Introduction

Contributed by Greg Pynt and current to 1 September 2005

WHY YOU MIGHT WANT INSURANCE

Taking out insurance will not prevent injury or property damage from happening. For example, buying motor vehicle insurance will not prevent your car from being stolen or damaged in an accident. Insurance is taken out to protect the insured against the risk (chance) that they might suffer financial loss at some time in the future, for example, if:

• their car is stolen or damaged in an accident;
• they carelessly damage someone else’s property.

By an insurance arrangement:

• the insured agrees to pay the insurance company premium as consideration for the insurance company taking on risks such as those described above;
• the insurance company agrees to pay for any financial loss suffered by the insured if a risk covered by the insurance contract occurs during the insurance period.

Buying insurance for a relatively small annual premium means that you do not have to think about saving a substantial amount of money in case one or more of the risks described in the insurance contract occurs during the insurance period.

The insurance company pools the premium it collects from its insureds and invests the pool of funds until it has to pay claims out of the pool.

To stay in business and satisfy its shareholders, the insurance company needs to create a premium pool large enough for it to make a profit and pay all legitimate claims. The pool will not be large enough if the insurance company does not collect sufficient premium, either because its premiums are too low or its premiums are so high that it loses customers to premium pools created by other insurance companies. Insurance companies use actuaries (specialists in the mathematics of risks) to calculate how large their pool needs to be to pay the number and size of claims likely to be generated by the insureds who have contributed to the pool.

Pooling the premium effectively spreads, amongst all insureds, the financial loss that only some of them will suffer during the period of insurance. So if your car is written off in an accident and you are insured for that loss, you do not bear the burden alone; it is spread amongst all the insureds who contributed to the pool of premiums kept by your insurance company.

You do not get a refund of your premium if you do not make a claim during the period of the insurance contract. That is because the insurance company needs your premium to pay claims made by other insureds who have contributed to the premium pool.

REGULATION OF THE INSURANCE INDUSTRY

Some regulation of the insurance industry is necessary because of the size of the premium pools controlled by the industry and the substantial amount of time that can elapse between an insurance company receiving premiums and paying a claim. The industry is regulated by both legislation and the General Insurance Code of Practice.

The Commonwealth Financial Services Reform Act 2001 regulates the way in which insurance companies carry on business and how they deal with the people they do business with. The Commonwealth Insurance Act 1973 regulates the financial health of insurance companies by closely monitoring the solvency of insurance companies and their ability to pay claims.

On the other hand, the Commonwealth Insurance Contracts Act 1984 (ICA) regulates the contractual arrangements between insurance companies and insureds. It applies to most insurance contracts, but not workers’ compensation insurance or motor vehicle third party insurance against liability for personal injury or death (s.9 of the ICA). For a detailed discussion about insurance and other issues relevant to a worker’s claim for compensation or common law damages from the worker’s employer and the Motor Vehicle (Third party insurance) Act 1943 (WA) refer to INJURIES .

Sections 34 and 35 of the ICA and Regulations 5 to 29 of the Insurance Contracts Regulations 1985 require insurance companies to offer standard minimum insurance cover in respect of motor vehicle insurance, property damage, home building insurance, home contents insurance, sickness and accident insurance, consumer credit insurance and travel insurance.

An insurance company can only depart from the standard cover by giving sufficient notice to the insured; for example, by giving them a copy of their Policy before a decision is made whether or not to take out insurance with that company. An insurance company cannot rely on a provision in an insurance contract that is not usually included in similar insurance contracts unless, before the contract was entered into, it clearly informs the insured in writing of the effect of the provision: s.37 of the ICA.

THE GENERAL INSURANCE CODE OF PRACTICE

Almost all general insurance companies are bound by the General Insurance Code of Practice. It is a self-regulatory code. The Code covers motor vehicle (property damage), home buildings and contents, sickness and accident, consumer credit, travel, personal and domestic property insurance and any other contract of insurance to which an insurance company wishes to apply the Code.

The main objective of the Code is to promote good relations between insurance companies, agents and consumers. The Code requires insurance companies to:

• have high standards of practice and service;
• disclose enough information to consumers so they can make informed choices about insurance products;
• educate consumers about their rights under insurance contracts; and
• have fair internal procedures for resolving disputes with consumers.

INSURANCE INTERMEDIARIES (AGENTS, BROKERS AND LOSS ADJUSTERS)

There are 3 main types of insurance intermediary: insurance agents, insurance brokers and loss adjusters.

Insurance agents are mainly concerned with arranging insurance on behalf of insurance companies.

