Subrogation is a legal right afforded to insurers. It allows them to seek reimbursement for losses they have paid by suing the parties that caused the losses.
Insurer Steps Into Insured's Shoes
The insurer's right of subrogation enables it to "step into the insured's shoes." The following example demonstrates how it works.
Jill recently purchased a new refrigerated van to use in her floral business. She has insured the vehicle under a business auto policy that includes comprehensive and collision coverages. When she arrives at the shop one morning, Jill discovers that the vehicle has been badly damaged by a hit-and-run driver. She reports the loss to her commercial auto insurer. The insurer declares the van a total loss and pays Jill $50,000.
The insurer later obtains video footage that identifies Ted as the driver who damaged Jill's van. The insurer sues Ted for $50,000, the amount it paid Jill for the loss. If Jill didn't have physical damage insurance, she would have the right to sue Ted for the damage he caused to her van. Because Jill's insurance company has compensated her for the loss, her right to sue the driver is transferred to her insurer. The insurer "steps into Jill's shoes," meaning it obtains whatever rights Jill has to sue the driver.
Typical Subrogation Clauses
Most business insurance policies contain a clause that describes the insurer's subrogation rights. In ISO policies, the subrogation clause generally appears in the policy conditions under the heading Transfer of Rights of Recovery Against Others to Us. Subrogation clauses vary but they all have the same general purpose. They allow the insurer to recover its loss payment from the party that caused the loss.
1. Commercial Property Policies
Many commercial property policies contain a subrogation clause like the one shown below:
If any person or organization to or for whom we make payment under this coverage part has rights to recover damages from another, those rights are transferred to us to the extent of our payment.
The following example demonstrates how this clause applies:
Jennifer owns a small commercial building that she uses to operate a pet grooming business. She has insured the building under a commercial property policy. One day, Jennifer is busy with a furry customer when a wall of her building suddenly bursts into flames. The fire department arrives and extinguishes the fire. Jennifer's building sustains significant damage so she files a claim with her property insurer.
The fire was caused by a boiler explosion in the building next door. The boiler exploded because the building owner (Bill) failed to maintain it properly. Jennifer's insurer pays her for the fire damage and then sues Bill for the amount it paid to Jennifer. Because the insurer has indemnified (reimbursed) Jennifer for the loss, it assumes her right to sue Bill but only for the amount it paid to Jennifer.
2. Commercial Liability Policies
Most business liability policies contain the same subrogation clause found in the standard ISO general liability policy. It states that if the insured has rights to recover all or part of any payment the insurer has made under the policy, those rights are transferred to the insurer. The following example demonstrates how this clause applies.
Rhonda owns a popular restaurant that offers outdoor seating. Rhonda recently upgraded the outdoor area by adding plants and a decorative brick wall. One day, several customers are eating outdoors when the wall suddenly collapses. One customer is injured by falling bricks and sues Rhonda's business for bodily injury. Rhonda's liability insurer pays the claim and then sues the contractor to recover its loss payment. The insurer contends that the contractor constructed the wall improperly and that its negligence caused the customer's injury. Because the insurer has paid the claim on Rhonda's behalf, it assumes her right to sue the negligent contractor.
3. Commercial Auto Policies
The standard business auto policy contains a subrogation clause similar to the one found in the ISO property policy. It states if the insurer pays an auto liability or physical damage claim, and someone other than the insured is liable for the injury or damage, the insurer may sue that party to recover the amount of its claim payment.
4. Workers Compensation Policies
The standard NCCI workers compensation policy contains two subrogation clauses, both entitled Recovery From Others.
The first clause appears under Part One, Workers Compensation. It gives the insurer your rights and the rights of your injured employee to recover payments the insurer has made from anyone liable for a worker's injury. For example, suppose your firm has purchased a workers compensation policy. One of your employees is injured in an auto accident caused by the negligence of another driver. Your insurer provides workers compensation benefits to the worker and then sues the negligent driver for the cost of those benefits.
In some states, the injured worker could collect workers compensation benefits and then sue the negligent driver for damages. However, most states prohibit workers from "double dipping" (receiving duplicate recovery for the same injury). In these states, a worker who collects damages from the negligent party must reimburse the insurer for the value of the benefits he or she received. Once the worker has compensated the insurer, he or she may be permitted to retain any damages that remain.
A second subrogation clause appears under Part Two, Employers Liability Coverage. It gives the insurer the right to seek recovery from anyone liable for an injury for which the insurer has paid damages under the policy. That is, if the insurer has paid damages as a result of an injury to an employee, it may sue to recover its payment from the party that caused the injury.
Preserve the Insurer's Rights
Once an insurer has paid a claim, it assumes your rights against the negligent party. If you have relinquished your rights, you have none to transfer to the insurer. For this reason, virtually all subrogation clauses include language requiring you to protect the insurer's right to sue the negligent party. Most clauses prohibit you from waiving (giving up) your right to sue the responsible party after a loss has occurred.
For example, in the restaurant scenario outlined above, suppose that Rhonda hired her brother, a masonry contractor, to construct the brick wall. When the wall collapses. Rhonda promises him she won't sue him for the damage. Rhonda has violated the subrogation clause in her liability policy.
Pre-Loss Waivers Permitted
Many commercial property policies allow you to waive your subrogation rights before a loss has occurred. Most liability policies don't bar pre-loss waivers so such waivers are generally permitted. This means you can sign a contract in which you promise not to sue someone for a loss if no loss has yet occurred. Waivers of subrogation are found in many types of business contracts.
The conditions section of the standard commercial property policy contains an exception to the post-loss waiver rule. It allows you to waive your subrogation rights after a loss if the waiver is made in favor of one of the following:
- Another insured under the policy
- A tenant of yours
- A company that owns or controls your company
- A company that you own or control