Excess insurance

What Is Excess Insurance?

Excess insurance is a type of coverage that provides additional protection beyond the limits of a policyholder's primary insurance. It functions as a secondary layer of defense, activating only after the underlying primary policy has reached its maximum payout for a claim. This form of insurance falls under the broader category of insurance and risk management, offering businesses and individuals an essential safeguard against severe financial liabilities that could exceed standard coverage amounts³³. The core purpose of excess insurance is to ensure that catastrophic losses do not lead to complete financial ruin for the insured.

History and Origin

The concept of providing higher liability limits through additional insurance layers began to emerge in the early 20th century. Before 1918, U.S. markets for excess liability coverage were virtually nonexistent, with Lloyd's of London being one of the few markets for such specialized insurance in 1916³². The need for higher liability limits grew as claim values increased. By the 1920s, some domestic insurers, alongside professional reinsurers, started offering excess coverage³¹. Lloyd's of London further cemented its role by insuring U.S. organizations on a broad, blanket form of excess liability insurance from at least 1934, with an "official" standard wording known as the "TP" form approved by 1938³⁰. This historical development laid the foundation for the layered insurance programs common today, where multiple insurers may participate in building a "tower" of coverage to meet substantial limits.

Key Takeaways

• Excess insurance provides coverage above the limits of a primary insurance policy.
• It serves as a crucial financial safeguard against large, catastrophic losses.
• The policy activates only after the underlying primary insurance is exhausted.
• Excess insurance is distinct from an umbrella policy, though both provide higher liability limits.
• It is a common component of comprehensive risk management strategies for businesses and individuals with significant exposure.

Interpreting Excess Insurance

Interpreting excess insurance primarily involves understanding its "attachment point" and its relationship with the underlying primary insurance. The attachment point is the threshold at which the excess policy begins to pay out, which is typically the limit of the primary policy²⁸, ²⁹. For example, if a business has a primary general liability policy with a $1 million limit and an excess insurance policy that attaches at $1 million, the excess policy will only respond to losses that exceed that initial $1 million.

This structure allows policyholders to obtain higher overall coverage limits without necessarily increasing the cost of their primary insurance. It's critical to review the specific terms and conditions of both the primary and excess policies, as differences in wording can sometimes lead to coverage gaps²⁶, ²⁷. Effective communication between the insured, the broker, and the various insurers is vital for navigating complex claims involving multiple layers of coverage²⁵.

Hypothetical Example

Consider "Horizon Construction," a company with a primary commercial general liability policy providing a limit of $2 million per occurrence. Given the nature of its projects, Horizon Construction assesses that potential liability claims could easily exceed this amount. To mitigate this risk, the company purchases an excess insurance policy with a limit of $5 million, which "attaches" at the $2 million limit of its primary policy.

One year, Horizon Construction faces a lawsuit due to a major structural failure on a completed building, resulting in a judgment of $6 million against them.

1. Primary Policy Payout: The primary insurer for Horizon Construction would pay its maximum limit of $2 million towards the judgment.
2. Excess Insurance Activation: Since the claim exceeds the primary policy's limit, the excess insurance policy is triggered.
3. Excess Policy Payout: The excess insurer would then cover the remaining $4 million ($6 million total judgment - $2 million primary payout), up to its own $5 million limit.

In this scenario, the excess insurance provided vital financial protection, preventing Horizon Construction from having to pay the $4 million difference out-of-pocket, thereby safeguarding its financial stability.

Practical Applications

Excess insurance is widely applied across various sectors to enhance financial protection against substantial losses. In the business world, it is a cornerstone of comprehensive liability programs, especially for industries facing high-value claims such as construction, healthcare, and manufacturing²³, ²⁴. Companies often use excess liability insurance to increase the limits of their general liability insurance, commercial auto insurance, or professional liability policies²².

Layered insurance programs, which frequently involve excess insurance, are a common strategy for organizations with significant risk exposures, allowing them to build a "tower" of coverage by combining multiple policies from different insurers²⁰, ²¹. This approach is particularly relevant in markets where a single insurer may be unwilling or unable to provide the full capacity required for large risks. For instance, in the hospitality industry, major incidents can result in very large settlements, leading insurers to be more conservative with their underwriting capacity¹⁹. In such cases, layered coverage involving excess policies allows businesses to secure adequate protection by distributing the risk among several insurance carriers. An example of this is the MGM Resorts settlement following a 2017 incident, where approximately $700 million was covered by excess liability insurance¹⁸.

Limitations and Criticisms

While excess insurance offers significant benefits, it also presents certain limitations and potential challenges. One key area of complexity arises in managing claims, particularly when multiple insurers and policies are involved in a layered program¹⁷. Disputes can emerge regarding the interpretation of policy terms, coverage for defense costs, or delays in processing claims¹⁵, ¹⁶.

A common issue is "exhaustion of coverage" rules, which dictate when a primary policy is considered fully paid out, thereby triggering the excess policy¹⁴. Challenges can arise if a primary insurer settles a claim for less than its policy limit, or if payments are made for "uncovered losses" that may not apply to the excess policy, potentially impacting the excess insurer's obligations¹², ¹³. Some excess insurance policies may not "follow form" with the primary policy, meaning they might have different terms, conditions, or exclusions that could lead to gaps in coverage¹⁰, ¹¹. Courts may also take different approaches to allocating losses across multiple policy years or between primary and excess policies, which can add legal complexity in the event of a claim⁹. Policyholders need to be aware that even with excess insurance, an exceptionally large claim could still exceed the combined limits of all policies, leaving the insured responsible for the remaining balance⁸.

Excess Insurance vs. Umbrella Insurance

Although often used interchangeably, excess insurance and umbrella insurance have distinct characteristics in the realm of liability insurance.

• Excess Insurance: Primarily serves to increase the limits of a single, specific underlying primary policy. For example, an excess liability policy might sit directly over a general liability policy, only extending its limits. It typically "follows form," meaning it provides coverage on the same terms and conditions as the underlying policy, just at a higher limit⁶, ⁷.
• Umbrella Insurance: Offers broader coverage. It not only increases the limits of multiple underlying liability policies (such as auto, homeowners, and general liability) but can also provide coverage for certain types of claims not covered by the underlying policies, subject to a self-insured retention⁵. This "drop-down" feature for uncovered claims, though subject to a deductible, provides a wider safety net.

The key difference lies in their scope: excess insurance specifically bolsters the limit of one underlying policy, while umbrella insurance offers a more comprehensive layer of protection across various underlying policies and can provide some original coverage.

FAQs

What is the main purpose of excess insurance?

The main purpose of excess insurance is to provide an additional layer of financial protection that goes beyond the limits of a primary insurance policy, safeguarding against potentially catastrophic losses⁴.

When does excess insurance come into effect?

Excess insurance is triggered and begins to pay out only after the financial limits of the underlying primary insurance policy have been fully exhausted by a covered claim.

Is excess insurance more expensive than primary insurance?

Generally, the premium for an excess insurance policy is lower than that of the primary policy for the same amount of coverage, because the excess layer bears a lower probability of being activated compared to the primary layer³.

Can excess insurance be purchased from a different insurer than the primary policy?

Yes, it is possible to purchase excess insurance from a different insurance company than the one providing the primary policy, though sometimes it might be more convenient or cost-effective to obtain it from the same carrier².

Does excess insurance cover everything that primary insurance does?

Excess insurance typically "follows form" with the underlying primary policy, meaning it generally covers the same types of losses and is subject to the same exclusions. However, variations can exist, so it's crucial to review the policy wording carefully¹.