An insurance company is liable to you for the conduct of its agents and employees (s. 917A of the Corporations Act 2001 (Cth)), even if they are not acting within the scope of the insurance company’s authority, as long as it is conduct:

• upon which a person in your circumstances could reasonably be expected to rely; and
• upon which you relied in good faith.

Insurance brokers arrange insurance and handle claims for insureds. Insurance brokers may also be authorised by an insurance company, under a ‘binder’, to arrange insurance for the insurance company in certain areas of risk and subject to specified limits.

Insurance brokers earn income by taking a commission from the insurance company that enters into the insurance contract with an insured. However, unless it is acting under a ‘binder’, the insurance broker owes its loyalty to the insured, not to the insurance company.

Insurance agents and brokers are regulated by Chapters 7 and 8 of the Corporations Act 2001 (Cth), which apply to all financial service providers. These Chapters aim to ensure that insurance agents and brokers help the insured to make informed decisions about their insurance needs.

Loss adjusters investigate claims, usually for insurance companies.

TYPES OF INSURANCE

Indemnity and contingency insurance

Insurance contracts can be divided into Indemnity insurance contracts and Contingency insurance contracts. Most insurance contracts are Indemnity insurance contracts.

By entering into an Indemnity insurance contract, the insurance company promises to indemnify you against financial loss (make good your financial loss). Within the limits of the insurance contract, the insurance company will pay you the amount of your financial loss; no more, no less. This means that if you have not suffered a financial loss, the insurance company has nothing to pay under the insurance contract. The value of the indemnity is dictated by the insurance contract. For example, an insurance contract insuring home contents might define indemnity by reference to:

• the ‘as new’ replacement value of the contents destroyed; or
• the cost of replacing the destroyed contents with goods of like age, quality and condition.

It is not illegal to buy an indemnity insurance contract from more than one insurance company, but as between them, they will not be liable to pay you more than your financial loss. So there is nothing to be gained by having more than one indemnity insurance contract.

A Contingency insurance contract does not indemnify you against financial loss. By entering into a contingency insurance contract, the insurance company promises to pay an agreed amount upon a contingent event, irrespective of the financial loss suffered if such an event happens. Upon a claim being made on this type of insurance contract, there is no inquiry into the amount of your financial loss. This is usually because it is not easy to value the financial loss.

A personal accident and sickness insurance contract is an example of contingency insurance. In this type of insurance, the insurance company sets arbitrary amounts to be paid if you suffer certain injuries or you become unable to work because of an accident or sickness. The insurance company sets the amounts having regard to the amount of premium paid and, sometimes, how much you are earning at the time you buy the insurance. The amount the insurance company will pay has nothing to do with the actual loss you suffer if you are injured or get sick.

If Elle Macpherson insures her legs for $10 million against disfigurement or loss, she does so under a contingency insurance contract.

First party and third party (liability) insurance

Insurance contracts can also be divided into first party and third party (liability) insurance contracts.

Generally speaking, a first party insurance contract indemnifies you against financial loss suffered by you as a result of your own personal injury or as a result of damage to property belonging to you or for which you are responsible. Your house and contents policy is a typical first party insurance contract. Amongst other things, it insures against financial loss suffered as a result of damage to your house or house contents.

On the other hand, a third party (liability) insurance contract indemnifies you against your legal liability for someone else’s financial loss as a result of their personal injury or damage to property belonging to them or for which they are responsible. A public liability insurance policy is a typical third party (liability) insurance contract. This type of policy insures against any liability you may have to pay damages to a third party if, for example, that third party injures herself when she trips over a hose in your front yard and blames you for not putting the hose away.

FORMATION OF AN INSURANCE CONTRACT

The formation of an insurance contract is governed by the principles applicable to ordinary contracts. For an insurance contract to come into existence, there must be an offer and an acceptance of that offer. The contract is usually, but not necessarily, in writing.

The offer and acceptance must deal with every material term of the insurance contract.

The material terms are:

• the names of the parties to the insurance contract;
• the description of the risks to be covered by the insurance contract;
• the period of insurance;
• the amount and method of payment of the premium for the insurance contract; and
• the amount payable by the insurance company in the event of a loss.

The first document you will deal with in the process of obtaining insurance is the proposal for insurance (Proposal). This is a standard form document prepared by the insurance company. It contains a series of questions for you to answer. By sending the completed Proposal to the insurance company, you are inviting the insurance company to offer you insurance.

At about the same time, you will be given a document known as a Policy, which contains a detailed description of the scope of insurance cover and the rights and obligations of the parties to the insurance contract. This is also a standard form document prepared by the insurance company.

Before completing the Proposal, you should carefully read the Policy to make sure that the cover offered by the insurance company is the cover you are seeking.

On receipt of the completed Proposal, the insurance company decides whether to offer insurance to you and if so, on what terms. In reaching its decision, the insurance company relies on the accuracy of your answers to the questions in the Proposal.

