Insurance is a contract between two parties namely ‘insurer’ and the ‘insured’ (policyholder) whereby insurer agrees to indemnify or to pay a certain sum of money to the insured on happening of an uncertain event or after the expiry of a certain period. In simple terms, insurance is a contract between two parties i.e. Insurer and the insured which is governed by Principle of utmost good faith, Principle of insurable interest and Principle of indemnity. A contract of insurance is entered into by parties when there is uncertainty about occurrence of an event).
‘Risk cannot be fully avoided’ is a commonly accepted fact. Whatever the activity a person intends to do or does, there exists a factor of ‘risk’. The only way to avoid risk is to withdraw from the activity one intends to do. We ask the following question – then what shall we do? Answer – we can ‘manage or mitigate such risks’. One can either share the risk with others or transfer the risk to another person. Insurance involve transfer of risk or spreading of risk. Insurance is the remedy.
Insurance policy would generate great value in cases, where the insured faces a huge risk or loss which is unbearable for him. Insurance business in India is governed by The Insurance Act and IRDA is the authority which controls the conduct of insurance business. Insurance policies are generally divided into two- life insurance and general insurance. This article throws light on some relevant areas of life insurance contracts which would help readers both in personal life and enable you to guide others.
Importance of Life insurance
The science has developed much but no one can ever predict time of death i.e. time of death is uncertain. So, a prudent person may prefer life insurance policy to cover such a risk. Life insurance policy refers to that policy under which the insurer agrees to pay the insured a certain sum of money if the insured dies or any other specified contingency happens.
Non- economic losses will not be covered by ‘insurance’
Individuals have to encounter many uncertainties throughout their life. ‘Risk’ under an insurance policy means possibility of economic loss or damage. Mr. A can eat hygienic and nourishing food to stay healthy. But, that alone will not prevent him from getting affected by a contagious ailment. Insurance contracts perceive an individual as an ‘asset’ who is unique in his/her skills and qualities. For e.g. A company secretary or any other professional will be paid well and offered perks according to his professional skills and experience. In that sense, death of an individual would be a loss (in economic and non-economic terms) for those who depend upon him.
Life insurance seeks to compensate for some of the economic consequences that may arise on death of an individual. For eg. A married person with 3 children runs a risky-profitable business, he has his own business debts, he has not yet taken a life insurance policy. Can anyone guarantee his life or health? What will be situation of his family if he dies at an early age? So what can he do? He can take a life insurance policy for which he pays a premium and if he dies the sum assured would be a great relief for his family. Taking a life insurance policy, relieves his family members from the economic losses that may arise in the event of his death during the policy period.
Types of Life insurance
Life insurance policy has an element of both protection and investment. A life insurance product may provide for death cover or survival benefit or both. The LI policies which provide death cover only are called ‘term assurance’ plans. It is the cheapest form of insurance. But, it is important to note that it would not provide the benefit of direct savings, as the SA will be paid only if the policy holder dies. An LI policy which provide only for survival benefit is called ‘pure endowment plan’. The amount is paid to the insured on his/her survival over a period of time as per the contract. Plans which combine both term assurance and pure endowment are called ‘endowment assurance plan’. In such a case, the sum assured would be paid on survival of a specified period or death whichever is earlier. Where a plan offers to pay double the amount (payable on death) in case of survival of insured, then it is a ‘double endowment assurance plan’. Another type of endowment policy preferred by some people are ‘ money back endowment policies’ where the insured is paid a certain % of SA every couple of years (for e.g, 5 yrs as per the policy terms) and a certain % of SA on survival till maturity of specified period (e.g. 25 yrs) and full SA on death of the insured during the specified period (eg. 25 yrs). The guardian of a child can take a child life insurance plan in the name of his minor son/daughter, where premiums are low and health of child is not an issue. Risk commences on a date called deferred date, other than date of commencement of policy and the gap is called Deferment period. Life insurance cover on the child would start running from the deferred date and in the event of child attaining age of majority, the policy gets converted (as per terms & conditions) into a contract between the insurer and person (child) who attained age of majority. Some insurance companies offer joint life insurance policies where 2 or more lives are covered. The SA will be paid on death on any of the insured persons or at end of the term with bonus (if opted). Eg. married couples, partners etc. If a person is interested in a plan comprising life insurance protection (of various types) and also investments along with tax benefits, he can opt for ULIPs ie. Unit Linked Insurance Policies. The plans may vary according to companies, rules and by passage of time. While speaking about life insurance policies, there are some important terms which require special mention-
1. Disclosures by parties
The insurer shall be provided with facts regarding health, occupation, height & weight, habits, medical history and all other material facts which is likely to increase the risk involved. Where there is serious failure in disclosing material facts, the contract shall be considered void ab initio and moneys paid there under shall be forfeited. eg. insured conceals information regarding major surgery undergone. While talking about duty to disclose the same shall not be restricted to ‘insured’; duty to disclose could be applied to ‘insurer’ also. The insurer shall disclose the terms & conditions of the policy to the ‘insured’ and include such statements within the advertisements and policy document. The insurer shall consider the right of ‘insured’ to take wise & independent decisions based on material information.
Section 45 of the Insurance Act 1938 which deals with untrue statements made by the insured provides that, a policy which has been in force for 2 yrs , cannot be disputed on the ground of false statements made, unless the same is a material fact and was made with a fraudulent intent. In many such cases, courts investigated deep into the real intention of parties (i.e. whether to conceal facts or to resort to misrepresentation). The Consumer protection Act 1986 would apply to insurance contracts as the same involves products/services and a consumer i.e. the insured.
