FIN 407 Chapter 8

When must an insurable interest exist for a property insurance policy? A. Both at the time of loss and at the inception of the policy B. At the time the loss settlement process takes place C. At the inception of the policy D. At the time of loss

A. Both at the time of loss and at the inception of the policy

False statements made by an applicant for insurance are generally considered to be A. breaches of warranty B. lack of offer and acceptance C. misrepresentations D. concealments

C. misrepresentations

The sharing of risk across two or more insurance providers is known as A. secondary insurance B. pooled insurance C. comprehensive risk exposure D. reinsurance

D. reinsurance

All pure risks are considered to be insurable.

False

Rainy conditions, which increase the chances of an automobile accident, are an example of a A. physical hazard B. peril C. risk D. morale hazard

A. physical hazard

The use of higher deductibles by the insured in insurance contracts is one example of A. risk retention B. risk avoidance C. risk reduction D. risk transfer

A. risk retention

Which of the following statements describes adverse selection? A. Insurers refuse applications from applicants with bad credit histories. B. People most likely to suffer losses are most likely to seek insurance. C. Insureds change agents when service is bad. D. Insurers charge higher premiums to insureds who are higher risks.

B. People most likely to suffer losses are most likely to seek insurance.

Falsely claiming a theft in order to collect insurance proceeds is an example of a A. morale hazard B. moral hazard C. risk D. physical hazard

B. moral hazard

A contract in which the values exchanged may not be equal is a(n) A. contract of adhesion B. conditional contract C. unilateral contract D. aleatory contract

D. aleatory contract

A named-perils policy provides protection against losses caused only by the perils specifically listed in the policy.

True

The tendency of persons expecting to need dental work to seek dental insurance is an example of A. adverse selection B. morale hazard C. fundamental risk D. moral hazard

A. adverse selection

All of the following are steps in the risk management process EXCEPT A. implementing a risk management plan based on unexposed risk B. periodically evaluating and reviewing the risk management program C. evaluating the identified risks as to the probability of outcome and potential loss D. identifying the risks to which the company is exposed

A. implementing a risk management plan based on unexposed risk

A flood is an example of a A. peril B. risk C. moral hazard D. physical hazard

A. peril

A peril is A. the cause of a loss B. the probability that a loss will occur C. a condition that creates or increases the chance of a loss D. a moral hazard

A. the cause of a loss

Failure to lock the house because of the existence of insurance is an example of a A. moral hazard B. morale hazard C. speculative hazard D. physical hazard

B. morale hazard

The risk of premature death is an example of a A. physical hazard B. pure risk C. speculative risk D. fundamental risk

B. pure risk

An individual's personal assessment of the chance of loss is an example of A. a prior probability B. subjective probability C. objective risk D. objective probability

B. subjective probability

Loss severity is A. the probability that a liability judgment may exceed the individual's net worth B. the probable size or damage of the losses that may occur C. the probable number of losses that may occur during a period D. the probability that any particular property may be totally lost or destroyed

B. the probable size or damage of the losses that may occur

Robin's stereo was stolen. The stereo cost $3,000 when purchased. A similar new stereo now costs $2,400. Assuming the stereo was 50% depreciated, what is the actual cash value of Robin's loss? A. $400 B. $800 C. $1,200 D. $1,500

C. $1,200

When must an insurable interest exist for a life insurance policy? A. Both at the time of death and at the inception of the policy B. At the time the beneficiary is paid C. At the inception of the policy D. At the time of death

C. At the inception of the policy

Which of the following is(are) fundamental purposes of the principle of indemnity? I. Reduce moral hazard. II. Prevent the insured from profiting from insurance. A. I only B. II only C. Both I and II D. Neither I nor II

C. Both I and II

Which of the following statements concerning the insurance term indemnity is CORRECT? I. Subrogation is the right, upon paying the insured the amount of a loss, to try to collect from a responsible third party. II. A contract of indemnity entitles the insured to payment only to the extent of financial loss or legal liability. A. I only B. II only C. Both I and II D. Neither I nor II

