massachusetts property & casualty content outlineambiguities in a contract of adhesion 1-2...

Massachusetts Property & Casualty Content Outline

The following outline of topical material identifies the subject matter from which state examination questions aredeveloped for the Prometric state examinations.

The Prometric state examinations are extremely challenging. The license candidate must not only familiarizehim/herself with the basic concepts and principles of life and health insurance but MUST also comprehend the materialas well. It is important that the license candidate read through the entire text.

1.0 INSURANCE REGULATIONS

1.1 LicensingProcess 14-3Types of licensees 14-1

Producers 14-1 thru 5Business entity producers 14-1,4Advisers 14-2Nonresident producers 14-1, 4Temporary 14-3Special broker 14-2Public Insurance Adjusters 14-1Reinsurance intermediary 14-2Viatical settlement broker 14-3

Maintenance and durationReinstatement and renewal 14-5Change in name or address 14-15Reporting of actions 14-15Assumed names 14-15Continuing education requirements,exemptions and penalties 14-6 and 7

Disciplinary actionsCease and desist order 14-10Hearings 14-7 thru 9Probation, suspensions, revocations, refusalto issue or renew 14-7Penalties and fines 14-6 thru 15

1.2 State regulationCommissioner’s general duties and powers 14-8Company regulation

Certificate of authority 14-8Solvency 14-9Policy forms 14-9Unfair claims settlement practices 14-13Examination of books and records 14-16Producer appointments 14-5Termination of producer appointments 14-5

Producer regulationImpersonation 14-13Larceny 14-10Prohibited acts 14-11Sharing commissions/Unlicensed persons

14-15Unfair and prohibited practices

Misrepresentation 14-11False advertising 14-14Defamation of insurer 14-13Boycott, coercion and intimidation 14-14

False financial statements 14-14Failure to maintain complaint record 14-14Unfair discrimination 14-12Unfair Claims Practices 14-12Rebating 14-12

Insurance fraud regulation 14-12Insurance Information and Privacy Protection 14-16

1.3 Federal regulationFair Credit Reporting Act 3-4Fraud and false statements 1-13Violent Crime Control Act 1-13

2.0 GENERAL INSURANCE2.1 Concepts

Risk management 2-2Key terms 2-2

Risk 2-2Exposure 2-2Hazard 2-3Peril 2-3Loss 2-4

Methods of handling risk 2-3 and 2-16Avoidance 2-3 and 2-16Retention 2-3 and 2-16Sharing 2-3 and 2-16Reduction 2-3 and 2-16Transfer 2-3 and 2-16

Elements of insurable risks 2-3Adverse selection 1-6Law of large numbers 2-1Reinsurance 2-9

2.2 InsurersTypes of insurers 1-9

Stock companies 1-9Mutual companies 1-9Fraternal benefit societies 1-10Self-insurance groups 1-11Risk retention groups 1-11

Private versus government insurers 1-12Admitted versus nonadmitted insurers 1-10Domestic, foreign and alien insurers 1-10Financial status (independent rating services) 1-13Marketing (distribution) systems 1-13

2.3 Producers and general rules of agencyInsurer as principal 1-8Producer / insurer relationship 1-8Authority and powers of producers 1-8 and 9

Express 1-8

Index of Topics - Massachusetts

Introduction – 3

Implied 1-9Apparent 1-9

Responsibilities to the applicant / insured 1-92.4 Contracts

Elements of a legal contract 1-1Offer and acceptance 1-1Consideration 1-1Competent parties 1-1Legal purpose 1-1

Distinct characteristics of an insurance contract 1-2Contract of adhesion 1-2Aleatory contract 1-2Personal contract 1-2Unilateral contract 1-2Conditional contract 1-2

Legal interpretations affecting contracts 1-2Ambiguities in a contract of adhesion 1-2Reasonable expectations 1-2Indemnity 2-5Utmost good faith 1-3Representations/ misrepresentations 1-3Warranties 1-3Concealment 1-4Fraud 1-4Waiver and estoppel 1-4

3.0 PROPERTY AND CASUALTY INSURANCE BASICS3.1 Principles and concepts

Insurable interest 2-5Underwriting 1-6

Function 1-6Expense ratio, combined ratio 1-6Loss ratio 2-4

Rates 1-8Types 1-6 and 8Loss costs 1-6Components 1-6

Hazards 2-3Physical 2-3Moral 2-3Morale 2-3

Negligence 3-3Elements of a negligent act 3-3Defenses against negligence 3-3

Damages 3-4Compensatory, special vs general 3-4Punitive 3-4

Absolute liability 3-5Strict liability 3-5Vicarious liability 3-5Attractive nuisance 8-10Causes of loss (perils) 2-3Named perils versus special (open) perils 3-1Direct loss 2-4Consequential or indirect loss 2-4Blanket versus specific insurance 8-5Basic types of construction 1-6 and 7Loss valuation 2-5

Actual cash value 2-6Replacement cost 2-6Functional replacement cost 2-6

Market value 2-6Agreed value 4-25Stated amount 2-6Valued policy 4-26

3.2 Policy structureDeclarations 1-5Definitions 3-2, 8-12Insuring agreement or clause 1-5Additional/supplementary coverage 2-7, 8-12Conditions 1-4Exclusions 1-5Endorsements 3-2

3.3 Common policy provisionsInsureds – named, first named, additional 4-29, 8-12

and 18Policy period 3-4, 8-13Policy territory 8-13Cancellation and nonrenewal 2-7 and 8Deductibles 4-2Other insurance 2-8

Nonconcurrency 2-9Primary and excess 2-8Pro rata 2-8Contribution by equal shares 2-9

Limits of liability 2-6, 3-4Per occurrence (accident) 3-4Per person 3-4Aggregate, general vs products and completed operations 3-4Split 3-4Combined single 3-4

Policy limits 3-4Restoration/nonreduction of limits 2-7Coinsurance 8-3Vacancy or unoccupancy 2-8, 8-3Named insured provisions

Duties after loss 3-5Assignment 2-8Abandonment 4-10

Insurer provisionsLiberalization 4-10Subrogation 2-10Salvage 6-7, 8-34Claim settlement options 2-5 and 6Duty to defend 3-3

Third-party provisionsStandard mortgage clause 5-5Loss payable clause 5-6No benefit to the bailee 6-4

3.4 Massachusetts laws, regulations and requiredprovisionsMassachusetts Insurance Insolvency Fund 14-16Standard Fire Policy 4-1Cancellation and nonrenewal 14-18Concealment, misrepresentation or fraud 14-11,12Appraisal 2-8Claim settlement 2-5 and 6Terrorism Risk Insurance Act of 2002 and Extension Act of 2005 (Public Law 109-144) 1-12


Introduction – 4

4.0 DWELLING (‘02) POLICY4.1 Characteristics and purpose 4-14.2 Coverage forms – Perils insured against

Basic 4-2Broad 4-6Special 4-9

4.3 Property coveragesCoverage A – Dwelling 4-2 and 3Coverage B – Other structures 4-3Coverage C – Personal property 4-3Coverage D – Fair rental value 4-3Coverage E – Additional living expense 4-6Other coverages 4-4

4.4 General exclusions 4-64.5 Conditions 4-94.6 Selected endorsements

Automatic increase in insurance 4-10Broad theft coverage 4-10Dwelling under construction 4-10

4.7 Personal liability supplement 4-10

5.0 HOMEOWNERS (‘00) POLICY5.1 Coverage forms

HO-2 through HO-6 5-10 and 115.2 Definitions 4-29, 5-75.3 Section 1 – Property coverages

Coverage A – Dwelling 5-2Coverage B – Other structures 5-2Coverage C – Personal property 5-2Coverage D – Loss of use 5-3Additional coverages 5-4 and 5

5.4 Section II – Liability coveragesCoverage E – Personal liability 4-29, 5-6Coverage F – Medical payments to others 4-29, 5-7Additional coverages 4-28, 5-7

