BUSINESS INSURANCE FAQ
- What is risk analysis?
Risk analysis is a process by which you consider all possible risks and determine which are the most significant for your particular business. It may make sense to mitigate some risks by purchasing insurance. Other risks can be eliminated without purchasing insurance. After considering how likely various losses are to occur, how expensive they are to mitigate and how much money you have to spend, you decide the optimum strategy for dealing with the various risks.
- What types of risks need to be considered?
The size of the company, type of industry, type of organizational structure, capitalization, geographical area, management team, degree of experience and expertise in the targeted business, capitalization, competitive environment and many other factors can have a bearing on the risk environment for the company. The business owners should address such issues in their business and strategic analyses of the company’s situation. A few of the potential operational risks are as follows:
1. Risk of Property Damage
2. Risk of Inventory Loss or Damage (through spoilage, etc.)
3. Risk of Loss from Employee Theft
4. Risk from Various Liabilities (including injuries to customers or to others)
5.Risk from Errors and Omissions Liabilities
6.Business interruption Risks
Other risks involve the business’s employees and may call for optional or mandatory insurance coverage:
1. Worker’s compensation
3. Employee benefits
Some additional risks relate to the owners and their ability to continue the business in the event of serious losses:
1. Risk of death of an owner or key employee
2. Risk of disability of an owner or key employee
- What are some key risk management techniques?
The primary ways of dealing with risk include:
1. Find ways to avoid risks such as eliminating potentially hazardous products or procedures
2. Reduce the frequency or severity of risks that cannot be eliminated
3. Transfer the risk to an insurance company (or perhaps to another party by means of legal agreements that your business will be “held harmless”).
- How often should I review my risk analysis?
A review should be done periodically. Once a year might be appropriate for many businesses. Many insurance premiums are due or up for reevaluation annually. That would be a good time to consider any changes in your risk analysis. You should also consider a review whenever your business:
1. gets larger or smaller
2. changes its nature as when it diversifies into new businesses or markets or products
4. anytime your business evolves in any way that could change your risk profile.
- What kinds of insurance does my new business need?
The risk assessment process is the basis for determining what insurance you need. Many insurance companies provide a wide variety of business property and casualty coverages. These can be underwritten individually and tailored to your specific business.
- How much is it going to cost?
The cost is dependent on the specifics of your business situation. You can probably reduce the cost by shopping around. There are many companies providing business coverages and competing for your business.
Many small to medium size businesses may be able to save money by considering packaged coverage instead of purchasing a lot of individual policies for the different risks.
- How does insurance relate to business risks?
Property and casualty insurance provides a tool for reducing the individual business’s risk by spreading the risks faced by many businesses. Many business owners contribute their premiums to the insurance company that provides the policy, but not all of the insured businesses experience losses so the insurance company is able to use some of the premium dollars to compensate those who actually sustain losses. In effect, the relatively small amount of money contributed by the many companies that are insured is used to reduce the losses suffered by the companies that actually have losses.
- What are some examples of risks that may not require you to buy insurance?
Buying insurance is one way to deal with risk. However, some risks can be countered with measures such as:
1. Installation of better locks or security devices or by moving to a location less susceptible to crime or flooding etc.
2. Loss of merchandise can be reduced by security devices on the items to be sold.
3.Liability losses resulting from customers slipping and falling can be reduced by clearing away water on walkways, using signs to warn of large steps or redesigning products to reduce the possibility of injury to customers.
A knowledgeable insurance representative may also be able to suggest additional steps to reduce exposure to risks.
- What are casualty risks?
Many forms of business insurance (other than property coverage, life insurance or disability insurance) fall under the general category of Casualty Insurance. This includes such risks as workers’ compensation, automobile coverage (for business vehicles) and liability coverages. Since there are various types of potential liability for a business (involving actions of employees, product defects, etc.), it is important to consider all the liability exposures and make sure that you have adequate insurance against any that may be significant for your business. Your insurance advisor or insurance company should be able to advise you whether individual liability policies or a package of liability coverages will be needed.
- What should I do about computer and data risks? Do I require insurance?
In today’s business world, your computer data constitutes a key asset – perhaps more valuable than many of your tangible items such as buildings or vehicles. So safeguarding data and data processing assets are crucial success factors.
Many data related risks can be greatly reduced by non-insurance steps. For example a carefully designed program of backing up data frequently and dispersing data processing and records in widely separated locations can avoid many of disruptions caused by natural disasters (hurricanes, tornadoes, floods, earthquakes, etc.) or by area-wide disruptions of communication or electric power and even terrorist attacks. If such events do occur, the redundancy and dispersion should make it possible to recover your operations quickly in most situations.
Archived data should also be maintained in secure locations. If you do not have the capability of securing such records, you might want to consider using the services of outside companies that store your valuable records in secure, carefully controlled, remote locations such as special warehouses or underground mines.
And security of customers’ private information is increasingly important to give customers the confidence to use your products and/or services. So you need to consider what information security risks you have and how to eliminate them.
These are areas where you might find preventive actions to be preferable to insurance and remediation.
