Definition of Insurance Subrogation

Reading the fine print of an insurance contract may not be anyone's idea of a good time, but it's crucial if you want to understand the scope of your policy. A standard insurance policy comes with a bunch of conditions to the coverage it provides, and subrogation is one of those clauses. It allows your insurer to pay out your claim and then recover those expenses from the at-fault party.

Insurance Subrogation Example

It's easiest to explain subrogation by using an example. Suppose your tumble dryer catches fire due to a mechanical fault and causes significant damage to your kitchen. Because fire is a covered cause of loss in your homeowners insurance, you can file an insurance claim. The insurance provider will pay you for your loss up to the limit stated in your policy – minus your deductible, of course.

This means the insurer is out of pocket. And when insurers are out of pocket, they will do whatever they can to recover the loss.

Because the fire was caused by faulty wiring, the manufacturer of the dryer is ultimately liable for the damage. The insurance company would love to have the right to sue the manufacturer and get its money back. Luckily, it does have that right. This is the principle of insurance subrogation.

Understanding the Subrogation Definition

Although it is widely used by the modern insurance industry, subrogation is actually one of the oldest concepts in Anglo-American common law. It describes the right of one party to be substituted for another in a legal claim.

In the case of our faulty dryer, you (the homeowner) would have a legal claim against the manufacturer for the damage their machine caused. But as soon as your insurer pays you for the loss you've suffered, the claim gets transferred or "subrogated" to the insurer.

Perhaps the easiest way to think of subrogation is the insurer "stepping into your shoes" to bring a claim for damages. It's the primary method insurance companies use to recover money they paid out to insured customers.

Subrogation Claim Types

Subrogation can apply to all types of policies, both personal and business related. You probably have a subrogation clause in your homeowners, auto, travel and professional indemnity insurance policies, to name just a few. Here are some situations where subrogation might play out:

A truck runs a red light, totaling your car and giving you a whiplash injury. Your auto insurer pays to have your vehicle fixed and settles your medical bills, then claims the money back from the at-fault truck driver's insurer.

The restaurant next door makes a mistake with its cooking equipment and creates an explosion, causing $30,000 worth of damage to your home. Your homeowners insurance provider writes a check for the repairs and then sues the restaurant to get its $30,000 back.

The web hosting service your business uses goes down, and your client suffers a serious business interruption. You claim on your professional indemnity insurance and pay the client for its losses. Your insurance carrier then sues the web hosting service for the full value of the claim.

The right of subrogation is not part of life insurance policies that pay out on death. That has to do with a knotty legal concept called the principle of indemnity.

Indemnity and Insurance Subrogation

Generally, there will be some type of property damage associated with a claim in subrogation. That's because these claims are built on the "principle of indemnity," or the idea that you should not be allowed to profit from your loss.

Without subrogation, you would have the contractual right to collect insurance for the loss and the tortious right to sue the person who caused the loss in the first place. Tort law is the area of law that allows you to claim compensation when a wrongdoer hurts you in some way. In other words, you could claim twice for the same event and profit from the incident. Subrogation stops this from happening, because the insurer gets the right to sue in tort, not you.

Life insurance is not based on the principle of indemnity and you cannot make a subrogation claim. So, if your spouse didn't have the right safety equipment at work and was killed in an accident, then you can collect the life insurance proceeds and sue your spouse's employer for negligence. The main reason why life insurance is different is that most people do not willingly give up their lives just to collect some insurance money.

Subrogation Customer Benefits

Regardless whether the insurer can subrogate, it still has to pay you for your loss under the insurance policy, assuming you have a legitimate claim. Without subrogation, the insurer would not be able to recover damages from the wrongdoer like the dryer manufacturer.

In other words, the wrongdoer gets away with it, and the insurer is out of pocket. For consumers, that translates to higher insurance premiums. The insurance company will seek to recover its losses from somewhere, and that somewhere is you. Your premiums would be much, much higher without subrogation.

The legal landscape would look very different, too. If there were no subrogation, you would have to file the claim against the dryer manufacturer to recover your deductible and any losses you suffered above the limit of the insurance policy. The insurer would then come after you and your compensation so it could claw back some of the insurance money it paid. This could lead to a whole bunch of lawsuits, cross-suits and counter-suits arising from a single case of property loss.