5.5 Perils insured against 5-25.6 Exclusions 5-55.7 Conditions 5-55.8 Selected endorsements 5-7 thru 9

Business pursuits 5-7Earthquake 5-9Home business 5-9Home day care 5-8Identity Fraud expense 5-10Lead poisoning coverage 5-10Lead poisoning exclusion 5-9Limited fungi, wet or dry rot 5-9Permitted incidental occupancies 5-8Personal injury 5-8Personal property replacement cost 5-8Scheduled personal property 5-8Tenant relocation expense 5-9Watercraft 5-9

6.0 AUTO INSURANCE6.1 Laws

Massachusetts Compulsory Motor Vehicle Liability Insurance 6-3

Required limits of liability 6-3Required proof of insurance 6-3

Massachusetts Assigned Risk Plan 6-12

Personal injury protectionsMedical 6-3Loss of income 6-3Death 6-4Funeral 6-4Replacement services 6-4

Uninsured/underinsured motoristDefinitions 6-5Bodily injury 6-5Required limits 6-5

Cancellation/nonrenewal 6-10Grounds 6-10Notice 6-10Notice of eligibility in assigned risk plan

6-10Safe driver insurance plan 6-12Aftermarket parts regulation 6-9Regulation of rates for motor vehicle insurance 6-10Private passenger motor vehicles insurance rates

6-106.2 Massachusetts auto policy

Definitions 6-1Compulsory coverage 6-3

Bodily injury to others 6-3Property damage to others 6-5Personal injury protection (PIP) 6-3

Uninsured motorist 6-5Coverage for damage to your auto 6-6

Collision 6-6Limited collision 6-7Medical payments 6-6Comprehensive 6-7Deductibles 6-6 and 7Substitute transportation 6-7Towing and labor 6-7

Duties after an accident or loss 6-8General provisions 6-8Selected endorsements

Use of other autos 6-14Additional insured - lessor 6-14Miscellaneous type vehicle 6-13Massachusetts Amendatory Endorsement

MA Auto policyMobile home 6-14Waiver of deductible 6-3

6.3 Commercial auto (‘01)Commercial auto coverage forms 8-14

Business auto (‘06) 8-15Garage (‘06) 8-18Truckers (‘06) 8-19

Coverage form sections 8-15Covered autos 8-15Liability coverage 8-16Garagekeepers coverage 8-18Physical damage coverage 8-15 and 17Trailer interchange coverage 8-18Conditions 8-17Definitions 8-15Exclusions 8-17

Selected endorsements 8-18Additional insured – lessor 8-18


Introduction – 5

Auto medical payments coverage 8-18Drive other car coverage 8-18Individual named insured 8-18Mobile equipment 8-18

Commercial carrier regulationsThe Motor Carrier Act of 1980 8-19Endorsement for motor carrier policies ofinsurance for public liability (MCS-90) 8-19

7.0 COMMERCIAL PACKAGE POLICY (CPP)7.1 Components of a commercial policy

Common policy declarations 7-3Common policy conditions 7-3Interline endorsements (as needed) 8-1One or more coverage parts 7-3

7.2 Commercial general liability (‘04)Commercial general liability coverage forms 8-8

Bodily injury and property damage liability 8-8 and 9Personal and advertising injury liability 8-8and 12Medical payments 8-12Supplementary payments 8-12Who is an insured 8-13Limits of liability 8-13Conditions 8-13Definitions 8-12Exclusions 8-10 and 11

Occurrence versus claims-made 8-8Claims-made features 8-13

Trigger 8-13Retroactive date 8-13Extended reporting periods 8-14Claim information 8-13

Premises and operations 8-8 and 9Products and completed operations 8-8 and 9Insured contract 8-10Limited fungi or bacteria coverage 8-11

7.3 Commercial property (‘02)Commercial property conditions form 8-1Coverage forms

Building and personal property 8-2Builders risk 8-7Business income 8-6Extra expense 8-7Legal liability 8-7Condominium association 8-8Condominium commercial unit-owners 8-8

Causes of loss formsBasic 8-4Broad 8-4Special 8-5Earthquake 8-5

Selected endorsementsOrdinance or law 8-5Peak season limit of insurance 8-5Spoilage 8-5Value reporting form 8-5

7.4 Commercial crime (‘06)General definitions 8-22

Burglary 8-21

Theft 8-21Robbery 8-21

Crime coverage formsCommercial crime coverage forms (discovery/loss sustained) 8-23Government crime coverage forms (discovery/loss sustained) 8-22

CoveragesEmployee theft 8-22Forgery or alteration 8-22Inside – theft of money or securities 8-22Inside – robbery or safe burglary of other property 8-22Outside premises – theft, disappearance or destruction 8-22Computer fraud 8-22Funds transfer fraud 8-23Money orders and counterfeit paper currency 8-23

Other crime coveragesKidnap, ransom 8-23Extortion – commercial entities 8-23Guest’s property 8-23

7.5 Commercial inland marineNationwide marine definition 4-25Commercial inland marine conditions forms 8-20Inland marine coverage forms

Accounts receivable 8-20Bailee’s customer 8-20Cameras and musical instruments 8-20Commercial articles 8-20Contractors equipment floater 8-21Electronic data processing 8-20Equipment dealers 8-20Installation floater 8-21Jewelers block 8-20Signs 8-21Valuable papers and records 8-21

Transportation coveragesCommon carrier cargo liability 8-21Motor truck cargo forms 8-21Transit coverage forms 8-21Free on board/Bill of lading 8-21 and 22

7.6 Equipment Breakdown/Boiler (‘07)Equipment breakdown protection coverage formSelected endorsements 8-24

Business income – Report of values 8-25Actual cash value 8-24

7.7 Farm coverage (‘06)Farm property coverage form

Coverage A – Dwellings 8-30Coverage B–Other private structures 8-30Coverage C – Household personal property 8-30Coverage D – Loss of use 8-30Coverage E – Scheduled farm personal property 8-30Coverage F – Unscheduled farm personal property 8-30Coverage G – Other farm structures 8-30

Farm liability coverage form


Introduction – 6

Coverage H – Bodily injury and property damage liability 8-30Coverage I – Personal and advertising injury liability 8-31Coverage J – Medical payments 8-32

Livestock coverage form 8-31Mobile agriculture machinery and equipment coverage form 8-31Definitions 8-31Cause of loss (basic, broad and special) 8-31Conditions 8-31Exclusions 8-31Limits 8-31Additional coverages 8-31

8.0 BUSINESSOWNERS (‘06) POLICY8.1 Characteristics and purpose 8-25 and 268.2 Businessowners Section I Property

Definitions 8-25 thru 30Coverage 8-25 thru 30Causes of loss 8-25 thru 30Conditions 8-25 thru 30Limits 8-25 thru 30Who is an insured 8-25General conditions 8-25Loss conditions 8-25Deductibles 8-25 thru 30Exclusions 8-25 thru 30Optional coverages 8-25 thru 30

8.3 Businessowners Section II Liability Coverages 8-26Medical payments 8-26Limits of insurance 8-26General conditions 8-26Exclusions 8-26Definitions 8-26

8.4 Businessowners Section III Common PolicyConditions 8-25

8.5 Selected endorsementsHired auto and nonowned auto liability 8-28Protective safeguards 8-28Utility services – direct damage 8-28Utility services – time element 8-28

9.0 WORKERS’ COMPENSATION INSURANCE9.1 Workers’ Compensation laws

Types of laws 9-1Monopolistic versus competitive 9-1Compulsory versus elective 9-1

Massachusetts Workers’ Compensation ActExclusive remedy 9-2Employment covered (required, voluntary) 9-2Covered injuries 9-2Occupational disease 9-2Benefits provided 9-2 and 3Subsequent injury fund 9-6Large deductible plan 9-5Subrogation 14-21

