Indemnity

It is not a measure that applies to every class.

Facts. Dalby v. India and London Life Assurance Co., (1854) 15 CB 365. The Anchor Life Assurance Company had insured the life of the Duke of Cambridge for three thousand pounds and reinsured one thousand of it. The original policies were cancelled, so Anchor's own interest ceased, but it kept paying the reinsurance premium until the Duke died.

Held. The whole sum was payable. A life policy is a contract to pay a fixed sum on a defined event in consideration of premiums, not a promise to make good a loss, so once the interest exists at the outset its later cessation is irrelevant. Godsall v. Boldero, (1807) 9 East 72, was overruled.

Why it matters here. Life and personal accident insurance are contingency contracts. The sum assured is payable in full however small the beneficiary's actual loss, there is no subrogation, and there is no contribution between life insurers. A candidate who applies indemnity to a life policy has made the commonest error in this part of the paper.

The four devices that enforce indemnity

One: the measure of loss. The insured recovers the value of what he lost at the date and place of the loss, subject to the sum insured. For a building, that is the cost of repair or reinstatement; for stock, the market value; for a used machine, its depreciated value.

Two: subrogation. On payment the insurer takes over the insured's rights against anyone else responsible for the loss, and takes any sum the insured receives that reduces it. That is what happened in Castellain, and the chapter on subrogation works it out.

Three: contribution. Where two policies cover the same loss, the insured may claim from either but recovers only once, and the insurers share rateably. The chapter on contribution and double insurance works it out.

Four: the condition of average. Where the sum insured is less than the value at risk, the insured is treated as his own insurer for the difference and recovers only the proportion the sum insured bears to the value. Section 81 of the Marine Insurance Act, 1963 states it for marine insurance, and the standard Indian fire policy contains it as a condition.

Working the condition of average

The formula. Claim payable equals the loss multiplied by the sum insured divided by the value at risk at the date of the loss.

Worked figures. Prakash Aigal insures the stock of his hardware shop in Karwar for four lakh rupees. On the day of the fire the stock is in fact worth ten lakh rupees. The fire destroys stock worth three lakh rupees.

So Prakash recovers one lakh twenty thousand rupees on a three lakh rupee loss, and bears the balance himself. He has been insuring four tenths of his stock and has paid a premium on four tenths, so he recovers four tenths of every loss. That is not a penalty; it is the arithmetic of indemnity.

Departures from strict indemnity that the law permits

Valued policies. Section 29 of the Marine Insurance Act, 1963 provides that a valued policy specifies the agreed value of the subject matter, and that in the absence of fraud the value so fixed is conclusive between the insurer and the assured, whether the loss be total or partial. So the assured may recover more or less than his true loss. Valued policies are also written in India on works of art, jewellery and vintage vehicles, where market value is not readily provable.

Reinstatement value. A clause under which the insurer pays the cost of a new article in place of the old, without deduction for depreciation. The insured is better off than before, and the justification is that he cannot buy a partly worn machine and would otherwise be unable to resume business.

Agreed value motor policies, and the "return to invoice" add on, under which the insurer pays the original invoice price of a total loss vehicle rather than its depreciated value.

Life and personal accident, which are not indemnities at all, on Dalby.

New for old in marine hull insurance, a market practice of long standing under which no deduction is made for wear when a part is replaced.

Indemnity across the classes

A worked example

Sameera Qureshi insures her delivery van for eight lakh rupees under a comprehensive motor policy. A lorry driven negligently by a company's driver runs into it, and the repair costs two lakh ten thousand rupees. Sameera also holds a second, overlapping own damage policy taken by her financier.

Indemnity produces four consequences. She recovers the cost of repair and not the value of a new van, because the measure is her actual loss. She recovers once: if she claims on both policies she must give credit, and the two insurers contribute rateably. On payment the insurer is subrogated to her claim against the lorry owner and may sue in her name for the two lakh ten thousand. And if the insurer recovers three lakh rupees from the lorry owner, it keeps only what it paid and the excess is Sameera's.

Change one fact. Suppose Sameera had valued the van at four lakh when it was worth eight. On a partial loss the condition of average reduces her claim by half. Suppose instead the van is destroyed: she recovers four lakh, the sum insured, because that is the limit of the insurer's promise.

Change the class. Suppose Sameera is killed in the accident and had a personal accident policy for twenty lakh rupees. That is a benefit contract, so twenty lakh is payable in full, her family may also sue the lorry owner in tort, and the insurer has no right of subrogation against him. This is the single most useful comparison in the topic.

What it does NOT mean

It does not mean the insured always recovers his whole loss. He recovers up to the sum insured, subject to the excess, the average condition and the exclusions. Indemnity is a ceiling, not a guarantee.

It does not mean indemnity is the same as compensation. Compensation is what a wrongdoer pays; indemnity is what an insurer pays. The insurer's liability rests on a contract and is limited by it, while the wrongdoer's rests on the law of tort and is not.

It does not mean a valued policy is a departure from principle. It is an agreed measure of the loss, made in advance because the loss would otherwise be hard to prove.

And it does not mean an over insured person will be paid over. He will be paid his loss. What over insurance buys is a larger premium and nothing else, which is why the honest advice to a client is to insure the true value and no more.

Quick revision

The principle. Castellain v. Preston, (1883) 11 QBD 380, per Brett L.J.: the contract is one of indemnity and of indemnity only; the assured shall be fully indemnified but never more than fully indemnified.

Not section 124 of the Indian Contract Act, 1872, which is about loss caused by a person's conduct.

Not applicable to life or personal accident: Dalby, (1854) 15 CB 365, overruling Godsall v. Boldero, (1807) 9 East 72.

Four devices: the measure of loss; subrogation; contribution; the condition of average, section 81 of the Marine Insurance Act, 1963.

Average formula: loss x sum insured / value at risk.

Permitted departures: valued policies, section 29 of the Act of 1963; reinstatement value; agreed value and return to invoice motor cover; new for old in hull insurance; and the benefit classes.

Test yourself

1. State the principle of indemnity and its authority. The insured is to be fully indemnified but never more than fully indemnified, so his recovery is measured by his actual pecuniary loss. Castellain v. Preston, (1883) 11 QBD 380, per Brett L.J.

2. Is an insurance policy a contract of indemnity within section 124 of the Indian Contract Act, 1872? No. Section 124 addresses loss caused by the conduct of the promisor or another person; insurance answers loss caused by an event.

3. Stock worth twelve lakh rupees is insured for six lakh. A fire destroys four lakh rupees of it. What is payable, and why? Two lakh rupees. The condition of average applies: 4,00,000 x 6,00,000 / 12,00,000. The insured has been insuring half the value and recovers half of every loss.

4. Name three departures from strict indemnity that the law permits. A valued policy under section 29 of the Marine Insurance Act, 1963, where the agreed value is conclusive absent fraud; a reinstatement value clause paying new for old; and life and personal accident policies, which are benefit contracts and not indemnities at all.

5. Why is there no subrogation on a life policy? Because the contract is not an indemnity. The insurer has promised a fixed sum on a defined event, not to make good a loss, so nothing the beneficiary recovers elsewhere reduces the insurer's liability. Dalby v. India and London Life Assurance Co., (1854) 15 CB 365.

6. Name the four devices by which the law enforces indemnity. The measure of loss, subrogation, contribution and the condition of average.