Life and Non-life Insurance

Distinction between Life Insurance and Non-Life Insurance

Examples

• Life insurance: A person aged 30 buys an endowment policy of Rs 5,00,000 for 20 years from Nepal Life Insurance Company. On maturity or on death within the term, the nominee receives the sum assured.
• Non-life insurance: A shopkeeper insures his shop against fire for Rs 10,00,000 with Rastriya Beema Company. If fire destroys goods worth Rs 3,00,000, he is compensated only Rs 3,00,000 (subject to the sum insured).

(a) Expected death rate is given as 3 per 1,000, i.e. $0.003$ (0.3%). Expected number of deaths:

$20{,}000 \times \frac{3}{1000} = 60 \text{ policyholders}$

(b) Claims payable for the expected deaths:

$60 \times \text{Rs } 250{,}000 = \text{Rs } 15{,}000{,}000$

(c) The claims are paid at the end of the year but premium is collected at the beginning, so the total premium must equal the present value of the claims at the 7% cost of money:

$\text{Total premium} = \frac{15{,}000{,}000}{1.07} = \text{Rs } 14{,}018{,}692$

Premium per policyholder:

$\frac{14{,}018{,}692}{20{,}000} = \text{Rs } 700.93$

(Check: $250{,}000 \times 0.003 / 1.07 = 700.93$.) The company charges about Rs 700.93 per policyholder at the beginning of the year.

The expected claim for the year is the sum assured times the mortality rate:

$675{,}000 \times 0.03 = \text{Rs } 20{,}250$

The claim is paid at the end of the year, while the premium is paid at the beginning, so the fair premium is its present value at the 10% cost of money:

$\text{Fair premium} = \frac{20{,}250}{1.10} = \text{Rs } 18{,}409.09$

You must pay a fair premium of about Rs 18,409.09.

(d) Oral promise without premium

A valid insurance contract must have insurable interest, utmost good faith, consideration (premium) and legal purpose. A mere oral promise without payment of premium lacks consideration, so it cannot form a valid insurance contract.

Principle of Indemnity

The principle of indemnity states that an insurance contract is a contract of compensation, not of profit. Under this principle, the insured who suffers a loss is placed in the same financial position as he or she was in immediately before the loss — no more and no less. The insurer compensates only the actual amount of loss, subject to the sum insured. The insured cannot make a profit out of insurance.

This principle applies only to non-life (general) insurance such as fire, marine, motor and health insurance, because these are contracts of indemnity. It does not apply to life insurance, which is a benefit (contingent) contract — a fixed sum is paid on death or maturity regardless of the actual loss suffered.

Principle of Subrogation

Subrogation means "substitution" or "transfer of rights." When the insurer has compensated the insured for a loss caused by a third party, the insurer steps into the shoes of the insured and acquires all the insured's rights and remedies against the third party who caused the loss. The insured must transfer these rights to the insurer, and cannot claim the same loss twice — once from the insurer and again from the wrongdoer. This principle is a natural corollary of the principle of indemnity, since it prevents the insured from profiting and allows the insurer to recover what it has paid.

Application to Non-Life Insurance

Both principles operate together in non-life insurance:

1. Indemnity: In fire insurance, if goods worth Rs 5,00,000 are destroyed but the sum insured is Rs 4,00,000, the insurer pays only Rs 4,00,000. In marine insurance, the insurer pays the actual loss of cargo, not its market profit. In motor insurance, the insurer pays the actual repair or replacement cost of the damaged vehicle, subject to depreciation and the insured declared value. In health insurance, actual hospital expenses are reimbursed, not a fixed amount.

2. Subrogation: Suppose a motorcyclist damages the insured's car, and the insurer pays Rs 80,000 for repairs. The insurer then acquires the right to sue the motorcyclist to recover that Rs 80,000. Similarly, in marine insurance, if a carrier's negligence causes loss of goods and the insurer pays the claim, the insurer can recover the amount from the carrier. The insured cannot also claim the same amount from the negligent third party.

Conclusion

Indemnity fixes the amount of compensation (actual loss only), while subrogation fixes the rights of the insurer after payment. Together they ensure that the insured is restored to his or her pre-loss position without making a profit, and that the burden of loss ultimately falls on the party responsible for it. Both principles are therefore fundamental to the sound working of non-life insurance.

Major Types of Life Insurance Policies in Nepal

Life insurance in Nepal is regulated by the Nepal Insurance Authority (Beema Pradhikaran), and policies are issued by life insurers such as Nepal Life, Rastriya Beema, LIC Nepal, and others. The major types are:

1. Whole Life Policy This policy provides protection for the whole life of the insured. The sum assured is payable only on the death of the insured, whenever it occurs. Premiums may be paid throughout life or for a limited period. It is mainly meant for family protection and leaving a lump sum for dependents. Since the claim is certain (death is certain), the premium is comparatively low for the protection given.

2. Endowment Policy Here the sum assured is payable either on the death of the insured within the policy term, or on the insured surviving the term — whichever is earlier. Thus it combines protection with savings. Premiums are higher than term insurance, but the insured is sure to receive the maturity amount if he/she survives. It is popular in Nepal for meeting future needs such as children's education, marriage, or buying a house.

3. Term Insurance Policy This is pure protection for a fixed term (say 5, 10 or 20 years). The sum assured is paid only if the insured dies within the term. If the insured survives the term, nothing is paid and premiums are not refunded. The premium is the lowest among all plans, so it is suitable for young earners with dependents and limited income who need large protection at low cost.

4. Money-Back Policy Under this plan, the sum assured is paid in installments at fixed intervals during the policy term, and the balance is paid on death or maturity. It provides both periodic survival benefits and life cover. It suits people who need funds at regular intervals, for example for recurring family expenses, while keeping protection alive.

