DRIVE-SPRING 2014
PROGRAM-MBADS (SEM 4/SEM 6) MBAFLEX/ MBAN2 (SEM 4) PGDFMN (SEM 2)
SUBJECT CODE & NAME-MF0018 & INSURANCE AND RISK MANAGEMENT
BK ID-B1816
CREDIT & MARKS-4 Credits, 60 marks
Q1. Risk is used to describe any situation involving an uncertainty about the outcome.
What is the meaning of risk management? Explain the Risk Management process and
methods with a flow chart.
(Introduction of risk management, Explanation of risk management process, Explanation of risk
management methods, Flow Chart) 2,3,3,2
Answer.
Risk management
The process of identification, analysis and either acceptance or mitigation of uncertainty in investment
decision-making refers to risk management in business. It is a two-step process that can be represented
as follows in Figure.
Figure: Risk Management Process
Risk management involves essential features such as reliable resources, financial strategies and foresight.
It prevents or reduces the possibility of external as well as internal risks in business by employing
intelligent strategies, and thus forms an integral part of business or investment.
Risk management process
Regardless of the type of risk being considered, the risk management process involves several key steps:
1. Categorize all significant risks.
2. Estimate the potential frequency and severity of losses.
3. Improve and choose methods for managing risk.
4. Execute the risk management methods selected.
5. Keep track of the performance and suitability of the risk management methods and strategies on a
continuous basis. Figure gives a flow chart of the risk management process.
Risk management methods
These methods are not mutually exclusive and may be largely categorized as:
• Loss control
• Loss financing
• Internal risk reduction
Usually, loss control and internal risk reduction include the decisions to invest (or forgo investing)
resources to cut down the expected losses. These are theoretically similar to other investment decisions,
such as a company’s decision to purchase a new plant or an individual deciding to buy a computer. Loss
financing decisions are the decisions concerned about the manner of paying for the losses if they do
occur.
Loss control
The activities which decrease the expected cost of losses by lowering the occurrence of losses and/or their
extent are referred as loss control. Sometimes loss control is also termed as risk control. Usually, the
actions basically affecting the frequency of losses are referred as loss prevention methods. Actions
primarily influencing the severity of losses that do occur are often called loss reduction methods.
Loss financing
Methods applied to obtain funds for paying for or offsetting losses that occur are termed as loss financing
(sometimes called risk financing). There are four broad methods of financing losses:
(1) Retention,
(2) Insurance,
(3) Hedging, and
(4) Other contractual risk transfers.
Internal risk reduction
In addition to loss financing methods that allow businesses and individuals to reduce risk by transferring
it to another entity, businesses can reduce risk internally. There are two major forms of internal risk
reduction:
(i) Diversification, and
(ii) Investment in information.
Flow Chart
Figure: Risk Management Flow Chart
Q2. Insurance industry is highly regulated in all the countries. Explain on solvency margin
and methods of determining solvency margins. Write down the claim procedures in
respect of a general insurance policy.
(Introduction of solvency margin, Methods of determining solvency margins, Explanation of claim
procedures in respect of a general insurance policy)2,3,5
Answer.
Solvency margin
It is necessary to have some safety margin to absorb sudden setbacks. Financial strength required for this
purpose is usually provided by shareholders and promoters, which is why the owners’ funds in insurance
entities are termed as ‘policy holders’ surplus’. There are multitudes of ways in which the financial
prowess of insurers may be ascertained. Assessing of the ratio of owners’ funds to outsiders’ liability
gives an idea of how much a company is geared. If a company is highly geared, though increasing the
profitability, it increases the level of risk undertaken by any entity.
Methods of determining solvency margins
Follow any one of the following methods to determine the solvency of insurance companies.
1. Absolute margin: Minimum margin calculated as assets over liabilities.
2. Percentage method: Margin calculations are based on a fixed percentage of premium and /or
claims, net of reinsurance.
3. Risk-weighted method: Margin calculations are based on the quantification of risks relating to
assets and liabilities. Weights are assigned to various risk categories for quantification.
Determining the level of solvency/capital adequacy necessitates understanding the nature of
regulatory framework in existence.
Claim procedures in respect of a general insurance policy:
(1) An insured or the claimant shall give notice to the insurer of any loss arising under contract of
insurance at the earliest or within such extended time as may be allowed by the insurer.