- Do I need directors and officers (D&O) coverage?
Despite some highly publicized cases of accusations of misdeeds against officers and directors of major companies, for many small businesses it may not be necessary to have Directors and Officers D&O coverage. Each business needs to assess the need for D&O in its particular situation. For many companies the answer may be no, however.
- Do I need liability insurance?
Basic liability coverages such as provided in business owners’ policies may be adequate in many cases, But if you are in a business or profession where there is an especially high risk of lawsuits (some branches of medicine for example) you may need extra protection.
- Do I need fringe benefits for my employees?
It depends on your situation. If your business is new you may want to wait until you have been in business a while and have achieved a degree of success. Once you have achieved that you may need to consider providing some benefits in order to attract and retain excellent workers. The size and composition of your work force will probably be a factor to consider. If you have mostly part time workers or workers who have other coverage (such as through a spouse), it might not be as important to provide benefits. They might consider the pay or vacation to be more important.
- What is a buy and sell agreement? Should I have one?
A business can be crippled by the death of a partner, because the partnership is effectively ended by the death and needs to be reconstituted with the remaining partners and any new participants. But the interests of the deceased partner need to be bought out, just at a time when the business may be badly damaged by the loss of a critical member of the team and funds may not be available to pay for the deceased’s ownership interests.
A buy/sell agreement is a legal document that binds business partners to buy out the interest of a deceased partner at terms that are predetermined so as to allow the business to continue to be run by the remaining partners. The agreement is funded by life insurance policies on each of the partners with proceeds to be paid to the business for disposition according to the terms of the agreement. It is important that the agreement be carefully drafted by attorneys experienced in how to meet the exact requirements of the organization in question.
Similar arrangements may protect against long term disabilities that can sideline one of the main players in the business. A disability policy can provide needed funds in the event of such an incident and buy out interests of someone who will not be able to return to the business for a long period of time.
Disability income protection can also contribute to paying overhead expenses when an owner is incapacitated.
- How would a life insurance or disability policy be used in business?
There are many uses, but two of the most common are to assure continuation of the business in the event of death or disability of an owner or key individual. This is done by having the appropriate legal documents executed that will pass ownership to designated individuals in the event of incapacity or death of a person who is key to the ownership or success of the enterprise.
- What basics do I need to understand about life insurance?
The basic types of life insurance policies are term insurance policies and cash value policies, also known as permanent insurance. Term insurance is for a limited time and tends to have lower premiums. Term policies can be renewable or non-renewable. Shorter terms (1 year or 5 years) tend to have lower premiums than those policies with longer terms (10 years or 25 years). As with your personal life insurance, term policies are often used to cover a loan or mortgage. Cash value plans are often used for business agreements where the death of the insured person would trigger a need for cash and where the need is likely to be ongoing during the life of the insured person. The cash value of the policy can also be borrowed against for business needs at the loan rate specified in the policy.
In a personal policy, the owner (the one who controls such aspects as the beneficiary designation and the disposition of the policy) is usually the person who is insured. For business life insurance policies the ownership could be other individuals or the business itself depending on how the policy is being used in the business and what legal documents have been executed.
- What are the basic facts about why life insurance may be used by business owners?
For sole proprietorships, partnerships and closely held corporations the death of a general partner can result in dissolution of the firm. If this occurs, the surviving partners and the estate of the deceased may need to reach agreement about the disposition of the business.
This can result in forced sale, liquidation of assets, and depletion of value. Buying out the interests of the deceased partner and continuing the business may not be easy to arrange at such a time and the financing may not be available.
The solution is to have a previously arranged buy and sell agreement.
- What about key person life insurance?
If a key person dies the company is likely to experience a loss of income and/or an increase in expenses. The company could purchase a term policy on the employee to provide compensating cash in the event of the key employee’s death. Since the dollar value of the employee’s work for the company diminishes as retirement approaches a decreasing term policy could be used.
Many companies, however, use cash value insurance to fund such a plan. If the employee survives to retirement, the cash value would then be used to fund a deferred compensation retirement benefit. Alternatively, the policy can be transferred to the employee at retirement. The policy should be owned by the business and the business should be the beneficiary.
- How do you determine the financial value of a key employee to determine how much insurance to purchase?
Several possible techniques are available. Four common methods that are often used:
1. Apply a multiple of the key employee’s salary
2. Capitalize (at some discount rate) the company’s earnings traceable to that employee
3.Estimate the reduction in the going concern value of the firm due to the loss of that employee
4. Base the estimate on judgements including such things as how much insurance the insurance company is willing to issue on the key employee.
- What about disability insurance?
Because the risk of disability is higher than the risk of death at many ages it is important to consider how a severe disability would affect your business. Disability insurance proceeds can be used in such situations to hire someone to replace a disabled employee or manager or to fund disability buyout agreements.
- What basics do I need to know about disability insurance?
The key facts about a disability policy include the amount the policy will pay and the length of time the payments will continue as well as what constitutes a disability under the terms of the policy. For example, if you cannot work at your normal occupation but can do some other type of work are you considered disabled?
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