Federal Workers’ Compensation lawsFederal Employers Liability Act (FELA) 9-6

U.S. Longshore and Harbor Workers’ Compensation Act 9-6The Jones Act 9-6

9.2 Workers’ Compensation and employers liabilityinsurance policyGeneral section 9-2Part One – Workers’ Compensation insurance 9-2Part Two – Employers liability insurance 9-3Part Three – Other states insurance 9-4Part Four – Your duties if injury occurs 9-4Part Five – Premium 9-5Part Six – Conditions 9-5Selected endorsements

Voluntary compensation 9-5Foreign coverage endorsement 9-6

9.3 Premium computationJob classification – payroll and rates 9-5Experience modification factor 9-5Premium discounts 9-5

9.4 Other sources of coverageMassachusetts Assigned Risk Plan 14-21Self-insured employers and employer groups 9-2Massachusetts Workers’ Compensation Trust Fund 14-21

10.0 OTHER COVERAGES AND OPTIONS10.1 Umbrella/excess liability policies

Personal 12-1Commercial 12-1

10.2 Specialty liability insuranceErrors and omissions 11-1Professional liability 11-1Directors and officers liability 11-2Fiduciary liability 11-2Liquor liability 11-2Employee benefits liability 11-2Employment practices liability 11-2

10.3 Surplus linesDefinitions and markets 1-12Licensing requirements 1-12

10.4 Surety bondsPrincipal, obligee, surety 10-1Contract bonds 10-1License and permit bonds 10-1Judicial bonds 10-1

10.5 National Flood Insurance Program“Write your own” versus government 13-1Eligibility 13-1Coverage 13-1Limits 13-1 and 2Deductibles 13-2

10.6 Other policiesBoatowners 4-26 and 27Difference in conditions 8-35

10.7 Aviation insuranceAircraft hullAircraft liability

10.8 Ocean marine insuranceMajor coverages

Hull insuranceCargo insurance


Introduction – 7

Freight insuranceProtection and indemnity

10-9 Residual marketsJoint underwriting and reinsurers assoc. 14-19 to 20

FAIR Plan 14-18Liquor liability 14-20


Introduction – 8

TABLE OF CONTENTS

SECTION I — INTRODUCTION TO PROPERTY AND CASUALTY INSURANCE

C O N TR A C T LA W , PR O D U C ER S A N D TY PES O F IN SU R ER S

BA S IC IN SU R A N C E TER M S A N D R ELA TED C O N C EPTS

PR O PER TY A N D L IA B IL ITY BA S IC S

SECTION II — PERSONAL LINES MONOLINE AND PACKAGE POLICIES

M O N O L IN E PO L IC IES (PER SO N A L L IN ES )

H O M EO W N ER S IN SU R A N C E (PER SO N A L L IN ES )

A U TO M O B ILE IN SU R A N C E

SECTION III — COMMERCIAL INSURANCE

C O M M ER C IA L PA C K A G E PO L IC Y

C O M M ER C IA L IN SU R A N C E C O V ER A G E PA R TS

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SECTION IV — OTHER PROPERTY & CASUALTY INSURANCE POLICIES

W O R K ER S ' C O M PEN SA T IO N

BO N D IN G A N D SU R ETY SH IP

PR O FESS IO N A L L IA B IL ITY

U M BR ELLA A N D EX C ESS L IA B IL ITY

FLO O D IN SU R A N C E

SECTION V

PR O PER TY A N D C A SU A LTY STA TE LA W

FIN A L EX A M

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C O N T R A C T L A W ,

PR O D U C E R S

A N D T Y PE S

O F IN S U R E R S

INTRODUCTION — An insurance policy is a legal contract between two parties. These partiesgenerally include the insurer and the policyowner. The policyowner is also the insured in propertyand liability insurance. A property and liability policy is a personal contract owned by thepolicyowner/insured party. Each party to the contract promises to perform in a specified manner.

CONTRACT LAW, PRODUCERSAND TYPES OF INSURERS

CONTRACT LAW

According to the law of contracts, elements that must be present in order for any contract to be legal and enforceablein a court of law include: (1) agreement, (2) consideration, (3) competent parties, and (4) legal purpose.

AGREEMENT — A valid offer and unconditional acceptance must be present in order for the contract to beenforceable. The offer and acceptance are sometimes referred to as the agreement. An offer is a proposal by oneparty that, if accepted by another, will create an agreement. In an insurance contract the "offer" is generally madeby the applicant for insurance. The insurer either accepts or declines (rejects) the offer based on its underwritingcriteria. If the insurer accepts the offer, both parties have arrived at a meeting of the minds which, in effect, is theagreement. Therefore, the acceptance can be demonstrated by the insurer issuing or the producer delivering thepolicy. There must be a genuine assent between the parties which means that neither party must be under duress norany undue influence. If an applicant submits an application without an initial premium, he or she is making aninvitation. The offer is not complete unless the premium is included. If the insurer makes a counteroffer, the originaloffer made by the applicant has been rejected by the insurer. The original offer is off the table so to speak. Nocontract will exist unless the applicant accepts the insurer’s counteroffer.

CONSIDERATION — In order for the agreement to be binding, both parties must provide each other withsomething of value. Therefore, there must be an exchange of values between the parties to make the agreementbinding. The applicant's/insured's consideration is the premium paid and the representations (i.e., statements) he orshe makes on the application. The insurer's consideration is the promise to pay legitimate claims for coverageprovided during the policy period. Sometimes a consideration is referred to as a bargained-for exchange. Theconsideration is the binding force of the policy.

LEGAL CAPACITY — The parties (i.e., applicant and insurer) arriving at an agreement must possess the legalcapacity to enter into that contract. A competent person possesses such capacity. Most people (and insurers) areconsidered competent to enter into a contract with some exceptions including but not limited to:

1. Anyone considered a minor under the age of majority. However, minors who enter into agreementsfor food, clothing, shelter and other necessities do possess legal capacity.

2. Legally insane persons.3. Individuals under the influence of any type of drug or alcoholic beverage at the time of application.4. Persons coerced or forced to enter into a contract under duress.

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5. Enemy aliens.6. Convicts (based on state law).

LEGAL PURPOSE — A contract must be created with the public interest in mind. Contractual arrangements maynot be contrary to public policy and must be created in the best interest of the public. Therefore, a contract to roba bank is not valid nor is it in the best interest of the public.

DISTINCT CHARACTERISTICS OF AN INSURANCE CONTRACT

Insurance contracts also possess additional features which distinguish them in the "world of contract law" includingbut not limited to:

UNILATERAL — An insurance policy may be described as a unilateral contract since its language is developedby one party — the insurer. Therefore, it is sometimes considered to be a one-sided contract. An offer for aunilateral contract generally requires the performance of an act in order for the contract to be binding. For example,John completes a property insurance application and submits it to ABC Mutual. The insurer informs John that it hasaccepted the offer by the issuance of the policy. The "promise" by the insurer to provide coverage and pay validclaims has been exchanged for an act already performed (i.e., the paying of the initial premium). Therefore, aunilateral contract is also referred to as an “act in exchange for a promise” or a “promise in exchange for an actalready performed.” This also means that it is a contract where only one party must perform (i.e., the insurer makesthe promise).

ADHESION — An insurance policy is a contract of adhesion. This means that it is drafted by the insurer andaccepted by an applicant. In other words, the insurer "draws up" all the contract language and the applicant (if heor she desires coverage) must act according to the language of the agreement. Since the insurer drafts the languageof the contract, any language that is confusing, unclear or ambiguous that later becomes apparent may be decidedby a court in favor of the person who did not draft the language (i.e., the insured). A contract of adhesion is drawnup by the insurer and the applicant has the option of purchasing it or not purchasing it. The fact that an insurancecontract is unilateral and a contract of adhesion makes it "one-sided.” The possibilities of ambiguities arising in acontract of adhesion involve legal interpretations affecting contracts. For example, a common legal interpretation ofthis situation entails the doctrine of reasonable expectations. According to this doctrine, a court of law will generallystate that an insurance contract may be interpreted by a "reasonable" consumer to mean what the producer or insurerhas indicated it means or what he or she has interpreted or expected it to mean.