(2) Where the insured is unable to furnish all the particulars required by the surveyor or where the
surveyor does not receive the full cooperation of the insured, the insurer or the surveyor as the case may
be, shall inform in writing the insured about the delay that may result in the assessment of the claim.
(3) If an insurer, on the receipt of a survey report, finds that it is incomplete in any respect, he shall
require the surveyor under intimation to the insured, to furnish an additional report on certain specific
issues as may be required by the insurer. Such a request may be made by the insurer within 15 days of the
receipt of the original survey report. Provided that the facility of calling for an additional report by the
insurer shall not be resorted to more than once in the case of a claim
(4) The surveyor on receipt of this communication shall furnish an additional report within three weeks
of the date of receipt of communication from the insurer.
(5) On receipt of the survey report or the additional survey report, as the case may be, an insurer shall
within a period of 30 days offer a settlement of the claim to the insured.
(6) Upon acceptance of an offer of settlement as stated in sub-regulation (5) by the insured, the payment
of the amount due shall be made within 7 days from the date of acceptance of the offer by the insured.
Q3. What do you understand by the concept of insurable interest? Write down about the
essentials, creation and application of insurable interest. How does a life insurance plan
work and write about the two key elements. Also write about riders.
(Explanation on concept of insurable interest, Essentials, creation and application of insurable interest,
Explanation on life insurance plan with two elements, Explanation on riders)2,3,3,2
Answer.
Concept of insurable interest
Despite the conventional belief that everything is insurable, all risks are not insurable. The risks must be
financially measurable and there should be adequate number of comparable risks for the purpose of
rating. Further, there must be pure and specific risks. The happening of the event insured against should
not be against public policy, the premium should be logical, and most importantly, there must be insurable interest on the part of the insuring individual. There is no one specific, universally accepted
definition of insurable interest, but it can be similar to the following: ‘The legal right to insure arising out
of a financial relation-ship recognised under law, between the insured and the subject matter of
insurance.’
Essentials, creation and application of insurable interest
Four basic features are essential to insurable interest:
(a) Definite property, interest, life, limb, right or potential liability worth being insured should exist;
(b) This insurable thing should be the insurance subject matter;
(c) There should be a relationship between the insured and the insurance subject matter whereby he
Draws benefits from its well-being, safety or freedom from liability and will be affected by its damage,
loss or the prevalence of liability;
(d) There should be a legalized relationship shared by the insured and the insurance subject matter.
Creation of insurable interest
There are a number of ways in which insurable interest will arise or be limited:
(a) By common law: Where the essential elements of insurable interest are automatically present, the
same can be described as having arisen at common law. The common law duty of care which one owes to
the other may give rise to a liability, which again is insurable.
(b) By contract: In some contracts a person will agree to be liable for something which he or she would
not ordinarily be liable for.
(c) By statute: Sometimes an Act of the Parliament will create an insurable interest either by granting
some benefit or imposing a duty. While the statute may create insurable interest where none would
otherwise exist, there can be statutes which restrict liability and thereby also restrict insurable interest.
Application of insurable interest:
There are three main categories of application of insurable interest as follows:
• Life
• Property
• Liability
Every person has an unlimited insurable interest in his or her own life. However, the obvious restriction
in the application of this is the means with which to pay the premium. If a person is married then there is
an automatic unlimited insurable interest in the life of the person’s husband or wife. However, no other
family relationship will give rise to insurable interest by itself.
Life insurance plan with two elements
Usually, life insurance products are termed as insurance ‘plans’. These possess two key elements:
(a) Death cover or risk cover: It gives the benefit of being paid on the death of the insured person
within a stipulated time period.
(b) Survival benefit: It ensures the benefit of being paid on survival over a stipulated time period.
Riders
A rider is a clause or condition added to a basic policy providing an extra advantage, at the choice of the
proposer. Some of the riders offered by the insurers in India are:
• Increased death benefit, being twice or more than the survival benefit.
• Accident benefits allowing double SA, in case of occurrence of death as a result of accident.
• Permanent disability benefits, providing for additional payments in the event of loss of limbs, eyesight,
hearing, speech, etc., as a result of an accident.
• Premium waiver, which would be beneficial in the case of children’s assurances, if the parent dies
before the vesting date or in the case of permanent disability and sickness.