If you accept an insurance company’s offer to insure you, the insurance company then asks you to pay the premium and sends you a Schedule or Certificate of Insurance that summarises the terms of the insurance contract (it is often only a page long). The Schedule or Certificate of Insurance:

• names you, the insurance company and any other insureds;
• contains a brief description of the risks to be covered by the insurance, including the location of the subject matter of the insurance;
• identifies the relevant Policy wording;
• says when the insurance contract begins and ends (insurance period). Most insurance contracts are for a 12 month period;
• states the amount of the premium, including government charges and GST;
• states the maximum amount payable by the insurance company in the event of a loss (Sum Insured, Policy limit or Limit of indemnity);
• describes any excesses. The excess is the first part of any claim you make on the insurance contract and is your responsibility. Insurance companies include excesses in insurance contracts to keep insurance premiums down by eliminating small claims and the costs associated with handling them.

If you accept the insurance company’s offer, you should carefully read the Schedule or Certificate of Insurance and the Policy to make sure you are aware of your obligations whilst the insurance contract is in force and what you must do if you decide to make a claim against the insurance company.

HOW TO READ AN INSURANCE CONTRACT

An insurance contract is a commercial contract and will be given a business-like interpretation. To the extent the wording of the contract is ambiguous, it will be read against the interests of the insurance company because the insurance company prepared the contract. Wordings are not usually ambiguous. That is because insurance companies have been refining the wording of insurance contracts for hundreds of years.

The words used in the insurance contract are given their ordinary and fair meaning, unless the context requires otherwise. For example, if a particular word is defined in the insurance contract, it will be given that defined meaning. Or if, in the context of the insurance contract, a word has a technical meaning, that technical meaning will usually be given effect.

LAYOUT OF A POLICY

The Policy wording contains an Insuring or Operative clause, a series of Exclusions and the Conditions of the insurance.

The Insuring clause defines the scope of cover provided by the insurance contract. It contains the primary promise of the insurance company to cover you against loss. The Insuring clause is modified by the subsequently appearing Exclusions and Conditions.

An Exclusion clause assists in defining the scope of cover provided by the insurance contract. It describes risks that fall within the scope of the Insuring clause, but that the insurance company does not want to cover. Accordingly, a matter that falls within an Exclusion clause is not covered by the insurance contract. An Exclusion clause often excludes a risk that other insurance contracts are especially designed to cover. So, for example, a public liability insurance policy always excludes from cover any liability you may have to your employees during the course of their employment. This is because that type of liability is covered by an Employer’s Indemnity insurance policy, which is specifically designed for that purpose.

The Conditions are mostly concerned with your obligations while the insurance contract is in force, including what you must do if you make a claim on your insurance.

Insurance companies often add Endorsements to the Policy wording. Endorsements mostly deal with extensions or restrictions on the cover provided by the standard form Policy wording.

COVER NOTES (INTERIM OR TEMPORARY INSURANCE COVER)

Obtaining an insurance contract which is intended to last longer than a few weeks may be delayed for a number of reasons. For example, you will want:

• motor vehicle insurance as soon as you buy a car, but when you take delivery of your car, you probably have not even submitted a Proposal to an insurance company;
• personal accident insurance as soon as you decide you need it. But there will be delay even after you submit a Proposal to an insurance company if the insurance company, after reading the Proposal, wants to make enquiries about your previous medical history or arrange a medical examination for you before deciding whether to offer insurance.

The purpose of interim insurance cover (usually in the form of a cover note) is to temporarily protect you (usually for up to 30 days) during the delay between your deciding you want insurance and the insurance company offering you longer term insurance after considering your Proposal.

If an insurance company grants you interim insurance, it will be on risk as soon as the interim insurance is granted. As long as you submit a Proposal before the expiry date, the insurance company will remain on risk until:

• you withdraw the Proposal;
• you enter into an insurance contract with that insurance company or another insurance company that is intended to replace the cover provided by the interim insurance; or
• the interim insurance is cancelled, whichever is the earliest (s.38(2) of the ICA).

An insurer can cancel an interim insurance contract whenever it likes (s.60 of the ICA), but the cancellation will only take effect as provided in s.59 of the ICA.

Interim insurance is usually issued by the insurance company (often by telephone, particularly in the case of home and motor vehicle insurance) and sometimes by the insurance company’s agent or by an insurance broker acting under an authority from the insurance company.

Interim insurance is usually in the insurance company’s standard form and is subject to the insurance company’s standard Policy for that type of insurance. You should familiarize yourself with the Policy as soon as possible after being granted the interim insurance to ensure that you comply with all the requirements of the insurance.