Introduction

The Mk.IV ISR policy is not explicit about how its Limit of Liability and Sub-Limits of Liability (collectively, “limits”) apply. Like many aspects of the Mk.IV ISR policy, an understanding of how limits apply is often acquired through experience. This article, however, uses examples to show how limits should apply.

A Mk.IV ISR example: Premises in the Vicinity (Prevention of Access)

Let’s say:

1. damage occurs to property in the vicinity of the insured location (the “Premises”);
2. damage from that peril is insured under the policy, if such damage occurred to Property Insured;
3. the damage prevents access to the Premises; and
4. there is interruption with the Business in consequence of the damage.

Under the “Premises in the Vicinity (Prevention of Access)” memorandum, these circumstances are “deemed to be loss resulting from Damage to property used by the Insured at the Premises”, which enables the insured to claim business interruption loss under The Indemnity in “Section 2 – Consequential Loss”. That indemnity is subject to the “limitation on the Insurer(s) liability” and the amount of loss is calculated “in accordance with the applicable Basis of Settlement”. Accurate use of singulars and plurals is not a strength of the Mk.IV ISR, since the applicable Bases of Settlement could be:

1. Loss of Gross Profits;
2. Claim Preparation Costs;
3. Pay-Roll; and
4. Additional Increase in Cost of Working.

So, what is the “limitation on the Insurer(s) liability”? Well, let’s say the policy has the following Sub-Limits of Liability:

1. Premises in the Vicinity (Prevention of Access): $250,000;
2. Claim Preparation Costs: $1,000,000; and
3. Additional Increase in Cost of Working: $1,000,000.

While Loss of Gross Profits and Pay-Roll (assuming Pay-Roll is insured separately) would have declared values, they do not have Sub-Limits of Liability.

If Loss of Gross Profits and Pay-Roll were claimed up to their declared values as a result of a Premises in the Vicinity (Prevention of Access) claim, it would render the Sub-Limit of Liability for Premises in the Vicinity (Prevention of Access) meaningless. Clearly, the Sub-Limit of Liability for Premises in the Vicinity (Prevention of Access) must be an overarching limit – “the limitation on the Insurer(s) liability” – and amounts payable under the other bases of settlement must fall within both their own Sub-Limits of Liability (if any) and that “limitation”.

There is no rational basis to claim that the Sub-Limits of Liability for Claim Preparation Costs and Additional Increase in Cost of Working should not be subject to the Sub-Limit of Liability for Premises in the Vicinity (Prevention of Access). The purpose of a Sub-Limit of Liability is to limit the insurer’s exposure, and this purpose is defeated if the insurer’s exposure is not $250,000, but potentially $2,250,000. Consider the amounts of the Sub-Limits of Liability: in this example (from a real policy), the Additional Increase in Cost of Working Sub-Limit is four times that of Premises in the Vicinity (Prevention of Access). Again, the purpose of the Sub-Limit of Liability on Premises in the Vicinity (Prevention of Access) is defeated if the Loss of Gross Profits and Pay-Roll components of the claim were limited to $250,000, but the insured could claim up to $1,000,000 for each of Claim Preparation Costs and Additional Increase in Cost of Working.

From the paragraph above, it is clear that “the limitation on the Insurer(s) liability” – as referred to in The Indemnity in “Section 2 – Consequential Loss” can be a Limit of Liability or a Sub-Limit of Liability. Since the same words, i.e. “the limitation on the Insurer(s) liability”, are used in The Indemnity in Section 1, it can be safely concluded that the same applies there.

Another Mk.IV ISR example: Flood

Let’s consider another example where a Policy has the following Sub-Limits of Liability. For Section 1:

1. Removal of Debris: no sub-limit;
2. Landscaping: $250,000;
3. Extra Cost of Reinstatement: $1,000,000;
4. Additional Extra Cost of Reinstatement: $500,000;
5. Expediting Costs: $50,000; and
6. Liability to Make Enquiries: $250,000.

For Section 2:

1. Claim Preparation Costs: $1,000,000; and
2. Additional Increase in Cost of Working: $1,000,000.

And for Sections 1 and 2 combined:

• Flood: $10,000,000.

Now, let’s say Property Insured at the Premises is damaged by Flood, and that the total amount of the damage and resultant business interruption is $20,000,000.

