Equity Rule applied in insurance
As important or more important than taking out insurance, it is also important that the insurance policy contains the correct information and data on the risk to be insured.
Otherwise, when a claim arises, the insurer may use and apply the rule of equity to determine the actual compensation due to him.
The equity rule is a simple mathematical operation applied by insurers to correct premium shortfalls.
To avoid it, it is only necessary to pay attention that all the data recorded and reflected in the special conditions of your contract, are correct.
Fairness Rule: its application and example
As indicated in a previous paragraph, this rule can be applied when a claim occurs as a consequence of an insufficient premium, due to an incorrect identification of the insured risk. The result is a reduction in the value of the indemnity.
The formula applied in these cases is as follows:
Where the actual net premium is the premium that would have been payable if the characteristics and nature of the risk had been truthfully declared.
We will give an example to understand its application.
Imagine that you have taken out a business insurance policy stating that you have an alarm system connected to a security centre or police, as a protection measure. A robbery occurs and it turns out that at that moment you do not really have an alarm because you cancelled it but did not inform the insurer. The insurer applied a discount on the insurance premium for this concept.
Let us assume that your net insurance premium was €250, and that if the declaration had been correct, as you did not have an alarm, the premium would have been €270. The valuation of the theft amounts to €3,000.
The insurer would calculate the value of the compensation due to you as follows:
In this case, instead of receiving compensation of €3,000, he would receive €2,777, causing him a financial loss of €223.
In summary, declaring that he had an alarm as a risk protection measure saved him €20, but when the loss occurred, this omission caused him a loss of €223 in compensation.
This rule may also apply, for example, to life insurance where the date of birth or profession declared is incorrect, to SME insurance where the fire or burglary protection measures are inaccurate, or to any other insurance where the premium would have been higher if the risk had been correctly declared.
Therefore, we insist: to prevent this from happening, we advise you to accurately declare all circumstances and details of the risk to be insured. In addition, thoroughly check the special conditions of your policy to check that all data is correctly reflected.