What Change Means In Insurance

WHAT CHANGE MEANS IN INSURANCE

(The Effect Of Change In Risk In An Insurance Policy And On The Broker-Client Relationship)

The Foundation

Change is a constant in life. Hence, when it visits us at any time in our lives, we must be ready for it; we must be ready to manage it. When it comes to insurance, change can compromise coverage when it is not promptly reported and accounted for.

Insurance policies cover risk of exposures of individuals who have paid premiums for the risk they introduce into an insurance pool. According to the Actuarial Equivalent Principle, the premium charged by an insurer must be commensurate to the risk they receive.

In other words, the premium paid by an insured is directly proportional to the risk they introduce.

For any given policy year, the policy condition requires the risk insured to be constant. However, insurance gives room for material changes in risk condition. There is a duty however, as stated in most insurance policies, on the insured to notify the insurer of any change in risk of the subject matter of insurance within the insurance period.

This change in circumstances comes with a change in premium payable. That is to say, the premium paid by an individual will change to correspond with the level of the expected loss.

The premium is always fixed at the time of inception of the policy due to the deterministic nature of life and, consequently, of policyholders’ risks. But there always exist the possibility of a change in risk once an insurance policy starts running. This change in risk arises from some stochastic processes some of which are so material that they can influence the insurer’s position about accepting the risk.

What is Change in Risk?

In this article, we look at various understandings about change in risk as well as regulations on change in risk, its effect in an insurance policy, and the effect it has on the relationship between the client and his broker.

Change in risk in insurance, according to many schools of thought, is simply that material information which causes the assumed risk to vary from what was initially presented to an insurer. Change in risk can be classified as material or non-material depending on its propensity to affect the insurers position about the risk covered.

Material Change

According to Costen Insurance, a material change can be defined as a substantial and continuing change that affects and increases the risk involved with insuring a property.

Material Change in Risk is a Statutory Condition under a standard insurance policy, and as an insured, you are expected to promptly give notice in writing to the insurer or your broker or agent, of all such changes that are:

1. Material to the risk
2. Within your knowledge and control

Material Change in Risk has the tendency of making void an insurance policy and can deteriorate insurance relationships, especially that existing between the insured and his broker.

Some examples that will qualify as a material change in your risk include:

• Changing the use of your vehicle (i.e. from a personal use to a commercial one)
• Additional drivers using your vehicle (e.g., persons have not obtained their Class 5 licence)
• Making modifications or alterations to your vehicle
• A change in ownership of your property
• Operating a home-based business
• Having roomers or boarders reside in your house
• Suiting the basement of your home
• Major renovations or additions to your home
• Renting out your house, or leaving your house vacant

Non-Material Change

These, unlike material changes, do not offer any significant changes to the nature of the insurance contract, hence offer no significant changes to the risk insured.

Examples include:

• Changing the color of your vehicle
• Lending your vehicle to a friend or family member on a short-term basis
• Changing the paint color of your house
• Re-shingling the roof of your home
• Replacing the windows on your home
• Updating your flooring, cabinets, counters, etc.
• Replacing or upgrading your furnace, hot water tank, or other appliances
• Having a child or parent move into your home, etc.

Case Study

Insurance law principles stipulate that an insured has an obligation to provide accurate particulars of all information material to the risks being insured, including the nature of the property and its use. A fact is material where, if it had been disclosed, it would have influenced a reasonable insurer to decline the risk, accept a different risk, or charge a higher premium.

Whether or not a change is material to the risk is a question of fact and must be assessed objectively. If an insured does not fulfill his or her obligation to disclose a material change in risk, the insurer will be entitled to treat the insurance policy as void ab initio, i.e. invalid from the outset, and decline coverage.

In the case Chase v. The Personal Insurance Company, the plaintiff property owners obtained a standard “principal residence” home insurance policy from the defendant insurer in 2012. When purchasing the policy, the plaintiffs told the insurer that the property was occupied as their principal residence, the property was not occupied by others, there was no business or commercial activity on the property, there were no detached structures on the property of 800 square feet or larger, and there were no pets or other animals on the property.

In fact, the plaintiffs had been leasing a portion of the property to graze cows and calves which produced an income each year, and they had obtained a legal farm classification for the property in 2010.

After the policy was initially issued, the insurer sent the plaintiffs a letter each year upon policy renewal, asking the plaintiffs to review the policy and to advice of any changes. The plaintiffs never disclosed that farming operations were being carried out on the property, or that they had constructed a large steel frame building which was used to store farm equipment.

