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insured before the expiration of that time. In all cases, however, the essential principle upon which the calculation of the premium is based remains the same.

Assessment Insurance.50

Theoretically, assessment insurance should be the cheapest and most satisfactory form for determining the charge which should fall upon every member of a class of persons insured in return for the indemnity guarantied. Pure assessment insurance requires that the loss that may be suffered in the case of the death of any person in the class insured shall be met by levying a proportionate assessment upon all of the surviving members of that class, with such additional amount as may be necessary to defray the expenses of administration. It is plain. that the charges made for insurance under the assessment plan would thus closely approach the actual cost of the insurance, the method of levying insurance after the loss has accrued eliminating any necessity for calculating probabilities. But in the practical conduct of assessment companies it is found that it is impossible to apply successfully the pure theory, described above, inasmuch as there is no means of insuring the faithful performance by all of the insured of their agreement to pay all assessments levied. Experience shows that the members of such companies will pay the assessment when they deem it to be to their advantage to do so, but otherwise they will not. Consequently it is impossible, in cases where pure assessment insurance is put into practice, to determine beforehand what is going to be the amount realized by any assessment that may be levied. As a result, promises to pay losses are rendered uncertain, and the company is apt to be abandoned by those who do not feel inclined to pay assessments, when uncertain whether the obligation of the company to themselves will be met when it matures. In order to do away with this element of weakness in the conduct of assessment insurance, it is found necessary to secure to the insurer some means of penalizing the members for a failure to pay assessments. This is ordinarily accomplished by requiring that certain dues and fees, somewhat in the nature of the premiums of level premium companies, shall be paid in at stated intervals by the members of the assessment company. The funds so received are used to defray expenses, and also to accumulate a sort of reserve, known as the "emergency fund." In case of the failure on the part of any member to pay any assessment when properly levied, his interest in the reserve fund to which his previous payments have contributed, will be forfeited. In this way assessment insurance associations, which are usually in the form of some fraternal organization, that may include insurance as only one of its purposes, have become very numerous, and

50 As to the extent of assessment life insurance in the United States, see North American Review, vol. 151, p. 507.

carry on life insurance extensively, and with considerable success, although, on account of insufficient rates and unbusinesslike management, failures among them have been numerous.

The Meaning and Function of the Reserve Fund.

Under the ordinary level rate life policy, if it is not allowed to lapse by the insured, the sum promised to be paid by the insurer will certainly become due at a future time, which, though uncertain in every individual case, yet in the average may be ascertained with reasonable accuracy from the experience tables. The insurer is obliged to make provision for such payment, and must from the premium received each year set aside or reserve a sufficient amount to enable him to discharge his obligation when it matures. This accumulated fund, which is seen to measure the ability of the insurer to keep his promise for payment, is known as the "reserve fund." "1

51 The method of determining the amount that must necessarily be reserved in this fund, and its meaning in the contract of insurance as affecting the rights of all the parties thereto, may be best explained by reference to the following table:

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In order to show the method of calculation of the reserve fund and its function most clearly, we will take an example which, though impossible in practice, yet fully exhibits principles which in a more complex form apply to the actual contracts as made. Thus, suppose that ten men of uniform age form a class of persons insured. We will suppose that each one carries an insurance of $11,000, and that all are of such an age that, in accordance with the mortuary tables, one may be expected to die each year. It is evident that all will be dead after the tenth year, and that the insurer may expect to receive the first year ten premiums, the next year nine premiums, and so on. From the whole class of ten he will receive fifty-five premiums. To all ten it will be necessary to pay the aggregate sum of $110,000. Now, disregarding all questions of interest and expense, in order to simplify the illustration, it is apparent that the insurer must raise the sum of $110,000 from fifty-five premiums. It will therefore be necessary to require that each annual premium paid shall be $2,000.

By reference to the table, it is seen that at the end of the first year, when

Surrender Values.

Most life policies, especially in later years, stipulate that, if the policy shall be in force for a given number of years, there shall be paid to the insured a certain amount upon his surrendering his policy for cancellation.52 The amount of this surrender value offered is based upon the reserve value of the policy at the time of surrender, and it is plain that the insurer can well afford to pay to the insured the entire reserve value of his policy in consideration of his surrendering it for cancellation; but, inasmuch as insurance companies desire to discourage the surrender of policies so far as they can equitably do so, the surrender value fixed upon a policy is usually set at a considerably lower figure than that which would be established by its reserve value. It seems that, in the absence of a specified promise so to do, the insurer is under no obligation to pay any portion of the reserve value of a policy upon its surrender.58