C. Both I and II

Which of the following statements concerning the legal requirements of insurance as a contract is(are) CORRECT? I. The agreement by which insurance is effected is a contract in which the insurer, in consideration of the payment of a specified sum by the policyowner, agrees to make good on the losses suffered through the occurrence of a designated unfavorable contingency. II. To be valid and enforceable, insurance contracts must meet 4 general legal requirements: an offer by one party and an acceptance by another party; a legal purpose or objective; legal competence of both parties; and a consideration exchanged by both parties to the agreement. A. I only B. II only C. Both I and II D. Neither I nor II

C. Both I and II

All of the following insurance rating agencies evaluate the financial condition of insurers EXCEPT A. Moody's Investors Service B. AM Best, Inc. C. National Association of Insurance Commissioners (NAIC) D. Standard & Poor's

C. National Association of Insurance Commissioners (NAIC)

All of the following statements regarding the legal characteristics of insurance contracts are correct EXCEPT A. insurance contracts are conditional in nature; that is, the insurer is required to compensate the insured only if certain conditions are met B. an insurance contract is a contract of adhesion, meaning that the insurer prepares all contract details and the policyowner must accept the policy as written C. if a court finds that the terms of a policy are ambiguous, the construction most favorable to the insurer will prevail D. insurance contracts are considered contracts of indemnity

C. if a court finds that the terms of a policy are ambiguous, the construction most favorable to the insurer will prevail

All of the following are ways in which individuals or businesses may respond to pure risk exposures EXCEPT A. risk transfer B. risk reduction C. risk withdrawal D. risk retention

C. risk withdrawal

Loss frequency is A. the probability that a liability judgment may exceed the individual's net worth B. the probability that any particular property may be totally lost or destroyed C. the probable number of losses that may occur during a period D. the probable size of the losses that may occur

C. the probable number of losses that may occur during a period

The basic functions of a risk manager include I. identifying potential losses II. selecting the appropriate risk management techniques III. implementing a risk management plan A. I only B. II only C. III only D. All of the above

D. All of the above

What is the effect of an insurance policy being adhesive? A. The insurer can refuse to pay claims unless the insured has complied with all policy provisions. B. The insured cannot assign the policy without the insurer's consent. C. The insurer can require the insured to pay any premiums. D. The insured gets the benefit of the doubt if a policy contains any ambiguities or uncertainties.

D. The insured gets the benefit of the doubt if a policy contains any ambiguities or uncertainties.

Insurance rating agencies, such as AM Best Co., evaluate an insurance company's A. underwriting practices B. employment policies C. policyowners D. financial condition

D. financial condition

A pure risk occurs where there is A. a possibility of either profit or loss B. a possibility of neither profit nor loss C. only the possibility of profit D. only the possibility of loss or no loss

D. only the possibility of loss or no loss

Risk management is concerned with A. pure and speculative risks B. pure risks that are uninsurable C. pure risks that are insurable D. pure risks that are insurable or uninsurable

D. pure risks that are insurable or uninsurable

A pure risk has 3 possible outcomes, while a speculative risk has 2.

False

A speculative risk is one where only profit or no loss may occur.

False

Adverse selection is the tendency of lower-than-average risks to purchase or renew insurance policies.

False

Aleatory is a characteristic of insurance that means that monetary values exchanged by each party in an insurance agreement are equal

False

An insurable risk can include one that could cause the insurer to become financially insolvent.

False

Co-payments are loss-sharing arrangements whereby the insured pays a percentage if the loss is less than the deductible.

False

Exposures that are high in frequency yet low in potential severity are best handled by insurance.

False

Express authority gives the agent the power to perform any incidental act required in fulfilling obligations of the agency agreement.

False

For life insurance, an insurable interest is necessary at the time of death of the insured.

False

Insurance is necessary for each and every risk of loss an individual faces.

False

Insurance provides that the insurer will pay for expected losses and thus provide financial security to the insured.

False

Liability risk is not especially dangerous from a financial standpoint because there is an upper limit on the amount of loss one can suffer.

False

Moral hazard is indifference to a loss due to the existence of insurance.

False

Morale hazard is a character flaw or level of dishonesty an individual possesses that causes or increases the chance for loss.

