ADVERTIsem*nTS:
Formula for Calculating the Actual Amount of Claim!
In case of under-insurance, the Insurance Company applies the Average Clause. Under-insurance means insuring for lesser value of stock. This is because businessmen think that in case of fire outbreak the complete stock will not be burnt. So, they take insurance policy for partial stock, of course at a lesser premium.
In order to discourage under-insurance, generally the Average Clause is inserted by the Insurance Company. If the insured value of the stock is less than the total of stock, then the Average Clause may apply, that is, the loss will be limited to that proportion of the loss as the insured value bears to the total cost.
Formula for Calculating the Actual Amount of Claim:
ADVERTIsem*nTS:
The actual amount of claim is determined by the formula:
Claim = Loss Suffered x Insured Value/Total Cost. The object of such an Average Clause is to limit the liability of the Insurance Company. Both the insurer and the insured then bear the loss in proportion to the covered and uncovered sum. For instance, if Rs 1,00,000 policy is taken for Rs 1,50,000 stocks, then the under-insurance will be by Rs 50,000.
Here, the insurer and insured will be the co-insurers for Rs 1, 00,000 and Rs 50,000 respectively. When, in such a case, Rs 30,000 stock is lost, then the Insurance Company indemnifies only Rs 20,000 i.e. 30,000 x 1,00,000/1,50,000 and the balance Rs 10,000 i.e. Rs 30,000 x 50,000/1,50,000 is met by the insured himself.
Thus, the under-insurance relieves the insurer and penalizes the insured for under-insurance. Irrespective of the insertion of such Clause, the entire policy amount insured, and then Insurance Company pays only the amount insured. When the loss is more than the sum insured, the insured can recover the whole amount in spite of Average Clause.
Illustration 1:
ADVERTIsem*nTS:
Malcom owns a retail stationery shop which was partly destroyed by fire on 27th June 2005. The stock was insured for Rs 13,000.
The Balance Sheet drawn on 31st December 2004 included, inter alia, the following items:
A physical check of stock after the fire showed that items undamaged were Rs 7,000. The normal rate of gross profit is 25% on purchases but the stock on 31st December 2004 included items of discontinued lines totaling Rs 3,800 which were all sold during next two months at cost.
ADVERTIsem*nTS:
You are required to compute the amount of claim to be made to the insurer. There was an average clause in the policy.
Solution:
A purchase from 1.1.2005 to 27.6.2005 has not been given in this problem.
It is to be found out by preparing Sundry Creditors Account, as shown below:
Illustration 2:
From the following particulars in respect of Ram Prasad, ascertain the insurance claim with regard to the loss of stock due to a fire accident on 11th May 2005:
1. The Company had the practice of valuing stock at cost less 5%.
2. The value of fire insurance taken was for Rs 2, 15,000.
ADVERTIsem*nTS:
3. The policy was subject to average clause.
4. Stock as on 1.1.2004. Rs 2, 85,000.
5. Stock as on 31.12.2004, Rs 3, 80,000.
6. Purchases made during the year. Rs 5, 20,000.
ADVERTIsem*nTS:
7. Sales for the year 2004 Rs 6, 00,000.
8. Purchases from 1.1.2005 to the date of fire Rs 2, 19,000.
9. Sales from 1.1.2005 to the date of fire Rs 2, 70,000.
10. Value of stock salvaged Rs 30,000.