the first payment of $11,000 must be made, there is outstanding insurance to the amount of $110,000, and during that year premiums have been paid in to the amount of $20,000. After the loss of $11,000 has been paid out of the income for that year, there remains a balance of $9,000 unexpended. This $9,000 must be reserved by the insurer to meet losses that will subsequently occur, and constitutes the reserve fund necessary for the outstanding insurance of $99,000, with which the second year begins. The reserve value of each policy is manifestly found by dividing the total amount of reserve by the number of policies outstanding. Thus, in the example taken, at the beginning of the second year there are nine policies outstanding, with a reserve fund in the hands of the insurer of $9,000; therefore the reserve value of each policy is $1,000. In order further to explain the relation of these values, let us note the condition of our supposed company at the end of the sixth year. It is seen that during the sixth year there is outstanding insurance to the amount of $55,000, but the amount of premiums received is now only $10,000, whereas the loss occurring that year requires the payment of $11,000, the loss thus exceeding the premium income. This excess, however, is more than made good by the reserve fund of $25,000, which has been accumulated, and which, added to the premium received that year, gives $35,000, from which the $11,000 of loss for that year must be paid, leaving the reserve fund at $24,000 at the end of the sixth year. At the beginning of the seventh year there are four policies outstanding, and a reserve fund of $24,000 has been accumulated. Thus, the reserve value of each policy, at the beginning of the seventh year, is $6,000. At the beginning of the tenth year there is but one policy outstanding, and a reserve fund of $9,000 on hand. There is due under this one policy a premium of $2,000, which, added to the reserve fund of $9,000, enables the insurer to pay the sum due under the last policy at its maturity at the end of that year. (Illustration adapted from that in Dawson's Elements of Life Insurance.)

52 In many states statutes require that the reserve value of a lapsed policy shall be applied as a single premium payment in the purchase of paid-up insurance. See the New York statute, set out in full in Nielsen v. Society, 139 Cal. 332, 73 Pac. 168, 96 Am. St. Rep. 146.

53 Haskell v. Society, 181 Mass. 341, 63 N. E. 899.

Surplus.

As has been explained above, the income received by insurance companies that conduct their business upon a conservative basis, as experience has shown, considerably exceeds the liabilities that become fixed under the policies at their maturity. The liability of the insurer under the policies outstanding is at any time not the face value of those policies, for the liability under them is contingent; but is always determined by reference to such reserve fund as calculated by the experience tables, and at some fixed rate of compound interest will enable the insurer to discharge all obligations under the policies when those obligations become due. Therefore, the reserve value of all of the outstanding policies is the criterion of the solvency of the insurer. If its assets fall below the amount that should be reserved in order to maintain the reserve fund intact, under the laws of most of the states the insurance commissioner is authorized to take possession of the assets and to take steps to wind up the company for the benefit of its creditors. In winding up such insolvent company each policy holder is deemed to have a fixed claim against the company to the amount of the reserve value of his individual policy. In order to prevent the danger of their assets falling below the amount necessary to maintain their reserve, and thus to insure their solvency, most insurance companies set aside a certain portion of the surplus income above that needed for the payment of losses and the maintenance of the reserve, and place it in a surplus fund, upon which, in case of epidemics or other unusual or unexpected losses, they can draw in order to preserve their reserve funds and avoid insolvency. The residue of the income received is apportioned by the directors under the charter and by-laws as dividends to the several policy holders as their contracts mature. It has recently been decided in New York that policy holders, upon maturity of their contracts, have no rights in the surplus funds set aside for the purpose described above, but can claim to participate in the surplus income of the company only to such an extent as dividends may be apportioned to them by the order of the directors of the company."

54 See, for example, Code Va. 1887, § 1278.

65 Greeff v. Society, 160 N. Y. 19, 54 N. E. 712, 46 L. R. A. 288, 73 Am. St. Rep. 659.

CHAPTER II.

THE NATURE AND REQUISITES OF THE CONTRACT.

22-23.
24.

25.

26-27.
28.

29.

The Nature of the Insurance Contract-In General

An Aleatory but Not a Wagering Contract.

An Executory and Conditional Contract.

A Personal Contract Uberrimæ Fidei.

A Contract Essentially of Indemnity.
The Nature of the Contract of Life Insurance.
30. The Nature of Mutual Benefit Insurance.
31. The Contract of Reinsurance.

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THE NATURE OF THE INSURANCE CONTRACT-IN GENERAL.

22. Any contract which provides indemnity for contingent loss or damage is a contract of insurance, whatever be its form. Its essential requisite is a risk to be assumed; and, wherever a risk not involving any illegal acts exists, a contract of insurance may be made for the assumption of that risk.

23. The contract, which is ordinarily entire, the whole premium being earned upon the attachment of the risk, covers:

(a) A loss due to the negligence of the insured.

(b) But not a loss intentionally caused by the insured.

As has before been indicated, the insurance contract is characterized by the features possessed by other contracts, and is, under ordinary circumstances, to be construed in accordance with the rules that apply to contracts in general; but there are some additional characteristics possessed by the contract of insurance, that require special rules to be applied by the courts of law in properly determining the rights of parties to them. The primary requisite essential to the existence and validity of every contract of insurance is the presence of a risk of actual loss. The insurer in all cases agrees to assume this risk, in return for a valuable consideration paid to him by the insured. Wherever such an actual risk exists, and that risk is assumed by one of the parties to the contract, whatever be the form which the contract may wear, or the name which it may bear, it is in fact a contract of insurance. The question as to whether any given contract is one of insurance really, or one merely wearing the guise of insurance, becomes important, not only for the purpose of deciding whether the peculiar principles of insurance law are applicable, but also, and most frequently, in order to determine whether the con

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