premiums – (Paid losses + Loss Adjustment Expenses)LAE Expenses

are expenses incurred by insured to investigate, defend and settle claims Investment Income: Investment funds are available for two reasons: policyholder’s surplus- to

meet its obligations even after catastrophic events and investment of premiums received. Managing Insurers Expenses:

Expense related to underwriting activities or investing activities. Underwriting Activity Expenses:

Paid losses: losses that have been paid by, on behalf of insurer in a given period Incurred losses: losses that have occurred during specific period regardless of when

claims are paid (Incurred losses = paid losses + loss reserves) Incurred but not reported losses IBNR: losses incurred but not yet reported to the

insurer Other Underwriting Expenses:

Acquisition Expenses (Expenses associated to acquiring new business, advertising exp General Expenses (Incurred during underwriting and issuing insurance policy)-all

administrative and operational expenses. Premium taxes, licenses and fees.

Investment Activity Expenses: Net investment Income= investment income-investment expenses

Insurer Profitability: Overall gain/loss from operations= Net investment (gain/loss) + Net underwriting (gain/loss)

NIBT (Net Income before taxes)

(Earned premiums + Investment Income) – (Total losses & other expenses) Portion of earnings from a qualified municipal bonds is not taxed.

Understanding Insurers Financial Statements:

Insurers, regulators and other financial rating organization monitor insurer’s financial performance.

Two imp financial statements are Balance sheet and Income statement.

Balance Sheet: Assets: Both tangible and intangible property owned by an entity. Admitted Assets: Regulators allow insurers to show as assets to f/s.

Easily liquidated to cash or near property’s mkt value Include stocks, bonds, mortgages, real estate, certain computer equipment,

and premium balances due within 90days. Non-admitted Assets: Regulators don’t allow showing as assets. Eg. Fixed assets

Not readily convertible to cash or market value Include premiums that are more than 90days due.

Liabilities: 3 types of liabilities are found on insurers f/s. Loss reserve & loss expense reserve:

o Loss reserve is an estimate of the amount to be paid by insurer in the future for losses that have already been occurred and reported but not yet settled > insurers best estimate on final settlement amount on claims not settled > To make reliable estimate insurer use: experience, law of large no., actuarial and statistical expertise.

o Loss expense reserve is also determined to estimate the cost of settling claims included in loss reserve.

Unearned Premium Reserve: Total amount of premiums from insured that has not been earned.

Other Liabilities (typically small, miscellaneous liabilities) Policyholders’ Surplus: (Total admitted assets- Total liabilities)

Also used in expansion to new territory or product development. Income Statement:

1. Revenues: Earned Premiums2. Expenses: Incurred losses, LAE, other underwriting exp(acquisition expense, general

expense, other legal fee premium taxes and licenses)3. Net Underwriting Gain/Loss: (Revenue- Expenses)- (1-2)4. Net Investment Income: (Investment Income – Investment Expenses)5. Net Income before Income Taxes: (3+4)

Analyzing Insurer Financial Ratio Calculations: Investors: to make investment decisions Regulators: to ensure insurers solvency Producers: to be in business with that insurer

Ratios to measure insurers profitability:1. Investment Income and Investment expenses are not part of loss ratio or expense ratio.

Loss Ratio Reflects %age of premium consumed by losses (Incurred losses + LAE )/ Earned Premiums

Expense Ratio Shows the proportion of insurers written premiums that is used to pay other

underwriting expenses How efficiently insurer is operating

(Incurred Underwriting Expenses / Written premiums)% Combined Ratio

Ideally less than 100. Lower the combined ratio, better it is. Measure of insurers profitability & underwriting performance. Used in benchmarking and trending Combined Ratio= Loss Ratio+ Expense Ratio

Investment Income Ratio Indicates degree of success achieved in insurers investment activities Net Investment Income/ Earned Premiums

Overall Operating Ratio Most complete measure of insurers financial performance (Combined Ratio – Investment Income Ratio)

Chapter #8 Loss Exposures

Direct & Indirect Losses:

Direct loss is loss that occurs immediately as a result of particular cause of loss, eg reduction in value of building that is damaged by fire.

