Category: Insurance

If you’ve ever considered owning a small business, or are considering owning one, you’ve probably heard all the usual advice.  Make sure you have enough capital.  Only let family run the cash register.  Don’t take in a partner without an ironclad contract.   Location, location, location.

What you may not have heard is this one: Be careful you don’t get nailed with hazardous waste remediation and lose your shirt.

How could that happen?  You’re not opening a nuclear reactor, just an ice cream shop.

Aha!  What if the site you select for your ice cream shop ends up being in a district where the water is found to contain too many parts per million of some noxious substance or another and you have to close down or move?  Or worse, be permitted to stay, but be required by local government to hang a sign at the order window telling customers they drink your sodas at their own risk?  It has happened to a shop in the town of Finksburg, Maryland. Fortunately, the local population isn’t too concerned about that stuff in the water, and the owner didn’t have to close up shop, risking his investment and his livelihood.  But he without a doubt lost business.

That was a mild case of the ‘environmental flu.’  Others can be much worse.

Fortunately, there is insurance for that sort of thing, and having it might even help you get financing for your new venture. Originally meant for big business, ones that might easily buy a 40-acre site that was a pharmaceutical waste dump in the 1950s and is now in need of expensive remediation, secured creditor environmental insurance now comes in sizes to fit most businesses, large and small.

These policies protect both the business owner and the business owner’s lender in the event that contamination of the business site is found and must be cleaned up.  The insurance takes care of the cost of remediation, or the loan if the owner must default because of the cost of remediation.  And it also covers liability claims, including bodily injury.  Note:  These policies cover only claims based in environmental laws in effect at the time the policy was written, not claims based on later regulation and legislation.

In effect, secured creditor environmental insurance acts much like title insurance.

Title insurance includes an investigation of the real estate to make certain all previous deed transfers, survey and so on were correct.  If the investigation failed to find something that later becomes a problem, the title insurance takes care of it.

Secured creditor environmental insurance policies also require an investigation into the prior uses of the land.  If a problem is later discovered, but the investigation was conducted with due diligence, then the insurance pays for the cleanup. In all cases, the policies won’t pay off if information that results in claims has been withheld.

Unlike title insurance, secured creditor environmental insurance companies also want to know what the intended future use of the site will be.

You want to open an ice cream store?  You’d probably have no problem.  The Finksburg case is actually unusual.

Dry cleaner?  Sure, although your deductible will be fairly high, in the $1,750 range. Note, too, that managers of strip malls, where most dry cleaners are located, are beginning to require dry cleaning shop owners to have some sort of pollution liability insurance.  Cleaning up a spill at a dry cleaning store costs about $50,000 on average; the deductible will be somewhere around $10,000.

Nuclear reactor?  Get real.

Loss Mitigation Insurance transfers an unknown or unwanted exposure from one company to an insurance company for a price. LMI caps what would otherwise be an unknown amount and is particularly effective if the company with the liability is in the process of merging or being acquired.

Employers of all sizes can benefit from a LMI policy. The coverage helps risk managers dispose of costly litigation that could damage the bottom-line and impair their ability to complete a refinancing arrangement. Before LMI, when an uncertainty in a merger or acquisition came up, both sides walked away until the lawsuit or financial impediment was resolved.

One solution used in such cases required the seller to deposit funds into an escrow account to cover the estimated losses from the claim or lawsuit. This tied up capital and there was no guarantee that the amount deposited would be enough to cover the final settlement. With a LMI policy, these problems can be resolved and the transaction put on track again.

LMI Takes Many Forms

There are several ways in which LMI programs can be structured. LMI can be underwritten to apply either in conjunction with, or independent of other insurance in force, such as Directors and Officers liability or general liability. For example, a deal to merge ABC Company with XYZ was delayed because of XYZ’s concern over the catastrophic exposure for a potentially adverse judgment against ABC. ABC arranged for a LMI policy to be written which responds if the loss exceeds the limits of ABC’s existing liability insurance. LMI relieved ABC of a potentially damaging award and the merger proceeded.

Another example of how a LMI policy helped solve a legal problem within a rigid time limit involved a consumer products company that was in the final stages of buying a company in an Eastern European country. The target company had been involved in litigation with a former employee regarding a patent and though most of the complaint had been dismissed, and a damage analysis of the remaining counts showed potential damages to be minimal, the purchasing company was reluctant to move forward. Further, the acquiring company’s option to purchase the Eastern European company was to expire in less than three months.

Although the investor wanted to exercise its option to purchase the company within the time limit, the patent litigation would not be resolved before that date. Also, the investing company was unfamiliar with the legal system in the target company’s country, which caused further concern. The solution: a LMI program was purchased by the target company that would cover excess losses from future settlements of the patent claim and the acquisition was completed before the time limit expired.

