Insurance Law – 7 major principles of Insurance: Free Notes

7 major principles of Insurance – Insurance Law Notes

What is Insurance Law?

According to J.B. Maclean;

“Insurance is a method of spreading over a large number of persons a possible financial loss too serious to be conveniently borne by an individual.”

Insurance is basically a contract between two parties on the arrival of a particular situation, whereby one party agrees to pay the premium to the insurer in return of the agreed assistance at the time of the occurrence of the contracted event.

The practice of law governing insurance, including insurance policies and claims is known as Insurance Law.

Evolution of Insurance Law in India

The very first instance of the concept of Insurance can be traced back to the colonial India. In 1818 “Orient Life Insurance Company” was initiated in Calcutta.  In 1870, the first set of legal regulations governing insurance were formulated British Insurance Act. However, the first set of life insurance regulations were initiated in 1912 with The Indian Life Assurance Companies Act.

In 1928, the Indian Insurance Companies Act was enacted to enable the government to gather statistical information about both life and non-life business transacted in India by Indian and foreign insurers including provident insurance societies.

In 1938, with the objective of protection of interest of public insurance, the previously established legislations were amended leading to the enactment of the most crucial insurance law act; The Insurance Act 1928. Following this Act there were many new Acts and amendments formulated but they were just to cater to an individual aspect of the concept of Insurance.  Some notable examples for the same would be:

1. Amendment to Insurance Act, 1938 – The objective was to establish effective control over the activities of insurers.
2. Insurance Amendment Act 1950 – The objective was to abolish the Principal Agencies.
3. Amendment to the Insurance Act, 1968 – The objective was to set a minimum solvency margin.
4. The Marine Insurance Act, 1963 – As the name suggests, this act was enacted only in pertinence to the Marine Insurance.

Hence the Insurance Act, 1928 is one of the core legislations of Insurance Law.

However, the next big step into the evolution of Insurance Laws in India was in 1993. A committee headed by Mr. R. N. Malhotra was set to examine the structure of Insurance in India, this committee was named the Malhotra Committee. In 1994, Malhotra Committee published their official report. Some of the notable changes proposed were:

• “The establishment of an independent regulatory authority (akin to Securities and Exchange Board of India); (b)
• Allowing private sector to enter the insurance field; (c)
• Improvement of the commission structure for agents to make it effective instrument for procuring business specially rural, personal and non-obligatory lines of business; (d)
• Insurance plans for economically backward sections, appointment of institutional agents; (e)
• Setting up of an institution of professional surveyors/loss assessors;”[1]

7 major principles of Insurance

What Are the Major Principles of Insurance?

There are 7 major principles of Insurance, which are as explained bellow:

1. Principle of Utmost Good Faith
2. Principle of Insurable Interest
3. Principle of Indemnity
4. Principle of Contribution
5. Principle of Subrogation
6. Principle of Loss Minimization
7. Principle of Causa Proxima (Proximate Cause)

1. Principle of Utmost Good Faith

This principle revolves around the moral values of both the involved parties i.e. the insured and the insurer. Under this principle the parties of an insurance contract are expected to completely disclose all the facts that would be vital to avoid a possibility of scam. Hence, as the parties are expected to act out of their good faith, the principle is named that of Utmost Good Faith.

In the case of LIC v. G. M. C Hannabsemma, the Supreme Court held that “the onus of proving that the policy holder has failed to disclose information on material facts lies on the corporation”[2]

Further in the case of LIC v. Janaki Ammal, it was held that “if a period of two years has expired from the date on which the policy of life insurance was effected, that policy cannot be called in question by an insurer on the ground that a statement made in the proposal for insurance or on any report of a medical officer or referee, or a friend of the insured, or in any other document leading to the assure of the policy, was inaccurate or false.”[3]

2. Principle of Insurable Interest

This principle revolves around the relation between the insured and the property insured from any situation that would lead him to suffer any significant loss. To sum it up in simple words, for the insured to claim any kind of insurance due to the loss suffered, he must have the “insurable interest” in the object.

