Business Interruption Insurance
Date of Publication: 2005
Many small businesses fail to make sure they have insurance coverage for interruption of their business operations caused by damage to business property. While most businesses are aware they need coverage for property loss from fire or other casualties, they do not think about how they will manage economically if their business property is rendered temporarily unusable during repair or restoration of the damage.
Whether a business is located in
Business income insurance covers the loss of income resulting from the business not being able to use the damaged and destroyed property. If there is no insurance for the lost income, the loss of income can have profound consequences for small businesses. During the time of repair, the business would still have monthly bills for such things as mortgages, leases, loans, salaries, benefits, but no ability to generate income to pay those bills.
In addition to business income coverage, a policy may also provide extra expense coverage. In general terms, extra expense coverage is insurance for the expenses incurred to restore operations quickly and on an emergency business. Some types of businesses must make every effort to continue operations during the repair period or risk losing customers and market share. This may be especially true for service businesses who could suffer permanent loss of customers if the business operations are shut down for a significant amount of time. To continue operation, these businesses may have to spend money for such things as substitute facilities and equipment. Extra expense insurance provides coverage for these costs to continue operations while the business property is being repaired or restored.
Once a loss occurs, it can be difficult for a business to understand the insurance company’s process for adjusting and paying the business for the loss. Disagreement may arise between the business and the insurance company with respect to among other things interpretation of the insurance, calculation of the amount of loss, and whether there is even coverage for the particular loss in question. An insurance company could also take the position that the business has failed to comply with its duties and obligations under the policy and has lost its right to the insurance proceeds.
Many standard policies define business income as net income, or the net profit or loss before income taxes, and the continuing normal operating expenses such as payroll. Where the business is turning a profit this definition creates little problem. For instance, if a business has $100,000 in profit and $200,000 in continuing normal operating expenses, the business income loss is $300,000. This payment would restore the business to the place it would have been had the loss not occurred.
But, the definition of business income may create problems for a business that is operating at a loss because the definition of net income includes net loss. For instance, if the business is operating with a $100,000 net loss and $200,000 in continuing operating expenses, the insurance company would contend the business owner is entitled to only $100,000. The practical effect of this is the business would receive a $100,000 business income payment to pay $200,000 in continuing operation expenses. In short, the business is left with a deficit. It is even possible the business would be entitled to no business income payment, rendering useless the insurance purchased by the business.
The issue of business income coverage for businesses that are operating at a loss can be very important to new businesses or tech startups with a business plan that involves the business operating at a loss for the first few years. These businesses need to explore this issue with their insurance agent to ensure there is appropriate coverage. Otherwise, the business risks potential failure in the event its operations are suspended due to a loss to its business property. Alternate forms of policies may be available to ensure coverage for businesses operating at a loss.
If a loss occurs, the business owner may also have difficulty proving up the amount of business income and extra expense loss. These losses can be far more difficult to establish than the amount resulting from the direct loss to the physical business property. Generally, establishing the amount of loss will be based upon the business’ financial records. For many reasons, these records may not be entirely complete, or the business’ financial condition may have changed in the months before the loss occurred. It is difficult for anybody to say with absolute certainty exactly how much a business would have earned had the damage to the property not occurred. Proving up the business’ loss may require the assistance of financial experts. And, the insurance company and business owner may have different opinions on the amount of loss.
Reaching agreement with the insurance company on the amount of business income and extra expense loss will necessarily involve negotiation over both the interpretation of the policy and the amount of the loss. In the event a business suffers such a loss, it should consider retaining a law firm to assist in preparing and negotiating the claim. Prior to a loss, all businesses should consult their insurance agents to ensure there is appropriate coverage to cover potential loss of operations caused by damage to the business property.
For more information on Business Interruption Insurance , please call 218-722-0861.
The information in this article is not intended as, and does not constitute either legal advice or a solicitation of any particular prospective client. The reader should not rely on any information contained herein regarding your specific situation until you have consulted with a qualified attorney.
Circular 230 Disclaimer - Advice, articles and commentary included herein do not constitute an opinion and are not intended or written to be used, and they cannot be used, by any taxpayer for the purpose of avoiding penalties that may be imposed on the taxpayer.
