Many people and business entities seek to transfer risk by negotiating to be named an “additional insured” in various contracts, purchase orders, lease agreements, etc. If not done with great care, however, this can result in devastating consequences for the additional insured!
Some people mistakenly believe that by achieving additional insured status with adequate limits, they can safely forego the purchase of their own general liability insurance. Here are some facts that should be kept in mind when using this method of risk transfer:
In most cases, additional insureds are given coverage only for their vicarious liability arising out of the acts of the named insured. In other words, if a claim was presented against the additional insured that did not arise out of the activities of the named insured there would be no coverage. An example might be where the additional insured is the landlord and has achieved additional insured status in a tenant’s general liability policy through a lease requirement. If someone were to be injured in the parking lot due to negligence, not maintained or the responsibility of the tenant, the tenant’s policy would not respond for the landlord/additional insured’s benefit.
An additional insured does not receive any notice as to a policy’s change, non-renewal, cancellation, etc. If the other party’s policy were cancelled for non-payment or they failed to renew, the additional insured wouldn’t even know!
The other party’s policy could exhaust its aggregate limits without the additional insured being aware that all or part of the policy protection has been “used up.”
When your organization (corporation, partnership, etc.) is named as an additional insured, your employees, officers, partners, etc., are probably not!
If you have achieved additional insured status then two policies can potentially cover a claim. Which one pays? Is one primary and the other excess? The answer is that the “Other Insurance” clause decides. The “Other Insurance” provisions are pretty much standardized in general liability policies. Basically, this clause often states that each policy is primary cover. Please consider the following example of the problems associated with the “Other Insurance” clause and note that there are additional even more technical circumstances under which coverage may also be prohibited:
You contract with another party to be named as an additional insured in their liability policy. You have your own $1,000,000 liability policy; the other party has its own $1,000,000 liability policy. The other party had the following claims under their policy: $300,000 on January 20; $450,000 on April 19; and $200,000 on July 9. The total claim settlement is $950,000. Most liability policies are subject to an aggregate limit. Therefore in this case, the other party’s $1,000,000 policy limit must be reduced by the $950,000 in claims, leaving a reduced limit of $50,000 remaining for futher claims. A $200,000 loss occurs on September 15 which, due to each policy’s “Other Insurance” requirements, must be settled as follows:
Your Policy’s Share of the Loss:
50% of $200,000 loss = $100,000
The Other Party’s Policy’s Share of the Loss:
50% of $200,000 loss = $100,000
Note: Your policy limit of $1,000,000 adequately covers
your $100,000 share of the loss. However, the
other party’s policy will only pay subject to
the available limit. The $1,000,000 limit has been
reduced to $50,000 by the first $950,000 in claims
settled earlier in the year. Therefore, the most
that can be paid is $50,000, resulting in a
$50,000 uninsured loss!
The use of additional insured status can be a valuable risk management tool if properly designed with appropriate policy modifications. Your insurance representative should always be advised when you are being added as an additional insured in someone else’s policy or if you are adding someone else as an additional insured under your policy. Better yet, consult with your agent or broker before contract terms are established. It may be best to avoid additional insured status and to use other risk transfer techniques instead.