ALEATORY — An insurance contract is an aleatory contract since one party may recover more in value than heor she has parted with based upon a possible future event (e.g., death). The potential value (e.g., claim payment)received by the insured is generally greater than the value (e.g., premiums) received by the insurer. An insurancepolicy is considered to be aleatory in nature since the insurer promises to pay funds if a covered loss results. Performance is based upon an uncertain future event involving unequal bargaining value. In other words, an aleatorycontract is one characterized by an unequal payment or consideration. This aleatory feature of an insurance contractinvolves a policy owner obtaining a lot of coverage in return for a small fee (e.g., premium).

CONDITIONAL — An insurance policy may also be described as a conditional contract since its function isconditional upon the performance of the parties arriving at an agreement. The insurer’s promise or performance (i.e.,paying claims) is conditional upon the payment of premiums to keep coverage in force.

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The insurance contract is also “conditional” since it requires that both the insured and insurer satisfy specificconditions in order for the contract to be executed.

PERSONAL — A property and casualty contract is between an insurer and a named insured (i.e., a person). Eventhough it provides protection for a home or a car, the agreement is with the company and a person.

UTMOST GOOD FAITH — Insurance contracts are agreements between a policyowner and an insurer. Theseparties must enter into the agreement in good faith. In other words, each party must tell the truth. The insurer andthe insured rely on the statements of one another. In other words, the insurer relies on the statements made by theinsured and the insured relies on the promise made by the insurer. If the insured intentionally conceals informationthat would influence whether or not coverage is provided, the insurer may possess grounds for voiding the contractsince the insured has not acted in good faith.

OTHER CONTRACTUAL CONCEPTS AND PRINCIPLES

An insurance contract may also be described as a contract of utmost good faith. Trust by both parties is importantwhen finalizing the agreement. The applicant for insurance must provide to the insurer, full and fair disclosure ofthe exposure being insured. In other words, the risk or exposure that the insurance company is assuming must be theexact risk or exposure that the insured is transferring. Therefore, the insured should make truthful statements on theapplication and refrain from concealing any important information from the insurer. Some additional principlesregarding the utmost good faith of an applicant/insured for insurance coverage include but are not limited to:

REPRESENTATIONS — These are statements made by an applicant for insurance that are recorded on theapplication. They are generally answers to specific questions on the application regarding the insured and theexposure (i.e., home, auto, etc.) to be insured. A representation is a statement made by the applicant that is true. Allstatements recorded on an insurance application are (hopefully) true. Therefore, statements made by the applicantwhich are recorded on the application are representations, if true.

MISREPRESENTATIONS — This is an incorrect statement made by an applicant. If an applicant incorrectlystates his residence address on an application, this would be considered a misrepresentation — simply, a false fact. Misrepresentations generally do not affect coverage unless they are fraudulent in nature.

A material misrepresentation involves an untrue statement that, had it been known by the insurer at the time ofapplication, would have caused the insurer to reject the application. For instance, an applicant for property insuranceis asked on the application if he has suffered any property losses or filed any claims during the past five years. Heanswers no when, in fact, he has filed and been paid for three claims in the past two years. This involves a materialmisrepresentation. If the policy is issued and the insurer later learned of the material misrepresentation (i.e., the lie),the policy can be void. This means that in the insurer's eyes there was never an agreement in existence. Insurers usethis principle in varying degrees depending on their underwriting guidelines.

WARRANTY — A warranty is a statement made by the applicant / insured that is totally and unequivocally true. Such a representation is made part of the contract and then becomes a warranty — a promise made by the insuredupon which coverage is based. As stated in the Black’s Law Dictionary, a warranty is a "statement that isguaranteed to be absolutely true.” The statements made by an applicant / insured which are recorded on theapplication are representations and not warranties.

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For example, due to several robberies at a small branch office of a bank, an insurer informs the bank that it will notprovide crime coverage unless the bank installs a new alarm system and hires a guard who will always be on dutyduring banking hours. In order to receive coverage, the bank warranties (i.e., guarantees in writing) that it willcomply. The bank now has made a promise that they claim is absolutely true. This warranty is physically made partof the policy. If the bank is robbed when the guard left the premises to buy lunch, the insurer could deny coveragebecause the warranty was breached.

CONCEALMENT AND FRAUD — An applicant for insurance is also obligated to voluntarily disclose any othermaterial fact concerning the exposure to be insured, even if the insurer and its agent do not ask questions regardingit. The failure to disclose material facts is considered to be concealment. In other words, an insured may notwithhold any material facts that he should realize the insurer would want to know. Fraud is committed when anindividual intentionally or deliberately deceives another. Concealment is fraudulent in nature and is grounds forvoiding the policy.

For example, assume that an insured possesses a combustible piece of machinery, a woodburning stove or utilizesguard dogs on his commercial property at night. In all of these situations the risk or exposure is increased. The policyrequires that the insurer be notified of any other exposures connected with the risk to be insured. The insured failsto inform the agent of this increased exposure and conceals this information from the insurer because he knows thatthe premium will increase. Even though no specific question was asked on the application concerning theseexposures, the insured has concealed them from the insurer. Later, a fire loss occurs and in its investigation theinsurer discovers the concealment. It may deny the claim and void the policy. The insured should have known (andprobably did) that this information involved material facts which could affect not only the risk but the premium aswell.

WAIVER —The concept of waiver is related to doctrines of concealment and misrepresentation. Insurancecompanies possess the right to deny coverage or a claim in certain instances. The concept of waiver helps an insuredprevent such a denial if the insurer has made a waiver. For example, assume that John applies for an auto policy andstates in the application that no other person will be driving the car, when in fact John's live-in girlfriend uses it todrive to work every day. To compound matters, John's girlfriend does not possess a valid driver's license since shehas been convicted twice for driving under the influence. If the agent taking the application knows the entire storyand still submits the application to the insurer, the knowledge possessed by the agent is presumed to be knowledgepossessed by the insurer. Therefore, the agent has performed a waiver. He or she has knowingly and voluntarilywaived the insurer's right to deny coverage for this concealment on the part of the applicant. This also means thatthe agent will probably be looking for a new job! The principle of waiver, as related in Black’s Law Dictionary, is the " intentional abandonment or voluntary relinquishment of a known right as found in the policy" or thevoluntary relinquishment of a known right. Another example of a waiver would be when an insurer mistakenly issuesa policy based upon an incomplete application. It has given up the right to deny a legitimate claim if it makes sucha mistake. A waiver can also occur if an insurer fails to enforce a provision in the policy. If an insurer neglects tocancel a policy after an insured fails to pay the required premium, it has engaged in a “waiver by silence.”

ESTOPPEL — The principle of estoppel may also be involved when an insurer attempts to deny a claim payment.It generally involves a false statement made by one party which is relied on by another party. Later the party makingthe statement prefers not to abide by it. In other words, the first party breaks his or her promise. For instance,assume that Mr. Williams applies for commercial property insurance with Midland Mutual. The policy is issued witha special cause of loss form and during delivery Mr. Williams informs the producer that he has just installed a smallsteam boiler in the basement of his two-story building. The producer states that this is covered and completesdelivery. Eight months later a steam boiler explosion occurs causing damage to the property and Mr. Williams filesa claim. The insurer denies the claim since damage caused by a steam boiler is excluded under the special cause ofloss form. Three characteristics of estoppel are present in this case: (1) there was a false statement made by the

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producer who said the steam boiler was covered; (2) Mr. Williams reasonably relied on the producer's statementthat there was coverage for the steam boiler; and (3) financial hardship or damage will occur to Mr. Williams if theclaim is denied. Since these three requisites are present, the insurer would be "stopped" or "estopped" from denyingthe claim.

