Property Insurance

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The principle of contribution in Fire Insurance was born out of the principle of indemnity in general insurance policies.

It applies when multiple policies cover:

  • The same property &
  • The same peril

In such a case, the total payable claim for the loss is proportionately divides among all the insurers based on their Contribution Agreement or conditions.

The contribution clause in fire insurance could be applied in any of the following forms:

  • Contribution by limits
  • Contribution by equal shares

Which clause will apply, will depend on the following factors:

  • Size of each insurer
  • Agreement between insurers

At times the insurer may not want to cover the complete value of the property (the value being too large) and would either bring in or refer the insured to include other insurers as well to provide cover for the full value. This is usually done to keep the insurer’s total risk diversified, as concentrating financial resources on one asset could be catastrophic for the insurer.

If the insured tries to engage multiple insurers for insuring the same property against the same peril. At the time of claim, the insurers will settle the same as per their agreement (contribution by limits or equal shares), which can either be in general or case to a case basis.

Contribution by Limits:

Each insurer covers the loss up to the applicable limit as agreed between the insurers proportionately.

Contribution by Equal Shares:

Each insurer covers the loss equally until its policy limit is exhausted. If the payable claim is bigger, the remaining insurers will consider the loss until their respective limits are exhausted.

Note that, even if the insured purchases multiple policies which total to more than the asset value, the insured will not be able to claim more than the loss faced by him/her. (see the case to understand how)

Case on Contribution in Fire Insurance

Rajesh Aggarwal owns property in Mumbai which has a current market value worth Rs. 4 crores. The property consists of a 1000 sq. yard plot and building construction on 40% of its area. Rajesh approached multiple insurers to cover the house and its content from related perils, however, could not arrive at a consensus about the value of the property.

Insurers are valuing the reconstruction cost at Rs. 50 Lakh (less Depreciation), while Rajesh insists on the market value of the property. In the end, he decides to buy at least 4 different policies to cover at least 50% of the market value of the property.

A lightning strike during a thunderstorm caused a crack in one of the domes of the house. The architect advised to break the dome and reconstructed as it was impossible to repair.

Rajesh approaches the insurers who estimated the claim at Rs. 5 lakh (10% of the total reinstatement cost of the property). He files the claim with all the insurers, however to his dismay the total amount received by him is only Rs. 500,000.

On approaching the insurer, the following calculation is provided:

The total value of the property: Rs. 50,00,000

Sum Insured Under each Policy: Rs. 50,00,000

The proportion of Property covered by insurance: 100%

Total loss payable: 100% loss i.e. Rs. 500,000

Total Insurers covering the asset: 4

Contribution Agreement between the insurers: Contribution by Limits

Share of each insurer: ¼ of the loss amount (since each insurer has the same limit of Rs. 50 lakh)

Claim payable by each insurer: Rs. 125,000 (¼ of Rs. 500,000)

Once the financial advisor for Rajesh, Karan Johar, got to know about the blunder Rajesh had made. He told him that Rajesh was lucky to have even received the claim. It could have been outrightly rejected by all the insurers.

He asks Rajesh to renew only one of the policies for full value and not to try profiteering from insurance, as the insurance will only try to recuperate the financial burden due to damage or loss, not the profit potential.