Indirect loss is a loss that results from but not directly caused by a particular cause of loss. Eg. Reduction in revenue since building is closed due to fire damage.

Property Loss Exposures: (Direct Loss) Provide framework for analyzing loss exposure that may be handled through risk management techniques.

Three important Elements of property loss exposures: lost, damages or destroyed Assets exposed to property loss

Basic Property types: Real property and personal property Other property:

o Buildings- Fixtures: Any personal property affixed to real property such as it becomes a part of real property.

o Personal Property contained in Buildings: Eg. Furniture, machinery & equipment, Stock. Term “contents” is used to refer contents of personal property.

o Money and Securities: Highly susceptible to loss by theft. Money is currency, coins, checks, credit card slips, money orders held for sale to public. Securities are written instruments such as stocks and bonds.

o Vehicles and Watercraft: o Auto – a land motor vehicle, trailer or semitrailer designed for

travel on public roads.o Mobile Equipment – Vehicles designed to be used on off public

roads such as bulldozers and cranes.o Recreational Vehicles – Vehicles used for sports and recreational

activities such as dune-buggy, all-terrain vehicle, or dirt bike. Both on and off road.

o Property In Transit – Damage or loss in transit of property must be replaced.

Causes of loss (peril): Include fire, lightning, hail, storm and theft.o Peril: Cause of losso Hazard: Anything that increases the frequency or severity of loss. Eg. Smoking

cigarette increases frequency of fire. Keeping cash in register overnight increases both frequency and severity of loss.

Financial Consequences: Reduction in the value of the property. Parties Affected by Property Losses:

o Property owners: most effected by property loss.o Secured lenders of money to property owner: secured lender is mortgagee and

borrower is called mortgagor.o Property holder: Bailee temporarily possesses personal property of others they

do not own. They are responsible for safekeeping property they do not own.

Basis for a Legal Liability: Legal Liability: Legal enforceable obligation of a person or an organization to pay sum

of money called damages, to another person or organization. Legal right of recovery based on: Torts, Contracts and Statutes.

Legal Foundations of following explain how laws enforce responsibility: Source of Law:

o Constitution- source of constitutional law- supreme law in US, constitution itself and decisions of Supreme Court that involve the constitution.

o Legislative Bodies- source of statutory law Statute: written law passed by a legislative body at federal or state

level. Statutory Law: Laws or statutes enacted by federal, state or local

legislative bodies.

o Court Decisions- source of common law Laws that develop out of court decisions in particular cases and

establish precedents for future cases. (Common Law) Criminal Law and Civil Law:

o Criminal Law: wrongful acts that are deemed harmful for public welfare, law that imposes penalties for wrongs against society.

o Civil Law: Deals with rights and responsibilities of citizens’ w.r.t. one another, and provide remedies to breach of duties owed to others. Involves legal matters not governed by criminal law.

Damages: Two types of damages; Compensatory and Punitive.o Compensatory Damages: compensate the victim for harm actually suffered.

Special Damages and General Damages are included. Torts:

Civil wrongdoing, wrongful act other than crime or breach of a contract Types of Tort: Negligence, Intentional Torts, Strict Liability

o Negligence: Failure to act in prudent manner, party seeking compensation is plaintiff and party from whom plaintiff is seeking compensation is defendant.

Proof of four elements are required.1. Defendant owed duty of care to the plaintiff.2. Defendant breached the duty of care owed to plaintiff.3. Breach of that duty was proximate cause of injury or damage.

Proximate cause # Unbroken chain of events leading to injury, ye na hota to nuksan b na hota.4. Plaintiff suffered actual injury or damage.

# the negligent party is called tortfeasor (person or org who committed a tort)

Vicarious Liability: when one party is held liable for the actions of its subordinate or an associate because of the relationship between the two parties.(eg. Employer- employee) – Responsibilities do not shift from employee; instead they may extend to include the employer.

o Intentional Torts: Deliberate/ Foreseeable act causing harm to another person. Assault & Battery are common examples

1. Intentional threat of body harm under circumstances that create a fear of imminent harm or offensive contact is assault.

