September 12, 2012 Articles

Bankruptcy Treatment of Self-Insured Retentions and Deductibles

With limited exceptions, courts generally do not allow insurance companies to escape their obligations to bankrupt policyholders simply because the policyholder lacks the financial resources to pay an SIR or deductible

by Erin L. Webb [1]

What happens when a company with outstanding insured liabilities files for bankruptcy? What if the company’s liability insurance policies contain self-insured retentions (SIRs) or deductible amounts? With the company financially unable to pay any SIR or deductible, who is left “holding the bag”?

With limited exceptions, courts generally do not allow insurance companies to escape their obligations to bankrupt policyholders simply because the policyholder lacks the financial resources to pay an SIR or deductible. As always, the starting point will be the precise language of the liability policies involved. But state insurance law requirements, public policy, and bankruptcy rules can all affect the outcome.

It is important to distinguish whether the policy contains an SIR or a deductible, because they operate differently. Where there is an SIR, the policyholder typically must pay the SIR before the insurance company’s obligation is triggered.[2] In contrast, under typical policy language, the insurance company will generally pay the deductible amount first and then seek reimbursement from the policyholder.[3] This distinction plays an important role in a court’s analysis of how the policy operates and who must pay in the event of a policyholder’s insolvency.

The key issues are as follows: Will coverage be available if the policyholder cannot pay the SIR, or does the policyholder’s failure to pay the SIR vitiate coverage? If there is underlying liability that would be covered by the policy, and there is a deductible provision, how is the insurance company compensated for that deductible payment in the event of a policyholder’s bankruptcy? Most courts find that the attachment point of the policy remains the same, but the insurer may not escape payment based on the policyholder’s inability to pay the SIR or deductible.

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