Insurance Concepts and California Contract Law
17.3% of the exam 2 min
About 26 of the 150 combined questions: risk and hazard, the elements and characteristics of a contract, and the California Insurance Code sections on concealment, representations, warranties and policy specifications.
Risk, peril, hazard and what can be insured
Insurance is a contract to indemnify another against loss, damage or liability from a contingent or unknown event (Ins. Code 22), and any such event that could damage someone with an insurable interest may be insured (250). Risk is uncertainty of loss: pure risk offers only loss or no loss and is insurable, speculative risk also offers gain and is not. A peril causes the loss; a hazard makes it more likely, whether physical, moral (dishonesty) or morale (carelessness). The law of large numbers lets insurers predict losses across many similar exposures, and underwriting guards against adverse selection. Risk can be avoided, reduced, retained, shared or transferred; insurance is transfer.
Elements and characteristics of the contract
A valid contract needs agreement (offer and acceptance), competent parties, legal purpose and consideration; the applicant's consideration is the application and initial premium. Insurance is a contract of adhesion (the insurer drafts it, so ambiguities favor the insured), conditional (the insured must meet conditions), aleatory (unequal exchange), unilateral (only the insurer promises) and personal. The written instrument is the policy (380), and it must specify the parties, the life or property insured, the risks, the period and the premium or its basis (381); the insurer's financial rating is not required.
Concealment and materiality
Each party must disclose in good faith all material facts it knows (332). Concealment, intentional or unintentional, entitles the injured party to rescind (331). A party need not volunteer, unless asked, what the other knows or ought to know, what the other waives, and facts relevant only to a risk excluded by warranty or excepted from coverage (333). Nobody must share their own judgment, even when asked (339). Materiality is judged by the probable and reasonable influence of the facts on the party receiving them, not by the event that happened (334).
Representations and warranties
A representation is a statement made to induce the contract. It may be altered or withdrawn before the insurance takes effect but not afterward (355), is false when the facts fail to match it (358), cannot qualify an express provision but may qualify an implied warranty (354), and if false in a material point allows rescission from the time it became false (359). A warranty may be express or implied, and breach of a material warranty allows rescission (440-447). Misrepresenting a policy's terms to make a sale is separately prohibited (780-784).
Where people lose points
✗ "Moral hazard means not caring about losses because you are insured."
✓ That is morale hazard. Moral hazard is dishonesty, such as faking a claim.
✗ "Only intentional concealment lets the insurer rescind."
✓ Section 331 covers unintentional concealment too.
✗ "A fact is material only if it caused the loss."
✓ Materiality is judged by its likely influence on the insurer's decision, not by the event (334).
✗ "A policy must state the insurer's A.M. Best rating."
✓ The financial rating is not one of the section 381 specifications.
✗ "Unilateral means the insurer wrote the contract."
✓ That is adhesion. Unilateral means only the insurer makes an enforceable promise.
Numbers to memorize
| Definition of insurance | Ins. Code 22 |
| Insurable events | Ins. Code 250 |
| Concealment allows rescission | 331 |
| Need not volunteer | 333 |
| Materiality test | 334 |
| Own judgment | 339 |
| Representation vs express provision | 354 |
| Withdraw a representation | Before the insurance takes effect (355) |
| Policy definition and specifications | 380, 381 |
| Shall vs may | Mandatory vs permissive (16) |
Test yourself
No answers here on purpose — retrieving them is the practice. Drill this domain if any of these stall you.
- Name the four elements of a valid contract.
- Give two kinds of information a party need not volunteer under section 333.
- What is the difference between a representation and a warranty?
- List four of the six specifications section 381 requires in a policy.
- Which risk management technique is buying insurance?
Go deeper on these
- Annuities for the California life exam
- California group health insurance, COBRA and Cal-COBRA
- Covered California and the Affordable Care Act on the exam