2. Intentional harmful physical contact (unlawful and unprivileged touching) is battery.

Defamation is also an example that includes both libel and slander.1. Defamation is false written or oral statement that harms one’s

reputation. Statement has to be false/untrue for a defamation to occur.

2. Libel is defamatory speech written in writing. Also radios, TV, film or internet are included in libel.

3. Slander is defamatory statement expressed by speech. False Arrest is the seizure or forcible restraint of person without

authority. Eg. Arresting a suspect for shoplifting and he is innocent. Invasion of Privacy: Encroachment on another person’s right to be left

alone. Eg. Unauthorized search, surveillance equipment use, hidden microphones, public disclosure of private facts.

o Strict Liability (Absolute liab): Liability arising from inherently dangerous activities or dangerously defected product that result in loss or harm regardless of how much care was used. Eg. Owner of wild animal.

Contracts: o Liability assumed under a contract and breach of warranty are two basis of

legal liability.o Hold-harmless Agreement: common in construction and service business. Eg.

Contractor takes the responsibility of certain actions of sub-contractor. A contractual provision that obligates one party to assume the legal liability of another party.

o Warranty: Written or Oral statement in a contract that certain facts are true.o Breach of Warranty: Shampoo wali eg.

Statutes: o Statutory liability: liability imposed by specific statute or law. Examples include

no-fault auto laws and workers compensation laws. Liability Loss Exposure: (Direct Loss)

Assets exposed to liability loss; Most frequently claimed is money. Causes of Liability Loss

Autos, watercraft and other vehicles.(ownership, use or maintenance) Premises (anyone who owns or occupies real property) eg. Customer slips on

wet floor in a grocery store. Personal Activities (not business related and away from defendant’s premises)

eg. Dog escapes from owner’s premises and bites a neighbor. Business Operations (eg. Plumbing contractor starting fire in customer’s house

while soldering a copper pipe, or a roofing contractor may drop debris from ladder and injure member of customers’ family.

Completed Operations(Kam complete karne k baad agr koi injury paish ati hai jo k cause ho us contractor k completed kam ki waja se, toh contactor liable hoga. Eg. Natural gas explosion due to negligently installed furnance.

Products (liability on manufacturers for the products that may cause bodily injury or property damage)

Advertising (Using another company’s trademark or advertisement) Pollution (Love Canal Case in NY) Liquor (business selling or serving alcohol has a significant liability loss

exposure) Professional Activities (liability arises in case of failure to exercise due care by

professional resulting in injury or damage) - Errors and Omissions, malpractice. Financial consequences of liability loss.

Damages – difficult to determine, eg. Hotel fire injuring hundreds of guests Defense Costs – Lawyer’s fee and expenses associated to defending claim Damage to Reputation – Defendant’s loss of reputation.

Personnel Loss Exposure: (Direct Loss)Possibility of loss due to death, disability, retirement or resignation that deprives an organization of the skills of that person that organization cannot readily replace.

Assets Exposed to personnel loss.o Key Employee: Employee whose death or disability before retirement will have

economic effects on the organization.o Key Personnel: Individual employee; owners, officers, managers; Group of

employees.

Causes of Personnel Loss:o Death (permanent loss of employees services)o Disability(inability of a person to meet personal, social or occupational demand)o Retiremento Resignation, layoff and firingo Kidnapping

Financial Consequences of Personnel Loss: o Reduction in value employee contributed to organization (atleast for short term)o Replacement Costs (recruitment, training and interviewing for replacement)o Loss of value caused by negative publicityo Loss caused by low morale such as reduced productivity & increased illness.

Net Income Loss Exposures (Indirect Losses) Assets exposed to NI loss – Future stream of NI, i.e. (Rev – Exp) and Income taxes Causes of NI Loss

o Property Losso Liability Loss. Eg. Merger & Acquisition o Personnel Losso Business Risks

Loss of goodwill Failure to perform Missed Opportunities

Financial Consequences of NI Loss - Increase in expenses, reduction in income or a combination of two.