SECTIONS OF AN INSURANCE CONTRACT

The structure of a property and casualty insurance policy consists of four basic sections of coverage including thedeclarations, insuring agreement, conditions and exclusions. An acronym one can utilize to remember these sectionsis the word DICE.

DECLARATIONS — The declarations page “personalizes” the policy and provides an assortment of informationregarding the property or exposures being insured. Much of the information and facts appearing in the declarationssection are derived from the insurance application and include but are not limited to:

1. Name and address of the named insured2. A description of the type of property to be insured3. The location of the property4. The coverage limit provided (also known as the coverage amount or limit of liability)5. The amount of the annual premium6. A deductible, if any7. The policy period (i.e., the inception and expiration date)8. The name of a mortgagee, if any9. A policy number10. A company officer name, signature or stamp

INSURING PROVISION — Also referred to as the insuring agreement or clause, this section provides a summaryof the agreement (i.e., coverage) between the named insured and insurer. In other words, it describes the nature ofthe agreement between the insurer and the insured. More specifically, it identifies the parties to the contract andin property and liability insurance sometimes lists the perils covered by the policy. In addition, the insuring provisionor insuring agreement states that the “insurer will pay all sums it is legally obligated to pay to an insured” (i.e.,property insurance) or “all sums it is legally obligated to pay to a third party on behalf of an insured” (i.e., liabilityinsurance). This is the part of the policy that identifies the promise (to pay) of the insurer.

CONDITIONS — This section of an insurance contract identifies the responsibilities of each of the parties to thecontract. If a named insured fails or refuses to comply with policy conditions, an insurer may deny a claim or refuseto renew coverage. Many policy conditions are placed upon the named insured. For example, whenever a risk isaltered or increased (i.e., installing a woodburning stove after the policy became effective), the insured is requiredto notify the insurer; or when a loss occurs, it is the responsibility of the insured to notify the insurer, protect theproperty from further damage, separate the damaged from the undamaged property, provide an inventory list of thedamaged property and submit a written proof of loss (i.e., claim form) to the insurer within a period of timestipulated in the policy. The primary condition placed upon the insurer is its promise to pay. Other conditionsrequired of the insurer include but are not limited to: providing written notice of cancellation or nonrenewal to aninsured; or returning unearned premiums to an insured. Examples of policy conditions will be reviewed later in thistext when specific insurance contracts are reviewed.

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EXCLUSIONS — This section of a property insurance policy identifies the types of property and the causes of loss(i.e., perils) that are not covered. Liability insurance policies also include exclusions as well which involve situationswhere an insured may be liable for the bodily injury or property damage of another but the policy will not pay anysums on the insured’s behalf nor provide any legal expenses (i.e., intentional injury to another). Generally,exclusions allow or permit an insurer to protect itself from financial disaster since it does not provide coverage forcatastrophic or uninsurable type losses (i.e., damage caused by war, flood or nuclear hazard). Exclusions alsoprevent an insured from possessing duplicate coverage and permit the insurer to lower the cost of insurance. Inaddition, possible property losses that are a certainty are generally not insurable such as wear and tear, depreciation,corrosion, inherent vice or erosion.

UNDERWRITING CONCEPTS

UNDERWRITING INFORMATION AND PRODUCER AUTHORITY — An insurer will accumulate anddisseminate information during the application and underwriting phases from several areas. Once the insurer hasreceived information from all pertinent areas, it will determine whether to accept the applicant's offer and issue apolicy OR decline coverage (i.e., reject the application).

Information Available to Underwriting — One of the primary functions of an underwriter is to obtain as muchpertinent information as possible in order to decide whether to accept or decline (reject) an application for insurance. The underwriting department is responsible for assessing and selecting risks according to the insurer’s average riskprofile. This department will also help to classify the risk and determine the applicable premium rate. There aremany variables or components involved in determining premium rates. Among these are loss history (i.e., lossexperience), the occupancy or operation involved, construction type of the structure (i.e., brick, masonry or frame)and the overall exposure. For example, an insured may still receive a premium credit if a dividing or fire wall in thebuilding is of masonry construction even if the remaining portions of the structure are of frame construction.Underwriting also helps determine loss costs and loss ratios which assist in future analysis. An additional conceptinvolved in the underwriting process is adverse selection. This is the tendency of poorer risks to seek insurance. It may also occur when an applicant for insurance has a greater bias to an exposure than a random sampling of thepopulation. It is the responsibility of this department to protect the insurer against adverse selection. Therefore,an underwriter who engages in sound underwriting will reduce or control this tendency.

Profitability — Insurers monitor their income and expenses to determine underwriting success on profitability. Thissuccess may be determined by the use various ratios including a loss ratio, expense ratio and combined ratio. A lossratio is the ratio of losses incurred to premiums earned. The expense ratio is the ratio of expenses incurred by theinsurer in producing the business to premiums earned. A combined ratio is the combination or sum of the loss andexpense ratios. In the event that the combined ratio exceeds 100, the insurer is paying out more in expenses thanpremium earned. This means that the insurer has experienced an underwriting loss.

Types of Construction — There are several types of dwelling or building construction that underwriters reviewand weigh when deciding whether or not to provide property insurance coverage. This information also influencesthe premium to be charged as well. These types of construction include:

1. Frame — This is a type of building or dwelling whose exterior walls are made of wood or a similarlycombustible material and therefore the rate is the highest of all these classifications. Even if a portion ofthe structure includes a mixed construction, such as a brick veneer, as long as the majority of the exterior iswood, it will be rated as a frame construction. The “frame” classification is the least fire-resistive of all thetypes of construction.

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2. Masonry —This type means that the structure is constructed with exterior walls that are fire-resistive suchas brick. Masonry structures are usually classified as non-combustible if the structure, including floors andthe roof, are made of slow-burning materials. The rate assessed for this type is higher than fire-resistive andlower than frame.

3. Fire-Resistive — From a rating standpoint, this type of construction is the best (e.g., lowest rate) andsatisfies the requirement for a specified thickness of exterior walls. It generally includes fire walls withinthe structure. Fire walls are generally made of non-combustible material that usually confines or preventsdamage for at least two hours. In other words, construction is considered fire resistive, and premium creditsmay be provided, if the materials resist fire for at least two hours.

Other types include joisted masonry where only a roof, flooring and some interior framing are combustible;non-combustible where the structure is supported by metal or another type of non-combustible material; andmodified fire-resistive which means that most of the structure is made up of masonry materials which woulddelay or prevent damage for up to one hour.

SOURCES OF INFORMATION

There are several sources of information that an underwriter utilizes to reach his or her decision whether to accepta risk and issue a policy or decline an application including:

APPLICATION — The insurance application is the primary source of information available to the underwriter. Anunderwriter cannot even begin to assess a risk unless the application is reviewed.

PRODUCER INFORMATION — The producing agent or broker provides information to an underwriterregarding her opinions or recommendations regarding the applicant and the proposed exposure. The agent or producerwho learns of any adverse underwriting information should always inform and advise the insurer of the adverseinformation.

INSPECTIONS — Before coverage is provided, the underwriter wants to make sure that the property to be coveredactually exists. Therefore, physical inspection of the premises or property is usually required by the underwriter. An inspection may be conducted by the producing agent, broker or a company representative. Inspections help todetermine a building’s construction type which is extremely important with regard to rating and underwriting.Therefore, underwriters are able to analyze inspection reports and determine property values.

CONSUMER REPORT — An underwriter may wish to investigate the applicant in a more detailed fashion. Therefore, an inspection report concerning the applicant (i.e., a consumer) may be ordered. This consumer report(i.e., oral or written) may include a credit report of the applicant or be of an investigative nature where an insurerrepresentative interviews current or previous employers or neighbors regarding the applicant and the exposure.

