Professional Indemnity: Costs Exclusive vs Costs Inclusive

Professional Indemnity (PI) insurance provides businesses and professionals with cover for their liability for compensation arising from errors and omissions in connection with the professional services they provide to their customers.

The purpose of this article is to explain the difference between:

• costs inclusive and costs exclusive excesses, and
• costs exclusive and costs inclusive indemnity limits.

Understanding these features of a PI insurance policy is essential to ensuring the cover selected provides the right level of protection for your client.

What is an Excess?

An excess is the amount the insured must first contribute towards the cost of each claim.

What is a Costs Inclusive Excess?

A costs inclusive excess means that the excess applies to both the compensation amount and any costs and expenses incurred in investigating, defending, or responding to the claim. This means that the insured is responsible for covering both the compensation amount and costs and expenses (including legal expenses) up to the excess amount.

Costs Inclusive Excess Example

An insured has a PI policy with a $10,000 costs inclusive excess. The insured notifies a claim. The insurer defends the claim with the outcome being no compensation payment to the third party. The insurer incurs legal costs of $50,000 to defend the claim. The insured pays the first $10,000 of legal costs incurred by the insurer.

What is a Cost Exclusive Excess?

A costs exclusive excess means that the excess only applies to the claim compensation amount itself, excluding any reasonable and necessary costs and expenses associated with defending, investigating, responding to, or settlement of the claim. The insurer will cover these costs and expenses (including legal costs) up to the excess amount.

Selecting a costs exclusive excess can help provide some financial relief for insureds who might face significant legal costs to investigate and respond to a claim.

Costs Exclusive Excess Example

An insured has a PI insurance policy with a $20,000 costs exclusive excess. The insured notifies a claim. The insurer defends the claim with the outcome being a $10,000 compensation payment to the third party. The insurer incurs legal costs of $20,000 to defend the claim. The insured pays the $10,000 compensation payment as it is less than the excess but does not pay for any legal costs incurred by the insurer.

What is the Indemnity Limit?

The indemnity limit is the maximum amount an insurer will pay for any one claim and in the aggregate during the policy period. There are two types of indemnity limits – defence costs exclusive (also known as costs in addition) and defence costs inclusive.

Costs Exclusive Indemnity Limit

A defence costs exclusive indemnity limit is the maximum amount an insurer will pay for any one claim, excluding any reasonable and necessary costs and expenses incurred during the claims process. In other words, the reasonable and necessary costs and expenses associated with defending, investigating, responding to, or settling the claim (including legal costs) are payable in addition to the indemnity limit by the insurer. Generally, costs and expenses paid in addition to the indemnity limit by the insurer are capped to the amount of the indemnity limit and may be subject to an average provision (where applicable).

Claim Example

An insured has a PI policy with a defence costs exclusive indemnity limit of $1m. The insured makes a claim that is settled by making a $1m compensation payment to the third party. Legal costs incurred to defend the claim are $200,000. The insurer pays the compensation payment and legal costs.

Costs Inclusive Indemnity Limit

A defence costs inclusive indemnity limit is the maximum amount an insurer will pay as compensation for any one claim, including any reasonable and necessary costs and expenses associated with defending, investigating, responding to, or settling the claim (including legal costs). Put another way, this type of indemnity limit is the maximum cover available for compensation, costs and expenses associated with resolving the claim.

Claim Example

An insured has a PI policy with a defence costs inclusive indemnity limit of $1m. The insured makes a claim that is settled by an $800,000 compensation payment to the third party. Costs and expenses reasonably and necessarily incurred to investigate, defend, respond to, and resolve the claim are $300,000. The insurer pays the $800,000 compensation payment and contributes $200,000 towards the costs and expenses. The insured funds the $100,000 balance for costs and expenses as the limit of liability has been reached.

Important Consideration

When choosing a Professional Indemnity insurance policy, brokers should engage in discussion with their clients about whether costs inclusive or costs exclusive options best suit their requirements.

Related Articles

Professional Indemnity: The Importance of the Professional Services Description

Top Insurer for PI & GL in Steadfast Survey

Continuous Cover: Key Considerations when Changing Insurers

Important Notice

Berkley Insurance Company (limited company incorporated in Delaware, USA) ABN 53 126 559 706 t/as Berkley Insurance Australia is an APRA authorised general insurer. Information provided is general only, intended for brokers and has been prepared without taking into account any person’s particular objectives, financial situation or needs. Insurance cover is subject to terms, conditions, limits, and exclusions. Underwriting criteria applies.