First Loss Insurance Policy

Short term insurance is indeed a minefield of terminology which can be very confusing if you do not know the terms. Some of them may sound like the same thing but could, as a matter of fact, be miles apart. Two such terms are first loss and first amount payable.

First amount payable and first loss – what’s the difference?

The term first amount payable is a synonym for excess – the amount payable by the policyholder when making a claim. There are different types of first loss amounts and they usually also vary depending on the type of loss or damage. A first loss policy is a type of insurance cover where the insurance company and the insured party come to an agreement about the maximum amount to be insured, where the amount insured is less than the actual value of the insured property.

How does it work?

First Loss insurance can be seen as a form of partial insurance and/or partial self-insurance. The insurance company will only be responsible to meet losses up to the first loss amount which was agreed between the insurance company and the insured. The insured will therefore accept responsibility for the balance of the loss should it exceed the first loss amount, hence our referral to it being a form of self-insurance.

Why would you take out First Loss insurance instead of full replacement?

First loss policies can be considered in the case where an insured party believes that the degree of probability of a total loss taking place is very unlikely or basically impossible. The insured will work on an estimation of the maximum probable loss that could take place at any given time and take out first loss cover for that amount.

When is First Loss insurance used?

If we refer back to the fact that we said First Loss insurance is used where a total loss is highly unlikely it provide us with some clues to answer this question. When we think of car insurance the likelihood of a total loss through theft or an accident is rather high and therefore First Loss insurance will not be an option when taking out car insurance.

First Loss insurance is more often used by businesses but also only for insuring certain risks. For example, a business owner may decide that it is highly unlikely that all his stock will be stolen at the same time. He therefore takes out First Loss insurance against theft of his stock. However, should there be a fire, he may lose all his stock therefore fire insurance is not conducted on a First Loss basis.

We also often see the principle of First Loss being applied in house owners’ policies where limits for glass are laid down. It may also be used in other types of property insurance.

First Loss is not necessarily a separate policy

From our example above we can see that First Loss could apply to a specific risk or peril in a policy but not to all risks covered by the policy. The risk that is subject to the First Loss rule will be clearly stipulated in the policy including the amount of the cover.

First Loss insurance and the average clause

The average clause is used to calculate whether the insured has taken out full replacement value for the insured goods. If it is found that the insured party was under-insured the average clause would be applied and the insured will only receive a pro-rata payment for the loss suffered.

In First Loss insurance we are dealing with a specific amount that was agreed to by both insurer and insured. The average clause can therefore not be applied in cases where First Loss is used.