C11 Principles and Practice of Insurance Questions and Answers

In insurance terminology, aspeculative riskis a situation where there is a possibility of either financial gain or financial loss, depending on how events unfold. This is what makes it different from apure risk, where the only possible outcomes are loss or no loss (but never a profit). Examples of speculative risk include investing in the stock market, starting a business, or buying foreign currency. In each of these situations, you may end up with a profit, break even, or suffer a loss.

Because speculative risks involve the potential for profit, they are generally not insurable. Insurance is designed to respond to pure risks, such as the risk of fire damaging a building, or a car accident causing injury or property damage. In those cases, there is no opportunity for financial gain from the event itself—only the chance of economic loss or no loss at all.

Therefore, the defining characteristic of speculative risk, and the correct answer to this question, is the possibility of either gain or loss, which is captured by option D.

Pollution exposures—especially from oil refinery operations—arehigh-severity, high-complexity risks. Standard property and liability policiestypically exclude pollution, except for sudden and accidental events. Pollution arising from new drilling methods is considered aspecialized environmental liabilityand often requirescustomized financial transfer mechanisms.

Anon-insurance loss-financing transfer agreement(also called a contractual risk transfer or financial risk transfer mechanism) allows the company to shift the financial consequences of pollution losses to another entity or through non-traditional insurance structures (e.g., environmental impairment liability contracts, captive agreements, or specialized financial instruments). This is the most appropriate and realistic way to transfer complex pollution exposures.

Option A (retain the risk) is unsafe due to catastrophic loss potential.

Option B (surety bond) guarantees performance, not pollution losses.

Option D is incorrect because standard policiesdo not coverthis exposure.

Thus the best option isC.

Under Canadian privacy legislation (such as PIPEDA), personal information may only be used for the specific purpose for which it was originally collected unless the client provides informed consent for additional use. Insurance intermediaries must therefore obtain explicit permission from the client before using or disclosing their information for any new purpose, such as marketing, cross-selling, or sharing data with third-party providers.

Option B—simply notifying the client—is insufficient without consent. Option C is incorrect, as the ombudsperson deals with complaints, not privacy approvals. Option D is incorrect because privacy officers do not grant permissions; the law requires consent from the individual, not from government officials.

Since consent is central to privacy compliance in insurance operations, the intermediary must obtain permission from the client, making A the correct answer.

Abrokeris an independent insurance intermediary who represents theinsured, not the insurer, yet also interacts professionally with insurers to place coverage. Brokers typicallyown their client lists, have the freedom to place business with multiple insurers, and earn income throughcommissionsonce policies are sold or renewed. They are obligated to provide impartial advice and ensure clients receive suitable coverage.

Underwriters (option B) do not own client lists and do not earn commissions; they work for insurers evaluating risks. Exclusive agents (option C) representone insurer onlyand generally do not own their book of business. Independent adjusters (option D) investigate and adjust claims—they do not sell insurance nor hold client lists.

Orianna’s described attributes—ownership of clients, acting for both parties, and earning commissions—match precisely the role of abroker, makingAcorrect.

When apolicyholder(the insured) cancels a policy before its natural expiry date, insurers applyshort rate cancellation. Under short rate cancellation, the insurer refunds the unearned premiumminus a penalty. This penalty is applied because early cancellation disrupts expenses already incurred by the insurer, such as acquisition and administrative costs.

By contrast:

Pro rata cancellation (A)applies when theinsurercancels the policy — this provides the insured with thefullunearned premium refund, without penalties.

Half-term (B)is not a recognized cancellation method.

Partial-term (D)is also not an insurance cancellation method.

Thus, when the insured initiates cancellation, the correct method applied isshort rate.

The agency or production department within an insurance company is responsible for generating new business, managing distribution channels, working with brokers and agents, and promoting the insurer’s products. These functions align directly with sales and marketing departments found in other industries. Their goals include increasing premium volume, maintaining relationships with intermediaries, and ensuring the insurer’s products reach the marketplace effectively.

Option B is incorrect because finance and production refer to cost control and manufacturing, neither of which parallels insurance distribution. Option C does not align because administration and HR handle internal operations, not customer acquisition. Option D deals with internal systems and support functions, unrelated to the business-production role of generating and selling insurance.

Therefore, the insurer’s agency or production department corresponds to A: Sales and marketing.

Mirroringis a communication technique used to build rapport by subtly matching another person’s body language, tone, gestures, or pace of speech. It is widely used in sales, client consultations, and negotiations. When done professionally and subtly, mirroring helps clients feel understood and creates psychological comfort, making it easier to discuss needs and gather accurate underwriting information.