In February 2017, the steel frame building collapsed due to heavy snowfall and the plaintiffs made a claim under their insurance policy to recover losses resulting from the collapse. The insurer investigated and denied the claim on the basis of misrepresentation. The plaintiffs subsequently sued their insurer and the insurer brought a summary trial application to dismiss the claim.

At the summary trial, the plaintiffs argued that the farming activities on the property were limited such that the property could not be considered to be a farm. The insurer tendered expert evidence indicating that an insurer would not have agreed to insure the property under a standard residential home insurance policy.

In his reasons for judgment, Mr. Justice Ball held that the fact that income was being generated by leasing acreage to a cow/calf operation, and the fact that the property was operating as a farm were material facts that ought to have been disclosed to the insurer at the outset and at the time of renewal. The plaintiffs misrepresented the use of the property and failed to disclose material changes in the risk to the insurer; therefore, the insurer was entitled to void the policy.

In Nagy v. BCAA Insurance Corporation, the plaintiffs purchased a homeowner’s insurance policy from the defendant insurer for a property which they were living in on a part-time basis. After a fire destroyed the home in December 2016, the plaintiffs sought coverage pursuant to the insurance policy. The insurer denied coverage on a number of bases, including that the plaintiffs failed to disclose a material change in risk relating to the occupancy of the property.

The plaintiffs commenced an action against the insurer and, in turn, the insurer brought a summary trial application to dismiss the plaintiffs’ claim. The insurer argued that the plaintiffs represented they would be living at the property at least 50% of the time, but this was not the case as they only resided at the property on weekends.

In her reasons for judgment, Madam Justice Jackson held that the plaintiffs had in fact disclosed to the insurer that they would only be living on the property on the weekends until it was renovated, after which time, they would live there on a full-time basis. Moreover, she held that, even if she was wrong in finding that there was no change to the plaintiffs’ occupancy of the property requiring disclosure, such change was not material to the risk.

The insurance policy did not define “principal residence” nor did the policy require a particular threshold of occupancy. The only occupancy requirement in the policy was that the property remains occupied and not become vacant. Therefore the insurer could not say that the policy required the plaintiffs to live at the property more than 50% of the time nor could the insurer say that “reduced occupancy” was material. Further, the insurer did not tender any expert evidence suggesting that a reduced level of occupancy was considered a material change in risk by the broader insurance industry.

Madam Justice Jackson held that the insurer had failed to prove that the insurance policy was void by reason of a material change in the plaintiffs’ occupancy of the property and the plaintiffs’ loss was covered. Accordingly, the insurers’ summary trial application was dismissed.

The Chase and Nagy decisions highlight a number of important considerations for both an insurer and insured. First, while there is a duty on the insured to disclose material changes in risk, the policy wording must be unambiguous if the insurer intends to rely on it to deny coverage. Second, the determination of what constitutes a material change in risk will generally require expert evidence about standards in the insurance industry. Finally, the decisions demonstrate that such disputes may be effectively resolved by way of summary trial procedure.

The Leading Broker to the Rescue

The concept of change in risk imposes a rather challenging and more proactive responsibility on the insurance broker, failure of which may put the broker-client relationship in jeopardy.

Thus, it requires the broker to be more proactive, right from the time of the proposal for insurance, and throughout the policy period, all through to its expiration and consequent renewal.

In exhibiting a very professional and proactive expertise, the broker is expected to identify areas of a possible change in risks at any time within the policy year and give appropriate recommendations to you, the insured. These recommendations could include requesting for endorsement of the following clauses in insurance at the time of policy inception to avoid gab in cover due to change in risk:

• Capital Addition Clause
• Debris Removal Clause
• Temporal Removable Clause Etc.
• Overnight Theft Clause

However, once the policy is in force, the broker is required to execute the following actions to identify any changes in risk and advise the insured appropriately:

• Conduct periodic risk assessment of clients to identify changes in risk
• Notify insurers of any identified change in risk
• Request for any changes in risk of the client including updating assets register.

Change in insurance risk if not handled well can generally have a negative effect on both an insurance policy and the broker-client relationship. Therefore, it is important that efforts are made to educate policyholders on the effects of these changes, and the measures to undertake to manage them. More importantly, it is important that a policyholder engages the services of an insurance broker to help navigate this very specialised process of risk management.

[By Iddrisu Yushawu, Branch Manager of KEK Tamale Branch. Iddrisu has an M.Phil. in Actuarial Science, a B.Sc. in Applied Mathematics, and a Diploma in Insurance UK. He is a member of CII-UK, and is currently pursuing his PhD]