 

Premium Commitment

The size of the premium for a LMI policy depends on a combination of the risk analysis by the underwriter and the policy’s structure. Most LMI contracts are structured so the policy’s limits are never reached. If the policy is not breached, there is no claim. Because the risks covered by LMI policies usually have lengthy tails, it takes a long time for them to be settled, which permits insurers to realize investment gains from collected premiums.

Although LMI has only been written for a little more than five years, premium volume has skyrocketed from zero to more than $500 million annually in this time. Insurers are writing more of this coverage because underwriters have become more experienced in determining the extent of the exposure as well as drafting and pricing the appropriate policies.

An insurer’s willingness to underwrite LMI depends on the state of the insurance market and the availability of reinsurance. If the insurance market hardens, insurers have less access to the capital to support their underwriting efforts. In a soft market, insurers seek out opportunities to expand premium volume and are more willing to write LMI.

More and more companies are hiring independent contractors to handle not only administrative matters, such as benefits and human resources, but also sales and distribution. With this delegation of authority to third-party suppliers comes less direct control over these operations, and greater becomes the need for clients to demand that vendors provide them with timely Certificates of Insurance (COI).

The COI proves that the insured (the third party) has purchased the insurance coverages as required by the outsourcing client. But, the COI also states that the holder of the certificate has no legal right to be covered by the insurance described in the COI, nor does it amend, extend or alter the represented coverage. The COI only shows that the outside contractor has the insurance coverage as explained on the certificate. This protects the business that has contracted with the third party against liability for negligence caused by the independent contractor up to the limits of the policy.

It is the responsibility of the independent contractor to provide the COI to the client that has hired the firm. Usually a COI is prepared by an agent/broker with a copy sent to the insurance company and the client for whom the third party has contracted to perform certain functions.

The COI contains the name of the insured, the name of the insurance companies issuing the policies as stated on the COI, what specific coverages are contained in the insurance policies issued to the insured, and various descriptions of normal policy terms, exclusions and conditions.

Most often COIs are obtained for commercial general liability to provide protection from liability arising out of the insured’s premises or operations, products and completed operations. Usually, a general form will provide broad, standardized coverage terms. In cases, where the coverage is more complex and of a higher risk, manuscript forms of a COI can be written specifically by or for an insurance company. These manuscript COIs should be reviewed carefully for the scope of coverage being provided.

There are two types of general liability forms — claims-made and occurrence. The trigger that compels the policy to respond is the main difference between the two forms. In the occurrence policy, occurrences are covered that take place during the policy period, no matter when a claim is reported. A claims-made policy requires that the occurrence take place during the policy period and the claim be reported during the policy period. Most COIs use the occurrence form for all independent contractors as claims-made policies limit coverage.

But simply having a COI in hand does not always mean that the independent contractor has the insurance coverage. A prudent practice is to have a system to audit, review and correct the certificates to reflect the provisions in the contracts. Some clients establish an auditing program in house, while others have the insurance agent or broker manage the program as part of their fee arrangement. This cost depends greatly on the workload.

The consequences of not monitoring COIs of a third party can be costly for the firm that hired the contractor. Consider this sobering example. A business hired an independent contractor to provide distribution service for the company. An employee of the vendor had a serious car accident, and soon afterwards, the contractor ceased business. When the employee began submitting workers’ compensation claims, there was no coverage — the contractor had never maintained that insurance. Unfortunately, the company had not insisted on a COI from the independent contractor to verify this coverage. Casting about for payment of the claim, the court ruled that the vendor’s employee was a statutory employee of the company that hired the contractor. The workers’ compensation claims have totaled more than $100,000 with more to come.

This is just one of many chilling cases of companies that have been caught with unexpected losses that came from not requiring proper COIs from independent contractors and auditing them to make sure they remain current and reflect the actual coverages held by the insured.

Joining a workers’ compensation group self-insurance program may be a significant means for small and mid-sized employers to reduce operating costs. Such plans deliver savings by providing employers with considerable control over losses, medical care and rehabilitation, plus improving cash flow.

While some companies self-insure workers’ compensation programs individually, these are usually best suited for larger corporations with immense assets. For smaller and medium-sized businesses, a Group Self-Insurance (GSI) workers’ compensation plan is more suitable. A GSI is a non-profit association of employers formed for the specific purpose of providing workers’ compensation coverage. A GSI enables employers to assume a major portion of their risk and provides group purchasing power for excess insurance to cover individual losses or in the aggregate in excess of a specified amount.

Workers’ compensation is well suited for self-insurance plans because claims are typically of low severity but high frequency, which allows losses to be predicted with some accuracy. Further, payment for large claims can be spread over several years, which benefits a company’s cash flow. GSI programs enable companies to better manage safety programs and have more direct involvement in seeing that employees receive prompt medical care when injured, and employers are able to exercise closer monitoring of the return of the employee to work.

