Insurance is governed by a set of fundamental rules that ensure fairness, transparency, and trust between insurers and policyholders. These principles form the foundation of the insurance industry and help maintain a balance between protecting individuals and managing risks.
In this article, we’ll explore the 6 key rules of insurance and explain how they apply to insurance policies and claims.
1. Principle of Utmost Good Faith (Uberrimae Fidei)
This rule states that both the insurer and the insured must act in good faith by providing accurate and honest information. Transparency is essential for establishing trust and ensuring the policy covers the intended risks.
How It Applies:
- Policyholder’s Duty: Disclose all material facts (e.g., health conditions, property details) truthfully during the application process.
- Insurer’s Duty: Provide clear details about the policy, including terms, exclusions, and coverage limits.
2. Principle of Insurable Interest
The insured must have a financial or personal interest in the subject being insured. This rule ensures that the policyholder suffers a loss if the insured object is damaged or destroyed.
How It Applies:
- Example: You can insure your home, car, or health because you have a vested interest in them, but you cannot insure someone else’s property unless you have a legal or financial relationship with it.
3. Principle of Indemnity
The principle of indemnity ensures that the insured is compensated only to the extent of the actual loss. Insurance is not meant to be a source of profit but a means of financial protection.
How It Applies:
- Example: If your house suffers damage worth ₹5 lakh, the insurer will only compensate up to ₹5 lakh, not more.
- Exceptions: Some policies, like life insurance, are not subject to the indemnity rule since the value of life cannot be quantified.
4. Principle of Contribution
If the insured has multiple policies covering the same risk, they cannot claim the full amount from each insurer. Instead, the insurers share the liability proportionately.
How It Applies:
- Example: If two insurers cover the same property for ₹10 lakh each, and the loss is ₹5 lakh, both insurers will contribute ₹2.5 lakh each.
5. Principle of Subrogation
This principle gives the insurer the right to take over the policyholder’s legal rights against a third party responsible for the loss after compensating the insured.
How It Applies:
- Example: If your car is damaged in an accident caused by another driver, your insurer may compensate you and then recover the amount from the at-fault driver or their insurance.
6. Principle of Proximate Cause
This rule focuses on identifying the nearest and most direct cause of a loss to determine if it is covered under the policy. Only losses caused by insured risks are eligible for compensation.
How It Applies:
- Example: If a fire damages your property due to a lightning strike (covered risk), the loss is compensable. However, if the fire was due to negligence (not covered), the insurer may deny the claim.
Why These Rules Matter
These six principles ensure that the insurance system works fairly for both parties. They provide clarity and structure, reducing disputes and fostering trust between insurers and policyholders.
Conclusion: Mastering the Rules of Insurance
Understanding these six rules of insurance—utmost good faith, insurable interest, indemnity, contribution, subrogation, and proximate cause—helps you make informed decisions about your insurance policies. By adhering to these principles, both insurers and policyholders can enjoy a transparent and trustworthy relationship.