Illustration: a person who has got an insurance on his phone, drops his phone accidentally leading to a loss suffered. In such a situation he is eligible for insurance as his “insurable interest” is present. However, if in the similar situation if this person had sold his phone to someone else and they dropped the phone accidentally, then he can not claim insurance for them as “insurable interest” from his side is missing.

Hence, “insurable interest” relies on the ownership of the object.

3. Principle of Indemnity

“A contract by which one party promises to save the other from loss caused to him by the contract of the promisor himself, or by the conduct of any other person, is called a contract of indemnity”[4]

Principle of Indemnity is similar to the concept of contract of Indemnity. This principle ensures that a person is protected through compensation from any kind of damage, loss or injury through a contractually agreed upon situation. However, the important thing under this principle is that the insured is compensated only to the point of compensation for loss and not leading to profits of any kind.

4. Principle of Contribution

This principle is similar to the Principle of Indemnity, however the only notable difference being that under this principle there are multiple parties acting as insurer. To best understand this principle, we shall consider an illustration. If a person has got his car insured by two companies – A and B. Now when the car is met with an accident and company A has compensated the loss for the insured. Here company A can approach company B for the division of compensation to be provided as both the parties are acting as insurer. The companies must compensate in the ratio of 1:1 unless mentioned otherwise.

An important thing to note here is that again both the parties acting as the insurer must make sure that they only compensate for loss and don’t provide any kind of profit.

5. Principle of Subrogation

The principle of Subrogation enables the substitution of one party of the other. For instance, if the insured faced any damages due to the actions of a negligent third party. Here, the insured can instead of providing the compensation to the insured, can hold the negligent third party responsible. Basically, the insurer would shift the responsibility of compensation to the negligent third party.

However, limitations to this doctrine are;

• Does not apply to life and personal accident policies;
• Insurer must pay before he claim subrogation;
• Assured must have been able to bring action

6. Principle of Loss Minimization

As established in the principle of utmost good faith that both the parties of the contract of insurance must act with their good faith. This principle is an extension on the principle of Utmost Good Faith. However, this principle revolves around the responsibility of the insured. It established the responsibility towards the insured to take all the necessary precautions to minimise the loss suffered that any prudent man would.

Illustration: if a person’s bedroom is caught in fire, following the principle of loss minimization it is his responsibility to take up the fire extinguisher and contain the fire to the least amount of area possible.

7. Principle of Causa Proxima (Proximate Cause)

Loss to the insured object or property can be suffered due to multiple reasons. Not all the reasons responsible for such a loss are covered in the contract of insurance. In such a scenario, the nearest cause to the loss is considered and the compensation from the insurer depends on whether this nearest cause falls under the purview of the contract established.

Illustration: If there is a warehouse of chemicals storage, and the stored chemicals are reactive to oxygen and hence cannot be prone to the air. However, rats make hole in the containers of such chemicals and these chemicals are damaged due to being prone to air.

Here the reason for loss suffered are two:

1. Rats biting and making a hole in the container.
2. Chemicals being prone to the air.

Here the nearest cause would have to be the rats biting the container. Now this reason has to be checked upon by the insurer with the contract to ensure whether the contract covers for such a reason for loss suffered.

However, in the case of Life Insurance the above principle doesn’t stand valid, as no matter the reason for death of a person the loss shall be compensated.

To conclude it, the major regulations dealing with Insurance law in India are The Insurance Act, 1938, The Life Insurance Corporation Act 1956, Marine Insurance Act 1963, General Insurance Business (Nationalization) Act 1972, Insurance Regulatory and Development Authority (IRDA) Act, 1999. Hence, Insurance law in present day and age has gone through its fair share of evolution to be established. There are principles that do govern the concept of insurance and are to be ensured in both the general and the life insurance.

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[1] Government of India (1994), Report of the Committee on Reforms in the Insurance Sector (Malhotra Report), Ministry of Finance, and New Delhi.

[2] LIC v. G. M. C Hannabsemma, AIR 1991 SC 392.

[3] LIC v. Janaki Ammal AIR 1968 Mad 324.

[4] Section 124 of The Indian Contract Act, 1872.

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