Tira obtains two fire insurance policies on her house. Each is an open policy with a pro rata clause. Tira's policy with Unity Insurance Company is for a maximum amount of $100,000. Her policy with Verity Insurance Company is for a maximum amount of $50,000. Each policy includes a pro rata clause. Due to defective electrical wiring, Tira's house catches fire and burns completely. The value the house at the time of the loss is $120,000. Tira files a proof of loss with each insurer. What is an open policy? What is a pro rata clause? What is the liability of Unity and Verity for this event?

Question

What will be an ideal response?

Answer 1

Under an open policy, an insurer's liability is limited to the fair market value of the property at the time of loss or the maximum liability stated in the policy, whichever is less. A pro rata clause requires that when a loss is subject to multiple insurance coverage, as in this problem, any loss is shared proportionately by all insurers. Under any fire insurance policy, within a specified period an insured must file a proof of loss. This Tira did. Because Tira had two policies covering the same risk, each insurer's liability is subject to the terms of each policy's pro rata clause. Thus the insurers share the loss proportionately. This proportionate share is determined by the percentage of the total amount of insurance each is responsible for. In this situation, because Tira has open value policies, her recovery is limited to the fair market value of the property at the time of loss, $120,000. As Tira insured the property with two insurers, under the pro rata clauses each must share in the $120,000 loss proportionately to the percentage of the total amount of insurance that each is responsible for. Because Unity insured up to $100,000 and Verity $50,000, Unity is required to pay Tira $80,000 ($100,000 - $150,000 x $120,000 = $80,000) and Verity $40,000 ($50,000 - $150,000 x $120,000 = $40,000).