By Gregory Boop. Business Insurance Expert
Business interruption coverage is difficult to purchase. This is because the business owner must make an educated guess about future business profit and base the amount of coverage on those projections.
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Another difficulty is that insurance policies define the amount of insurance coverage required in terms of "gross earnings" and most policies define "gross earnings" in a substantially different method than your business accountant would. Zurich Insurance offers several online calculators that can assist you in determining the appropriate amount of coverage. But it is critically important that you have your accountant give you a determination of your "gross earnings" in the manner described in your policy's definitions.
The University of Wisconsin has a form that you can print out that follows the most common definition - but, each policy can differ and you must review your policy's definition in detail.
Let's look at what can happen if your business has not purchased the correct amount of insurance and a coinsurance penalty is applied.
Assume, your business has "gross earnings" of $100,000. Assume your policy has a 80% coinsurance requirement. This means your business must purchase at least $80,000 in coverage or 80% of $100,000.
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This requirement in the policy is to prevent businesses from purposefully under reporting their income to lower premiums. If
the business does not have 80% of its gross earnings in coverage a penalty will be applied.
The penalty is the resulting figure from dividing the amount of coverage actually carried by the amount required to be carried multiplied by the loss. So, for example, if the business noted above had a business interruption loss of $50,000, but had only carried $50,000 in coverage, then $50,000 / $80,000 (remember the amount required to be carried) = .625 x $50,000 (the loss) = $31,250. That is, even though the company carried $50,000 in coverage and suffered a $50,000 loss, the actual insurer payout on the claim is only $31,250 - leaving the business short on its loss by $18,750. As you can see, you cannot base needed coverage amounts by an anticipated loss, but by an accurate reporting and calculation of gross earnings defined in the policy.
Insurers are becoming increasingly aware of the difficulty business owners have with these policies. A large number of insurers now include in their policies the Premium Adjustment Endorsement. If your policy does not, consider asking for the endorsement. The Premium Adjustment Endorsement helps eliminate the risk by allowing the business to over insure. At the end of the policy period, the premiums are recalculated and any excess premiums are returned. Thus, the business owner can purchase a higher limit of policy without wasting premium dollars.