by Sue A. Sponte

Created on: March 13, 2011   Last Updated: April 08, 2011

Although there are many different types of insurance, they all share certain common characteristics. They are all methods to spread the risk of loss among many people. The insurance company sets out the specifics of the risk-sharing agreement in a policy document that carries the weight of a contract. Because most contract issues are matters of state law, and because insurance is highly regulated by most states, the details of the legal characteristics of a particular insurance contract will vary from state to state and from one type of insurance to another. Nevertheless, some frequent issues are common to many types of insurance and many locations.

Insurance contracts at their most basic agree to pay for certain unexpected events in exchange for a fixed predictable premium. The insurance company makes this agreement with many people on the belief that only some of those people will need to make a claim on the policy. By spreading the risk of loss to all of the policy holders, the insurance company manages risk for all policy holders. In exchange, the insurance company makes a profit by collecting slightly more in premium payments than it predicts it will pay out. If the insurance company is wrong on that prediction, there are secondary insurance companies called re-insurance who insure the insurance companies.

Based on that understanding, some of the characteristics of an insurance contract become predictable. The policy will start by explaining who the parties to the contract are. Usually that means the insurance company and an individual. But sometime there are “intended third party beneficiaries.”  For example, a person might take out a life insurance policy and name a spouse as the beneficiary. The policy will also then explain what the limits of coverage are: what events are being insured and for how much.

A very important part of the contract, which is often dismissed as “the fine print,” is a section that will often be labeled as “exclusions” of the contract. These are things that would otherwise appear to be covered by the contract but are explicitly not covered. For example, in the case of a homeowner’s insurance contract, even though the policy covers destruction by fire, the policy will explicitly exclude fires that are caused by arson by the policy owner.

An additional important part of any insurance contract is the section that describes how claims must be filed. The insurance company is permitted

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