Viewpoint: UIM Coverage and The ‘Floating Layer’ Theory

Most insurance claims professionals understand that, as opposed to uninsured motorist (UM) coverage, which pays damages to an insured who is involved in an accident with an uninsured driver, underinsured motorist (UIM) coverage is automobile insurance coverage which protects an insured involved in an accident with a tortfeasor who doesn’t have liability limits sufficient to cover the insured’s damages.

The insured’s UIM coverage steps in to cover the remainder (hopefully) of the insured’s damages. Some states require UIM coverage, while more require UM coverage.

What can be confusing, however, is that there are—within the body of law regulating and applying UIM coverage—two distinct approaches to UIM coverage in the U.S., depending on the state or jurisdiction: (1) gap theory and (2) excess theory or “floating layer” theory.

In jurisdictions that have adopted the gap theory, UIM coverage will compensate an insured up to the amount of UIM coverage purchased. In jurisdictions that have adopted the excess theory or floating layer theory, UIM coverage will fully compensate an insured injured driver for the cost of the driver’s damages, even when those damages amount to more than what the driver purchased in UM/UIM coverage.

Gap Theory

New Mexico is a gap theory jurisdiction. An insured in New Mexico must carry liability insurance limits of at least $25,000 per person and $50,000 per occurrence and UM coverage (which includes UIM coverage) of at least the same amount. The insured receives the amount of UIM coverage paid for, but this amount is offset by the underinsured tortfeasor’s liability limits paid to the insured.

New Mexico intended to put insured drivers in the same position they would have been in had the underinsured tortfeasor (UIM) purchased liability insurance equal to the insured’s UIM limits of coverage. In other words, the UIM coverage fills the “gap” between the tortfeasor’s liability limits and the insured’s UIM limits.

As the New Mexico Supreme Court put it, “the underinsurance coverage…is not in addition to that provided by the other vehicle but [is] intended to supplement the amount paid by the underinsured motorist so that the insured recover[s] an amount equal to the uninsured motorist protection purchased.” The offset is performed by simply subtracting the amount of the insured’s UIM limits from the amount of the tortfeasor’s liability coverage.

One of the illogical consequences of states that employ the gap theory is that if the insured purchases only the statutory minimum policy, the policy will not cover UIM losses for damages in excess of $25,000. Therefore, recovering UIM benefits is impossible whenever the insured is involved in an accident with a tortfeasor who also has only minimum liability limits.

In the New Mexico Supreme Court decision of Crutcher v. Liberty Mutual, 501 P.3d 433 (N.M. 2021), both the plaintiff and defendant had minimum limits policies and Liberty Mutual (Safeco) applied the offset set forth and established in the 1985 Supreme Court decision of Schmick v. State Farm, 704 P.2d 1092 (N.M. 1985). They refused to pay the plaintiff any UIM benefits based on New Mexico’s “gap theory” approach. In Crutcher, Safeco admitted that while applying the Schmick offset would arrive at the same result, the actual reason they refused to pay was that the tortfeasor did not meet the definition of an “underinsured motorist” pursuant to N.M. Stat. § 66-5-301(B), because the total limits of liability insurance were equal to Crutcher’s UM/UIM coverage limits.

Crutcher filed a class action lawsuit, alleging that Liberty Mutual/Safeco failed to explain to their policyholders how the Schmick offset cancels out any UIM benefits they have purchased, and claimed that these benefits were “illusory.” Stated differently, the plaintiff claimed that there will never be an instance in which there is an “underinsured motorist” if both parties in a car accident are minimally insured because the minimum limits, both being $25,000/$50,000, will always cancel each other out.

Safeco responded, arguing the combined coverage provides value because, while the policy does not protect against the risk of being hit by an underinsured driver, the policyholder will still receive the benefits of uninsured motorist insurance if involved in an accident with a driver with no insurance at all.