Chapter # 7 Risk Management:

Basic Purpose and Scope of Risk Management: Pure Risk: Chance of loss, no loss, but chance of gain. Speculative Risk: Chance of loss, no loss, or gain. (business risk)

Risk Management for Individuals and organizations: Risk management includes any effort to economically deal with uncertainty of

outcomes(risk). For individuals and families, risk management is not a formalized process. In larger

corporation risk management is a formalized program. Risk Management Program (POLC): system for planning, organizing, leading and

controlling the resources & activities an organization needs to protect itself from adverse effects of accidental losses.

Risk Management Process (MMI): Process of making, implementing and monitoring decisions that minimize the adverse effect of risk on an organization.

Traditional Risk Management and Enterprise wise Risk Management: TRM mainly focused on pure risk ERM focuses on overall risks of an organization at an enterprise level rather than

departmental level. Risk Management Process (6Steps):

1. Identifying Loss Exposures: - Developing a thorough list of accidental losses. - Physical inspection of premises.- Loss exposure surveys and loss history analysis.- Analysis of Financial statements, flowcharts, interviews etc.

2. Analyzing Loss Exposures:- It requires estimating how large a possible loss could be and how often it might

occur.- Loss Frequency: indicate no. of losses that occur within a specified period. - Loss Severity: Amount of loss, measured monetarily.

3. Examining Feasibility of Risk Management Techniques:- Risk control techniques and risk financing techniques

Risk Control Technique: - Attempts to decrease the frequency and/or severity of loss or make them more

predictable. Common risk control techniques are Avoidance (eliminates loss exposure, chance of loss = 0) Loss Prevention (reducing the frequency of loss- no of losses e.g. closing

doors and windows to prevent burglary, regular maintenance of vehicle to avoid accident by faulty equipment)

Loss Reduction (lowers the severity of losses- dollar amount of losses e.g. installing sprinkler system, installing restrictive money safe)# Inspection Report: prepared by risk control representatives, best sources of underwriting info & supplements the application.# 2 main objectives of inspection report:

o Provide thorough description of applicant’s operations to make underwriter decide whether to accept the application.

o Provides evaluation of current risk control measures and any recommended improvement in risk control. Underwriter may require applicants to fulfill those recommendations for application to get accepted.

- When underwriter receives an application from the commercial account, his first task is often to order an inspection report.

- Risk control Representative visits the applicants’ location(s) and operations and submits an inspection report. Separation- reduce loss severity (Isolated loss exposures from one another to

minimize adverse effect of a single loss e.g. having diff vendors, storing inventory in diff warehouse)

Duplication- reduce loss frequency (uses backups, spares or copies of critical property, information and keep them in reserve. E.g. Extra copies bana k rkhna key documents ki, extra inventory rkhna spare parts ki)

Risk Financing Tchniques:Includes steps to pay for or transfer the cost of losses. Retention and Transfer are most common risk financing techniques.

Retention: - Losses are retained by generating funds within the organization to pay for losses.

Eg. Purani vehicles k lye collision coverage lena work ni krta toh risk manager may ask to retain and pay for any losses by org. operating funds.

- Retention can be intentional or unintentional(eg. Failure to purchase Liquor liability coverage by restaurant)

- Retention can be partial ($10,000 deductible on commercial property insurance) or total(husband wife choosing not to purchase insurance on lakeside home because they believe it’s too expensive).

- A deductible is an example of combination of retention and insurance.- Retention is usually used in combination with other risk management techniques.

Transfer: - Includes noninsurance risk transfer and insurance- E.g. Hold-harmless agreement signed by tenant and landlord in case of any

liability arising on the landlord for the loss that resulted due to activities of the tenant. Jese tenant jo jaga own kar rhay hain waha koi nuksan hoto woi zimedar hongay malik makan nahi.

- Insurance is another risk transfer technique where financial consequences of a loss exposure are transferred to the insurer by the insured.

Selecting, Implementing and Monitoring Risk Management Techniques: