When Does "Incurred" Mean "Incurred" for Insurance and Reinsurance Purposes?

Defining Incurred

Merriam-Webster defines the word "incurred" as "to become liable or subject to." Dictionary.com defines "incurred" as "to become liable or subject to through one's own action; bring or take upon oneself." Burton's Legal Thesaurus defines "incur" as "become liable for, become responsible for, bring on, bring upon oneself." Burton's lists some associated concepts that are familiar to the insurance industry: "claim incurred, incur a debt, incur a liability, incur an obligation, [and] incurred risk."

Our own IRMI Glossary of Insurance and Risk Management Terms doesn't define "incurred" but does define "incurred losses," as does the National Association of Insurance Commissioners' Glossary of Insurance Terms (incurred claims and incurred losses). Based on the definitions above, it appears that "incurred" refers to becoming liable or subject to an obligation, be it a claim, a loss, an expense, or another legal obligation. In other words, there has to be a real legal obligation or liability, not a theoretical or expected obligation or liability.

Incurred in the Insurance and Reinsurance Context

Insurance and reinsurance contracts often use the term "incurred" to refer to various triggers for claims payments or expense obligations. For example, in a facultative certificate, the reinsurer's obligation to pay expenses included the use of the term "incurred" as follows.

In addition thereto, the Reinsurer shall pay its proportion of expenses (excluding office expenses and payments to any salaried employee of the Company, any subsidiary, related or wholly owned company) incurred by the Company in the investigation and settlement of claims or suits and its proportion of court costs, prejudgement interest and interest on any judgement or award, if any, in the ratio that the Reinsurer's loss payment bears to the Company's gross loss payment.

In a life reinsurance contract, the term "allocated loss adjustment expenses" was defined using the term "incurred" as follows.

"Allocated Loss Adjustment Expenses" means all costs, fees and expenses incurred by the Company or its Affiliates in the investigation, adjustment, settlement or defense of all claims and the monitoring, preservation or enforcement of rights, interests or benefits arising out of or relating to the Covered Contracts (excluding office expenses and salaries of employees of the Company or its Affiliates or any other administrative or overhead expenses of the Company or of its Affiliates), court costs, interest on any judgment or award and any expenses associated with an action by any entity for declaratory judgment filed in connection with the Covered Contracts.

Most reinsurance contracts in the United States contain an insolvency clause. The term "incurred" often appears in that clause in the context of a reinsurer's right to investigate an underlying claim as follows in this example from a facultative certificate:

The Reinsurer shall have the right to investigate each such claim and interpose, at its own expense, in the proceeding where such claim is to be adjudicated, any defenses which it may deem available to the Company or its liquidator. The expense thus incurred by the Reinsurer shall be chargeable, subject to court approval, against the insolvent Company as part of the expense of liquidation to the extent of a proportionate share of the benefit which may accrue to the Company solely as the result of the defense undertaken by the Reinsurer.

Allocation of expenses in the course of resolving a dispute may also involve application of the term "incurred" as seen from this life reinsurance example:

The fees, expenses and costs of the Independent Accountant incurred in rendering any determination pursuant to this Section 4.1(b)(iii) shall be borne by the Company, on the one hand, and the Reinsurer, on the other hand, in inverse proportion as they may prevail, in the aggregate, on all Unresolved Items resolved by the Independent Accountant, based on the dollar amount of such Unresolved Items, which proportionate allocations shall also be determined by the Independent Accountant at the time the determination of the Independent Accountant is rendered on the Unresolved Items.

The word "incurred" often arises in reinsurance contracts that provide coverage for extracontractual obligations or expenses in addition to policy limits as this excess-of-loss treaty demonstrates:

In addition to the retention and limits as detailed above, should the Company incur additional liability as the result of any excess of original policy limit liability and/or extra contractual obligations ... and provided the Company shall have first sustained a loss covered under the terms and conditions of this Agreement, the Reinsurer shall accept for up to an additional limit hereunder, its proportion of the additional liability so incurred, and such amount recoverable under this Agreement shall be determined as follows....

How Some Courts Construe the Word "Incurred"

The U.S. Second Circuit Court of Appeals decided a case at the end of 2011 that addressed the definition of "incurred," Metz v. U.S. Life Ins. Co., 662 F.3d 600 (2d Cir. 2011). In Metz, a policyholder sued her insurer for failing to pay benefits under a catastrophic medical insurance policy. The policy had a deductible, and the insurer denied the request for payments because it said that she had not "incurred" sufficient charges to satisfy her deductible. In the policyholder's view, the insurance company was deliberately misinterpreting the meaning of the word "incurred" and thereby breached the insurance contract.

The district court dismissed the complaint for failure to state a claim on the motion of the insurer, and the policyholder appealed. In affirming the district court's order dismissing the complaint, the circuit court analyzed the word "incurred" and how it applied to this policy. This analysis, while specific to this situation, is useful in understanding how at least one court construed this important insurance and reinsurance term.

The policy required the insured to have "incurred" at least $25,000 in reasonable and customary charges for certain medical treatments specified in the policy before she could obtain coverage under the policy. Many other forms of insurance and reinsurance contracts require that the policyholder or the reinsured must incur a certain level of losses or expenses (separately or combined) for the coverage grants in direct policies or indemnity provisions of reinsurance contracts to apply.

Here, the policyholder claimed she incurred the medical treatment charges. The policyholder was a Medicare recipient. Her doctors had agreed with Medicare to forego certain charges prior to providing treatment. The claim was based on the reasonable and customary charges for the treatments she received without regard to the agreement by her doctors to accept from Medicare payments that were much lower. In other words, she wanted the full amount of the charges to apply against the deductible and not the actual amounts her doctors were reimbursed under their preexisting contracts with Medicare.

To resolve the appeal, the circuit court had to construe the meaning of "incurred" under New York law. New York law, held the court, defines "incurred" for insurance purposes as "to become liable or subject to." Thus, found the court, liability for a charge begins at the time of the treatment for which the charge is imposed. The court held that the insured may be considered liable for a charge even if the insured does not ultimately pay that charge in full or in part.

The question for the court was which charges the policyholder in fact incurred. The court held that, under New York law, an insured must at some point be legally liable to pay that charge, even if that liability is later extinguished prior to payment by the policyholder. Here, the policyholder was never liable for those charges, and she was never charged the difference by her doctors. Accordingly, she never "incurred" those charges, and the complaint was properly dismissed.

Other courts are consistent with Metz. For example, in United States v. Goncalves, 642 F.3d 245 (1st Cir. 2011), the First Circuit Court of Appeals defined incurred as "to which one is subject," not "already imposed." And in 515 Ave. I Tenants Corp. v. Gutman Mgmt. Co., 29 Misc. 3d 1228A (N.Y. Sup. Ct. Kings Co. 2010) (citations omitted), a Brooklyn trial court distinguished between damages suffered and cost or damage incurred. The court stated that "suffered" means paid while "incurred" means become liable for. This distinction is consistent with the distinction between paid losses (losses already paid by the reinsured) and incurred losses (the reserves set by the reinsured on actual claims for which the reinsured, and ultimately the reinsurer, may become liable).

Conclusion

Actual legal liability for something is what satisfies the definition of incurred. Whether it is charges for medical treatments to satisfy a deductible or expenses associated with losses that the reinsured is legally liable to pay, the actual legal liability for the expense or obligation results in a real liability that the party is obligated to satisfy. Most insurance and reinsurance contracts are meant to respond to real claims and associated expenses—those actually incurred by the relevant party. Actual legal liability for the expense or loss is what triggers the obligation.