Liability insurance

Most insurance answers the question: what if something happens to me? Liability insurance answers a different one: what if I am held responsible for something that happens to somebody else?

The workbook states its purpose precisely. It provides indemnity in respect of damages payable under law for personal injury to third parties or damage to their property.

Note the two routes to that liability. It may arise under common law on the basis of negligence. Or it may arise under statutory law on a no fault basis — that is, even where there was no negligence at all.

What the policy actually pays for is twofold. The legal expenses incurred in defending suits, and the damages payable to third parties where the insured is found liable.

And there are two hard exclusions. Liability insurance will not cover intentional damage, or damage caused by criminal activities.

The commonest example the workbook gives is the professional indemnity plan taken by doctors, lawyers and investment advisers.

The two limbs of what is covered.

The two sources of the legal liability.

The no-fault limb is what makes liability insurance unavoidable in some businesses. A defence that the insured did nothing wrong does not answer a statutory no-fault liability.

Where it sits in the chapter. Section 3.1.2 lists the types of non-life insurance product, and liability insurance is item (g). The two items that follow are closely related:

So (g) is the category and (i) is a named product inside it. D&O carries its own list of exposures: vulnerability to shareholder claims, discrimination allegations, regulatory investigations, corporate governance requirements, compliance with legal statutes, and other employment practice violations.

The professional indemnity route. The workbook's most common example of liability insurance is the professional indemnity plan, taken by doctors, lawyers and investment advisers — which is the reason this product is in an adviser's own syllabus rather than only in a general insurance paper.

Why it is an indemnity product, and what follows. The workbook uses the word indemnity in defining the purpose, which places liability insurance among the indemnity policies rather than the defined benefit ones. That has consequences taught in Chapter 1: the actual loss must be determined before a claim is paid, contribution applies where more than one policy covers the same risk, and subrogation lets the insurer recover from a party at fault after paying.

The workbook attaches no figure to liability insurance. Section 3.1.2(g) states no sum insured, no premium rate, no sub-limit for defence costs and no statutory minimum. The section is entirely definitional, and any percentage or rupee limit quoted for it would not come from this paper. Section 3.2 does give the general rule that multiple indemnity policies make very little sense, because the total claim cannot exceed the sum insured across them all.

Illustrative figures, because section 3.1.2(g) supplies none.

Dr Krishnamurthy runs a clinic in Mysuru and holds a professional indemnity policy with a sum insured of Rs 1,00,00,000, with defence costs inside that limit.

A patient sues him for Rs 75,00,000, alleging negligent treatment.

Two things are worth noticing. The insurer paid the defence costs even though the claim was settled far below what was demanded. And the payout is the ascertained liability of Rs 22,00,000, not the Rs 75,00,000 claimed — because this is an indemnity policy.

Now the exclusion. A second patient alleges that Dr Krishnamurthy knowingly billed for a procedure he never performed, and a criminal complaint follows. That claim falls outside the cover. Liability insurance does not respond to intentional damage or to damage caused by criminal activities, whatever the sum insured.

And the no-fault limb. Suppose a statute imposes compensation on the clinic for an adverse reaction to an approved drug administered exactly as prescribed, with no negligence alleged at all. Liability insurance still responds, because the workbook's definition covers liability arising under statutory law on a no fault basis. A policy drafted only around negligence would have left him exposed.

The company version, for contrast. His clinic is a private limited company with three directors. A Rs 5,00,00,000 D&O policy would cover those directors' personal liability and defence costs for a wrongful act in the line of duty — a shareholder claim, a regulatory investigation, a discrimination allegation. The professional indemnity policy covers the professional service; the D&O policy covers the boardroom. They are different exposures within the same category.

Chapter 3 (Features of non-Life Insurance Products), section 3.1.2(g), defines liability insurance and gives the professional indemnity example, immediately before fidelity insurance at (h), Directors and Officers liability insurance at (i) and Keyman insurance at (j). Chapter 1, sections 1.4(a) to 1.4(d), supply the indemnity mechanics, and section 3.2 the multiple-policy rule.

Expect a definition question built on the two sources of liability — negligence under common law and no fault under statutory law — and an exclusion question, where the answer is intentional damage and damage from criminal activities. The list around it is also examined as a list: liability, fidelity, D&O and Keyman in that order.

• Liability can arise on a no-fault basis under statute. A candidate who answers that liability insurance covers only negligence has missed half the definition.
• Defence costs are covered as well as damages. The workbook names legal expenses incurred in defending suits expressly.
• Intentional damage and criminal activity are excluded. Two exclusions, both stated in the same sentence of the workbook.
• It covers injury to third parties and damage to their property, not the insured's own injury or the insured's own property.
• D&O is a product inside this category, not a synonym for it. Professional indemnity is the workbook's commonest example of the category; D&O is its named corporate product.
• Keyman insurance is not liability insurance. It is a life policy the company buys on a key executive, listed immediately after D&O and frequently confused with it.
• Fidelity insurance protects the employer from its own employee's dishonesty, which is a first-party loss, not a third-party liability.
• The workbook gives no sum insured, premium rate or defence-cost sub-limit for liability insurance. Any figure quoted for it is not from this paper.