False

Most people have the right amount of insurance coverage and, therefore, are adequately insured.

False

Pure self-insurance uses stop-loss insurance to limit the overall exposure to the risk.

False

Subjective risk is a particular person's perception of risk and varies little among individuals.

False

The first step in the risk management process is to identify all possible pure risk exposures.

False

The law requires that only the offeror be legally competent when entering into a contract.

False

The principle of indemnity states that a person must be subject to emotional or financial hardship resulting from damage, loss, or destruction to obtain insurance.

False

The principle of insurable interest states that a person is entitled to compensation only to the extent that financial loss has been suffered.

False

When purchasing life insurance and annuity products, the consumer ideally will use a company that has received a top-tier rating from at least one of the insurer rating agencies.

False

A contract that is deemed to have an illegal purpose or a purpose that is against the benefit of public interest in general is invalid.

True

A deductible is a stated amount of money the insured is required to pay on a loss before the insurer will make any payments under the policy conditions.

True

A general agent is an independent businessperson who represents only 1 insurer for a designated territory.

True

A physical hazard is a tangible condition or circumstance that increases the probability of a peril occurring and/or the severity of damages that result from a peril.

True

A valid contract exists only if it is based on mutual assent or a meeting of the minds of the contracting parties.

True

A warranty is a promise made by the insured to the insurer.

True

Actuarial science allows insurance companies to estimate losses and, thus, to estimate premiums for each person in a pool.

True

An open-perils policy is one in which all perils or causes of loss are covered unless they are specifically listed under the exclusions section of the policy.

True

Because risk management is an ongoing process, the plan must be reviewed to identify new exposures as property is acquired or sold and life situations change.

True

Coinsurance defines the percentage of financial responsibility that the insured and the insurer must share under the policy.

True

Damage to property can result in 1 of 2 types of financial losses: direct and indirect.

True

Exclusions are a necessary part of every insurance contract because not every peril or property can be covered in every policy.

True

If a loss is less likely to occur or is less severe than other potential losses, the premium will be more affordable.

True

In order to prevent fraud, insurance companies' policies state whether a loss is covered and how much will be paid for that loss.

True

In practice, most insurers do not void coverage on the grounds of concealment because it is very difficult to prove.

True

Insurance allows individuals to protect themselves against certain risks of financial loss.

True

Insurance is a contract of adhesion.

True

Insurance is a contract of indemnity, which means that a person is entitled to compensation only to the extent that an actual financial loss has been suffered.

True

Low subjective risk often results in less prudent conduct, whereas high subjective risk may result in more prudent conduct.

True

Objective risk is the relative variation of an actual loss from an expected loss.

True

Passive risk retention is being unaware of a risk and, thus, taking no steps to manage it

True

Proper insurance coverage, both private and social, is essential to a client's financial plan.

True

Pure risks are those that, when they occur, may only result in a loss or no loss.

True

Replacement cost is the current cost of replacing property with new materials of like kind and quality.

True

Representations are statements made by the insured to the insurer in the application process.

True

Risk management is a systematic process for identifying, evaluating, and managing pure risk exposures faced by a firm or individual.

True

Risk reduction consists of activities that reduce the frequency or severity of losses.

True

The National Association of Insurance Commissioners (NAIC) is a voluntary association of state insurance regulators whose purpose is to increase the effectiveness of insurance regulation through the development of common standards, practices, and model legislation.

True

The chance of loss is more commonly referred to as the probability of loss and is a measure of the long-run frequency with which an event occurs.

True

The form and content of insurance contracts are generally governed by state law

True

The insurance process depends on the establishment of fair and accurate premiums for insureds.

True

The law of large numbers states that the greater the number of exposures, the closer actual results will approach the probable results expected from an indefinite number of exposures.

True

The principle of utmost good faith requires that the insured and the insurer both are forthcoming with all relevant facts about the insured risk and the coverage provided for that risk.

True

There are three main types of pure risk that can interrupt one's earned income stream: dying too soon, living too long, and accidents and illness.

True

When a person or firm is exposed to risk and decides to bear all or part of the financial burden if a loss occurs, this is known as risk retention.

True