How Cumulative Liability Works

Cumulative liability works by adding together all liability for the total parties, typically in an insurance or reinsurance policy. Reinsurance is a secondary policy that works to cover liability for the policyholder's first policy. Cumulative liability is the total liability left to the policyholder after all policies have been exhausted.

Example of Cumulative Liability

An example of cumulative liability would be if Jerry were running a new business, and he needed to take out an insurance policy. The insurance policy he took out left him liable for employee injury and unemployment payments. In addition to being held accountable for employee injury and unemployment, Jerry would be held responsible for any equipment damage, maintenance, and upkeep in his warehouse.

Jerry went to a new insurance company that offered him a policy that would cover any employee injury, death, and hospitalization. In addition to employee health coverage, this insurance company also offered to cover thirty percent of any unemployment charges he faced. This insurance also covered a portion of his equipment. After a one thousand dollar deductible, Jerry would receive compensation for up to forty-five thousand dollars in damages and regular maintenance.

In this situation, Jerry had a cumulative liability of seventy percent of all unemployment fees he may incur, as well as one thousand dollars in equipment maintenance. The final liability Jerry has is any equipment damages or replacement cost over the value of forty-five thousand dollars. By stacking insurance policies, Jerry reduced his cumulative liability and protected himself and his business.

Cumulative Liability vs. Limited Liability

Cumulative liability is the total all parties may be held accountable for to the fullest extent of the law. However, limited liability is quite the opposite. Limited liability is the total amount one individual is held responsible for in the event of a business loss. It means that whatever investment the party contributed, they are held accountable for, but not any debts outside of or greater than that amount.

Limited liability is significant when beginning new business ventures. Many individuals opt for creating a Limited Liability Corporation (LLC) when creating a new company. It is beneficial because it allows the individual to separate from the company's costs and debts.

In the event of a business closure or bankruptcy, creditors cannot claim these funds from the company's owner. The only liability of the individual is the original investment. It is also true for shareholders of large corporations. In the event of financial ruin, shareholders cannot be held liable for the business's assets. They may be held responsible for any unpaid shares. It differs from sole proprietorships and partnerships. In a sole proprietorship or partnership, any proprietor or partner may be held liable for any debts associated with the business; this is called unlimited liability. In an unlimited liability scenario, it is likely that the party accountable would not have enough personal assets to cover the liability's cost. In that case, creditors can hold property such as a residence for collateral.