SC Elucidates Principles Of ‘Under Insurance’ And “Averaging Out” [Read Judgment]

The insurance company must at the time of accepting the premium advice the policy holder properly, the court said.

Elucidating the principles of “under-insurance” and “averaging out”, the Supreme Court, in IC Sharma vs The Oriental Insurance Co Ltd, has held that when a group of items is insured under one heading and only some of the items and not all items are lost/stolen, then the principle of under-insurance will apply. The court also held that if all or most of the items of value covered under the policy are stolen, then the insurance company is bound to pay the value of the goods insured.

The bench of Justice Madan B Lokur and Justice Deepak Gupta was disposing of an appeal filed by a consumer against the National Consumer Disputes Redressal Commission (NCDRC). His complaint was against an insurance company which had rejected his claim of householder insurance, following a burglary in his house.

‘Under insurance’ harmful to policy holder

In this regard, the bench explained that under-insurance means that the insured has taken out an insurance policy in which he has valued the insured items for a sum which is less than the actual value of the insured item.

In a country like India this is normally done to pay a lesser premium. This is, in fact, harmful to the policy holder and not to the Insurance Company because even if the entire insured property is lost, the policy holder will only get the maximum sum for which the property has been insured and not a paisa more than the sum insured, the bench observed.

The court then illustrated it with this example: “[I]n case a person takes out the householder policy covering fire insurance and gives the value of the structure of his house and goods stored therein at Rs.50,00,000/- even though the value of the same is Rs.1,00,00,000/-, then even if the entire house and goods are completely lost in a fire, he cannot get an amount above Rs.50,00,000/- even though the value may be more. “

The bench cited another example: “In case a person gets a painting insured for Rs.1,00,000/- though the value of the same is Rs.10,00,000/-, if the painting is lost, the insured is entitled to Rs.1,00,000/- only. If all the insured goods falling under one head are stolen or lost then the insurance company cannot apply the principle of averaging out because, though the loss may be Rs.10,00,000/-, the claimant will get only one Rs.1,00,000/-as per the value assessed and the insurance premium paid by him.”

‘Averaging out’ applies when all goods are not destroyed

The court said the insurance company can apply the principle of averaging out when all the goods are not destroyed. “Supposing the entire house was insured for Rs.50,00,000/-, but on valuation, it is found that the value of the structure and the goods was Rs.1,00,00,000/- and if the policy holder claims that he has suffered loss of Rs.40,00,000/- then he will be entitled to only Rs.20,00,000/-, by applying the principle of averaging out,” the court said.

It said if the value of the goods is more than the sum for which they are insured then it is presumed that the policy holder has not taken out insurance policy for the uninsured value of the goods and the claim is allowed by applying the principle of averaging out, i.e. the insured is paid an amount proportionate to the extent of insurance as compared to the actual value of the goods insured.

Change of policy to be informed before renewal

The court also observed that once the insurance company itself changed its policy from ‘as per list policies’ to ‘policies for consolidated amounts’, then an insured is not expected to give the item-wise details along with the valuation. The court added that if the insurance company desires that item-wise valuation should be given for items over and above a certain value, then it is the duty of the insurance company to advise the insured at the time of issuing the first policy of insurance and at the time of each renewal. “The insurance company must at the time of accepting the premium advice the policy holder properly. The insurance company cannot accept the premium without asking for any details and later deny its liability on the ground that such details were not given,” it said.