The previous example established that “the limitation on the Insurer(s) liability” can be a Limit of Liability or a Sub-Limit of Liability and, if a Sub-Limit of Liability, such limit is an overarching limit within which other Sub-Limits of Liability operate. Given this, it should be clear that the insurer’s liability is limited to the Sub-Limit of Liability against Flood, i.e. $10,000,000. It would defy logic to claim that the Sub-Limits should apply cumulatively (i.e. “stacking of sub-limits”) and that the insurer’s liability (assuming all other limits could be exhausted) should be $14,050,000, i.e. $10,000,000 plus $250,000 plus $1,000,000 plus $500,000 plus $50,000 plus $250,000 plus $1,000,000 plus $1,000,000. If the limits could stack, perversely, the insured would be disadvantaged by not having a sub-limit for Removal of Debris.

The Mk.V ISR

In the Mk.V ISR, its definition for Limit of Liability includes the following: “If more than one Limit or Sub-Limit of Liability applies, the lesser amount shall be payable”. This was intended to clarify the position in the Mk.IV ISR where “the limitation on the Insurer(s) liability” for a loss could be a Limit of Liability or a Sub-Limit of Liability. Unfortunately, the Mk.V ISR wasn’t clear about when a Limit or Sub-Limit of Liability would “apply” as an over-arching limit. Because if there is not a Sub-Limit of Liability applying as an overarching limit, then the Sub-Limits of Liability in the policy will apply cumulatively (as, for example, in a typical fire claim).

For the Mk.V ISR, the TOPLIM01 endorsement is as follows:

Respectfully, this endorsement doesn’t make sense. If a policy has a Limit of Liability and, say, a Flood Sub-Limit of Liability, would anyone seriously suggest that the lower Flood Sub-Limit of Liability should be ignored and that the policy’s Limit of Liability should apply to Flood claims? One would hope not, though stranger things have happened.

Addressing the sub-limit problem

Above, I’ve considered a Premises in the Vicinity (Prevention of Access) claim and a Flood claim. So, contingent business interruption and particular perils/circumstances/events can give rise to an overarching Sub-Limit of Liability (i.e. a Sub-Limits of Liability that acts like a Limit of Liability because it is the maximum amount payable).

Although less common, an overarching Sub-Limit of Liability could also arise if a Sub-Limit of Liability applies to a particular item of property. Obviously, however, if damage occurred to both Sub-Limited and not-Sub-Limited property, then the Sub-Limit would only apply to the Sub-Limited property.

To address the operation of Sub-Limits of Liability and Limits of Liability, I drafted a clause that sought to explain how Sub-Limits of Liability should operate, which recognised that:

1. Sub-Limits of Liability apply independently of each other, subject to exceptions;
2. those exceptions are when a Sub-Limit of Liability applies to: a peril, event or circumstance; a particular location (i.e. Premises/Situation); contingent business interruption covers; or Property Insured;
3. if such a Sub-Limit of Liability applies, it is the maximum amount payable by the insurer;
4. if more than one such Sub-Limit of Liability applies, then the lowest Sub-Limit of Liability is the maximum amount payable (consider Flood enlivening the Premises in the Vicinity (Prevention of Access) memorandum; and
5. if damage occurs to Property Insured and only part of that Property Insured is subject to a Sub-Limit of Liability, that Sub-Limit of Liability will only apply to that part of the Property Insured.

To demonstrate the operation of the clause, examples were included.

Are so many words needed to solve this problem? Respectfully, the number of words isn’t necessarily a problem. But ambiguity and confusion over the proper operation of Sub-Limits of Liability is a problem. Shouldn’t insurance practitioners be trying to provide clarity?

Post-script: Non-Marine Property Physical Loss or Damage Wording (LMA3182)

After initially drafting this article, I came across the LMA’s Non-Marine Property Physical Loss or Damage Wording (LMA3182). It has sought to address the operation of limits with the following:

Here,

1. the first paragraph provides that sub-limits of liability for locations and property can be over-arching sub-limits (i.e. “the maximum amount payable…”); and
2. the third paragraph provides that sub-limits on particular events (Earth Movement, Flood, Windstorm or Named Storm) can be over-arching sub-limits (i.e. “the maximum amount potentially recoverable…”).

I commend the LMA on seeking to provide greater clarity about the operation of sub-limits. The LMA’s approach is different to that which I proposed above and, specifically, it doesn’t:

1. state a default position that sub-limits of liability apply independently;
2. address sub-limits of liability for contingent business interruption covers; or
3. state that the lower over-arching sub-limit will apply.

Some insurance professionals may not consider that these things need to be stated explicitly but, as above, my experience suggests otherwise and clarity is preferable.