The Fair Credit Reporting Act of 1970 is a federal law that permits an insurer to conduct consumer or otherinvestigative reports on applicants for insurance. Once the information in such a report is accumulated, this Act alsoallows the applicant to receive a copy of the information in the provider's report, especially if coverage has beendenied as a result of the information derived from the report. The provider is the person or organization whichcompiled the consumer report information for the insurer. If any of the information is incorrect, the applicant hasa right to request a copy of the report, a personal interview or to see that in some manner it is revised and corrected.This law does not allow the insured to require that the insurer send him or her a copy of the report. It allows them

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to request a copy of the report. If an insurer requests information from a consumer reporting agency, it must notifythe insurance applicant of such a request as soon as possible (generally within three days).

INFORMATION BUREAUS — Insurers may also secure information regarding an applicant from independentbureaus or organizations which compile specific information relating to the exposure to be insured. For example,auto insurers may receive information from a registry of motor vehicles department to acquire information regardingan applicant's driving record.

RATING METHODS AND PREMIUMS

Insurers utilize various types of rating methods when determining premiums. Manual rates are those printed in arating manual and are based upon loss statistics of a large number of insureds. This provides a uniform approach topricing similar risks by different underwriters. Judgment rating involves developing rates based on an underwriters“judgment” and previous underwriting experience. This type of rating is used for “one of a kind” exposures.Therefore, the premiums are based upon an underwriters experienced judgment and not on rates derived from a“manual”.

Manual rating utilizes rates printed in a rating manual and are based upon loss statistics of a large number ofinsureds. This type of rating provides a uniform approach to pricing similar insureds by different underwriters inmany different situations. Manual rating is sometimes referred to as class rating. Rating bureaus are insurersupported organizations that collect premium and loss statistics from a large number of insurers and then develop aset of manual rates based on these statistics.

Merit rating modifies manual rates to reflect additional characteristics like loss experience (i.e., good driver creditsor bad driver surcharges). Premiums paid for coverage may be classified as earned or unearned. Earned premiumsrepresent that portion of premium that has been used during the policy period since the insurer provided coverage.Unearned premium represents the portion of the premium that has not been used (and is returned to the insured ifcoverage is canceled).

PRODUCER AUTHORITY

CONCEPT (LAW) OF AGENCY — This is the legal relationship between two parties when one of the partiesacts on behalf of another. This concept does not just apply to the insurance field. However, it may be applied to theinsurance business to illustrate the relationship between an insurer and a producer. For example, a legal relationshipexists when a producer (i.e., an agent) represents an insurer. The insurer is referred to as the principal. Theprincipal is the entity that the agent / producer represents with regard to agreements with third parties. The producermay be referred to as the agent or authorized representative of the principal. When the producer / agent acts withinthe scope of his or her authority, the insurer or principal is bound or responsible for such action. With regard to theinsurance field, there are several types of agent authority in existence:

Actual or Express Authority — This is the type of authority an agent possesses which is defined or containedin the agent contract or agreement. When this contract is in force, the insurer is responsible for the acts of its agents / producers. This agreement specifies the actual powers and functions of the agent. This type of authority may bein written or oral form. Producers or agents are allowed to solicit appointments, select or reject risks in the field,complete applications, collect premiums, submit applications and premiums to the insurer and other various duties. Express authority is extended to a producer and identified in an agency contract or agreement.

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Implied Authority — This type of unwritten authority is not specifically identified or stated in the agencyagreement. However, it is an extension of an agent's regular duties (i.e., authority exercised by the producer). Anybusiness activities that are usual and customary are implied. For instance, it is implied that an agent (i.e., producer)who solicits insurance is permitted to sign the application, or it is implied that the producer may ask an applicantquestions concerning the health history of the proposed insured.

Apparent Authority — This is the type of authority the insurance buying public perceives the agent possessesbased on his or her actions. In other words, this authority is not given to the producer but the public believes that theagent possesses this authority.

RESPONSIBILITIES TO AN APPLICANT / INSURED — All producers are required to act in a fiduciarycapacity when collecting premiums or dealing with the public. This means that all producers possess a fiduciaryresponsibility when engaging in insurance transactions. The producer possesses the duty to act honestly withapplicants for insurance coverage and to represent his or her insurer faithfully. For instance, a producer must accountfor all funds collected from a consumer. In addition, if a premium is paid to a producer and he or she does not turnit over to the insurer, the insurer is still bound with regard to coverage provided. In other words, payment to theproducer is payment to the insurer. Therefore, the producer possesses financial and professional responsibilities. Producers must also strive to increase their knowledge with regard to financial services topics. This is why mostStates now have in place continuing education laws to ensure that the producer continually increases his or herknowledge for the benefit of the consumer. A producer who has made an unintentional error or honest mistake hascommitted a tort known as an error and omission. This is why an insurer purchases Errors and Omissions (E+O)insurance to cover all producers. Independent producers or agents purchase their own E+O coverage.

Producers must represent the insurer and their clients in a fiduciary capacity. For example, any premiums collectedby an agent must be submitted to the insurer. They cannot be used for personal use or commingled with a personalaccount. Agents are also required to follow and adhere to the insurer's underwriting rules and guidelines. Unlesspremium notices are billed directly to an insured by an insurer or agency, the agent generally collects insurancepremiums.

TYPES OF INSURERS

Insurance companies or organizations may be classified in several ways including but not limited to:

ACCORDING TO OWNERSHIP — Insurers may be defined according to their form of ownership includingstock and mutual insurers. A stock insurer is owned by the holders of its capital stock (i.e., its stockholders). Anyprofits earned by a stock company are divided among stockholders. Profits are not distributed to policyholders. Amutual insurer is an insurance company without capital stock that is owned by its policyholders. Mutual insurersissue participating policies. If profits are realized, policyholders may be able to participate in them by receivingdividends. Stock and mutual companies are the two primary insurer classifications in the private insurance sector.

ACCORDING TO DOMICILE — Insurers may be classified according to where they are chartered. A domesticinsurer is one that is incorporated or chartered in a particular state and its principal or home office is located in thatState. For example, the Aetna Casualty Company of Hartford, Connecticut was chartered and formed under the lawsof Connecticut. Its principal office is located in Hartford. Therefore, the Aetna operates or is authorized in the Stateof Connecticut as a domestic insurer. A foreign insurer is one that is authorized to operate in a particular state butit is chartered or domiciled in another state. The Aetna is also chartered in the States of Rhode Island, Massachusettsand Maine, among others. Therefore, it operates in these States as a foreign company. An alien insurer is one which

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has its principal office and charter in another country but is authorized to operate in a particular state. For instance,Transcontinental Assurance Company of London, England is an alien insurer in the States within the U.S. in whichit is authorized.

ACCORDING TO AUTHORIZATION — Insurers may be classified as authorized or unauthorized. Anauthorized insurer is one that is permitted or allowed to operate in this state. It is also known as an admitted insurer. As long as an insurer satisfies state requirements and demonstrates solvency, it generally will be issued a certificateof authority which "authorizes" it to conduct insurance business. An insurer that is not authorized to conductinsurance business in a particular state is considered to be unauthorized. An unauthorized insurer is not issued acertificate of authority. It is also referred to as a nonadmitted insurer.

OTHER INSURER CLASSIFICATIONS — Additional types of insurers operate in the solicitation of insuranceincluding but not limited to:

1. FRATERNAL ASSOCIATIONS — These are specialized types of mutual insurers. Fraternal associationsare benevolent societies and are generally nonprofit organizations which operate on a "lodge" system witha representative form of government. Fraternals make insurance products available for the benefit of theirmembers. These organizations are present primarily in the life insurance business and rarely operate in theproperty and casualty field.