2. Underwriting (Selection)
Underwriting refers to that process undertaken by a person called ‘undertaker’, to assess the level of risk and adverse factors involved in a proposal. Considering the quantum of risk involved, the underwriter may suggest acceptance of proposal with alterations in policy terms eg. premium, SA, etc. The underwriter may rely upon filled-in proposal form (information like age, sex, health, habits etc), medical report, agent’s report and other reports/docs to reach his judgment. eg. usually, underwriters advise to charge high premium if the insured has a habit of smoking/drinking.
‘Premium’ refers to the price paid by the insured to the insurer in consideration for the promise made by the insurer. Premium in case of insurance policy is calculated by persons called ‘actuaries’. The following points are important in the calculation of life insurance ‘premium’.
- Mortality rate of different age groups are studied for determining ‘premium’.
- Expected interest on premium to be invested by the insurance company.
- Administration expenses always has an influence on the ‘premium’ determination. Where the insured opts for monthly/ quarterly payments there is a chance for increase in administration costs.
- Provision for unexpected contingencies may form part of the premium.
- Rebates may be provided for yearly mode of payment or based on the Sum Assured.
- 'Riders’ will be provided in certain types of policies. ‘Rider’ means additional/extra benefit provided by the insurer. Eg. Double of sum assured in case of death by accident.
- Sum Assured (SA) is important. There is a misunderstanding that lesser the SA, lesser will be the Premium. The premium may go down or remain the same as ‘Sum Assured ‘ increases.
- Premium charged in case of ‘with profit policies’ may be high.
Bonus would not be paid to the insured in case of ‘without profit’ or ‘non-participating policies’.
‘Claim’ refers to amount which the insurer has to pay to the insured subject to the terms and conditions of the contract. Before settlement of claims, the insurer shall confirm the following–
- Identity and details of policy holder.
- Premiums are fully paid.
- Insured event/maturity reached.
- No breach of terms has occurred.
- Whether policy document presented is genuine.
The insurer shall issue the document discharging the amount due to insured.
6. Loan on Surrender Value & Foreclosure of policy
A policyholder can surrender his policy (after a specified period of time and subject to the terms of policy) and the amount payable by the insurer to the policyholder on surrender of policy is called ‘surrender value’. The insurer may provide facility to avail loan at a certain % of the surrender value of the policy. The policyholder will have to make an assignment to the insurer in order to avail loan facility. The life assured may pay the interest on loans or agree to charge it against his policy claim. Where the loan amount and interest exceeds the surrender value, the insurer may issue notice warning ‘foreclosure’ of the policy ie. closure of policy before maturity.
Section 39 (1) of Insurance Act - The holder of a policy of life insurance on his own life, may when effecting the policy or at any time before the policy matures for payment, nominate the person or persons to whom the money secured by the policy shall be paid in the event of his death:
Under nomination facility, the policyholder (life assured) gives the details of the person to whom the policy moneys shall be paid in the event of death of policyholder. For eg. A can nominate B to his policy. When A dies, the policy money due to him will be paid to B (nominee). Nomination can be made in the policy proposal form or by endorsement in the policy. Where nomination is made in favor of a minor, a guardian shall be appointed by the life assured. Nomination can be made in favor of more than one person and in such case policy moneys will be paid to them jointly or to survivor(s) of them. The policyholder (life assured) can alter the nomination made any time during his lifetime. If the nominee dies after the life assured (but before payment of the claim), the policy moneys would be payable to the legal heirs of the life assured. The legal heirs shall provide necessary documents to prove that they are the only legal heirs of the deceased person.
Claims by legal heirs where nominee is an outsider
Disputes usually arise when the life assured dies and nominee is not a legal heir of the deceased. However, nomination facility u/s 39 will not prevent the legal heirs from claiming the insured amount in the name of deceased (court decision in cases- Sarabati Devi Vs Usha Devi, Sarojini Amma vs Neelakanta Pillai). A nominee under insurance does not become the ‘owner’ of the money payable to him under the policy. Such nomination to a person indicates that he/she is the person who should receive the money on death of the owner. A receiver of moneys is not the owner of the money, thus he/ she enjoys the right only to collect the moneys in the event of death of policy holder.
A life insurance policy and the rights of the policyholder could be transferred to another person through ‘assignment’. The person in whose favor assignment is done called ‘assignee’ and on assignment, the title & interest in the policy passes to the assignee. The assignment are of two types- absolute assignment & conditional assignment. Assignment must be witnessed and involve a ‘consideration’. The assignment made whether by signing deed or by endorsement, shall be forwarded to the insurer along with a notice. Where assignee is a minor, the process requires appointment of a guardian.
Every insurer shall re-insure a part of sum assured on each policy with an intention to reduce risk or share risk with another re-insurer company. This shall be in accordance with the Insurance Act and IRDA rules.
The policyholders shall take time to read the policy terms and conditions, limitations, commitments and privileges before signing the contract. The policyholder has legal remedy against insurer where the insurer has failed to provide required information regarding the policy or has mis-sold the insurance products which can be achieved through consumer forums, insurance Ombudsman and grievance cell. As per Insurance Act and IRDA rules, the insurer can proceed against the insured in case of intentional frauds or misrepresentation/ concealment of material facts. The insurers are expected to come up with innovative products and thrive for fair practices which would protect the life and property of citizens. No doubt, healthy business and fair competition would always contribute to economic development and safety of individuals within the country.
Prepared by: Victor J Uruvath, CS professional Programme, Kerala