Option B, copycatting, implies obvious or exaggerated imitation and is not a recognized professional communication method. Option C, transparency, refers to openness and honesty, not physical or behavioural alignment. Option D, open listening, is active listening—important, but unrelated to mirroring physical actions.

Since Patrice is deliberatelyperforming similar actionsto his client, he is engaging inmirroring, makingAthe correct answer.

In contract law,considerationrefers to the exchange of something of value between parties. It is a necessary element for forming a legally binding insurance contract. In insurance, the insurer promises to indemnify the insured in exchange for thepremium—this exchange constitutes consideration.

OptionAis the only scenario demonstrating a clearbargained-for exchange. Jennifer gives up a painting of value, and Shania provides monetary payment. Even though the price is reduced, consideration still exists because each party is giving something of legal value.

Option B shows no exchange—only contemplation of future pricing.

Option C shows no contract formed, because the offer was not accepted.

Option D is a return/refund scenario, not an exchange forming a new contract.

Thus,Ais the best example of consideration.

In anon-proportional excess of losscontract, the reinsurer pays only the amountabove the retention (the deductible), up to its limit.

Retention =$300,000

Reinsurer’s limit =$600,000

Maximum reinsurance payout =$600,000

Now apply it to a$600,000 loss:

Cover It Insurance pays the first$300,000(its retention).

The remaining$300,000is within the reinsurer’s limit, so ZYX-Reinsurance pays$300,000.

Option A is incorrect—loss does not exceed retention, so reinsurer pays nothing.

Option B is incorrect—no reinsurance applies below $300,000.

Option D is incorrect because for a $900,000 loss, reinsurer would pay themaximum limit of $600,000, but Cover It would pay $300,000 retention plus the remaining $0? Actually total loss 900k: cover it pays 300k retention + 0 above? No, Cover It also pays any amount above reinsurance layer -> 900k minus 300k retention minus 600k limit = 0. The answer shown is still incorrect based on the numbers.

OnlyCis correctly calculated.

Adirect lossis damage that resultsimmediately and directlyfrom the action of an insured peril. For example, fire burning a building, wind damaging a roof, or theft taking merchandise. The loss must be theproximate (dominant) causeand must flow directly from the peril named or covered in the policy.

Option A is incorrect because direct loss refers to a peril’s action, not to who caused it.

Option C describes extensions of coverage, not direct losses.

Option D describes anindirect (consequential) loss, such as business interruption resulting from a fire—not the physical damage itself.

Therefore, the correct definition of a direct loss isB: Damage to property by the direct action of an insured peril.

A stock insurance company operates with the same capital structure as other conventional for-profit corporations. Ownership is represented by shares of stock, held by shareholders who supply capital and expect a return on investment. Profits are distributed as dividends or reinvested into the company. This structure aligns closely with traditional corporate financial frameworks in Canadian commerce.

Option B, a captive company, is owned by a parent business to insure its own risks—not structured like a general capital corporation. Option C, a co-operative company, is owned by its policyholders or members, not shareholders. Option D (factory mutual company) refers to a mutual insurer owned by its policyholders and requiring high loss-prevention standards.

Thus, the only insurer type that mirrors the capital structure of typical Canadian corporate enterprises is the stock company, making A correct.

Chattelrefers tomovable personal property(as opposed to real property/land). Insurance policies that cover chattels protect items such as furniture, machinery, mobile homes, and other movable property.

Amobile homeis specifically recognized as chattel because it is transportable and not permanently affixed to land. Therefore, a mobile home qualifies for chattel insurance coverage.

Option A is atravel insurancerisk.

Option C is anevent prize indemnity risk, not related to chattel.

Option D isprofessional liability(errors & omissions), which covers negligence, not movable property.

Thus, the risk insurable under chattel coverage is amobile home, makingBthe correct choice.

Risk mitigation refers to reducing the frequency or severity of potential losses. A first-time homeowner can mitigate risk by taking proactive measures such as installing smoke alarms, securing doors and windows, maintaining the property, or eliminating hazards. These actions directly decrease the homeowner’s volume of risk by reducing the probability of a loss or limiting its potential impact.

Option A—purchasing insurance—is not risk mitigation; it is risk transfer, where the financial consequences of loss are shifted to an insurer. Insurance does not reduce the likelihood of loss; it only provides compensation after loss.

Option B is the opposite of mitigation.

Option D is irrelevant to risk management.

Thus, the correct answer is C: Decrease their volume of risk.

A general agent is an individual or business entity that receives broad authority from an insurer to operate on its behalf within a designated geographic territory. This authority typically includes the power to manage the insurer’s business, appoint sub-agents, oversee production, and settle certain types of claims within their delegated limits. In the traditional agency system in Canada, general agents act as intermediaries between the insurer and local agents, ensuring proper distribution of policies and adherence to underwriting rules.