Q4. Liability insurance is classified into two categories. Explain on the types of liability
policies and explain on aviation insurance with all the three section of the policy.
(Explanation on types of liability policies, Explanation on aviation insurance with three section of the
policy) 5, 5
Answer.
Types of liability policies
There are following types of liability policies:
Compulsory public liability policy
The Public Liability Insurance Act, 1991 imposes no fault liability, i.e., irrespective of any wrongful act,
neglect or default on the part of the owner of any hazardous substance, he has to pay relief in the event of
death or injury to any person other than a workman or damage to property of any person arising out of
an accident involving the hazardous substance.
Voluntary public liability policy
The owner of any industrial risk or non-industrial risk may take a voluntary public liability policy to
cover his legal liability in respect of accidental physical death/ injury/property damage of a third party
arising out of his property.
Professional indemnity policy
Professional indemnities are designed to provide insurance protection to professional people such as
doctors, solicitors, chartered accountants, architects, etc., against their legal liability to pay damages
arising out of negligence in the performance of their professional duties.
Directors’ and officers’ liability policy
Directors and officers of an organization hold positions of trust and responsibility. They may become
liable to pay damages to shareholders, employees, creditors, etc., of the company for wrongful acts
committed by them in the management and supervision of the affairs of the company.
Employer’s liability policy
Also known as workmen’s compensation insurance, the policy provides protection to the employers
against their legal liability for payment of compensation in case of death or disablement of the employees
arising out of and in the course of employment.
Aviation insurance with three section of the policy
This class of insurance has been mainly because of the steep increase in the values of aircraft and the
consequent phenomenal increase in the limits of indemnity under third party and other legal liability
covers.
The rate of premium for chartered flights is higher because of the greater hazard involved.
Aircraft comprehensive policy
The policy is divided into three sections:
(i) Loss of or damage to aircraft;
(ii) Third party legal liability; and
(iii) Legal liability to passengers.
(i) Loss of or damage to aircraft
The indemnity is provided for the loss of or damage to the aircraft (also known as aircraft hull, i.e., the
body of the aircraft and its component parts) by any cause whatever except those that are specifically
excluded by the policy.
(ii) Third party legal liability
Insurers indemnify the insured or any member of the operative crew of the aircraft acting in the course of
their duties with the insured, against all sums which they may become legally liable to in respect of death,
sickness or disease, and bodily injury sustained by any person and caused by an accident arising out of
the ownership, maintenance or use of the aircraft.
(iii) Passenger legal liability
Insurers indemnify the insured or any member of the operative crew of the aircraft acting in the course of
his duties with insured in respect of all sums which insured or any such, member of crew, shall become
legally liable to pay as compensation.
Q5. When a policy has been issued, the risk for the danger insured against gets covered.
Explain on the evidence and claim notice. Also write about the Extent of liability
(Explanation on the evidence and claim notice, Explanation on extent of liability)5,5
Answer.
Evidence and claim notice
When the policy has been issued, the risk for the danger insured against gets covered. In the case of the
occurrence of the contingency against which protection is given, the insured has to file a claim on the
insurer for the indemnification of the loss. In case the incidence of loss does not happen, the insured is
not entitled for the payment.
Evidence
To admit a claim, appropriate evidence related to the policy is needed. In marine insurance the policy is
generally issued on mutual understanding and good faith of both the parties. However, at the time of
claim, the insurer should satisfy itself about the information furnished by the insured. The value of
subject matter, nature of the subject matter, warranties, insurable interest, etc., are some of the matters
to be considered at the time when the claim arises. For these purposes, the production of certain
documents becomes necessary.
Notice of claim
In the event of the occurrence of the insured contingency, the insured has to serve a prompt notice of
claim. The notice receipt or the endorsement of the course of action undertaken by the insured does not
imply the acknowledgement of liability of the loss. The notice for damage should be given before the
survey by the insurer’s representative. After performing the survey, the survey report signed by him is
availed.
Extent of liability
The insured can recover from the underwriter a loss to the level of the insured property’s insurable value
in case of an unvalued policy. In the instance of a valued policy, the assured is liable to recover the loss to
the full degree of the value assigned in the policy. Subject to the average clause, where there are two or
more underwriters, they shall bear the loss in the proportion of their subscription.
