2.4 Deductibles, Limits, and Loss Settlement

Deductibles: The Insured's Retention

A deductible is the portion of each loss the insured retains before the policy responds. Deductibles control premium (higher deductible = lower premium), eliminate small nuisance claims, and reduce moral/morale hazard. The exam distinguishes several types:

• Flat (dollar) deductible — a fixed amount per loss (e.g., $1,000), the most common form.
• Percentage deductible — a percent of the dwelling limit, used for wind/hurricane and earthquake perils (e.g., 2% of Coverage A). On a $300,000 dwelling, a 2% hurricane deductible is $6,000 — far larger than a flat deductible.
• Calendar-year / aggregate deductible — applies to total losses in a year (health/commercial).
• Franchise deductible — once the loss exceeds a threshold, the insurer pays the entire loss (common in marine).

Limits of Insurance

The limit is the most the insurer will pay. Property limits appear in the Declarations. Liability and commercial forms add limit structures the exam tests heavily:

• Per-occurrence limit — the most paid for any one event.
• Aggregate limit — the most paid during the policy period across all occurrences.
• Sublimits — internal caps inside the policy (e.g., $1,500 on jewelry theft, $2,500 on business property in an HO form).
• Split limits — separate liability caps written as three numbers (covered below).
• Combined single limit (CSL) — one limit covering bodily injury and property damage combined.

Split Limits — Worked Example

Auto liability split limits are written as 25/50/25 (in thousands):

• $25,000 bodily injury per person
• $50,000 bodily injury per accident (all persons)
• $25,000 property damage per accident

Scenario: An at-fault insured injures two people — one with $30,000 in injuries, one with $15,000 — and causes $20,000 of property damage.

• Person 1: capped at the $25,000 per-person limit → insurer pays $25,000 (insured owes the extra $5,000).
• Person 2: $15,000 is below the per-person cap → insurer pays $15,000.
• BI per accident: $25,000 + $15,000 = $40,000, within the $50,000 per-accident cap. OK.
• Property damage: $20,000, within the $25,000 PD cap → insurer pays $20,000.
• Total insurer payment = $60,000.

A Combined Single Limit of $60,000 would have covered the same facts from one pool with no per-person sublimit, paying Person 1's full $30,000.

Loss Settlement Provisions

When multiple policies cover the same loss, Other Insurance provisions allocate payment. Memorize the three methods:

Pro rata example: Two policies, $100,000 and $300,000 limits (total $400,000), share a $40,000 loss. Insurer A pays 100/400 × $40,000 = $10,000; Insurer B pays 300/400 × $40,000 = $30,000. The insured never collects more than the loss — the principle of indemnity and the anti-stacking/contribution rules prevent profit.

Order of Operations & Traps

Apply provisions in this sequence: (1) valuation → (2) coinsurance factor → (3) compare to limit/sublimit → (4) subtract deductible → (5) allocate other insurance.

• Trap: Percentage (hurricane) deductibles apply to the Coverage A limit, not to the loss amount.
• Trap: Sublimits cap specific categories inside the overall limit — a $200,000 contents limit with a $1,500 jewelry sublimit pays only $1,500 on stolen jewelry.
• Trap: With split limits, you cannot move unused per-person room to another claimant; each person is independently capped at the first number.

Percentage and Special Catastrophe Deductibles

Beyond flat dollar deductibles, property forms increasingly use percentage deductibles tied to the dwelling or building limit, especially for hurricane, named-storm, wind/hail, and earthquake perils. A 2% hurricane deductible on a $300,000 dwelling is $6,000, far larger than a typical $1,000 all-other-perils deductible. Exam items test the arithmetic and the trigger: a wind deductible often applies only once a named storm reaches a defined threshold, after which the larger percentage figure, not the flat deductible, is subtracted.

Aggregate Limits, Sublimits, and Restoration

A per-occurrence limit caps a single loss, while an aggregate limit caps total payments during the policy period. Property forms also embed sublimits that cap specific categories, such as $200 on money, $1,500 on watercraft, or $2,500 on business property on premises, even though the overall contents limit is far higher. Some commercial forms include a nonreduction or automatic restoration feature so the limit is not eroded by paid claims; others do reduce. Identifying which limit or sublimit governs a given item is a recurring task.

Vacancy, Margin Clause, and Order of Application

A vacancy provision reduces or voids coverage when a building is vacant beyond a set period (commonly 60 days), cutting payment by a percentage for certain perils such as vandalism, glass, and water damage. The settlement order of operations is fixed: apply the coinsurance factor first, compare the result to the limit, then subtract the deductible, and never exceed the limit. Reversing coinsurance and deductible, or applying the deductible before the limit cap, produces the wrong answer the exam expects you to avoid.