This role is distinct from analysts, who do not hold managerial or appointment authority, and from wholesalers, whose function is typically limited to distributing insurance products to brokers rather than supervising an insurer’s operations. Operating agents may have administrative duties but do not hold the broad binding and claim-settlement authority that defines a general agent. Thus, the only option that correctly matches the described authority structure is General agent.

A contract becomes voidable when one party is induced to enter it through fraudulent misrepresentation. Fraudulent misrepresentation occurs when a party knowingly makes a false statement, intending to mislead the other party, and the misled party relies on that statement when entering the contract. In this scenario, the seller knew the house had termites but intentionally misrepresented the truth when questioned by Karl. This is a deliberate falsehood, fulfilling all elements of fraud: false representation, knowledge of falsity, intent to induce reliance, actual reliance, and resulting detriment.

Undue influence involves pressure or dominance, which is not present. A mistake about assumptions only applies when both parties are mistaken in good faith about a fundamental fact—here the seller acted deliberately. Innocent misrepresentation involves an unintentional error, but the scenario explicitly describes intentional deception. Thus, the correct legal classification is fraudulent misrepresentation.

A cover holder is a business entity authorized by an insurer—most often within the Lloyd’s structure—to bind coverage, issue policies, collect premiums, and sometimes handle claims for specific lines of business. This authority is granted through a binding authority agreement, which outlines the scope of operations, underwriting limits, and compliance requirements. Cover holders extend the market reach of insurers while maintaining oversight through strict reporting and audit mechanisms.

A reinsurer assumes risk from insurers but does not issue retail policies or bind coverage for individual clients. A factory mutual is a specialized mutual insurer focusing on highly protected risks, not delegated binding authority. A syndicate mutual is not a recognized category in Canadian P&C operations. Since only a cover holder has formal delegated binding authority from an insurer, the correct answer is B.

Anet premiumis the amount remainingafter commission is deducted. Therefore, the policy premium must behigherthan the net premium, because the insurer must pay the broker their commission out of the gross premium.

Formula:

Net Premium=Policy Premium×(1−Commission Rate)\text{Net Premium} = \text{Policy Premium} \times (1 - \text{Commission Rate})Net Premium=Policy Premium×(1−Commission Rate)4,000=P×0.804,000 = P \times 0.804,000=P×0.80P=4,0000.80=5,000P = \frac{4,000}{0.80} = 5,000P=0.804,000​=5,000

Thus, the policyholder must be charged$5,000, so that:

$1,000 (20%) goes to the broker, and

$4,000 remains as the net premium for the insurer.

Correct answer:C: $5,000.

When two insurers cover the same property, theprinciple of contributionapplies. Each insurer pays a proportion of the loss based on its share of the total insurance in force. Here:

Total insurance = $300,000 + $100,000 = $400,000

Insurer A’s share = 300,000 / 400,000 =75%

Insurer B’s share = 100,000 / 400,000 =25%

Loss = $80,000

Insurer A pays 75% × 80,000 =$60,000

Insurer B pays 25% × 80,000 =$20,000

Thus,Cis correct.

Hazards are conditions thatincrease the likelihood or severity of a losscaused by an insured peril. Underwriters assess hazards (physical, moral, and morale hazards) to determine whether a risk is acceptable and at what price.

If hazards make an insured perilmore likely to occur, the underwriter willincrease the rateto reflect higher expected losses. This aligns exactly with option C.

Option A is close but incorrectly states “insured event,” not “insured peril,” and is less precise.

Option B misinterprets the law of large numbers; it applies to loss predictability, not hazard listing.

Option D misunderstands rating—rates are not calculated by multiplying premium by insured value.

Thus, the correct statement isC.

Binding authority is the authority an insurer grants to a broker or agent, allowing the intermediary to bind coverage on the insurer’s behalf before the insurer has formally reviewed the application. When an intermediary has binding authority, they can confirm that coverage is in force immediately, subject to the terms granted by the insurer. This is crucial for situations requiring quick coverage, such as real estate closings, automobile purchases, or commercial contract deadlines.

Option A is incorrect because a cover note is thedocumentissued after binding coverage—not the binding authority itself. Option B is incorrect because binding authority has nothing to do with permission to contact clients. Option D is completely unrelated, as reinsurance agreements occur between insurers, not insureds.

Therefore, the correct description of binding authority is permission granted to an intermediary to bind coverage on behalf of the insurer, which is option C.

Brokers are legally and ethically required to keep premiums in a trust account, separate from operating funds. These trust monies belong to insurers (or insureds, depending on the context) until remitted. Misusing trust funds—such as using them to pay operating expenses—is considered a serious breach of fiduciary duty and a violation of insurance regulatory requirements. Such conduct jeopardizes financial integrity and can lead to immediate termination of the broker contract, regulatory sanctions, or license revocation. Therefore, option D reflects a valid and serious reason for terminating the agreement.

