Risk Transfer:  Avoiding the Pitfall of
“Horizontal Exhaustion of Limits”

Jim Sorte | Vice President, Claims Executive
Jennifer Barrat | Senior Account Administrator

A landlord of a commercial building includes in their lease a requirement that their tenants maintain commercial general liability (CGL) insurance with a limit of no less than $2 million. The landlord must be named as an additional insured under the tenant’s CGL policy, and the policy must be primary and noncontributory with respect to any policies carried by the landlord.

Most CGL policies have a $1 million per occurrence limit. Therefore, to comply with the requirement in the lease for a $2 million limit, the tenant’s insurance broker provides the landlord with a certificate of liability insurance showing a $1 million limit on the CGL policy, and $10 million limit on the umbrella liability policy.

An incident occurs at the building, and one of the tenant’s customers is seriously injured. A lawsuit is filed naming the tenant and landlord as defendants. The reasonable settlement value of the claim is $1.5 million.

The tenant’s CGL insurer agrees that their policy should respond first, and they pay the full $1 million limit. When the claim is tendered to the tenant’s umbrella liability policy, the insurer says their policy includes an “other insurance” condition, which says, “This insurance is excess over, and shall not contribute with any other insurance, whether primary, excess, contingent or on any other basis.” The umbrella liability insurer says the landlord’s CGL policy qualifies as “other insurance.” In addition, the insurance requirements in the lease apply, specifically, to the tenant’s CGL policy and, since an umbrella liability policy is not mentioned in the lease, the umbrella liability insurer says their policy is not “primary and noncontributory” to the landlord’s policies.

The umbrella liability insurer is using the “horizontal exhaustion of limits” approach to this claim and asserting that the landlord’s CGL policy should pay the $500,000 balance of the settlement that was not paid by the tenant’s CGL insurer. Obviously, the landlord would prefer a “vertical exhaustion of limits” approach whereby the tenant’s CGL would pay $1 million, and the umbrella liability insurer would pay $500,000.

The landlord can file a breach of contract action against the tenant because the tenant failed to provide the required $2 million limit on their CGL policy. Still, having insurance in place to ensure vertical, rather than horizontal exhaustion of limits would result in a much easier course of action.

The simple solution would be to add a paragraph to the insurance requirements stating that the tenant may achieve the required limits and coverage for CGL through a combination of primary and excess or umbrella liability insurance, provided such primary and excess or umbrella insurance policies result in the same or greater coverage as the coverages required, and in no event shall any excess or umbrella liability insurance provide narrower coverage than the primary policy. The excess policy shall not require the exhaustion of the underlying limits only through the actual payment by the underlying insurers.

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