Abstract:
It is estimated that between one-third and one-half of all businesses have no business interruption insurance. Almost half of businesses that experience a serious loss never reopen...over one-fourth of those that do, close within 3 years. A major reason that many businesses don’t survive a serious loss is the lack of business interruption insurance or inadequate limits of that coverage.
Most
businesses carry “fire insurance,” as it is commonly called (though fire is
just one of many perils covered by business insurance policies. Such insurance
is usually required in order to get a mortgage on a building or to secure a
loan using property as collateral. However, it is estimated that between
one-third and one-half of all businesses have no business interruption
insurance.
A
major reason that many businesses don’t survive a serious loss is the lack of
business interruption insurance. What is business interruption insurance and
why is it needed? As an analogy, most individuals need at least three types of
personal insurance. First, they need life insurance in case they meet an
untimely demise. Second, they need medical insurance in case they have an
extended illness or injury. Third, they need disability income insurance to
offset their lost income while ill or recuperating from injury.
A
business also needs these same three types of insurance coverages. The first
two are provided by commercial property insurance which, like life insurance,
pays for direct damage to property if it is totally destroyed by a covered
peril. Like medical insurance, commercial property insurance also pays for the
cost to repair the property if it is only damaged and not completely destroyed.
The
insurance coverage that is often overlooked is business interruption insurance
which is comparable to disability insurance in that it pays for the business’s
loss of profit and expenses that continue while the business is not fully
operational during repair or relocation following a loss. Almost half of all businesses
that experience a serious loss never reopen their doors and over one-fourth of
those that do, close within 3 years. Again, a major factor in such business
failures is the lack of adequate business interruption insurance.
Business
income insurance covers three types of losses or expenses that occur while the
business’s operations are interrupted or curtailed: (1) loss of profits, (2)
continuing expenses, and (3) extra expenses. In addition to its loss of
profits, a business must continue to pay some bills whether its doors are open
or not. Some businesses will incur extra expenses in order to remain open at a
temporary location. Business interruption insurance pays for these losses and
costs.
Business
interruption insurance is offered within two major types of business insurance
packages. First, half or more of all businesses are eligible for
“Businessowners” policies. These are package policies that incorporate many of
the most commonly needed insurance coverages. Most “BOP” policies, as they are
often called, include business interruption insurance without any specific
dollar limit, but rather a time limit which is typically 12 months. Following
major disasters, a year’s worth of virtually unlimited coverage can mean the
difference between survival and business failure. Unfortunately, not all
businesses are eligible for a BOP policy, not is it appropriate for all
businesses.
BOP
policies are typically limited to smaller, low-hazard retail or service
businesses. Other businesses are usually insured under a Commercial Package
Policy, or “CPP.” These packages are much more flexible than BOPs because they
include many optional coverages not available under a BOP policy. A downside,
though, is that the coverages built into a BOP policy must be added separately
in a CPP.
Business
interruption insurance is a good example of such a coverage. Unlike a BOP
policy where there is a time limit rather than a dollar limit, under a CPP,
there is a dollar limit but no time limit for business interruption insurance. The
biggest problem with this approach is that many business owners grossly
underestimate the amount of coverage they need during the coming year.
To
determine the proper limit, the business owner must determine, in the event of
a total loss, how long it would take to rebuild or relocate and restore
operations to their pre-loss level. Next, he or she must determine what would
be the worst time of year for such a loss to occur, how much profit would be
lost, and what expenses would continue or increase during that specific time
period.
If
the business is new or rapidly growing, the business owner can easily
underestimate the amount of insurance needed and, as a result, incur penalties
for underinsurance built into the policy. For situations like this, business
interruption insurance often includes options that eliminate to some extent,
and for a price, the underinsurance penalties in the policy, though the limit
itself may still be inadequate.
Also,
keep in mind that, after the business reopens its doors after several months,
the level of business will almost certainly not be the same. However, business
income insurance normally stops as soon as the business is fully operational
again, regardless of the income stream at that time. Therefore, the business
owner may need to purchase what is called an “extended period of indemnity”
coverage. This pays the difference between what the business would have earned
if it had never had a loss and its actual depressed income stream while it
rebuilds its customer base.
One
of the reasons some business owners don’t purchase this coverage is because, as
you can see, it can get rather complicated. That’s why it is important to seek
the counsel of a good independent insurance agent who is experienced in placing
commercial insurance.