Successive losses
The underwriters are generally not liable for more than the insured value. However, they may be liable
for successive losses, which may in the aggregate exceed the insured value, by payment of extra premium
and stamp duty.
Other charges
The amount of claim cannot include survey fees, cost of certificates and professional average adjuster’s
fees. Once the claim is proved to be recoverable, these charges can be recovered in full from the
underwriters
Effect of over-insurance and under-insurance
The assured is known to be over-insured ‘if two or more policies are affected by or on behalf of the
assured on the same adventure and interest or in respect of any part thereof, and the sums insured
exceed the minimum amount allowable as indemnity’.
Subrogation
Where the insurer pays for the complete loss, either of the whole, or in the case of goods, of any
apportionable fraction, of the insured subject-matter, he hereafter becomes entitled to take over the
interest of the assured in whatever might remain of the subject matter so paid for, and he is thereby
subrogated to all the rights and remedies of the assured in and in respect of that subject matter.
Salvage
The salvage is the remuneration or reward payable according to maritime laws to salvors who voluntarily
and independently of contract render services to maritime property at sea.
Q6. Insurance Ombudsman was created for quick disposal of the grievances of the insured
customers. Write the complete information on Insurance Ombudsman.
(Explanation on Insurance Ombudsman)10
Answer.
Insurance Ombudsman
The institution of Insurance Ombudsman was created by a Government of India Notification dated 11
November 1998 with the purpose of quick disposal of the grievances of the insured customers and to
mitigate their problems involved in redressal of those grievances. This institution is of great importance
and relevance for the protection of the interests of policyholders and also in building their confidence in
the system. The institution has helped to generate and sustain the faith and confidence amongst the
consumers and insurers.
Appointment of Insurance Ombudsman
The governing body of insurance council issues orders of appointment of the Insurance Ombudsman on
the recommendations of the committee comprising the IRDA Chairman, LIC Chairman, GIC Chairman
and a representative of the Central Government. Insurance Council comprises the members of the Life
Insurance Council and General Insurance Council formed under Section 40C of the Insurance Act, 1938.
The governing body of Insurance Council consists of the representatives of insurance companies.
Eligibility
Ombudsman is drawn from Insurance Industry, Civil Services and Judicial Services.
Terms of office
An Insurance Ombudsman is appointed for a term of three years or till the incumbent attains the age of
65 years, whichever is earlier. Re-appointment is not permitted.
Territorial jurisdiction of Ombudsman
The governing body has appointed twelve Ombudsman across the country allotting them different
geographical areas as their domains of jurisdiction. The Ombudsman may hold sitting at various places
within its area of jurisdiction in order to expedite the disposal of complaints. The offices of the twelve
Insurance Ombudsman are located at (1) Bhopal, (2) Bhubaneswar, (3) Cochin, (4) Guwahati, (5)
Chandigarh, (6) New Delhi, (7) Chennai, (8) Kolkata, (9) Ahmedabad, (10) Lucknow, (11) Mumbai and
(12) Hyderabad. The areas of jurisdiction of each Ombudsman have been mentioned in the list of
Ombudsman.
Office management
The Ombudsman has a secretarial staff provided to him by the insurance council to assist him in
discharging his duties. The total expenses on Ombudsman and his staff are incurred by the insurance
companies who are members of the insurance council in such proportion as may be decided by the
governing body.
Removal from office
An Ombudsman may be removed from services for gross misconduct committed by him during his term
of office. The governing body may appoint such person as it thinks fit to conduct enquiry in relation to
the misconduct of the Ombudsman.
Power of Ombudsman
Insurance Ombudsman has two types of functions to perform: (1) Conciliation, (2) Award making.
Manner of lodging complaint
The complaint by an aggrieved person has to be in writing and addressed to the Insurance Ombudsman
of the jurisdiction under which the office of the insurer falls.
Recommendations of the Ombudsman
When a complaint is settled through the mediation of the Ombudsman, he shall make the
recommendations which he thinks fair in the circumstances of the case. Such a recommendation shall be
made not later than one month and copies of the same sent to complainant and the insurance company
concerned.
Award
The Ombudsman shall pass an award within a period of three months from the receipt of the complaint.
The awards are binding upon the insurance companies.