Requirements for joining or forming a GSI vary considerably from state to state. Some states do not allow GSIs and in other states, companies must meet certain solvency standards and provide financial and loss data to be considered. Also, if a company has operations in more than one state, GSIs must be setup in each state. A GSI in one state will not cover losses in another state.

Besides improved cash flow, the major benefits that come from joining or creating a GSI are enhanced loss experience through more effective loss prevention, loss control and managed care programs; reduced administrative costs, and interest income earned on premiums. GSIs in most states do not have to pay premium taxes and or be assessed for residual workers’ compensation market losses.

Members of a GSI pay a premium to the group based on their exposures, classification codes, payroll, experience modifications, and rates developed by a state’s workers’ compensation rate making bureau. At the end of the contract year, any surpluses from both the claims fund and the administrative expense fund can be returned as dividends to group members.

GSIs handle claims following guidelines of the state workers’ compensation laws. Often, third-party administrators handle loss prevention and control, case management, accounting, investment and actuarial services.

An agent can provide guidance to employers wanting to explore joining a GSI. An interested company should first seek management commitment as joining a GSI requires careful attention to the entire workers’ compensation program rather than shifting these responsibilities and duties to a private insurer. Also, an employer has to be willing to disclose detailed information regarding its finances, support systems and ongoing risks.

While GSIs offer important advantages, there are some disadvantages. Members of the group are usually jointly and severally liable for losses incurred by the entire membership. A bankruptcy or dissolution of a member does not release the remaining members from liability. If the GSI’s retention and excess insurance are exhausted by a catastrophic event, the group members must contribute their pro rata share of the total loss. And, if a GSI has a pattern of liberal underwriting for new members, it’s possible it will have financial deficiencies in the future.

If an employer understands the additional risks it assumes as well as the added reporting and administrative duties when it joins a GSI program, the end result could be a significant reduction in overall costs for workers’ compensation.

Insurance funds losses; it transfers risk from your company to the insurance company for a fee – premium. Deductibles are used to reduce the number of claims by having the business pay small amounts and only reporting larger issues.

The order in which claims are funded is: deductible, liability limits, and then company assets…and sometimes personal assets. Your company needs high liability limits to protect company assets.

Claims exceeding $1,000,000 in liability are infrequent, but not rare. Umbrella insurance covers above all other liability insurance in one million dollar layers. High liability limits become affordable this way.

Business nightmares like the $3,000,000 cup of coffee, the truck catching fire under a railroad bridge, or your vehicle colliding with a school bus unfortunately do occur. A million or two is just not sufficient coverage for most operations.

Asbestos and tobacco companies produced legal products for years before lawsuits started as the result of long-term exposure, and these very successful companies were brought to the brink of extinction. These companies kept tens of millions in umbrella layers. How much is enough?

Commercial liability insurance covers injuries to other people and damage to their property caused by your company, your employees, or you. The cause of loss may be vehicle, products, premises, operations, liable, slander, poor advice, or even aviation related.

The amount of liability and types of insurance depends upon your company’s exposure to risks.

Most companies face fleet risks, premises-operations risks, and employee injury risks; some add professional liability risks, aviation risks, common carrier and garage liability risks.

Insurance companies recognize these typical risk scenarios and respond by offering business automobile, truckers, garage, general, aviation and professional liability policies.

Purchasing sufficient liability limits for disastrous claims is costly when purchased one liability risk at a time. In fact, most companies simply could not afford purchasing insurance this way.

Insurance companies offer umbrella coverage to serve this need.

The company proscribes underlying, or first dollar coverage limits, over which umbrellas pay claims settling for more, or in excess, of these policies.

Since these claims are infrequent, premiums are affordable; and each added million dollar layer decreases in cost.

In addition, most umbrella forms add liability coverage by insuring more risks than the underlying policies. A relatively modest – $1000 to $10,000 – deductible is required, but then the umbrella limits cover unscheduled liabilities.

So, with an umbrella policy, the order in which claims are paid is: deductible or underlying liability limits, umbrella limits, and then company assets.

How much is enough combined liability limit? How well can you predict the future of litigation? Products, operations, and vehicle claims in excess of $3,000,000 are not rare.

The cost effective answer depends on the amount of assets you’re protecting, the cost of the coverage, company profit from which to expense the premium, your risk tolerance, and the availability of umbrella coverage.

Three more factors are worth considering:

Products claims may take years to discover. Claim inflation requires high limits at the time the claim is paid.Large liability claims take time to settle. Claim inflation is rampant. Even though an event occurs today, you may be settling at the going rate three years from now. Million dollar claims were rare twenty years ago; not so much now.Courts have been chipping away at the corporate liability shield for smaller businesses. Personal assets may be at risk. Now consider how far that erosion of corporate protection might progress by the time you get your day in court.

Umbrella liability limits should be high enough that business assets are not at risk. Business survivability is at risk with a too low limit. Your current limits can be assessed and reviewed by your broker and/or attorney for adequacy.