2. SELF-INSURERS — Self-insurance is a concept that involves an individual or firm which utilizes its assetsas a method to pay for losses rather than purchasing an insurance product. Therefore, a self-insurer does nottransfer the possibility of loss to an insurer. In order to be able to do this, the self-insuring organization mustbe financially sound so that it can pay for anticipated losses. Ideally, a firm should maintain a reserve fundto pay for possible losses and in some cases, self-insureds are required to do so by statute. Workers'Compensation is one form of coverage where a business, if it is financially stable, may be permitted to self-insure (once it has been in operation for five years).

Self insurance groups are not for profit unincorporated associations generally consisting of five or moreprivate or public employers who are engaged in the same trade or professional association which has not beenin existence for less than five years, and who enter into agreements to pool their liabilities for WorkersCompensation and other specified forms of liability insurance.

3. RISK RETENTION GROUPS — This is a group-owned liability insurer which assumes and spreadsproducts liability and other forms of commercial liability risks among its members. This type of group isformed for the primary purpose of retaining or pooling risks. Risk retention groups are licensed in theirState of domicile and are owned by their policyholders who are business owners (who are also theshareholders). Once these groups are organized, they can offer membership to others who possess similarrisks. A risk retention group or risk purchasing group only has to be licensed in one State but may insuremembers in any State.

The Risk Retention Act of 1986 states that a risk retention group must form as a liability insurer under thelaws of at least one State. The owners of the group must also be its insureds. In other words, the grouppolicyholders must be the business owners. Membership in the group is limited to business owners engagedin similar businesses or activities with respect to the liability to which they are exposed. Such groupsevolved out of the products liability crisis that existed in the 1970s. Legal suits as a result of productsliability increased dramatically in this decade, so much so that many businesses were unable or could notafford products and other forms of liability insurance. Such groups provide general and other liability

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coverage to businesses that are denied coverage or cannot secure insurance protection for the more hazardousaspects of their business.

4. SURPLUS LINES — Also referred to as excess or nonadmitted insurance, these are lines of insurance thatare available to individuals who need protection that is not available from insurers licensed in a particularState. The terminology “surplus lines” is used to identify this nontraditional insurance market. The term“surplus lines” are also used to categorize loss exposures that do not meet the underwriting requirements ofthe standard insurance market. An insurer generally feels that it will be unable to adequately determine thepotential severity of the exposure so, therefore, it wants no part of it. This protection is available and mustbe purchased through a surplus lines broker. Therefore, surplus lines insurance is placed with an insurer thatis neither licensed nor authorized in a particular State. SL brokers use an export list which identifies certainkinds of coverages and classes of business operations that have been deemed to be insurable through surpluslines and that are usually rejected by the voluntary or admitted market.

Generally, surplus lines insurance involves substandard exposures, unusual perils (i.e., “hole in one”insurance, nonappearance insurance, auto racing or some types of pollution coverage) and very broadcoverages. In order to qualify for surplus lines coverage, an effort has to be made to secure coverage in thestandard market. SL Brokers generally sign an affidavit along with the party seeking insurance verifying thatattempts were made to secure coverage in the voluntary market. An individual cannot secure coverage inthis nonstandard market simply because it may be less expensive. Surplus lines brokers must maintainadequate documentation of all transactions and a list of the standard insurers who have rejected coverage. SL brokers are also responsible for collecting a premium tax from the insured on this business and must passit along to the appropriate State regulatory authorities.

PRIVATE VERSUS GOVERNMENT INSURERS — Private insurers provide commercial insurance forexposures that can be measured or anticipated. Private insurers may be classified according to the types of insurancethey solicit, their form of ownership, or the marketing system they utilize. Government insurance is operated bya state or federal entity in order to provide coverage for high risk exposures that the private insurance sector is notwilling nor able to assume. For instance, losses caused by nuclear hazards or flood are exposure that may be coveredthrough government insurance. Other forms of government insurance (i.e., social insurance) exist to serve the needsof the public. Insurance such as unemployment, disability, Social Security, Medicaid and Medicare are illustrationsof this form of government insurance. Other nontraditional, involuntary or residual markets available on the Statelevel include but are not limited to assigned risk auto plans, assigned risk Workers’ Compensation plans and FairPlans. These plans make available various types of insurance that may be impossible or difficult to secure from thestandard insurance market (i.e., from private or commercial carriers).

Terrorism Risk Insurance Act of 2002 (Public Law 109 - 144) — This Act serves as a financial backstopenabling commercial insurers to provide affordable terrorism coverage to policy holders. The Act renders allexisting policy terrorism exclusions null and void, and requires all property and casualty insurers to offer policyholders terrorism insurance. The Act does not provide coverage pricing guidelines. Broadened by the ExtensionAct of 2005, this Act establishes a program under which the Federal Government shares the risk of loss from futureforeign terrorist attacks. By providing a temporary federal backstop, the government seeks to encourage insurers tooffer affordable coverage for the unprecedented financial risks posed by foreign acts of terrorism. It also providesthat no federal payment will be made to any insurer unless the insurer provides clear and conspicuous disclosure tothe policyholder of the premium charged for insured losses. This means that an insurer shall disclose the premiumthat will be charged for the certified terrorism coverage only, and that the policy holder may choose not to pay thepremium attributed to the certified terrorism coverage. The purchase of terrorism coverage is not mandatory. Ifan insurer cancels or attempts to cancel a policy since the policy holder has not paid the terrorism premium, it will

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be considered to be engaging in an unfair and deceptive practice. The Act helps to protect the financial capacityof commercial insurers. It does not apply to personal insurance.

There are two essentially distinct types of losses that a business might face that result from terrorism. One type ofloss is the insured loss that is defined within and covered by the provisions of the Act. A certified loss is oneresulting from certified acts of terrorism. The second type of loss that a business might face is one that does not fitwithin the definition of insured loss (i.e., non-certified loss) as described in the Act. Certified losses will alwaysinvolve a foreign person or foreign interest whereas non-certified losses may not. For policies providing propertycoverage the following limitations apply to non-certified losses: (1) exclusions for acts of terrorism only apply ifthe acts of terrorism result in industry-wide insured losses that exceed $25,000,000 for related incidents that occurwithin a 72 hour period; (2) exclusions for acts of terrorism are not subject to the limitations previously mentionedif: the act involves the use or release of nuclear materials, the act is carried out by means of or dispersal of pathogenicor biological materials, or pathogenic or biological materials are released and it appears that the purpose of theterrorism was to release such materials.

An “act of terrorism” is defined as any act that is certified by the Federal Government and must have the followingcharacteristics: (1) it must be a violent act or an act that is dangerous to human life, property or infrastructure;(2) it must have resulted in damage within the U.S., or to an air carrier as defined in the U.S. code; (3) it must havebeen committed by someone acting on behalf of a foreign person or interest, as part of an effort to coerce the civilianpopulation of the U.S. or to influence the policy or affect the conduct of the government by coercion; or (4) it mustproduce property and casualty losses of $ 5 million or more, or result in a loss of fifty or more lives (or seriousphysical injury, disfigurement of loss or impairment of a bodily function). An act will not be certified as terrorismif it is committed as part of the course of a war declared by Congress.

Although terrorism exclusions applicable to certified terrorism losses under the program were voided as ofNovember 2002, they can be reinstated if the insured decides not to purchase the federally backed coverage. Eitherof two conditions must be satisfied before an existing terrorism exclusion can be reinstated on an insured’s policy:(1) a written statement from the insured affirmatively authorizing the reinstatement; or (2) failure of the insured topay the terrorism premium within 30 days after the insurer provides notice as required by the Act. A coveredterrorism claim is paid by the insurer even though it may receive federal funds because of this type of loss.

