In the last decade (or perhaps longer), it has become more of a standard practice for insurance agents to request to write Business Income Coverage on an “Actual Loss Sustained (ALS)” basis. I believe the primary reason agents request it is because they are playing it safe as they do not understand how to evaluate Business Income Exposures or how to structure coverage to work best for their commercial clients. It has become the safe harbor for inexperience, fear, lack of understanding, and perhaps laziness.
Wow! Those are fighting words but let me explain. As insurance professionals and members of our commercial clients’ risk management team, we have a bias toward what is safe. Perhaps safe for the client but also what is safe for their E&O exposures by recommending an insufficient limit because many agents have not received specific guidance about addressing business income exposures. At some level it will make sense but, in many cases, it is a defective risk management approach.
Businesses present a variety of business income exposures. Some businesses present what may be called a more traditional exposure requiring exposures to be considered over a full 12-month recovery period. In these cases, writing coverage on an ALS basis without a limit may be the appropriate approach. Still there are many points to be considered.
First, insurance carriers who provide coverage on without a scheduled limit do so by charging a premium based on a percentage of the reported annual sales. The percentage applied is a very conservative percentage with enough of a load for them to be satisfied the clients are insuring to value. That is a nice way of saying they build a significant amount of “fat” into the rating base. It is the insured who is paying for that fat.
Furthermore, my experience shows many commercial accounts do not adhere to the traditional 12-month model. For example, some commercial ventures present a recovery period much shorter than 12 months. Consider the typical retail risk. The fact is many businesses lease space and can easily opt to move to another suitable location and getting back in business may be as simple as replacing some equipment that is easily purchased and installed. Many operations can be back in business within a few months rather than a year. Therefore, coverage written on an “actual loss sustained” basis may not be in the customer’s best interest as a thorough review and evaluation with customized structured approach to selection of an appropriate limit and coinsurance percentage will provide a client with more effective Business Income Coverage for a heck of a lot less premium. If the coinsurance clause is what is troubling, writing coverage on an agreed amount basis would be more appropriate.
Another consideration not to use the “actual loss sustained” approach is some insured’s need other coverage adaptations which are less likely to be offered with an unlisted limit approach. For some clients, the recovery period is only the beginning.
By that I mean for some businesses the real work begins after they have replaced and installed equipment, and everybody is back to work. The real work is getting customers back into the door, so they are generating the same level of income they were generating before the loss occurred. Purchasing a longer extended period of indemnity is an option, but carriers providing coverage on an “actual loss sustained” basis without a limit as less likely to do so. Let me explain.
A company may need an extra 360 days to get back up to the income level they were at before the loss. An underwriter may offer to increase the extended period of indemnity from 60 days to 360 days. In essence, the insured needs an additional year of coverage so a prudent underwriter will adjust the limit to cover the extra 360 days and charge the appropriate premium. If coverage is written on and “actual loss sustained basis” without a specified limit, the underwriter is less likely to offer the extension since they are not able to charge for the increase exposure.
So, the point of this article is seeking the safe harbor of actual loss sustained is not as safe as it seems. Insurance professionals still need to dig into the client’s financials and operations to make the approach is the right one for them. Therefore, caution still needs to be taken to avoid the rocks and shoals on your way into that safe harbor.