The court ruled that “minimum limits” in UM/UIM policies are illusory because they mislead the average purchaser with limited knowledge of insurance law to believe they possess minimum limits UIM coverage in addition to the tortfeasor’s insurance coverage. The Supreme Court continued to allow the sale of these so-called “illusory” minimum limits UM/UIM policies, but only with adequate disclosure of UIM coverage limitations through a prescribed UIM policy exclusion.

The unambiguous exclusion must be written for a reasonably intelligent layperson rather than a lawyer, must fully inform the layperson of the benefits and limitations of the UIM coverage, and must disclose that “by choosing to purchase only the statutory minimum amount of UM/UIM insurance, he or she will never receive the benefit of underinsured motorist coverage.” In response to the Crutcher decision, there has been a cry for the legislature to change New Mexico from a Gap Theory state to an Excess Theory state.

Some statutes provide that the maximum liability of the underinsured motorist carrier is the lesser of the difference between the applicable tort and underinsured motorist limits and the insured’s uncompensated damages. See Colo. Rev. Stat. § 10-4-609(5); Ind. Code Ann. § 27-7-5-5(C). Some statutes specifically limit the carrier’s liability to the gap between the tortfeasor and underinsured motorist limits. See (Ill.) 215 ILCS 5/143a-2(4); Md. Code Ann., Ins. § 19-509 (a)(2)(ii).

Excess or “Floating Layer” Theory

Washington is an example of a state which follows the Excess or “Floating Layer” Theory of UIM coverage. Such states are also known as “topping off” jurisdictions.

In Washington, a UIM policy provides coverage in excess of any liability coverage carried by an underinsured tortfeasor. Washington statutes requires auto carriers to provide a layer of coverage which “floats” above any liability insurance available to the tortfeasors. This statutorily required UIM coverage provides a secondary layer of protection over and above the liability limits carrier by the “underinsured” tortfeasor.

The Supreme Court of Washington has interpreted that state’s UIM statute and defined an “underinsured motor vehicle” as “a motor vehicle…with no bodily injury…liability…insurance policy which applies at the time of the accident, or with respect to which the some of the limits of liability under all bodily injury insurance policies applicable to a covered person after an accident is less than the applicable damages which the covered person is legally entitled to recover.” When a tortfeasor is either uninsured or has limited liability limits, an insured can recover UIM benefits.

Washington requires UIM carriers to provide a “floating” layer of UIM coverage, which is not offset by payments to the injured insured from the tortfeasor’s liability limits, like they are in New Mexico. However, there is no double recovery and Washington UIM coverage is available only in so far as the insured’s recovery from the tortfeasor’s liability carrier leaves him uncompensated for damages.

Section 48.22.030 defines “underinsured motor vehicle” as follows:

“Underinsured motor vehicle” means a motor vehicle with respect to the ownership, maintenance, or use of which either no bodily injury or property damage liability bond or insurance policy applies at the time of an accident, or with respect to which the sum of the limits of liability under all bodily injury or property damage liability bonds and insurance policies applicable to a covered person after an accident is less than the applicable damages which the covered person is legally entitled to recover.

Washington, therefore, defines a vehicle to be underinsured if the liability coverage applicable to it is less than the damages entitled to be recovered by the injured insured.

States are roughly divided evenly between those which follow the Gap Theory and those that follow the Excess Theory or “Floating Layer” Theory of UIM coverage. The former includes Illinois, Kansas, Vermont, Tennessee, New Jersey and South Dakota. The latter includes Colorado, Arizona, Florida and Washington.

For questions regarding uninsured and underinsured motorist insurance and subrogation, contact Gary Wickert at gwickert@mwl-law.com.

Wickert is a shareholder with Matthiesen, Wickert & Lehrer, S.C. With nearly four decades of litigation experience, he is the author of several subrogation books and legal treatises. He is licensed in both Texas and Wisconsin, and is double board-certified in both personal injury law and civil trial law by the Texas Board of Legal Specialization. He is also dual board-certified as a Civil Trial Advocate and Civil Pretrial Practice Advocate by the National Board of Trial Advocacy. Those with questions may contact Wickert at gwickert@mwl-law.com.