Federal Regulations Pertinent To Fraud and False Financial Statements — Federal Regulation 18 USC1033 and 1034 stipulates that anyone who is engaged in the business of insurance whose activities affect interstatecommerce and knowingly, with the intent to deceive, makes any false material statement or report, may be subjectto a monetary penalty and imprisonment. Interstate commerce means any business conducted within the District ofColumbia, any State within the U.S. or any of its territories or possessions. Any violation of this federal law willsubject an individual to a monetary fine of up to $50,000, or imprisonment for up to ten (10) years, or both. Inaddition, if the material misrepresentation jeopardized the safety and soundness of an insurer and was a significantcause of the insurer being placed in conservation, rehabilitation or liquidation, the agent making the falsestatements may be subject to imprisonment of not more than fifteen (15) years. In other words, if the insurer’ssolvency is threatened due to the material misrepresentations of a licensee, a prison sentence of up to 15 years maybe assessed the guilty individual.

The term “interstate commerce” means: (1) commerce within the District of Columbia, or any territory or possessionof the United States; (2) all commerce between any point in the State, territory, possession, or the District ofColumbia and any point outside thereof; (3) all commerce between points within the same State through any placeoutside such State; or (4) all other commerce over which the United States has jurisdiction. The term “State”includes any U. S. State, the District of Columbia, the Commonwealth of Puerto Rico, the Northern Mariana Islands,the Virgin Islands, American Samoa, and the Trust Territory of the Pacific Islands.

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In addition, USC 18 1033 also describes the Violent Crime Control Act. It provides criminal and civil enforcementprovisions for insurance fraud committed by persons in the insurance industry. The main aspect of this Act involvesthe fact that it is illegal for an individual convicted of a crime involving dishonesty, breach of trust or fiduciaryresponsibilities or a violation of the Act to work or continue to work in the insurance business without receivingwritten consent from an insurance regulatory official (i.e., Commissioner or Superintendent of Insurance). ThisAct contains no “grandfather provision” for persons already employed by, licensed in or transacting the business ofinsurance. Persons who fail to comply with this Act face federal fines and imprisonment. MARKETING (DISTRIBUTION) SYSTEMS AND TYPES OF AGENTS — Property and casualtyinsurance companies may be classified into two basic groups based on their distribution system including: (1)insurers operating through the American Agency System and (2) direct writing insurers. Independent agents writebusiness through the American Agency System. These producers place business with several insurers. Anindependent agent sometimes referred to as a broker, owns the renewals. This individual represents herself and herclient but possesses a dual responsibility since she also has an obligation to the insurer to whom she places business. The advantage that the independent agent possesses is the ability to place his book of business with another insurerif he so desires. This again indicates that the independent agent owns the "expirations" or renewals. Direct writinginsurers operate through sales representatives known as controlled or captive agents. The captive agent representsthe insurer and may only place or write insurance business with one (sponsoring) insurer. The business sold by thecaptive agent belongs to the insurer. The agent is paid a salary, commission or a combination of the two in returnfor the solicitation of this business. In other words, the captive agent does not own the renewals or expirations. Someforms of insurance are sold by direct response insurers. These types of insurers do not market their products byutilizing agents or brokers. The products which they distribute are marketed through direct mail or through massmedia such as newspapers, magazines, television and radio.

FINANCIAL STATUS — Independent rating services help the consumer identify insurers who are financiallysound or unstable. Consumers should do business with insurers who are financially stable so that possible claimscan be paid if covered losses occur. The most common rating service operating today is A.M. Best report. Thisreport analyzes five basic factors including (1) the underwriting procedures and results of the insurer; (2) the insurer’seconomy of management; (3) the adequacy of reserves in order to pay claims; (4) the adequacy of policyholder'ssurplus to absorb shocks; and (5) investment soundness of premiums collected. Other rating services functioningtoday include but are not limited to: Standard & Poor’s, Moody's Investors Service, Weiss Review, Fitch Review, A.M. Best and Duff and Phelps. Ratings from A+ (excellent) to C (fair) to NR (no rating, possible problems) areused.

INDUSTRY REGULATION — State Insurance Departments examine or audit insurers on a regular basis. Thetime frames of such examinations will vary by State. Domestic insurers, for instance, are examined every three tofive years to ensure that they are still in good financial condition and possess the ability to pay claims.

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RELEVANT TERMS AND RELATED CONCEPTS

AcceptanceAdhesionAleatoryCompetent PartiesConditionalConditionsConsideration

Contract LawDeclarationsEstoppelExclusionsFair Credit Reporting ActInsuring AgreementLegal Purpose

OfferPersonalRepresentationsUnilateralWaiverWarranties

CHAPTER 1 QUIZ

1. Each of the following must be present in order for an insurance contract to be legal and enforceable, EXCEPT:

A. Offer C. Competent underwriting

B. Acceptance D. Legal purpose

2. An offer and acceptance is also referred to as an:

A. Illustration C. Adhesive contract

B. Agreement D. Aleatory contract

3. An insurance contract is created by an insurer. Any ambiguities that appear in the future will be decided by a court in

favor of the insured since the policy is:

A. A contract of adhesion C. A unilateral contract

B. An aleatory contract D. A personal contract

4. Which of the following parts of an insurance contract identifies the perils covered?

A. Declarations C. Conditions

B. Insuring agreement D. Exclusions

5. An insurance policy is comprised of four basic sections. Which of the following appears in the declarations section of

the policy?

A. The perils covered C. The obligations of the insurer

B. The type of property covered D. The property not covered

6. The name of a mortgagee, amount of the annual premium and the coverage inception date all appear in what section of

a property and casualty insurance policy?



7. Which of the following permits an insurer to reduce the cost of insurance?



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8. The statements made by an applicant in an insurance application are considered to be:

A. Warranties C. Misrepresentations

B. Representations D. Countersignatures

9. A statement made by an applicant for insurance that is guaranteed to be absolutely true and is made part of the contract

is called a:

A. Representation C. Consideration

B. Conditional promise D. Warranty

10. Which of the following is true regarding the Fair Credit Reporting Act?

A. It permits insurers to deny invalid claims

B. It allows applicants to do a credit check on an insurer

C. It allows an applicant to receive a copy of the information contained in a consumer report

D. It permits an insurer to cancel a policy for nonpayment of premium

11. A promise made in exchange for an act already performed best describes:

A. A unilateral contract C. An executory contract

B. A bilateral contract D. An executed contract

12. An insurer which issues a policy after accepting an incomplete application has engaged in a:

A. Parole evidence rule C. Warranty

B. Waiver D. Conditional acceptance

13. Ms. Walters makes an offer to an insurer. The insurer then counters the original offer. This means that the original offer

has been:

A. Rejected C. Unilaterally assumed

B. Accepted D. Negotiated

14. Which of the following parts of an insurance contract contains the nature of the agreement between the insurer and the

policy holder?


B. Insuring provision D. Exclusions

15. Which of the following is a generic section of an insurance contract but includes different information in each individual

policy?



16. Which of the following best describes when an insurer fails to enforce a provision in an insurance policy?

A. Concealment C. Adhesion

B. Waiver D. Fraud

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Essentials of P & C

Chapter 1—15

17. In which of the following situations will terrorism be covered?

A. Property losses of more than $ 5 million results

B. Property losses of more than $ 10 million results

C. Property losses of more than $ 20 million results

D. Property losses of more than $ 50 million results

18. According to the Federal Government definitions, which of the following would be considered terrorism?

A. A violent storm that causes millions of dollars in damage

B. A violent act that covers property damage

C. An act deemed by Congress to be terrorism

D. An accident that results in the disability of a human

19. Federal regulations with regard to interstate commerce govern which of the following ?

A. Canada C. Bahamas

B. Puerto Rico D. Mexico

ANSWERS

1. C2. B3. A4. B5. B6. A7. D

8. B9. D10. C11. A12. B13. A14. B

15. A16. B17. A18. B19. B

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Essentials of P & C

Chapter 1—16

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