5. Annuity (Pension) Plan In an annuity plan, the insured pays a lump sum or regular premiums and receives a regular income (monthly, quarterly or yearly) either for a fixed period or for life. It is used for retirement planning and old-age income security. Variants include immediate annuity and deferred annuity, and some plans return the purchase price to nominees after death.

Other common plans in Nepal include term-cum-endowment (mixed) plans, children's education plans, single premium plans, and micro-insurance life policies for low-income rural households.

Importance of Life Insurance for an Individual

1. Financial protection to family: On the death of the earning member, the sum assured saves the family from financial hardship.
2. Compulsory savings: Regular premium payment develops the habit of saving and provides a lump sum at maturity.
3. Provision for future needs: Funds for children's education, marriage, house construction and business.
4. Retirement income: Annuity plans give regular income after retirement when earning capacity falls.
5. Loan facility: A policy can be mortgaged or surrendered to get loans in emergencies.
6. Tax benefit: Premium paid is deductible from taxable income as per income tax law, and the maturity amount enjoys tax concession.
7. Peace of mind: Removes worry about the future and encourages long-term financial planning.

Importance for the National Economy

1. Capital formation: Premiums collected are large and long-term, adding to national savings and capital formation.
2. Investment in infrastructure: Insurers invest these funds in government securities, shares, debentures and infrastructure projects, supporting development.
3. Employment generation: Insurance companies, agents and branch networks create direct and indirect employment.
4. Support to the financial sector: Insurance works with banks and capital markets, deepening the financial system.
5. Reduction of government burden: Insured families do not need state relief, reducing pressure on public funds.
6. Foreign exchange and trade: Insurance reduces dependence on foreign insurers and helps retain foreign currency.
7. Social security and stability: It acts as a social security tool, reducing poverty and social unrest, and promotes a saving habit among citizens.

Conclusion: Life insurance is thus both a personal financial security tool and an important instrument of national savings and economic development. In Nepal, where social security coverage is limited, expanding life insurance — especially micro-insurance — is essential for protecting families and mobilising long-term funds for growth.

Life insurance is a contract in which the insurer agrees to pay a fixed sum on the death of the insured or on maturity of the policy, in return for premiums. Its importance is as follows.

1. Financial protection of the family. If the earning member dies early, the sum assured gives the dependants money for living costs, education and debts.
2. Compulsory and regular saving. Premiums are paid regularly, which builds the habit of saving and gives a lump sum at maturity.
3. Security in old age. Endowment and pension or annuity policies give regular income or a lump sum when a person retires.
4. Investment with a return. Policies earn bonus and returns, so the money grows over time.
5. Tax benefit. Premiums paid are allowed as a deduction within the limit set by the tax law, and claim proceeds are generally tax free.
6. Loan facility. A policy that has acquired a surrender value can be used as security to borrow from the insurer.
7. Covers risk of death and disability. Riders can add cover for accident, disability or critical illness.
8. Mobilisation of savings. Insurers collect small savings from many people and invest them in government securities, shares and projects, helping capital formation and economic development.
9. Peace of mind and business support. It gives confidence to the policyholder, and in business it can protect against loss from the death of a key person or partner.

Assumptions. The annuity of Rs 80,000 is paid at the end of each year for 10 years, the first payment being at the end of year 25. The premium is paid at the end of each year for 8 years (years 1 to 8). The cost of money is 12%. The annual premium is found by equating the present value of the premiums with the present value of the annuity.

Step 1: Value of the annuity at the end of year 24 (one year before the first payment)

$PVA_{10} = 80{,}000 \times \frac{1-(1.12)^{-10}}{0.12} = 80{,}000 \times 5.65022 = \text{Rs } 4{,}52{,}018$

Step 2: Present value of this today (discounted 24 years)

$(1.12)^{24} = 15.17863$

$PV = \frac{4{,}52{,}018}{15.17863} = \text{Rs } 29{,}780$

Step 3: Annual premium

Present value of the 8 premiums of $P$ is

$P \times \frac{1-(1.12)^{-8}}{0.12} = P \times 4.96764$

Setting this equal to the present value of the annuity:

$P = \frac{29{,}780}{4.96764} = \text{Rs } 5{,}995 \text{ (approx.)}$

The annual premium is about Rs 5,995, paid for 8 years. (The amount was printed as 80,0000 in the question; it is taken as Rs 80,000.)

Meaning of marine insurance

Marine insurance is a contract in which the insurer agrees to compensate the insured for loss or damage to a ship (hull), its cargo or freight caused by the perils of the sea during a voyage, in return for a premium. It covers risks such as sinking, collision, stranding, fire, storms, piracy and theft. It is widely used in foreign trade, and the three main types are hull, cargo and freight insurance.

Procedure for applying for a marine insurance policy

1. Select an insurer. The insured (ship-owner, importer or exporter) chooses an insurance company and may contact it directly or through an agent or broker.
2. Fill in the proposal form. The form asks for the name and address of the applicant, the nature and value of the ship or goods, the packing, the ports of loading and unloading, the route, the means of transport and the voyage dates.
3. Disclose all material facts. Marine insurance is a contract of utmost good faith, so all facts that affect the risk must be stated honestly.
4. Risk assessment and premium. The insurer examines the risk, based on the type of cargo, route, vessel and the cover required, and fixes the premium.
5. Issue of a cover note. On payment or acceptance of the premium the insurer issues a cover note as temporary evidence of insurance.
6. Payment of premium. The premium is paid as agreed, in cash or by cheque or bank transfer.
7. Issue of the policy. The insurer then issues the marine policy (voyage, time, mixed or floating) containing the terms, the sum insured, the risks covered and the conditions.
8. Documents to support a claim. The insured keeps the policy, bill of lading, invoice and survey report, which are needed for any later claim.