Insurance terms in your contract you probably do not know and should know about

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Reading Time: 5 minutes

Key Takeaways

  • Once you’ve decided to buy a particular insurance policy from an insurance company, the company will agree to insure you upon filling up the proposal form and all details as requested. This is known as offer and acceptance.
  • Legal consideration refers to the value of the premium or future premiums that the buyer has to pay to the insurance company.
  • You need to know what your insurance contract says before signing it.

As a policyholder or as someone in the industry you must have come across an insurance contract.

We are sure you must have come across these insurance contract terms before but do you know what they mean? Are you sure?

Don’t worry, we have a quick and easy list of all the terms and what they mean. The best part? All of it is explained in super simple words.

Ready to learn more about insurance?

Some key insurance terms you should know about are: 

Offer and acceptance

You must have heard of this one and it is honestly very straightforward. To buy insurance, you must fill up a proposal form and send it to the insurance company (sometimes along with a premium cheque). This is your offer. If the insurance company decides to insure you, it is called acceptance. Simple!

Financial considerations

This is the amount of premium that you, as a policyholder, have to pay to the insurance company. It also includes the amount your insurer will have to pay you in case of a loss.

For example, if you buy a housing insurance policy, your legal consideration will be to pay a premium of, let’s say, Rs 30,000 as a premium annually.

Competent parties

This means that both the policyholder and the insurer are of sound mind to understand what they are doing when they sign the insurance contract.

For example, a 10-year-old child cannot be expected to make these decisions as a policyholder. In the case of insurers, it is mandatory for them to be licensed under the IRDAI regulations to be a competent party. Some others who are not considered as competent parties are minors and people with severe mental disabilities. –

Parties that aren’t competent include –

●       Minors

●       Mentally ill persons who are declared insane

●       Persons under the influence of alcohol

●       Those with a limited capacity to contract

●       Persons under the influence of drugs


Free consent

Free consent simply means that no one is forcing the policyholder to buy insurance. It also means that the insurance company is selling it to them of their own free will too. That means no fraud, misrepresentation, intimidation or coercion should be involved when the contract is signed.

Legal purpose

When you are signing an insurance contract, it shouldn’t be used for illegal purposes.  The idea is that the insurance company cannot pay a claim for losses that occurred due to illegal activities. 

Legal capacity

Legal capacity refers to the policyholder’s authority to insure an object (or a dovetails with insurable interests).


Usually, minors (people under the age of 18) lack the capacity to contract or purchase insurance.


Consequential loss

This is an important one. In simple words, it is an indirect loss.

For example, if you own a shop and it burns down in a fire, you will lose your revenue for some months till the shop is repaired. That’s a consequential loss.

It can also include paying salary to your staff and other operational expenses. These require separate insurance coverage. There are consequential loss insurance policies that cover this. These kinds of policies are often clubbed with motor, fire and property insurance and sold together.

Principle of indemnity

To “indemnify” is to compensate someone for harm or loss. In insurance, it is the part of the contract that states how much money you would get in case of a loss. It means that the claim paid out will be equivalent to the financial loss that you incurred, and not beyond that.

For example, if your WagonR gets damaged in an accident, and the repair bill is INR 10,000; you will get a maximum of INR 10,000 from the insurer. You’ll get the compensation as per the terms(depreciation, etc) and sum assured in your contract for your WagonR.


As the word suggests, it means inadequate insurance coverage. Sometimes, to save on premiums, you might insure your property for Rs 3 crores than its actual value of Rs 5 crores. This makes sense if you’re, for example, trying to minimize the premium you pay because you don’t think you are going to incur any damage to your house.

So, in case an earthquake happens there, you might suffer from financial loss too, because your damages are more than what the insurance company will pay.

Insurable interest

The insurance company lets you buy insurance when they believe you stand to suffer the financial losses if anything happens. This is called insurable interest.

For example, if you bought car insurance on your neighbour’s car – which holds no value for you and you don’t own it – you would benefit financially from the destruction or damage to that car. Since this can lead to fraud, insurance companies need you to have an insurable interest in looking after what you’re insuring.

Utmost good faith

Insurance contracts are based on the concept of mutual faith. It means, when you buy insurance, it is your duty to disclose all relevant details to the insurer. Similarly, it is the duty of the insurance company to disclose everything about the policy before you buy it.

This principle is the reason that you are able to buy a policy without detailed surveys and documents to provide, as the insurance contract assumes you will be providing accurate information in good faith. These facts are verified at the time of claim.

Principle of subrogation

Principle of subrogation allows the insurance company to sue any third party that has caused a loss to the insured and use all methods to back money that has been paid to the insured.

This is important in many insurance policies.

If someone else has damaged your property and the insurance company has paid you for your financial losses, this principle allows the company to seek damages from the person who caused the damage in the first place.

This is a way for insurance companies to manage their losses after they pay a claim. Usually, the offending party might also have insurance that covers this. The company will try to recuperate their losses by suing the third party who damaged your property in court.


Co-Insurance refers to scenarios when 2 or more insurance companies write a single policy. This is usually done for large property policies(such as industrial manufacturing complexes) and the sum insured is so high that no single insurer will want to write the policy. If, for example, a factory is insured for a sum of INR 2000 crores, then there are scenarios where insurers might have to pay as high as 2000 crores in claims. In order to reduce the risk, insurers splite the premiums as well as the claims with another insurer, who becomes the co-insurer in this case.


Have you ever wondered what insurance companies do to insure themselves? This is where re-insurance comes in. It is insurance for insurance companies.

In the insurance business, companies assume that only a fraction of the policies issued in a year will result in claims. However, there is a possibility that in a year, the company may have to pay more in claims than what they collect in premiums.

In such a case, reinsurance allows the company to limit their losses. Reinsurers take a percentage of the premiums that insurers collect, and agree to step in and cover the claim costs if they cross above a limit. There are many possible ways for Reinsurance contracts to be framed, and oftentimes (especially in property policies) the reinsurer’s rates decide the price of the policy

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