The Concept of Underinsurance in Insurance Law, its Conditions, and its Impact on Damage Compensation

The primary purpose of insurance contracts is to compensate for the decrease in the insured's assets in the event of a risk occurring. However, when calculating the amount of compensation, the balance between the "Insurance Amount" stated in the policy and the "Insurance Value," which is the actual economic equivalent of the asset, is of vital importance. An imbalance to the detriment of the insurance amount is defined in our legal system as Underinsurance

1. What is Underinsurance?

Underinsurance, as defined in Article 1462 of the Turkish Commercial Code (Law No. 6102) , refers to a situation where the insured amount is less than the value of the insured interest.

• Insurance Amount: The maximum amount that the insurer undertakes to pay in the event of a claim.

• Insurance Value: The actual economic market value of the insured asset (property).

If the value of the property is 5,000,000 TL when the policy is issued or at the time of the damage, but this value is stated as 3,000,000 TL in the policy, there is a 40% "underinsurance" rate.

2. Legal Consequences of Underinsurance: The "Pro Rata" Rule

In cases of underinsurance, the insurer is not liable for the entire damage incurred. According to Article 1462 of the Turkish Commercial Code, unless otherwise agreed, the insurer compensates for the damage in proportion to the ratio of the insured amount to the insured value

Calculation Formula:

Compensation to be Paid = (Amount of Damage x Insurance Value) / Insurance Value

Embodiment:

Let's assume a factory, whose actual value is 10,000,000 TL, is insured for 5,000,000 TL to save on premiums. If a fire breaks out in the factory, causing partial damage of 2,000,000 TL, the insurance company will pay only half of the damage, i.e., 1,000,000 TL .

3. Conditions for Applying Underinsurance

For underinsurance regulations to apply, the following conditions must be met simultaneously:

1. Insurance Coverage: The underinsurance rule applies only to property and liability insurance (damage insurance). It does not apply to life insurance (e.g., where a fixed amount is the basis).

2. Partial Damage: If the property is completely destroyed (total loss), the insurer will pay the maximum amount specified in the policy, which is the "Insurance Amount." The proportional rule becomes important in cases where only a part of the property is damaged.

3. Unless Otherwise Agreed: Article 1462 of the Turkish Commercial Code is not a mandatory provision. The parties may agree that the rate rule will not apply by adding a clause to the policy (for example, "First Fire Insurance").

4. Factors Causing Underinsurance in Practice

• Inflation and Exchange Rate: Even if the values ​​are equal at the time the policy is issued, the value of the goods may increase during the term, and the policy may not be updated (no endorsement).

• Erroneous Appraisal: The value of the property was incorrectly determined during the policy issuance process.

• Request for Lower Premium Payment: When the insured knowingly understates the value of the property in order to reduce the cost of the policy.

5. Ways to Avoid Underinsurance

To prevent clients and policyholders from experiencing disappointment in the event of a claim, the following legal mechanisms can be used:

• Inflation Protection Clause: This clause, added to the policy, automatically increases the insured amount according to specific indices.

• New Value Insurance: This allows you to insure an asset based on its replacement cost, without deducting depreciation.

• Agreed Valuation: This refers to the definitive determination of the value of the property by the parties or experts when the insurance contract is established, and the non-questioning of this value at the time of the claim (Turkish Commercial Code, Article 1459).

6. The Court of Cassation's Perspective

The Court of Cassation, in cases of underinsurance, its duty to inform . If the insurer has not informed the insured about the consequences of understating the value of the property, or if the terminology in the policy is too complex to understand, the application of the ratio rule may be restricted in favor of the insured.

Conclusion

Underinsurance is one of the most technically rigorous penalty mechanisms in insurance law. It forces the insured to adhere to the principle of "the more premium, the more coverage." It is very difficult to rectify this situation after a loss occurs; therefore, revising policy prices when the contract is established or in response to economic changes is a legal necessity.