2.4 Deductibles, Limits, and Loss Settlement

Deductibles, Limits, and How Claims Are Paid

After valuation and any coinsurance adjustment, two more controls shape the final check: the deductible the insured retains and the policy limit that caps the insurer's payment. Loss-settlement provisions then specify the order and manner of payment. These three mechanics combine on most exam math problems, so the sequence matters: apply coinsurance first, then the deductible, then cap at the limit.

A deductible is the portion of each loss the insured pays before coverage responds. It reduces premium, discourages small claims, and shares risk.

Types of Deductibles

• Flat (straight) deductible: a fixed dollar amount subtracted per occurrence (e.g., $1,000).
• Percentage deductible: common for wind/hail, hurricane, and earthquake; calculated as a percent of the dwelling limit, not the loss. On a $300,000 home with a 2% hurricane deductible, the insured retains $6,000.
• Aggregate deductible: applies to the total of all losses in a policy period; once met, later losses are paid in full.
• Disappearing (franchise) deductible: reduces toward zero as the loss grows, or pays nothing until a threshold is crossed, then pays in full above it.

Policy Limits

The policy limit is the maximum the insurer will pay. On property forms it is usually a specific (per-item) limit per building or per contents location. Related concepts:

• Blanket limit: one limit covering multiple items or locations, giving flexibility when values shift between sites.
• Sublimit: a cap on a specific category (e.g., $2,500 on jewelry theft) within the larger limit.
• Restoration / reinstatement: most property policies automatically restore the limit after a partial loss, so the full limit remains for later claims in the term.

Loss Settlement Sequence — Worked Example

Building value $1,000,000; 80% coinsurance; limit carried $800,000 (compliant); covered loss $120,000; flat deductible $2,500.

1. Coinsurance: ratio = $800,000 ÷ $800,000 = 1.0 → no penalty.
2. Indemnity: 1.0 × $120,000 = $120,000.
3. Deductible: $120,000 − $2,500 = $117,500.
4. Limit check: $117,500 < $800,000 limit → paid in full.

If the loss had been $850,000, the payment would cap at the $800,000 limit regardless of the larger loss, because the limit is the insurer's ceiling.

Settlement Options and Other Insurance

Insurers typically reserve the right to pay the loss in money, repair, rebuild, or replace the property, or take the damaged property at the agreed value. When two policies cover the same loss, other-insurance clauses decide how they share:

The right of salvage lets the insurer recover and sell damaged property after paying a claim, offsetting its loss.

Deductible Types and How They Interact With Limits

The exam distinguishes several deductible structures, and confusing them is a classic error:

• Straight (flat) deductible — a fixed dollar amount subtracted from each loss (e.g., $500). Most common on property and auto.
• Percentage deductible — a percentage of the dwelling/property limit, common for wind/hail and hurricane perils (e.g., 2% of $300,000 = $6,000). It is a percentage of the limit, not of the loss — a frequent trap.
• Disappearing (franchise-style) deductible — reduces as the loss grows and vanishes above a threshold.
• Aggregate deductible — applies once to the sum of all losses in the policy period rather than per occurrence.

Limits also stack in layers: a per-occurrence limit caps any single loss, while an aggregate caps the total for the term. A sublimit (e.g., $1,500 on jewelry theft) is carved out of, not added to, the main limit.

Worked example: a homeowner with a 2% wind deductible on a $250,000 dwelling suffers $20,000 of hail damage. Deductible = 2% × $250,000 = $5,000 (not 2% of $20,000). The insurer pays $20,000 − $5,000 = $15,000, assuming coinsurance is met. Apply the loss-settlement valuation (ACV or RC) first, then subtract the deductible, then test it against the limit — order matters and is heavily tested.

Common Exam Traps

• Percentage deductibles apply to the limit, not the loss — the single most-missed deductible question.
• Apply coinsurance before the deductible, then cap at the limit; doing these out of order changes the answer.
• A sublimit is the maximum for that category, even if the overall limit is larger.
• The limit, not the loss, is the ceiling on a catastrophic claim.

Per-Occurrence vs. Aggregate and Coverage Extensions

Property limits are usually per-occurrence and restore after each loss, but some coverages carry an annual aggregate cap that, once exhausted, ends coverage for the rest of the term. Catastrophe coverages and certain pollution clean-up extensions commonly use aggregates, so read whether a limit resets.

Many property forms also add coverage extensions and additional coverages that pay over and above the main limit — for example, debris removal, fire department service charge, or pollutant cleanup. These often have their own small sublimits (such as $25,000 for debris removal) that apply in addition to, not within, the building limit. Distinguishing a true additional coverage from a sublimit carved out of the main limit is a recurring exam distinction.

How Deductibles Affect Premium and Risk

Deductibles are a form of risk retention: the insured keeps the small, frequent losses and transfers the large, severe ones. Raising a deductible lowers premium because the insurer no longer pays high-frequency small claims and saves on adjusting costs. The savings are not linear — moving from a $500 to a $1,000 deductible saves more proportionally than moving from $5,000 to $5,500.

Producers weigh a client's cash flow and loss tolerance when recommending a deductible. A trap appears when a single event damages property at several covered locations: most forms apply the deductible per occurrence, not per building, so one storm draws a single deductible across the combined loss unless the form states otherwise. Read the deductible clause wording before assuming how many deductibles apply.