Nobody wants that, least of all the courts. Subrogation provides a buffer between you and the headache of a lawsuit, and ensures the buck stops with the insurance carrier.

Subrogation Insurer Benefits

Subrogation is important because it allows the insurer to recover the money it has paid out to customers. The money it receives from the wrongdoer goes directly to the insurer's bottom line, and this allows it to keep your insurance premiums low. For the insurer, the ability to advertise low premiums keeps business coming through the door.

There's another advantage to subrogation, and that's a speedier claim resolution. When the insurance company is confident that it will get some or all of its money back through subrogation, it is much more likely to pay the insurance bills quicker. Thanks to subrogation, the fire damage is fixed, and your dryer is replaced quickly, with your home and your finances restored.

Customers are going to sing the praises of an insurer who acts quickly like that. Why wouldn't you renew your policy when the insurer treated you so well?

Who Gets Involved in Subrogation?

Most times, you will know very little about the subrogation process. You should get a letter telling you that the insurer is attempting to pursue subrogation, but that's about it. Straightforward claims are negotiated directly between insurance companies and have little impact on a homeowner or a driver like you.

During a subrogation claim, one thing you must not do is speak to the wrongdoer. It's a condition of subrogation that you cooperate with the insurance company and do nothing that would interfere with its right to recover funds.

That means you are not permitted to admit liability yourself, sign a waiver releasing the wrongdoer from responsibility or accept any type of settlement offer. Don't do anything until you clear it with the insurer!

Subrogation and Your Deductible

There's one aspect of subrogation that we haven't mentioned yet that you definitely want to know about: what happens to your deductible? The good news is that the insurer will claim for the full amount of the insurance loss – and that includes your deductible. If the insurer is successful, the $500, $1,000 or whatever payment you made on your claim will be given back to you.

If You're Partially at Fault

Split liability is common in the car insurance world, where both drivers may be partly at fault for a collision. Subrogation still works in this situation – it just reduces the amount of compensation you'll receive. Here's an example.

Let's say you hit the accelerator when you saw the light turn yellow. You almost cleared the intersection before the light turned red, but not quite. At the same time, the other driver pulled forward just before her light turned green and struck your vehicle. You file an insurance claim for $5,000 worth of damage, which your insurer pays, and pay a $500 deductible.

Because your policy has a right of subrogation, your insurance company files a claim to recover the $5,500 loss from the other driver's insurance. Both insurers now set about investigating the claim.

After looking at the evidence, the insurers decide that you were 30 percent to blame for the collision and the other driver was 70 percent to blame. Depending on the laws of your state, your insurer should be able to recover 70 percent of your losses in proportion to the other driver's degree of fault. So, in this example, your insurance company will recover 70 percent of $5,000 or $3,500. You will recover $350 of your deductible.

Waiver of Subrogation

A waiver of subrogation occurs when you give up your right to subrogation. In the business world, it's not unusual for a client to limit its liability for the work you are doing together. At the same time, the client may ask you to waive your rights of subrogation. This gives the client peace of mind that it will not be sued by either you or the insurance company if it is somehow responsible for a loss.

Many insurers will waive subrogation as part of their underwriting if this is a condition of your client contract. Understand, however, that you're taking away the insurer's right to recover any claims they pay. This increases the insurance carrier's exposure, which may lead to a higher premium.

Another time you may come across a subrogation waiver is if the wrongdoer wants to settle the claim with you directly. For example, suppose an at-fault driver's insurance company agrees to pay you $5,000 directly to settle the complaint. There's a good chance the settlement agreement will contain a waiver of subrogation clause, because the insurance company wants to make sure it won't get sued by you or anyone else after paying the money.

You could be in big trouble for signing a waiver of subrogation clause like this. Some consumer policies will allow you to waive subrogation; most will not. Your insurer may refuse to pay your claim entirely (because it cannot get its money back), and they might cancel your policy because you have violated the policy terms.

The bottom line is to be sure to check the fine print before you sign anything related to your insurance claim. The consequences are severe if you get it wrong.