Option A concerns underwriting rules, not broker misconduct. Option B actually reflects good insurer service, not grounds for termination. Option C is incorrect because brokers do not owe commissionstoinsurers—insurers pay commissionstobrokers. The broker’s responsibility is to remit collected premiums, not commissions.

Thus, the only option representing a breach serious enough to terminate an agency contract is D.

Post-loss objectives focus on how an organization continues functioningafter a loss has occurred. One of the most important objectives ismaintaining stable earnings. Even after a major loss event—such as fire, equipment breakdown, or business interruption—the organization aims to minimize financial volatility and continue operating with predictable revenue. Insurance and effective recovery planning help achieve this stability.

Option A (peace of mind) is apre-losspsychological benefit. Option C (internal obligations) is vague and not defined as a post-loss risk management goal. Option D (external development) relates to business growth, which is unrelated to loss response.

Therefore, the recognized post-loss objective isB: Stable earnings.

In the structure of reinsurance practices explained inPrinciples and Practice of Insurance, aretrocessionaireis the reinsurer that accepts risk from another reinsurer. This occurs through a process calledretrocession, where a reinsurer (the retrocedent) transfers a portion of its assumed risk to another reinsurer to further spread exposure and maintain solvency stability.

The terminology is important:

Theprimary insurerissues the original policy to the insured.

Thereinsurer(cessionaire) accepts risk from the primary insurer.

When that reinsurer then cedes part of the risk again, the receiving party is theretrocessionaire.

Retrocession is essential in risk-management frameworks because it allows reinsurers to diversify exposures and avoid concentration risks from catastrophic events. Therefore, the correct term for the second reinsurer isC. Retrocessionaire.

Loss adjusters are required to conduct themselves with professionalism, fairness, and integrity. Their responsibilities include explaining how coverage applies, gathering facts, assessing damage, and ensuring the claim is handled according to policy terms and applicable law. This includes respecting legal requirements and proper interpretation of insurance statutes and conditions.

However, adjusters must not provide legal advice. Legal advice is the domain of licensed lawyers. Adjusters may explain policy terms, clarify obligations, or interpret claims procedures, but they cannot advise a claimant on legal strategy, liability, lawsuit responses, or legal rights beyond policy interpretation. Doing so breaches professional boundaries and regulatory expectations.

Therefore, the only option that isnota responsibility is D: Provide legal advice, making it the correct answer.

Insurers in Canada are heavily regulated in the way they invest their capital because they must remain financially strong to pay future claims. Government regulations—federal for federally regulated insurers and provincial for provincially regulated insurers—set out specific investment restrictions, including prohibiting certain high-risk or illiquid investments. These rules protect policyholders by ensuring insurers maintain solvency and liquidity.

Insurers must invest prudently in order to meet long-term obligations, and therefore regulators specify the classes of investments deemed too risky or unsuitable. This includes limits on speculative investments or holdings that could jeopardize stability.

Option A is incorrect because insurers arenotrequired to invest in non-liquid assets; in fact, liquidity is important.

Option B is incorrect; although some foreign investments may be allowed, the statement is not a broad principle of regulation.

Option C is incorrect because insurers face significant restrictions, not complete freedom.

Thus, D is the correct answer.

A cover note is a temporary document issued by a broker or agent to confirm that insurance coverage has been arranged and is in force, pending the issuance of the formal policy. It is typically used when immediate proof of insurance is required before the insurer can produce the finalized policy wording. Cover notes outline essential information such as the insured’s name, type of coverage, limits, and effective dates.

Option A is incorrect because a cover note is not a contract between insurer and broker. Option B describes an endorsement, not a cover note. Option C refers to internal file documentation but does not serve as official proof of insurance.

Thus, the correct definition is option D: a document issued to the insured confirming that temporary coverage is effective until the formal policy is issued.

When more than one insurer covers the same property under policies with identical terms, the loss is often shared according to the proportion of insurance each company provides. This is commonly referred to as contribution “pro rata by limits.”

First, determine the total amount of insurance:

Insurer X: $400,000

Insurer Y: $100,000

Total insurance: $500,000

Next, determine each insurer’s percentage of the total:

Insurer X: 400,000 ÷ 500,000 = 80%

Insurer Y: 100,000 ÷ 500,000 = 20%

The total loss is $100,000, so each insurer pays its proportion of the loss:

Insurer X: 80% × $100,000 = $80,000

Insurer Y: 20% × $100,000 = $20,000

There is no deductible to adjust these amounts. Thus, Insurer X pays $80,000 and Insurer Y pays $20,000, making Option C correct.